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Financial & Managerial Accounting
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Short Answer

A company must decide between scrapping or reworking units that do not pass inspection. The company has 22,000 defective units that cost $6 per unit to manufacture. The units can be sold as is for $2.00 each, or theycan be reworked for $4.50 each and then sold for the full price of $8.50 each. If the units are sold as is, the company will be able to build 22,000 replacement units at a cost of $6 each, and sell them at the full price of $8.50 each. (1) What is the incremental income from selling the units as scrap? (2) What is the incremental income from reworking and selling the units? (3) Should the company sell the units as scrap or rework them?

The company will earn $55,000 by selling units as scrap.

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Step by Step Solution

Step 1: Definition of incremental income

The incremental income is the company’s income after choosing various courses of action.

Step 2: Incremental income by selling as scrap

Sale as Scrap

Sale Scrap Units

$55,000

Incremental Income

$55,000

Step 3: Incremental income by reworking

Rework

Sale of Reworked Units

$187,000

Cost of Reworked Units

($99,000)

Opportunity cost of not making new units

($55,000

Incremental Income

$33,000

Step 4:  Selling units as scrap or rework 

The company should sell the units as scrap because the company will earn more income by selling units as scrap.

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