Question

Barbour Corporation, located in Buffalo, New York, is a retailer of high-tech products and is known for its excellent quality and innovation. Recently, the firm conducted a relevant cost analysis of one of its product lines that has only two products, T-1 and T-2. The sales for T-2 are decreasing and the purchase costs are increasing. The firm might drop T-2 and sell only T-1.

Barbour allocates fixed costs to products on the basis of sales revenue. When the president of Barbour saw the income statements (see below), he agreed that T-2 should be dropped. If T-2 is dropped, sales of T-1 are expected to increase by 10% next year, but the firm’s cost structure will remain the same.

	T-1			T-2
Sales	$	300,000		$	340,000
Variable costs:
Cost of goods sold		90,000			170,000
Selling & administrative		15,000			70,000
Contribution margin	$	195,000		$	100,000
Fixed expenses:
Fixed corporate costs		80,000			95,000
Fixed selling and administrative		32,000			41,000
Total fixed expenses	$	112,000		$	136,000
Operating income	$	83,000		$	(36,000	)

Required:

1. Find the expected change in annual operating income by dropping T-2 and selling only T-1.

2. By what percentage would sales from T-1 have to increase in order to make up the financial loss from dropping T-2?

3. What is the required percentage increase in sales from T-1 to compensate for lost margin from T-2, if total fixed costs can be reduced by $58,500?

Answer 1