Keep-or-Drop for Service Firm, Complementary Effects, Traditional Analysis The p
ID: 2468922 • Letter: K
Question
Keep-or-Drop for Service Firm, Complementary Effects, Traditional Analysis
The president of the company is considering dropping the property insurance. However, some policyholders prefer having their property and automobile insurance with the same company, so if property insurance is dropped, sales of automobile insurance will drop by 12 percent. No significant non-unit-level activity costs are incurred.
Required:
1. If Devern Assurance Company drops property insurance, by how much will income increase or decrease?
by $
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Prepare the segmented income statement to determine the effect of dropping the segment of the business.
As a supporting computation, prepare a segmented income statement for the keep-or-drop decision.
Devern Assurance Company
Keep-or-Drop For Service Firm
Segmented Income Statement
Keep
Drop
$
$
$
$
$
$
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Prepare an income statement for the company if the property insurance were to be dropped. Compare that to the existing income statement for the entire company. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.
2. Assume that dropping all advertising for the property insurance line and increasing the corporate advertising budget by $450,000 will increase sales of property insurance by 10 percent and automobile insurance by 8 percent. Prepare a segmented income statement that reflects the effect of increased advertising.
Devern Assurance Company
Keep-or-Drop For Service Firm
Segmented Income Statement
Property Insurance
Automobile Insurance
Total
$
$
$
$
$
$
$
$
$
$
HideAs a supporting computation, prepare a segmented income statement for the keep-or-drop decision.
Devern Assurance Company
Keep-or-Drop For Service Firm
Segmented Income Statement
Keep
Drop
$
$
$
$
$
$
Explanation / Answer
Segmented Income Statement
Keep
Drop
Sales
12,000,000
10,560,000
Varaible cost
-9,600,000
-9,600,000
Contribution margin
2,400,000
960,000
Less : Direct fixed expense
500,000
500,000
Segment margin
1,900,000
460,000
Less:common fixed expense
-200,000
-200,000
Operating income
1,700,000
260,000
Decrease in income = 1,440,000
2)
Property insurance
Automobile insurance
total
Sale
4,620,000
12,960,000
17,580,000
Less: Variable expense
3,830,000
9,600,000
13,430,000
Contribution margin
790,000
3,360,000
4,150,000
Less :Direct fixed expense
400,000
500,000
900,000
Segmented margin
390,000
2,860,000
3,250,000
Less: Common fixed expense
750,000
Net income
2,500,000
Keep
Drop
Sales
12,000,000
10,560,000
Varaible cost
-9,600,000
-9,600,000
Contribution margin
2,400,000
960,000
Less : Direct fixed expense
500,000
500,000
Segment margin
1,900,000
460,000
Less:common fixed expense
-200,000
-200,000
Operating income
1,700,000
260,000
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