Question

Bed & Bath, a retailing company, has two departments, Hardware and Linens. The company’s most recent monthly contribution format income statement follows:

Department

Total Hardware Linens
  Sales $ 4,080,000 $ 3,030,000 $ 1,050,000
  Variable expenses 1,222,000 817,000 405,000

  Contribution margin 2,858,000 2,213,000 645,000
  Fixed expenses 2,210,000 1,340,000 870,000

  Net operating income (loss) $ 648,000 $ 873,000 $ (225,000 )

A study indicates that $375,000 of the fixed expenses being charged to Linens are sunk costs or allocated costs that will continue even if the Linens Department is dropped. In addition, the elimination of the Linens Department will result in a 19% decrease in the sales of the Hardware Department.

Required:

If the Linens Department is dropped, what will be the effect on the net operating income of the company as a whole?

Answer 1

	Departments
Particulars	Total	Hardware	Linens
Sales	$4080000	$3030000	$1050000
Less:Variable expenses	$1222000	$817000	$405000
Contribution Margin	$2858000	$2213000	$645000
Less:Fixed Expenses	$2210000	$1340000	$870000
Net Operating Income/(loss)	$648000	$873000	($225000)
If linen Department is closed then its lead to decrease of sales of harware department
at 19%, and entire fixed expenses have to bare by hardware Department only
Particulars	Hardware
Sales	$2454300
Less:Variable expenses(.2696*2454300)	$661679
Contribution Margin	$1792621
Less:Fixed Expenses	$2210000
Net Operating Income/(loss)	($417379)
Note: 0.2696= 817000/3030000
Observations: Closing Down Of linens Department will result in Huge loss to the company
i.e from proftibale company to losses company as a result huge loss of 417379 rather than
profit of 648000.
Advice: It is not advisable to close the linens department