Mortimer Gerard was worried. His company, Gerard Fresh Drinks had showed declining profits over the past several years despite an increase in revenues. With profits declining and revenues increasing, Gerard knew there must be a problem with costs.

Gerard sent an email to his executive team under the subject heading, "How do we get Gerard Fresh Drinks back on track?" Meeting in Gerard's spacious office, the team began brainstorming solutions to the declining profits problems. Some members of the team wanted to add products. Some wanted to fire the least efficient workers. Some wanted to empower the workers. And some people wanted to install a new computer system.

Gerard listened patiently. When all participants had made their cases, Gerard said, "We made money when we were a smaller, simpler company. We have grown, added new product lines, and added new products to old product lines. Now we are going downhill. What's wrong with this picture?"

Gerard continued, "Here, look at this report. This is last month's report on the cola bottling line. What do you see here?" He handed copies of the following monthly report to the people in his office.

Gerard Fresh Drinks Monthly Segmented Report for April

	Diet	Regular	Cherry	Grape	Total
Sales	$ 75,000.00	$ 60,000.00	$ 13,950.00	$ 1,650.00	$ 150,600.00
Less: Manufacturing costs
Direct Marials	$ 29,000.00	$ 23,200.00	$ 5,400.00	$ 630.00	$ 58,230.00
Direct Labor	$ 10,000.00	$ 8,000.00	$ 1,800.00	$ 200.00	$ 20,000.00
Overhead	$ 26,560.00	$ 21,248.00	$ 4,781.00	$ 531.00	$ 53,120.00
Total Costs	$ 65,560.00	$ 52,448.00	$ 11,981.00	$ 1,361.00	$ 131,350.00
Net Income	$ 9,440.00	$ 7,552.00	$ 1,969.00	$ 289.00	$ 19,250.00

Gerard asked, "Do you see any problems here? Should we drop any of these products? Should we reprice any of these products?" The room was silent for a moment, then everybody started talking at once. Nobody could see any problems based on the data in the report, but all made suggestions to Gerard ranging from "add another cola product" to "cut costs across the board" to "we need a new computer system so managers can get this information more quickly." A not-so-patient Gerard stopped the discussion abruptly and adjourned the meeting.

He then turned to the quietest person in the room, his son David, and said, "I am suspicious of this cost data, David. Here we are assigning overhead costs to these products using an overhead rate that is greater than 200% of direct labor costs. I really wonder if that rate is accurate for all products. I want you to dig into the indirect cost data, figure out what drives those costs, and see if you can give me more accurate cost numbers for these products."

3 Direct labor is paid on an hourly basis, i.e., it is the cost of a flexible resource.

David first went to the accounting records to get a breakdown of the monthly indirect costs for April. Here is what he found:

Indirect labor - General .................................................... $28,000

Indirect labor - Information technology ........................... $10,000

Lease (note 4) of 9 identical factory machines ............................. $15,120

Total ........................................................................... $53,120

Then, he began a series of interviews with department heads to see how to assign these costs to cost pools. He found that 30% of the general indirect labor was used for the purchasing function. Another 50% of indirect labor was used for scheduling production for each product. Also, another 10% of indirect labor was spent maintaining records for each of the four products, i.e., record keeping. The total cost of $28,000 represented salaries of $4,000 a month for seven employees, each of whom was contracted to work for 160 hours a month.5

Interviews with people in the Information Technology Department revealed that 75% of its $10,000 indirect labor cost was for the purchasing function whereas 20% of the cost was for record keeping. The total cost of $10,000 represented salaries of $5,000 a month for two employees, each of whom was contracted to work for 160 hours a month.5

David then found the following monthly activity driver volumes for April:

Production runs ................................ 280

Purchase orders................................ 110

Number of products ............................. 4

During April, Diet cola used 100 production runs, 40 purchase orders, and 500 machine hours to produce 50,000 units. Regular cola used 30 production runs, 30 purchase orders, and 400 machine hours to produce 40,000 units. Cherry cola used 120 production runs, 30 purchase orders, and 90 machine hours to produce 9,000 units. Grape cola used 30 production runs, 10 purchase orders, and 10 machine hours to produce 1,000 units.

Question: Gerard decides to drop Grape cola next year. Assuming that Gerards current operating results would have repeated themselves each month during the next year, how would such a discontinuation of the Grape cola product line affect Gerards cash flow, i.e., by how much would monthly cash increase or decrease if Grape cola is dropped, all else being the same? please show the cash flows clearly