Keep-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		$265,000		$558,000		$631,000		$1,454,000
Less variable costs of goods sold		(88,500)		(173,760)		(359,200)		(621,460)
Less commissions		(5,900)		(32,000)		(18,500)		(56,400)
Contribution margin		$170,600		$352,240		$253,300		$776,140
Less common fixed expenses:
Fixed factory overhead								(380,000)
Fixed selling and administrative								(287,000)
Operating income								$109,140

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 company's 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		$90,000			Engineering hours		770				72				158
Setting up		178,000			Setup hours		12,200				12,800				29,158
Customer service		115,000			Service calls		13,400				1,500				19,158

In addition, Model 1 requires the rental of specialized equipment costing $23,500 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".

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 ??? to operating income

2 What if Reshier Company can only avoid 172 hours of engineering time and 5,250 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 ??? to operating income