Question

Modern Company has four divisions. The budgeted revenues and expenses for each division for 2021 follows:

	Division
	A	B	C	D
Sales	$504,000	$948,000	$960,000	$1,240,000
Cost of goods sold	440,000	930,000	765,000	925,000
Selling & admin costs	96,000	202,500	144,000	210,000
Operating income (loss)	$(32,000)	$(184,500)	$51,000	$105,000

Further analysis of costs reveals the following percentages of variable costs in each division:

	A	B	C	D
Cost of goods sold	90%	80%	90%	85%
Selling & admin costs	50%	50%	60%	60%

Closing down any division would result in a savings of 40% of the fixed costs of that division.

Required:

1. Calculate the increase or decrease in operating income if Modern Company closes division B using the below table:

Item

2. What factors should the top management of Modern Company consider before making a decision.

Answer 1

SOLUTION:

	A	B
Sales Revenue	504000	948000
Variable Costs
Variable Cost of Goods Sold	396,000	744,000
Selling and Administrative Expenses	48,000	101,250
Total Variable Costs	444,000	845,250
Contribution Margin	60,000	102,750

Division A	Continue	Eliminate (1-40%)	Net Income Increase(Decrease
Contribution Margin	60000	-	(60000)
Fixed Expenses
Cost of Goods Sold	44000	26400	17600
Selling and Administrative Expenses	48000	28800	19200
Total Fixed Expenses	92000	27600	36800
Increase ( decrease) in Net Operating Income			(23200)

Division B	Continue	Eliminate (1-40%)	Net Income Increase(Decrease
Contribution Margin	102750	-	(102750)
Fixed Expenses
Cost of Goods Sold	186000	111600	74400
Selling and Administrative Expenses	101250	60750	40500
Total Fixed Expenses	287250	27600	114900
Increase ( decrease) in Net Operating Income			12150

Division B should be closed as there will be Positive impact of $ 12150 in net income..