Lincoln, Inc., produces two types of peanut butter: Smooth and Crunchy. Of the two, Smooth is the more popular. Data concerning the two products follow:

Annual overhead costs are as follows. These costs are classified as fixed or variable with respect to the appropriate activity driver.

Required:
1. Prepare functional- and activity-based segmented income statements. In the functional-based system, a unit-level overhead rate is used, based on direct labor hours.
2. Using a functional-based approach, determine whether the Crunchy peanut butter product line should be kept or dropped.
3. Repeat the keep-or-drop analysis using an ABC approach.

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Unused Smooth Crunchy Capacity Units of Purchase Expected sales (in cases) 50,000 10,000 Selling price per case $100 $80 Direct labor hours 40,000 10,000 As needed Machine hours Receiving orders 10,000 2,500 2,500 500 250 250 500 Packing orders 1,000 500 500 250 Material cost per case $50 $48 Direct labor cost per case $10 $8 Advertising costs $200,000 $60,000 *Practical capacity less expected usage (all unused capacity is permanent). "In some cases, activity capacity must be purchased in steps (whole units). These steps are provided as necessary. The cost per step is the fixed activity rate multiplied by the step units. The fixed activity rate is the expected fixed activity costs divided by practical activity capacity.