Keep or Drop

AudioMart is a retailer of radios, stereos, and televisions. The store carries two portable sound systems that have radios, tape players, and speakers. System A, of slightly higher quality than System B, costs $20 more. With rare exceptions, the store also sells a headset when a system is sold. The headset can be used with either system. Variable-costing income statements for the three products follow:

		System A		System B		Headset
Sales		$49,000		$ 32,500		$8,000
Less: Variable expenses		22,000		25,500		3,200
	Contribution margin	$27,000		$ 7,000		$4,800
Less: Fixed costs*		10,000		18,000		2,700
	Operating income	$17,000		$(11,000)		$2,100

* This includes common fixed costs totaling $18,000, allocated to each product in proportion to its revenues.

The owner of the store is concerned about the profit performance of System B and is considering dropping it. If the product is dropped, sales of System A will increase by 40%, and sales of headsets will drop by 25%. (Note: Round all answers to the nearest whole number.)

Conceptual Connection: Suppose that a third system, System C, with a similar quality to System B, could be acquired. Assume that with C the sales of A would remain unchanged; however, C would produce only 80% of the revenues of B, and sales of the headsets would drop by 10%. The contribution margin ratio of C is 50%, and its direct fixed costs would be identical to those of B.

AudioMart
Segmented Income Statement
		System A		System C		Headset		Total
Sales		$		$		$		$
Variable expenses
Contribution margin		$		$		$		$
Direct fixed cost
Segment margin		$		$		$		$
Common fixed cost
Operating income								$