The following monthly segmented income statement is for Durango Company.

Management is concerned about the losses associated with product line A and is considering dropping this product line. Allocated fixed costs are assigned to product lines based on sales. If product line A is eliminated, total allocated fixed costs are assigned to the remaining product lines, and all variable and direct fixed costs for product line A will be eliminated.

Required

a. Perform differential analysis using the format presented in Table 7.4. Assume keeping all product lines is Alternative 1, and dropping product line A is Alternative 2.

b. Which alternative is best? Explain.

c. Summarize the result of dropping product line A using the format presented in Table 7.5.

d. Explain why the loss shown for product line A in the segmented income statement might be misleading to management.

Table 7.4

Table 7.5

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Product Lines A B C Total Sales revenue $37,500 $50,000 $12,500 Variable costs 16,000 27,500 5,000 $100,000 48,500 Contribution margin $21,500 $22,500 $ 7,500 $ 51,500 Direct fixed costs 19,500 16,000 3,500 39,000 Allocated fixed costs 3,750 5,000 1,250 10,000 Profit (loss) $ (1,750) $ 1,500 $ 2,750 $ 2,500