Ciena & Associates

The following customer segmented quarterly income statement is for Ciena and

Associates, a firm that performs legal services

Customers Koontz Davis Nello Total

Sales revenue $150,000 $750,000 $100,000 $1,000,000

Variable costs 125,000 600,000 80,000 805,000

Contribution margin $ 25,000 $150,000 $ 20,000 $ 195,000

Direct fixed costs 7,500 157,500 5,000 170,000

Allocated fixed costs 3,000 15,000 2,000 20,000

Profit (loss) $ 14,500 $ (22,500) $ 13,000 $ 5,000

Management is concerned about the significant losses associated with the Davis

account and would like to drop this customer. Allocated fixed costs are assigned to

customers based on sales revenue.

If Davis is dropped, total allocated fixed costs are assigned to the remaining

customers, and all variable and direct fixed costs for the Davis account will be

eliminated.

Required

a. Perform differential analysis. Assume keeping all customers is Alternative

1, and dropping the Davis account is Alternative 2.

b. Which alternative is best? Explain.

c. Summarize the result of dropping the Davis account.

d. Explain what happened to the profitability of the other two customers as a

result of dropping the Davis account.

e. Assume all the facts of this problem remain the same with one exception. As

a result of dropping the Davis account, Ciena and Associates is only able to

reduce the direct fixed costs associated with the Davis account by 90 percent.

The remaining 10 percent will not be eliminated for several more years. Does

this change Ciena's decision as to whether to drop the Davis customer?