Question

The ABC department store has three major product lines: hardware, clothing, and sporting goods. The store is considering dropping the clothing line because the income statement shows that it is operating at a loss. Note the income statement for these product lines below:

	Hardware	Clothing	Sporting Goods	Total
Sales	$10,000	$15,000	$25,000	$50,000
Less: Variable costs	$6,000	$8,000	$12,000	$26,000
Contribution Margin	$4,000	$7,000	$13,000	$24,000
Less: Fixed costs
Direct	$2,000	$6,500	$4,000	12,500
Allocated	$1,000	$1,500	$2,500	$5,000
Total fixed costs	$3,000	$8,000	$6,500	$17,500
Net Income	$1,000	($1,000)	$6,500	$6,500

Should the store drop the clothing line of business? Explain using the sales and cost data above.

You have been provided with two areas in the course to discuss and collaborate: A group discussion forum and this wiki collaboration area. Only group members have access to these areas and will be able to see the discussion you have and the work you do within these areas. You are also free to use tools outside of the course, such as Google Docs, Yammer, etc. if your group chooses to do so.

Answer 1

Answer

The store should not drop the clothing line of business because the net income will reduce by $ 500.

Explanation:

The allocated fixed cost will still be incurred even if the clothing line of business is closed.

	Hardware	Clothing	Sporting Goods	Total
Sales	$      10,000	$               -	$            25,000	$      35,000
Less: Variable costs	$         6,000	$               -	$            12,000	$      18,000
Contribution Margin	$         4,000	$               -	$            13,000	$      17,000
Less: Fixed costs
Direct	$         2,000	$               -	$              4,000	$         6,000
Allocated	$         1,000	$         1,500	$              2,500	$         5,000
Total fixed costs	$         3,000	$         1,500	$              6,500	$      11,000
Net Income	$         1,000	$       (1,500)	$              6,500	$         6,000

Existing income = $ 6,500.

Decrease in income = $ 500 ($ 6,500 - $ 6,000)

In case of any doubt, please comment.