Question

Elegant Decor Company’s management is trying to decide whether to eliminate Department 200, which has produced losses or low profits for several years. The company’s 2017 departmental income statements shows the following. ELEGANT DECOR COMPANY Departmental Income Statements For Year Ended December 31, 2017 Dept. 100 Dept. 200 Combined Sales $ 444,000 $ 283,000 $ 727,000 Cost of goods sold 262,000 209,000 471,000 Gross profit 182,000 74,000 256,000 Operating expenses Direct expenses Advertising 15,500 12,000 27,500 Store supplies used 5,000 4,400 9,400 Depreciation—Store equipment 4,400 3,200 7,600 Total direct expenses 24,900 19,600 44,500 Allocated expenses Sales salaries 78,000 46,800 124,800 Rent expense 9,500 4,730 14,230 Bad debts expense 9,500 7,200 16,700 Office salary 21,840 14,560 36,400 Insurance expense 1,900 1,100 3,000 Miscellaneous office expenses 2,400 1,700 4,100 Total allocated expenses 123,140 76,090 199,230 Total expenses 148,040 95,690 243,730 Net income (loss) $ 33,960 $ (21,690 ) $ 12,270 In analyzing whether to eliminate Department 200, management considers the following: The company has one office worker who earns $700 per week, or $36,400 per year, and four sales clerks who each earn $600 per week, or $31,200 per year for each salesclerk. The full salaries of two salesclerks are charged to Department 100. The full salary of one salesclerk is charged to Department 200. The salary of the fourth clerk, who works half-time in both departments, is divided evenly between the two departments. Eliminating Department 200 would avoid the sales salaries and the office salary currently allocated to it. However, management prefers another plan. Two salesclerks have indicated that they will be quitting soon. Management believes that their work can be done by the other two clerks if the one office worker works in sales half-time. Eliminating Department 200 will allow this shift of duties. If this change is implemented, half the office worker’s salary would be reported as sales salaries and half would be reported as office salary. The store building is rented under a long-term lease that cannot be changed. Therefore, Department 100 will use the space and equipment currently used by Department 200. Closing Department 200 will eliminate its expenses for advertising, bad debts, and store supplies; 75% of the insurance expense allocated to it to cover its merchandise inventory; and 23% of the miscellaneous office expenses presently allocated to it. Required: 1. Complete the following report showing total expenses, expenses that would be eliminated by closing Department 200 and the expenses that would continue. The statement should reflect the reassignment of the office worker to one-half time as salesclerk. 2. Prepare a forecasted annual income statement for the company reflecting the elimination of Department 200 assuming that it will not affect Department 100’s sales and gross profit. The statement should reflect the reassignment of the office worker to one-half time as a salesclerk. 3. Reconcile the company’s combined net income with the forecasted net income assuming that Department 200 is eliminated (list both items and amounts). (Amounts to be deducted should be indicated by a minus sign.)

Answer 1

ELEGANT DECOR COMPANY

Analysis of Expenses under Elimination of Department 200

	Total expenses	eliminated expenses	continuing expenses
Cost of goods sold	471000	209000	262000
Direct expenses
Advertising	27500	12000	15500
Store supplies used	9400	4400	5000
Depreciation - store equipment	7600	0	7600
Allocated expenses
Sales Salaries	124800	46800	78000
Rent expense	14230	0	14230
Bad debt expense	16700	7200	9500
Office salary	36400	18200	18200
Insurance expense	3000	825 (1100*75%)	2175
Miscellaneous office expenses	4100	391 (1700*23%)	3709
Total expenses	714730	298816	415914

Part 2

ELEGANT DECOR COMPANY

Forecasted annual income statement

Under plan to eliminate department 200

Sales	444000
Cost of goods sold	262000
Gross profit	182000
Operating expenses
Advertising	15500
Store supplies used	5000
Depreciation - store equipment	7600
Sales Salaries Rent expense	78000 14230
Bad debt expense	9500
Office salary	18200
Insurance expense	2175
Miscellaneous office expenses	3079
Total operating expenses	153284
Net income	28716

Part 3

ELEGANT DECOR COMPANY

Reconciliation of combined income with forecasted income

Combined net income	12270
Add: expenses from department 200	298816
Less: sales from department 200	283000
Forecasted net income	28716