Question

AudioMart is a retailer of radios, stereos, and televisions. The store carries two portable sound systems that have radios, tape players, and speakers. System A, of slightly higher quality than System B, costs $20 more. With rare exceptions, the store also sells a headset when a system is sold. The headset can be used with either system. Variable-costing income statements for the three products follow:

	System A	System B	Headset
Sales	$ 45,000	$ 32,500	$ 8,000
Less: Variable expenses	20,000	25,500	3,200
Contribution margin	$25,000	$7,000	$4,800
Less: Fixed costs *	10,000	18,000	2,700
Operating income (loss)	$15,000	$(11,000)	$2,100

* This includes common fixed costs totaling $18,000, allocated to each product in proportion to its revenues.

The owner of the store is concerned about the profit performance of System B and is considering dropping it. If the product is dropped, sales of System A will increase by 30%, and sales of headsets will drop by 25%. Round all answers to the nearest whole number.

	Required:
1.	Prepare segmented income statements for the three products using a better format.
2.	CONCEPTUAL CONNECTION: Prepare segmented income statements for System A and the headsets assuming that System B is dropped. Should B be dropped?
3.	CONCEPTUAL CONNECTION: Suppose that a third system, System C, with a similar quality to System B, could be acquired. Assume that with C the sales of A would remain unchanged; however, C would produce only 80% of the revenues of B, and sales of the headsets would drop by 10%. The contribution margin ratio of C is 50%, and its direct fixed costs would be identical to those of B. Should System B be dropped and replaced with System C?

Answer 1