E7-8 (Algo) Analyzing Keep-or-Drop Decision [LO 7-2, 7-5]

MSI is considering eliminating a product from its ToddleTown Tours collection. This collection is aimed at children one to three years of age and includes tours of a hypothetical town. Two products, The Pet Store Parade and Grocery Getaway, have impressive sales. However, sales for the third CD in the collection, Post Office Polka (POP), have lagged the others. Several other CDs are planned for this collection, but none is ready for production.

MSIs information related to the ToddleTown Tours collection follows:

Segmented Income Statement for MSIs
ToddleTown Tours Product Lines
	Pet Store Parade	Grocery Getaway	Post Office Polka	Total
Sales revenue	$ 95,000	$ 90,000	$ 28,000	$ 213,000
Variable costs	41,000	37,000	23,000	101,000
Contribution margin	$ 54,000	$ 53,000	$ 5,000	$ 112,000
Less: Direct Fixed costs	6,600	5,800	4,600	17,000
Segment margin	$ 47,400	$ 47,200	$ 400	$ 95,000
Less: Common fixed costs*Footnote asterisk	9,500	9,000	2,800	21,300
Net operating income (loss)	$ 37,900	$ 38,200	$ (-2,400)	$ 73,700

*Footnote asteriskAllocated based on total sales revenue.

MSI has determined that elimination of the Post Office Polka (POP) program would not impact sales of the other two items. The remaining fixed overhead currently allocated to the POP product would be redistributed to the remaining two products.

Required:

1. Calculate the incremental effect on profit if the POP product is eliminated.

2. Should MSI drop the POP product?

3-a. Calculate the incremental effect on profit if the POP product is eliminated. Suppose that $2,000 of the common fixed costs could be avoided if the POP product line were eliminated.

3-b. Should MSI drop the POP product?