The following customer segmented annual income statement is for Management Consulting Inc.

Management is concerned about the losses associated with the Apple LLP account and would like to drop this customer. Allocated fixed costs are assigned to customers based on sales revenue. If Apple LLP is dropped, total allocated fixed costs are assigned to the remaining customers, and all variable and direct fixed costs for the Apple LLP account will be eliminated.

Required

a. Perform differential analysis using the format presented in Table 7.7. Assume keeping all customers is Alternative 1, and dropping the Apple LLP account is Alternative 2.

b. Which alternative is best? Explain.

c. Summarize the result of dropping the Apple LLP account using the format presented in Table 7.8.

d. Explain why the loss shown for the Apple LLP account in the segmented income statement might be misleading to management. 

Table 7.7

Table 7.8

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Customers Sales revenue Cherry Corp $500,000 Orange Inc. $500,000 Apple LLP $250,000 Variable costs 400,000 370,000 180,000 Contribution margin $100,000 $130,000 $ 70,000 Direct fixed costs 30,000 40,000 65,000 Allocated fixed costs 40,000 40,000 20,000 Total $1,250,000 950,000 $ 300,000 135,000 100,000 Profit (loss) $ 30,000 $ 50,000 $(15,000) $ 65,000