Differential Analysis, Product Pricing, and Activity-Based Costing

1. Differential Analysis, Product Pricing, and Activity-Based Costing LO 1d – Deciding Whether to Process or Sell Further or Accept Special Priced Business

2. LO 1 Process or Sell • In some cases, a product can be sold at an intermediate stage of production, or it can be processed further and then sold.

3. LO 1 Process or Sell A business produces kerosene as follows: Batch size 4,000 gallons Cost of producing kerosene $2,400 per batch Selling price $2.50 per gallon (continued)

4. LO 1 Process or Sell The kerosene can be processed further to yield gasoline as follows: Input batch size 4,000 gallons Less evaporation (20%) 800 (4,000 x 20%) Output batch size 3,200 Cost of producing gasoline $3,050 per batch Selling price $3.50 per gallon (continued)

5. LO 1 Process or Sell process further

6. Process or Sell The differential income from further processing kerosene into gasoline is $550 per batch. The initial cost of producing the intermediate kerosene, $2,400, is not considered in deciding whether to process the kerosene further.

7. LO 1 Accept Business at a Special Price • The differential costs of accepting additional business depend on whether the company is operating at full capacity. • If the company is operating at full capacity, any additional production increases fixed and variable manufacturing costs. • If the company is operating below full capacity, any additional production does not increase fixed manufacturing costs.

8. LO 1 Accept Business at a Special Price B-Ball Inc. manufactures basketballs as follows: Monthly productive capacity 12,500 basketballs Current monthly sales 10,000 basketballs Normal (domestic) selling price $30.00 per basketball Manufacturing costs: Variable costs $12.50 per basketball Fixed costs 7.50 Total $20.00 per basketball (continued)

9. LO 1 Accept Business at a Special Price On March 10, 2012, B-Ball Inc. receives an offer from an exporter for 5,000 basketballs at $18 each. Production can be spread over three months, so these basketballs can be manufactured using normal capacity. The domestic market will not be affected. (continued)

10. LO 1 Accept Business at a Special Price

11. Accept Business at a Special Price There are other considerations in making the decision to sell in the domestic market at lower than normal prices. It may be unwise to increase sales volume in one territory by price reduction if sales volume is lost in other areas. Also, manufacturers must be careful not to practice price discrimination as defined by the Robinson-Patman Act.