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Sell-or-Process-Further Decision Humbolt Electric manufactures electronic subcomponents that can be sold at the end of Process 1 or processed further, in Process 2, and then

Sell-or-Process-Further Decision Humbolt Electric manufactures electronic subcomponents
that can be sold at the end of Process 1 or processed further, in Process 2, and then sold. Currently,
the entire output of Process 1 can be sold at a price of $2 per unit. The output of Process 2 has in
the past sold for $5.50 per unit; however, the selling price of this output has recently dropped to
$5.10 (on average).
On the basis of an analysis of the preceding cost and selling price information, as well as an
analysis of market trend data, the VP of marketing has suggested that output from Process 2 should
be curtailed whenever the price of its output falls below $4.50 per unit. The VP of manufacturing
has indicated that the total available capacity is interchangeable between the two processes.
(That is, fixed manufacturing costs are largely independent of decisions regarding short-term product
mix.) He recommends that, based on current prices, all sales should be from Process 2 output.
His analysis follows:
Output of Process 1 Output of Process 2
Selling price per unit $2.00 $5.10 $ 2,00 $ 5,10
Unit costs:
Direct materials (DM) 1.00 1.50 $ 1,00 $ 1,50
Direct labor (DL) 0.20 0.40 $ 0,20 $ 0,40
Manufacturing overhead 0.60 1.20 $ 0,60 $ 1,20
Transferred-in variable costs from
Process 1 (DM + DL) N/A 1.20 N/A $ 1,20
Operating profit $0.20 $0.80 $ 0,20 $ 0,80
Direct materials (DM) and direct labor (DL) are variable costs. All manufacturing overhead costs
are fixed and are allocated to units produced based on hours of capacity used.
Total hours of capacity available are 600,000. The products are produced in batches of 60 units.
Each batch of output from Process 1 requires 1 hour of processing; each batch of output from
Process 2 requires 2 additional hours of processing.
Required
1. Develop a schematic diagram of the two-stage production process. Include in your diagram relevant
revenue (selling price per unit) as well as relevant costs (per unit of output).
2. Assume that the per-unit selling price for output from Process 2 for the coming year is expected to be
$5.10. (a) What is the contribution margin per hour for output from Process 1 (rounded to 2 decimal
places)? (b) What is the contribution margin per hour for output from Process 2 (rounded to 2 decimal
places)? (c) What is the implication of this information if the goal of the company is to maximize shortterm
operating income?
3. What is the lowest acceptable selling price per unit (to 2 decimal places) for the output from Process 2
to make this output (in total) as profitable (in total) as the output from Process 1?
4. Suppose that 50% of the manufacturing overhead costs are variable. (a) What is the revised contribution
margin per hour (rounded to 2 decimal places) for output from Process 1? (b) What is the revised
contribution margin per hour (to 2 decimal places) for output from Process 2? (c) Does your answer to
requirement 2 change, based on these revised calculations?
5. Sensitivity analysis: (a) Calculate the contribution margin per processing hour (to 2 decimal places)
for both Process 1 output and Process 2 output under each of the following assumptions regarding the
percentage of variable overhead costs: 0%, 25%, 50%, and 100%. Perform these calculations for Process
2 output both for a selling price of $5.10 per unit and a selling price of $5.50 per unit. (b) What general
conclusion can you draw on the basis of this sensitivity analysis?

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