Patterson

Corporation has four operating divisions. The budgeted revenues and expenses for each division for

2017

follows:

	Division
	A	B	C	D
Sales	$475,000	$470,000	$930,000	$740,000
Cost of goods sold	430,000	380,000	540,000	470,000
Selling, general, and administrative expenses	100,000	140,000	225,000	190,000
Operating income/loss	$(55,000)	$(50,000)	$165,000	$80,000

Further analysis of costs reveals the following percentages of variable costs in each division:

	Division
	A	B	C	D
Cost of goods sold	92 %	89 %	94 %	75 %
Selling, general, and administrative expenses	63 %	76 %	75 %	70 %

Closing down any division would result in savings of

40%

of the fixed costs of that division. Top management is very concerned about the unprofitable divisions (A and B) and is considering closing them for the year.

Requirement 1. Calculate the increase or decrease in operating income if

Patterson

closes division A.

Begin by calculating Division A's contribution margin.

	Division A
Sales
Contribution margin

Now, calculate the fixed costs that will be saved by closing division A.

Fixed costs	Division A
Fixed cost of goods sold
Fixed selling, general, and administrative expenses
Total fixed costs
Fixed costs saved by shutting down division

Would operating income increase or decrease?
By how much?
Does Division A's contribution margin cover its avoidable fixed costs?

Requirement 2. Calculate the increase or decrease in operating income if

Patterson

closes division B.

Begin by calculating division B's contribution margin.

	Division B
Sales
Contribution margin

Now, calculate the fixed costs that will be saved by closing division B.

Fixed Costs	Division B
Fixed cost of goods sold
Fixed selling, general, and administrative expenses
Total fixed costs
Fixed costs saved by shutting down division

Would operating income increase or decrease?
By how much?
Does Division A's contribution margin cover its avoidable fixed costs?

Requirement 3. What other factors should the top management of

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consider before making a decision?

A.

Management should consider the role that the divisions' product line plays relative to other product lines.

B.

Management should consider the impact on the morale of the remaining employees if the division(s) are closed.

C.

Both of the above.

D.

Neither of the above, management should make this decision relying only on financial data.