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Refer to Exercise E25-13. Assume that Video Avenue can avoid $39,000 of direct fixed costs by dropping the DVD product line. Prepare a differential analysis to show whether Video Avenue should stop selling DVDs.

Short Answer

Expert verified

Yes, the company should drop the DVDproduct line

Step by step solution

01

Meaning of Product Line

In marketing terms, a product line refers to agroup of related products that are sold by the same company under an identicalbrand name.Companies sell various products and distinguish them from each other forprofit maximization.

02

Preparation of differential analysis

Particulars

After dropping DVD product line

Before dropping DVD product line

Difference

Net sales revenue

308,000

437,000

(129,000)

Less: Variable cost

(154,000)

(250,000)

(96,000)

Contribution margin

154,000

187,000

(33,000)

Less: Fixed cost

Manufacturing (132000-39000)

(93,000)

(132,000)

(39,000)

Selling and administrative

(65,000)

(65,000)

0

Total fixed cost

158,000

197,000

(39,000)

Operating income/(loss)

$(4,000)

$(10,000)

$6,000

The company should drop DVD Discs because it willreduce the operating loss by $6,000.

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Most popular questions from this chapter

Doherty Company is considering replacing the individual printers each employee in the corporate office currently uses with a network printer located in a central area. The network printer is more efficient and would, therefore, cost less to operate than the individual printers. However, most of the office staff think having to use a centralized printer would be inconvenient. They prefer to have individual printers located at each desk. Identify the following information as financial or nonfinancial and relevant or irrelevant. The first item has been completed as an example.

Financial

Nonfinancial

Relevant

Irrelevant

  1. Amount paid for current printers
  1. Resale value of current printers
  1. Cost of new printer
  1. Operating costs of current printers
  1. Operating costs of new printer
  1. Employee morale

Members of the board of directors of Security Team have received the following operating income data for the year ended March 31, 2018:

SECURITY CHECK

Income Statement

For the Year Ended May 31, 2018

Product Line

Industrial Systems

Household Systems

Total

Net Sales Revenue

\( 300,000

\) 330,000

\( 630,000

Cost of Goods Sold:

Variable

35,000

42,000

77,000

Fixed

210,000

63,000

273,000

Total Cost of Goods Sold

245,000

105,000

350,000

Gross Pro๏ฌt

55,000

225,000

280,000

Selling and Administrative Expenses:

Variable

66,000

77,000

143,000

Fixed

39,000

28,000

67,000

Total Selling and Administrative Expenses

105,000

105,000

210,000

Operating Income (Loss)

\) (50,000)

\( 120,000

\) 70,000

Members of the board are surprised that the industrial systems product line is losing money. They commission a study to determine whether the company should drop the line. Company accountants estimate that dropping industrial systems will decrease fixed cost of goods sold by 81,000anddecreasefixedsellingandadministrativeexpensesby15,000.

Requirements

1. Prepare a differential analysis to show whether Security Team should drop the industrial systems product line.

2. Prepare contribution margin income statements to show Security Teamโ€™s total operating income under the two alternatives: (a) with the industrial systems line and (b) without the line. Compare the difference between the two alternativesโ€™ income numbers to your answer to Requirement 1.

3. What have you learned from this comparison in Requirement 2?

What is outsourcing?

What is differential analysis?

Elm Petroleum has spent 204,000torefine61,000gallonsofpetroleumdistillate,whichcanbesoldfor6.30 per gallon. Alternatively, Elm can process the distillate further and produce 58,000 gallons of cleaner fluid. The additional processing will cost 1.80pergallonofdistillate.Thecleanerfluidcanbesoldfor9.10 per gallon. To sell the cleaner fluid, Elm must pay a sales commission of 0.10pergallonandatransportationchargeof0.16 per gallon.

Requirements

1. Diagram Elmโ€™s decision alternatives, using Exhibit 25-18 as a guide.

2. Identify the sunk cost. Is the sunk cost relevant to Elmโ€™s decision?

3. Should Elm sell the petroleum distillate or process it into cleaner fluid? Show the expected net revenue difference between the two alternatives.

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