Allegiance, Inc. has $125,000 of inventory that suffered minor smoke damage from a fire in the warehouse. The company can sell the goods "as is" for $45,000; alternatively, the goods can be cleaned and shipped to the firm's outlet center at a cost of $23,000. There the goods could be sold for $80,000. What alternative is more desirable and what is the relevant cost for that alternative?

Question

Quizplus · Accepted Answer

Selling "as is" would only generate a revenue of $45,000, which is much lower than the cost of cleaning and shipping the goods to the outlet center. Therefore, the company should choose to clean and ship the goods to the outlet center.

The relevant cost for this alternative is the total cost of cleaning and shipping, which is $23,000. Adding this cost to the initial inventory value of $125,000, the total cost of the alternative becomes $148,000.

Selling the goods at the outlet center for $80,000 generates a revenue of $57,000 ($80,000 - $23,000), which is higher than the revenue generated by selling "as is". Therefore, the best choice for the company is to clean and ship the goods to the outlet center.