Question

Chino Company manufactures fabric and clothing. Managers can either sell the unfinished fabric to other clothing manufacturers or incur additional conversion costs to create a finished garment. The costs incurred to produce the unfinished fabric are $400,000, which are allocated to the products based on the sales value of the unfinished fabric. Following is information concerning the clothing that can be produced from the fabric:

Product	Number of Units	Selling Price of Unfinished Fabric			Selling Price after Processing Further			Additional Processing Cost
Pants	6,000		$20.00			$30.00			$28,450
Shirts	12,000		23.20			32.40			64,400
Coats	4,000		38.80			43.20			18,300

Required:
2-a. Calculate the increase or decrease in profit if the products are processed further.
2-b. Which products should be sold as unfinished fabric and which should be further processed?
3. Assume that the $400,000 in costs is allocated based on the number of units of output. Which products should be sold as unfinished fabric and which should be further processed?

Answer 1

2-a. Profits if sold as unfinished fabric = (20*6000+23.20*12000+38.80*4000)-400,000

= $153,600

If processed further = (30*6000+32.40*12000+43.20*4000)-400,000 – 28450-64400-18300

= $230,450

Hence, increase in profits =$76,850

2-b.Costs already incurred are sunk costs and are not relevant.

Products whose selling price after processing is higher than selling price before processing and further processing costs should be processed

Advantage of processing:

Pants = (30-20)*6000-28450 = $31,550

Shirts = (32.40-23.20)*12000-64400 = $46000

Coats = (43.20-38.80)*4000-18300 = -$700

Hence, pants and shirts should be processed further and coats should be sold as unfinished fabric

3.The decision remains the same as the joint cost already incurred in not relevant

Hence, pants and shirts should be processed further and coats should be sold as unfinished fabric