Question

Diego Company manufactures one product that is sold for $71 per unit in two geographic regions—the East and West regions. The following information pertains to the company’s first year of operations in which it produced 54,000 units and sold 49,000 units.

Variable costs per unit:
Manufacturing:
Direct materials	$	22
Direct labor	$	12
Variable manufacturing overhead	$	3
Variable selling and administrative	$	5
Fixed costs per year:
Fixed manufacturing overhead	$	864,000
Fixed selling and administrative expenses	$	586,000

The company sold 36,000 units in the East region and 13,000 units in the West region. It determined that $280,000 of its fixed selling and administrative expenses is traceable to the West region, $230,000 is traceable to the East region, and the remaining $76,000 is a common fixed cost. The company will continue to incur the total amount of its fixed manufacturing overhead costs as long as it continues to produce any amount of its only product.   

1.) Diego is considering eliminating the West region because an internally generated report suggests the region’s total gross margin in the first year of operations was $46,000 less than its traceable fixed selling and administrative expenses. Diego believes that if it drops the West region, the East region's sales will grow by 5% in Year 2. Using the contribution approach for analyzing segment profitability and assuming all else remains constant in Year 2, what would be the profit impact of dropping the West region in Year 2?

2.) Assume the West region invests $44,000 in a new advertising campaign in Year 2 that increases its unit sales by 20%. If all else remains constant, what would be the profit impact of pursuing the advertising campaign?

Answer 1

Ques 14
profit decreases by	$             44,800
Forgone segment margin in the West region	$          (97,000)
Additional contribution margin in East region	$             52,200
Decrease in profits if the West region is dropped	$          (44,800)
1044000*0.05	$             52,200
Ques 15
Profit increase by	$             31,400
Additional advertising	$          (44,000)
Additional contribution margin in the West region	$             75,400
Increase in profits	$             31,400
377000*0.2	$             75,400

Explanation

Ques 13
	total company	East	west
Sales(71)	$       3,479,000	$ 2,556,000	$ 923,000
Variable expenses(42)	$       2,058,000	$ 1,512,000	$ 546,000
Contribution margin	$       1,421,000	$ 1,044,000	$ 377,000
traceable fixed expenses	$          510,000	$     230,000	$ 280,000
region segment margin	$          911,000	$     814,000	$    97,000
common fixed expenses not traceable	$          940,000
net operating loss	$          (29,000)
Explanation
Sales
36000*71	$       2,556,000
13000*71	$          923,000
Variable expenses
36000*42	$       1,512,000
13000*42	$          546,000
common fixed expenses	$          940,000
864000+76000