Power Music owns five music stores, where it sells music, instruments, and suppl

Question

Power Music owns five music stores, where it sells music, instruments, and supplies. In addition, it rents instruments. At the end of last year, the new accounts showed that although the business as a whole was profitable, the Fifth Avenue store had shown a substantial loss. The income statement for the Fifth Avenue store for last month follows:

Additional computations:

a These costs would be saved if the store were closed.

b The rent would be saved if the store were closed.

c Assessed annually on the basis of average inventory on hand each month.

d 8.5% of cost of departmental equipment. The equipment has no salvage value, and Power Music would incur no costs in scrapping it.

eAllocated on the basis of store sales as a fraction of total company sales. Management estimates that 15% of these costs allocated to the Fifth Avenue store could be saved if the store were closed.

f Based on average inventory quantity multiplied by the company's borrowing rate for three-month loans.

Analysis of these results has led management to consider closing the Fifth Avenue store. Members of the management team agree that keeping the Fifth Avenue store open is not essential to maintaining good customer relations and supporting the rest of the company's business. In other words, eliminating the Fifth Avenue store is not expected to affect the amount of business done by the other stores.

Required:

a. Calculate the cost savings in closing the Fifth Avenue store.

b. Should the Fifth Avenue store be closed?

POWER MUSIC
Fifth Avenue Store
Partial Income Statement Sales $ 1,980,000 Cost of goods sold 1,695,000 Gross margin $ 285,000 Costs: Payroll, direct labor, and supervisiona $ 156,000 Rentb 51,300 State taxesc 7,800 Insurance on inventory 58,200 Depreciationd 22,800 Administration and general officee 63,000 Interest for inventory carrying costsf 13,800 Total costs 372,900 Loss $ (87,900 )

Explanation / Answer

Net Gain / (loss) of Closing the fifth Avenue Store:

Loss of Contribution margin         (2,85,000) Cost Savings: Payroll, direct labor, and supervision           1,56,000 Rent               51,300 Administration and general office                 9,450 Insurance on Inventory               58,200 Net loss of discontinuing fifth avenue store           2,74,950

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