eep-Or-Drop Decision, Alternatives, Relevant Costs

Reshier Company makes three types of rug shampooers. Model 1 is the basic model rented through hardware stores and supermarkets. Model 2 is a more advanced model with both dry-and wet-vacuuming capabilities. Model 3 is the heavy-duty riding shampooer sold to hotels and convention centers. A segmented income statement is shown below.

		Model 1		Model 2		Model 3		Total
Sales		$270,000		$594,000		$605,000		$1,469,000
Less variable costs of goods sold		(92,000)		(174,640)		(330,000)		(596,640)
Less commissions		(4,200)		(36,000)		(19,500)		(59,700)
Contribution margin		$173,800		$383,360		$255,500		$812,660
Less common fixed expenses:
Fixed factory overhead								(425,000)
Fixed selling and administrative								(303,000)
Operating income								$84,660

While all models have positive contribution margins, Reshier Company is concerned because operating income is less than 10 percent of sales and is low for this type of company. The companys controller gathered additional information on fixed costs to see why they were so high. The following information on activities and drivers was gathered:

						Driver Usage by Model
Activity	Activity Cost				Activity Driver	Model 1				Model 2				Model 3
Engineering		$82,000			Engineering hours		770				78				152
Setting up		194,000			Setup hours		13,000				12,900				29,152
Customer service		119,000			Service calls		13,800				1,600				19,152

In addition, Model 1 requires the rental of specialized equipment costing $20,000 per year.

Required:

1. Reformulate the segmented income statement using the additional information on activities. Use a minus sign to indicate any negative margins. Do NOT round interim calculations and, if required, round your answer to the nearest dollar. If amount box does not require an entry, leave it blank or enter "0".

Reshier Company
Segmented Income Statement
	Model 1	Model 2	Model 3	Total
Sales	$fill in the blank 398796fd504200e_2	$fill in the blank 398796fd504200e_3	$fill in the blank 398796fd504200e_4	$fill in the blank 398796fd504200e_5
Less variable cost of goods sold	fill in the blank 398796fd504200e_7	fill in the blank 398796fd504200e_8	fill in the blank 398796fd504200e_9	fill in the blank 398796fd504200e_10
Less commissions	fill in the blank 398796fd504200e_12	fill in the blank 398796fd504200e_13	fill in the blank 398796fd504200e_14	fill in the blank 398796fd504200e_15
Contribution margin	$fill in the blank 398796fd504200e_16	$fill in the blank 398796fd504200e_17	$fill in the blank 398796fd504200e_18	$fill in the blank 398796fd504200e_19
Less traceable fixed expenses:
Engineering	fill in the blank 398796fd504200e_21	fill in the blank 398796fd504200e_22	fill in the blank 398796fd504200e_23	fill in the blank 398796fd504200e_24
Setting up	fill in the blank 398796fd504200e_26	fill in the blank 398796fd504200e_27	fill in the blank 398796fd504200e_28	fill in the blank 398796fd504200e_29
Equipment rental	fill in the blank 398796fd504200e_31	fill in the blank 398796fd504200e_32	fill in the blank 398796fd504200e_33	fill in the blank 398796fd504200e_34
Customer service	fill in the blank 398796fd504200e_36	fill in the blank 398796fd504200e_37	fill in the blank 398796fd504200e_38	fill in the blank 398796fd504200e_39
Product margin	$fill in the blank 398796fd504200e_40	$fill in the blank 398796fd504200e_41	$fill in the blank 398796fd504200e_42	$fill in the blank 398796fd504200e_43
Less common fixed expenses:
Factory overhead				fill in the blank 398796fd504200e_45
Selling and admin. expense				fill in the blank 398796fd504200e_47
Operating income				$fill in the blank 398796fd504200e_48

Feedback

1. Review what you have learned about segmented income statements in the chapter. To determine the traceable fixed costs, you will need to compute the activity rates for each activity to assign the costs of the activities to each product. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.

2. Using your answer to Requirement 1, assume that Reshier Company is considering dropping any model with a negative product margin. What are the alternatives? Keeping Model 1 or dropping it

Which alternative is more cost effective and by how much? (Assume that any traceable fixed costs can be avoided.) Do NOT round interim calculations and, if required, round your answer to the nearest dollar. Dropping Model 1 will add $fill in the blank 73817cf27fc2044_3 to operating income

3. What if Reshier Company can only avoid 188 hours of engineering time and 4,800 hours of setup time that are attributable to Model 1? How does that affect the alternatives presented in Requirement 2? Which alternative is more cost effective and by how much? Do NOT round interim calculations and, if required, round your answer to the nearest dollar.

Keeping Model 1 will add $fill in the blank 73817cf27fc2044_5 to operating income