Keep or Drop for Service Firm, Complementary Effects, Traditional Analysis Devern Assurance Company provides both property and automobile insurance The projected income statements for the two products are as follows Property Insurance Automobile Insurance Sales $4,200,000 $12,000,000 Less variable expenses 3,830,000 9,600,000 Contribution margin $370,000 $2,400,000 Less direct fixed expenses 400,000 500,000 Segment margin $(30,000) $1,900,000 Less common fixed expenses (allocated) 100,000 200,000 Operating income (loss) $(130,000) $1,700,000 The president of the company is considering dropping the property insurance However, some policyholders prefer having their property and automobile insurance with the same company, so if property insurance is dropped, sales of automobile insurance will drop by 12 percent No significant non unit level activity costs are incurred Required 1 If Devern Assurance Company drops property insurance, by how much will income increase or decrease Decrease by $ Feedback Prepare the segmented income statement to determine the effect of dropping the segment of the business As a supporting computation, prepare a segmented income statement for the keep or drop decision Devern Assurance Company Keep or Drop For Service Firm Segmented Income Statement Keep Drop Sales $ $ Less variable expenses Contribution margin $ $ Less direct fixed expenses Segment margin $ $ Feedback Prepare an income statement for the company if the property insurance were to be dropped Compare that to the existing income statement for the entire company Common fixed expenses are not traceable to the segments They would remain even if one of the segments were eliminated 2 Assume that dropping all advertising for the property insurance line and increasing the corporate advertising budget by $450,000 will increase sales of property insurance by 10 percent and automobile insurance by 8 percent Prepare a segmented income statement that reflects the effect of increased advertising Devern Assurance Company Keep or Drop For Service Firm Segmented Income Statement Property Insurance Automobile Insurance Total Sales $ $ $ Less variable costs Contribution margin $ $ $ Less direct fixed expenses Segment margin $ $ $ Less common fixed costs Operating income $ Feedback Review what you have learned about segmented income statements in the chapter Common fixed expenses are not traceable to the segments They would remain even if one of the segments were eliminated Should advertising be increased Yes

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Keep-or-Drop for Service Firm, Complementary Effects, Traditional Analysis Devern Assurance Company provides both property and automobile insurance. The projected income statements for the two products

Keep-or-Drop for Service Firm, Complementary Effects, Traditional Analysis

Devern Assurance Company provides both property and automobile insurance. The projected income statements for the two products are as follows:

	Property Insurance	Automobile Insurance
Sales	$4,200,000	$12,000,000
Less variable expenses	3,830,000	9,600,000
Contribution margin	$370,000	$2,400,000
Less direct fixed expenses	400,000	500,000
Segment margin	$(30,000)	$1,900,000
Less common fixed expenses (allocated)	100,000	200,000
Operating income (loss)	$(130,000)	$1,700,000

The president of the company is considering dropping the property insurance. However, some policyholders prefer having their property and automobile insurance with the same company, so if property insurance is dropped, sales of automobile insurance will drop by 12 percent. No significant non-unit-level activity costs are incurred.

Required:

1. If Devern Assurance Company drops property insurance, by how much will income increase or decrease?

Decrease by $

Feedback

Prepare the segmented income statement to determine the effect of dropping the segment of the business.

As a supporting computation, prepare a segmented income statement for the keep-or-drop decision.

Devern Assurance Company
Keep-or-Drop For Service Firm
Segmented Income Statement
	Keep	Drop
Sales	$	$
Less variable expenses
Contribution margin	$	$
Less direct fixed expenses
Segment margin	$	$

Feedback

Prepare an income statement for the company if the property insurance were to be dropped. Compare that to the existing income statement for the entire company. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.

2. Assume that dropping all advertising for the property insurance line and increasing the corporate advertising budget by $450,000 will increase sales of property insurance by 10 percent and automobile insurance by 8 percent. Prepare a segmented income statement that reflects the effect of increased advertising.

Devern Assurance Company
Keep-or-Drop For Service Firm
Segmented Income Statement
	Property Insurance	Automobile Insurance	Total
Sales	$	$	$
Less variable costs
Contribution margin	$	$	$
Less direct fixed expenses
Segment margin	$	$	$
Less common fixed costs
Operating income			$

Feedback

Review what you have learned about segmented income statements in the chapter. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.

Should advertising be increased?

Yes