Cornerstone Exercise 17.2 Keep-Or-Drop Decision, Alternatives, Relevant Costs In
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Question
Cornerstone Exercise 17.2
Keep-Or-Drop Decision, Alternatives, Relevant Costs
In addition, Model 1 requires the rental of specialized equipment costing $20,000 per year.
Required:
1. Reformulate the segmented income statement using the additional information on activities. Use a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
$
$
$
$
Contribution margin
$
$
$
$
Less traceable fixed expenses:
Product margin
$
$
$
$
Less common fixed expenses:
Operating income
$
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1. Review what you have learned about segmented income statements in the chapter. To determine the traceable fixed costs, you will need to compute the activity rates for each activity to assign the costs of the activities to each product. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.
2. Using your answer to Requirement 1, assume that Reshier Company is considering dropping any model with a negative product margin. What are the alternatives?
- Select your answer -Keeping Model 1Dropping Model 1Keeping Model 1 or dropping itCorrect 1 of Item 2
Which alternative is more cost effective and by how much? (Assume that any traceable fixed costs can be avoided.)
- Select your answer -Keeping Model 1Dropping Model 1Correct 2 of Item 2 will add $ to operating income
3. What if Reshier Company can only avoid 175 hours of engineering time and 5,000 hours of setup time that are attributable to Model 1? How does that affect the alternatives presented in Requirement 2? Which alternative is more cost effective and by how much?
- Select your answer -Keeping Model 1Dropping Model 1Correct 4 of Item 2 will add $ to operating income
****Make sure you include how you got to the common fixed epsenses and how you got to part B of the 3rd part!!****
Hide1. Reformulate the segmented income statement using the additional information on activities. Use a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
$
$
$
$
Contribution margin
$
$
$
$
Less traceable fixed expenses:
Product margin
$
$
$
$
Less common fixed expenses:
Operating income
$
Explanation / Answer
Reformulated the segmented income statement using the additional information on activities. Using a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
Sales
$246000
$578000
$634000
$1458600
Less : Cost of goods sold
$93500
$164160
$348000
$605660
Less : Commission
$5000
$28000
$21750
$54750
Contribution margin
$147,500
$ 385,840
$264,850
$798,190
Less traceable fixed expenses:
Factory Overheads (Engineering)
$24000
$2250
$ 3750
$30,000
Factory Overheads (Setting up)
$74,400
$75000
$30,600
$180,000
Less : Traceable Selling and Administrative Expenses
$74,800
$8250
$26,950
$110,000
Total of Traceable Fixed Expenses
$173,200
$85,500
$61,300
$320,000
Product margin
$-25750+
-20,000
=$-45750
$ 300,340
$203,550
$458,190
Less common fixed expenses:
$348000
Operating Income
$110190
Note : Here we have assumed that specialized Equipment Costing in case of Model 1, is part of Total fixed costs shown in above statement.
Ans2 : Using the above financial model, Rashier company has to drop model 1, because this model is incurring losses.
Ans 3 : Reformulated the segmented income statement using the additional information on activities. Using a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
Sales
$246000
$578000
$634000
$1458600
Less : Cost of goods sold
$93500
$164160
$348000
$605660
Less : Commission
$5000
$28000
$21750
$54750
Contribution margin
$147,500
$ 385,840
$264,850
$798,190
Less traceable fixed expenses:
Factory Overheads (Engineering)
$18,750
$2250
$ 3750
$24,750
Factory Overheads (Setting up)
$44,400
$75000
$30,600
$150,000
Less : Traceable Selling and Administrative Expenses
$74,800
$8250
$26,950
$110,000
Total of Traceable Fixed Expenses
$137,950
$85,500
$61,300
$284,750
Product margin
$9550-20,000
=$-10450
$ 300,340
$203,550
$493,440
Less common fixed expenses:
$348000
Operating Income
$145440
Note : In this modelling we have assumed that there would be reduction in gross traceable fixed costs. That means there would be no change in the traceable fixed cost expenses.
Even with this cost cutting, Model1 is still incurring losses. Hence it is advised to discontinue this product unless the company has some other strategic objectives.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
Sales
$246000
$578000
$634000
$1458600
Less : Cost of goods sold
$93500
$164160
$348000
$605660
Less : Commission
$5000
$28000
$21750
$54750
Contribution margin
$147,500
$ 385,840
$264,850
$798,190
Less traceable fixed expenses:
Factory Overheads (Engineering)
$24000
$2250
$ 3750
$30,000
Factory Overheads (Setting up)
$74,400
$75000
$30,600
$180,000
Less : Traceable Selling and Administrative Expenses
$74,800
$8250
$26,950
$110,000
Total of Traceable Fixed Expenses
$173,200
$85,500
$61,300
$320,000
Product margin
$-25750+
-20,000
=$-45750
$ 300,340
$203,550
$458,190
Less common fixed expenses:
$348000
Operating Income
$110190
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