Pacific Timber Company has two products that result from its tree cutting operat

Question

Pacific Timber Company has two products that result from its tree cutting operations. It sells lumber to lumber companies and furniture manufacturers. It also sells the woodchips that result from tree cutting to landscapers for mulch. Out of the total $500,000 of joint costs, lumber is allocated $450,000 and woodchips is allocated $50,000 since it costs considerably more to cut and transport the lumber than it does to collect and transport the woodchips. Pacific currently sells the 800,000 cubic feet of woodchips it collects to landscapers for 10 cents a cubic foot. Instead of selling the woodchips to landscapers, Pacific has an opportunity to spend an additional $20,000 to grind the woodchips into 600,000 cubic feet of sawdust and sell the dust at 20 cents per cubic yard to a company that makes fireplace logs. Should Pacific continue to sell the woodchips to landscapers or process them further into sawdust and sell it to the log manufacturer? Prepare a quantitative analysis which supports your decision.

Explanation / Answer

Pacific Timber Company is currently expending a cost of $50000 on wood chips which it would for future also if it grinds the woodchips into sawdust.

The extra cost that Pacific Timber Company would incur is the relevant cost of the sawdust i.e $20000

Revenue from woodchips = 800000 *$0.1 = $80000

Revenue from sawdust = 600000 * $0.2 = $120000

Incremental Revenue from sawdust = $40000 i.e (120000 - 80000)

Incremental cost = $20000

Incremental contributio margin = $20000 i.e (40000 - 20000)

Pacific should process wood chips further into sawdust and sell it to the log manufacturer as it will have an incremental contribution of $20000

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