Question

In: Accounting

Structuring a Keep-or-Drop Product Line Problem with Complementary Effects Shown below is a segmented income statement...

Structuring a Keep-or-Drop Product Line Problem with Complementary Effects

Shown below is a segmented income statement for Hickory Company's three wooden flooring product lines:

Strip Plank Parquet Total
Sales revenue $400,000 $200,000 $300,000 $900,000
Less: Variable expenses 225,000 120,000 250,000 595,000
Contribution margin $175,000 $ 80,000 $ 50,000 $305,000
Less direct fixed expenses:
   Machine rent (5,000) (20,000) (30,000) (55,000)
   Supervision (15,000) (10,000) (5,000) (30,000)
   Depreciation (35,000) (10,000) (25,000) (70,000)
Segment margin $120,000 $ 40,000 $ (10,000) $150,000

Hickory's management is deciding whether to keep or drop the parquet product line. Hickory's parquet flooring product line has a contribution margin of $50,000 (sales of $300,000 less total variable costs of $250,000). All variable costs are relevant.

Relevant fixed costs associated with this line include 80% of parquet's machine rent and all of parquet's supervision salaries. In addition, assume that dropping the parquet product line would reduce sales of the strip line by 21% and sales of the plank line by 20%. All other information remains the same.

Required:

1. If the parquet product line is dropped, what is the contribution margin for the strip line?
$

For the plank line?
$

2. Which alternative (keep or drop the parquet product line) is now more cost effective and by how much?
Keep  by $

Solutions

Expert Solution

Question 1:

Strip Plank
Sales revenue $ 316,000.00 $ 160,000.00
Less: Variable expenses $ 177,750.00 $   96,000.00
Contribution margin $ 138,250.00 $   64,000.00

* Sales Revenue = 400000*0.79 = 316,000 , 200000*0.8 = 160,000

Variable Expenses =225000*0.79 = 177,750 , 120000*0.8 = 96,000

Question 2:

If we discontinue parquet product line:

Strip Plank Parquet Total
Sales revenue $ 316,000.00 $ 160,000.00 $ 300,000.00 $ 776,000.00
Less: Variable expenses $ 177,750.00 $   96,000.00 $ 250,000.00 $ 523,750.00
Contribution margin $ 138,250.00 $   64,000.00 $   50,000.00 $ 252,250.00
Less direct fixed expenses:
   Machine rent $    (5,000.00) $ (20,000.00) $    (6,000.00) $ (31,000.00)
   Supervision $ (15,000.00) $ (10,000.00) $                 -   $ (25,000.00)
   Depreciation $ (35,000.00) $ (10,000.00) $ (25,000.00) $ (70,000.00)
Segment margin $    83,250.00 $   24,000.00 $   19,000.00 $ 126,250.00

If We don't dis continue:

Strip Plank Parquet Total
Sales revenue $ 400,000.00 $ 200,000.00 $ 300,000.00 $ 900,000.00
Less: Variable expenses $ 225,000.00 $ 120,000.00 $ 250,000.00 $ 595,000.00
Contribution margin $ 175,000.00 $   80,000.00 $   50,000.00 $ 305,000.00
Less direct fixed expenses:
   Machine rent $    (5,000.00) $ (20,000.00) $ (30,000.00) $ (55,000.00)
   Supervision $ (15,000.00) $ (10,000.00) $    (5,000.00) $ (30,000.00)
   Depreciation $ (35,000.00) $ (10,000.00) $ (25,000.00) $ (70,000.00)
Segment margin $ 120,000.00 $   40,000.00 $ (10,000.00) $ 150,000.00

Keeping the parquet product line is the better option, as we will earn extra $23,750  (150,000-126,250)


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