Bed & Bath, a retailing company, has two departments, Hardware and Linens. The c

Question

Bed & Bath, a retailing company, has two departments, Hardware and Linens. The company's most recent monthly contribution format income statement follows: A study indicates that $379,000 of the fixed expenses being charged to Linens are sunk costs or allocated costs that will continue even if the Linens Department is dropped. In addition, the elimination of the Linens Department will result in a 14% decrease in the sales of the Hardware Department. Required: If the Linens Department is dropped, what will be the effect on the net operating income of the company as a whole?

Explanation / Answer

Answer

Given information

PROPOSED INCOME AND EXPENSE LEVELS

What it comes down to is that you are cutting hardware sales by 14% (432,600) and also adding $379,000 in fixed expenses without any compensating income from the linens department. So even though the linens department is losing money, they would lose a lot more (735,000 - 134,920 = 600,080) if the linens department were discontinued.

Department Total Hardware Linens Sales        4,260,000        3,090,000        1,170,000 Variable expenses        1,235,000           818,000           417,000 Contribution Margin        3,025,000        2,272,000           753,000 Fixed Expenses        2,290,000 1,440,000 850,000 Net Operating income(loss)           735,000           832,000           (97,000)

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