Question

WoolCorp buys sheep’s wool from farmers. The company began operations in January of this year, and is making decisions on product offerings, pricing, and vendors. The company is also examining its method of assigning overhead to products. You’ve just been hired as a production manager at WoolCorp.

Currently WoolCorp makes three products: (1) raw, clean wool to be used as stuffing or insulation; (2) wool yarn for use in the textile industry, and (3) extra-thick yarn for use in rugs.

Upper management would like your recommendations regarding a production decision regarding their current and proposed product lines.

Continue/Discontinue

For the past year, WoolCorp has experimented with its third product, extra-thick rug yarn. The company wishes to consider whether to continue or discontinue manufacturing and selling this product. You decide to prepare a differential analysis of the income related to all three products. To begin your analysis, you review the following condensed income statement. Then scroll down to complete the differential analysis.

WoolCorp

Condensed Income Statement

For the Year Ended December 31, 20Y8

1		Raw Wool	Wool Yarn	Rug Yarn	Total Company
2	Sales	$200,000.00	$155,000.00	$197,000.00	$552,000.00
3	Cost of goods sold:
4	Variable costs	$48,000.00	$18,600.00	$37,160.00	$103,760.00
5	Fixed costs	32,000.00	12,400.00	24,800.00	69,200.00
6	Total cost of goods sold	$80,000.00	$31,000.00	$61,960.00	$172,960.00
7	Gross profit	$120,000.00	$124,000.00	$135,040.00	$379,040.00
8	Operating expenses:
9	Variable expenses	$5,000.00	$7,750.00	$53,110.00	$65,860.00
10	Fixed expenses	89,000.00	77,500.00	106,200.00	272,700.00
11	Total operating expenses	$94,000.00	$85,250.00	$159,310.00	$338,560.00
12	Income (loss) from operations	$26,000.00	$38,750.00	$(24,270.00)	$40,480.00

Complete the following table using the data in the preceding income statement to compare the effects of dropping the rug yarn line of products. For those boxes in which you must enter subtracted or negative numbers use a minus sign. If an amount is zero, enter “0”.

Score: 20/46

Differential Analysis

Continue Rug Yarn (Alternative 1) or Discontinue Rug Yarn (Alternative 2)

December 31, 20Y8

1		Continue Rug Yarn (Alternative 1)	Discontinue Rug Yarn (Alternative 2)	Differential Effect on Income (Alternative 2)
2	Revenues	?	?	?
3	Costs:
4	Variable		?
5	Fixed			?
6	Income (loss)

Answer 1

Solution :

It is assumed that none of the fixed cost is avoidable on discontinue of Rug yarn product.

Differential Analysis Continue Rug Yarn (Alt 1) or Discontinue Rug Yarn (Alt 2) Dec 31, 20Y8
Particulars	Continue Rug Yarn (alt 1)	Discontinue Rug Yarn (alt 2)	Differential effect on income (Alt 2)
	Amount	Amount
Revenue	$552,000.00	$355,000.00	-$197,000.00
Costs:
Variable cost	$169,620.00	$79,350.00	-$90,270.00
Fixed Cost	$341,900.00	$341,900.00	$0.00
Income / (Loss)	$40,480.00	-$66,250.00	-$106,730.00

Differential Analysis Continue Rug Yarn (Alt 1) or Discontinue Rug Yarn (Alt 2) Dec 31, 20Y8
Particulars	Continue Rug Yarn (alt 1)	Discontinue Rug Yarn (alt 2)	Differential effect on income (Alt 2)
	Amount	Amount
Revenue	$197,000.00	$0.00	-$197,000.00
Costs:
Variable cost	$90,270.00	$0.00	-$90,270.00
Fixed Cost	$131,000.00	$131,000.00	$0.00
Income / (Loss)	-$24,270.00	-$131,000.00	-$106,730.00