Question

Problem 11-26 Close or Retain a Store [LO11-2]

Superior Markets, Inc., operates three stores in a large metropolitan area. A segmented absorption costing income statement for the company for the last quarter is given below:

Superior Markets, Inc. Income Statement For the Quarter Ended September 30
	Total			North Store			South Store			East Store
Sales	$	3,600,000		$	800,000		$	1,440,000		$	1,360,000
Cost of goods sold		1,980,000			470,000			762,000			748,000
Gross margin		1,620,000			330,000			678,000			612,000
Selling and administrative expenses:
Selling expenses		829,000			237,400			318,000			273,600
Administrative expenses		413,000			112,000			159,900			141,100
Total expenses		1,242,000			349,400			477,900			414,700
Net operating income (loss)	$	378,000		$	(19,400	)	$	200,100		$	197,300

The North Store has consistently shown losses over the past two years. For this reason, management is giving consideration to closing the store. The company has asked you to make a recommendation as to whether the store should be closed or kept open. The following additional information is available for your use:

1. The breakdown of the selling and administrative expenses that are shown above is as follows:

	Total		North Store		South Store		East Store
Selling expenses:
Sales salaries	$	221,400	$	61,000	$	74,600	$	85,800
Direct advertising		171,000		57,000		78,000		36,000
General advertising*		54,000		12,000		21,600		20,400
Store rent		330,000		91,000		126,000		113,000
Depreciation of store fixtures		19,000		5,200		6,600		7,200
Delivery salaries		22,800		7,600		7,600		7,600
Depreciation of delivery equipment		10,800		3,600		3,600		3,600
Total selling expenses	$	829,000	$	237,400	$	318,000	$	273,600

*Allocated on the basis of sales dollars.

	Total		North Store		South Store		East Store
Administrative expenses:
Store managers' salaries	$	79,000	$	24,000	$	33,000	$	22,000
General office salaries*		54,000		12,000		21,600		20,400
Insurance on fixtures and inventory		31,000		9,300		12,000		9,700
Utilities		102,420		31,010		36,780		34,630
Employment taxes		56,580		15,690		20,520		20,370
General office—other*		90,000		20,000		36,000		34,000
Total administrative expenses	$	413,000	$	112,000	$	159,900	$	141,100

*Allocated on the basis of sales dollars.

1. The lease on the building housing the North Store can be broken with no penalty.

2. The fixtures being used in the North Store would be transferred to the other two stores if the North Store were closed.

3. The general manager of the North Store would be retained and transferred to another position in the company if the North Store were closed. She would be filling a position that would otherwise be filled by hiring a new employee at a salary of $11,000 per quarter. The general manager of the North Store would continue to earn her normal salary of $12,000 per quarter. All other managers and employees in the North store would be discharged.

4. The company has one delivery crew that serves all three stores. One delivery person could be discharged if the North Store were closed. This person’s salary is $4,600 per quarter. The delivery equipment would be distributed to the other stores. The equipment does not wear out through use, but does eventually become obsolete.

5. The company pays employment taxes equal to 15% of their employees' salaries.

6. One-third of the insurance in the North Store is on the store’s fixtures.

7. The “General office salaries” and “General office—other” relate to the overall management of Superior Markets, Inc. If the North Store were closed, one person in the general office could be discharged because of the decrease in overall workload. This person’s compensation is $6,000 per quarter.

Required:

1. How much employee salaries will the company avoid if it closes the North Store?

2. How much employment taxes will the company avoid if it closes the North Store?

3. What is the financial advantage (disadvantage) of closing the North Store?

4. Assuming that the North Store's floor space can’t be subleased, would you recommend closing the North Store?

5. Assume that the North Store's floor space can’t be subleased. However, let's introduce three more assumptions. First, assume that if the North Store were closed, one-fourth of its sales would transfer to the East Store, due to strong customer loyalty to Superior Markets. Second, assume that the East Store has enough capacity to handle the increased sales that would arise from closing the North Store. Third, assume that the increased sales in the East Store would yield the same gross margin as a percentage of sales as present sales in the East store. Given these new assumptions, what is the financial advantage (disadvantage) of closing the North Store?

Answer 1

Solution 1
Computation of Avoidable Employee Salaries
Sales salaries	61000
Delivery Salaries	4600
Store manager Salaries (24000-12000)	12000
General office salaries	6000
Salary of New manager	11000
Total	94600
Solution 2
Computation of Avoidable Employment Taxes
Avoidable employee Salaries	94600
*Employment tax rate	15%
Avoidable Employment Taxes	14190
Solution 3
Computation of financial advantage (disadvantage) of closing the North Store
Gross Margin lost if North store closed		-330000
Cost that can be avoided:
Sales salaries	61000
Delivery Salaries	4600
Store manager Salaries (24000-12000)	12000
General office salaries	6000
Salary of New manager	11000
Employment Tax	14190
Direct Advertising	57000
Store Rent	91000
Insurance on Inventory (9300*2/3)	6200
Utilities	31010
Total Cost Avoided		294000
Financial advantage (Disadvantage) of Closing North Store		-36000
Solution 4:
No, we would not recommend closing the North Store as there is net financial disadvantage of ($36,000)
Solution 5:
Contribution margin ratio of East store
Gross Margin of East store	612000
Sales of East Store	1360000
Contribution margin ratio of East Store	45.00%
Under New assumption: Computation of Financial advantage (disadvantage) of closing the North Store
Gross Margin lost if North store closed	-330000
Gross Margin gained from east store ($800,000*1/4*45%)	90000
Net loss of Gross Margin	-240000
Less: Total Cost that can be avoided (Computed in part 3)	294000
Financial advantage (disadvantage) of closing the North Store	54000