Question

MMV Inc., opened a chain of businesses several years ago that provide quick oil changes and other minor services in conjunction with a convenience operation consisting of a soup, sandwich, and snack bar. The strategy was that as customers brought autos in for oil changes, they would likely use the convenience operation to purchase a sandwich, bowl of soup, beverage, or some other snack while they were waiting for the work to be completed on their autos. The oil change operation occupies 75% of the facility and includes three service bays. The soup, sandwich, and snack bar occupies the remaining 25%. A general manager is responsible for the entire operation, but each segment also has a manager responsible for its individual operation.

Recently, the following annual operating information for the soup, sandwich, and snack bar at one of MMV’s locations caught the general manager’s attention. Sales for the year were $120,000, and cost of sales (food, beverages, and snack items) are 40% of sales revenue. Operating expense information for the convenience operation follows:

Food service items (spoons, napkins, etc.)	$	1,800
Utilities		3,600
Wages for part-time employees		24,000
Convenience operation manager’s salary		33,000
General manager’s salary		9,000
Advertising		10,800
Insurance		6,000
Property taxes		1,500
Food equipment depreciation		3,000
Building depreciation		7,500

While investigating these operating expenses, MMV Inc. determines the following:

Utilities are allocated to each segment based on square footage; however, 50% of the amount allocated to the soup, sandwich, and snack bar results from operating the food equipment.

The general manager’s salary is allocated between the segments based on estimated time spent with each operation. It is determined that 20% of the general manager’s time is spent with the convenience operation.

Advertising is allocated to each segment equally but could be reduced by $2,700 if MMV decided to advertise only the auto services.

Insurance is allocated to each segment based on square footage, but only 25% of the amount allocated to the soup, sandwich, and snack bar results directly from its operation.

Property taxes and building depreciation are allocated to each segment based on square footage.

Required:

a. From the preceding information, calculate the operating income from the soup, sandwich, and snack bar operation that has caught the general manager’s attention.

b. Identify whether each of these operating expenses is relevant to the decision of discontinuing the soup, sandwich, and snack bar operation, if relevant, provide the relevant values.

c. If MMV Inc. discontinues the soup, sandwich, and snack bar operation, how much will operating income increase or decrease for this location?

d. Should MMV continue or discontinue the soup, sandwich, and snack bar operation at this location?

Answer 1

Ans:-
	a	Calculation of operating income from soup, sandwich, and snack bar
			Amount in $
		Sales	120,000
		Cost of sales	48,000
		Contribution margin	72,000
		Operating Expense
		Food Services items	1,800
		Utilies	3,600
		Wages for part time employees	24,000
		Convenience operation manager’s salary	33,000
		General manager’s salary	9,000
		Advertising	10,800
		Insurance	6,000
		Property taxes	1,500
		Food equipment depreciation	3,000
		Building depreciation	7,500
		Total Operating Expense	100,200
		Net Operating loss	28,200
	b	Relevant operating Expense
		Food Services items	1,800
		Utilies	1,800
		Wages for part time employees	24,000
		Convenience operation manager’s salary	33,000
		General manager’s salary	-
		Advertising	2,700
		Insurance	1,500
		Property taxes	-
		Food equipment depreciation	-
		Building depreciation	-
		Total relevant operating exp.	64,800
	i	Utilities relevant cost is 1800 as only 50 % related to operations. If Convenience operation discontinued than only this cost is reduced
	ii	General manager salary is fixed cost allocated to Convenience operation so there will not any reduction in this expense.
	iii	There will be reduction of $ 2700 in advertising cost so only $ 2700 is relevant cost.
	iv	In insurance cost only 25% is related to operation so only $ 1500 will be cost reduction.
	v	Property tax and depreciation is fixed which not dependent on Convenience operation so it is irrelevant cost.
	c	If MMV Inc. discontinues the soup, sandwich, and snack bar operation, then below is operating income increase or decrease for this location:-
			Amount in $
		Sales	120,000
		Cost of sales	48,000
		Contribution margin	72,000
		Relevant operating expense	64,800
		Decrease in operating income	7,200
	d	MMV should continue the soup, sandwich, and snack bar operation at this location as there will be relevant income of $ 7200.