B the comparative profitability of different

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(b) The comparative profitability of different departments if specific fixed costs are ascertained to be N 5,000 for Department X, N 55,000 for Department Y and N 30,000 for Department Z, the remaining N 10,000 being general fixed costs. Prepare appropriate statements so as to help management in arriving at a decision on the above points. Also give your comments, explaining the position presented in the statements . SUGGESTED SOLUTION 10-2 (a) All fixed costs are regarded as general fixed costs: Marginal Cost Statement Departments X Y Z Total N N N N Sales 100,000 150,000 250,000 500,000 Less: Variable cost 90,000 100,000 150,000 340,000 Contribution 10,000 50,000 100,000 160,000 Less: Fixed Costs 100,000 Profit 60,000
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COSTING AND QUANTITATIVE TECHNIQUES 248 Comment The loss of N 10,000 shown by Department X has been due to the arbitrary basis of the apportionment of fixed overheads to different departments. The fact has been underlined by the marginal costing statement which does not attempt to allocate fixed costs to the various departments with the result that, in the event of the closure of Department X, the total contribution as well as profit would be reduced by N 10,000. Therefore, the company would not stand to gain anything by closing Department X; rather, it would lose. The rule is simply that if a product is making positive contribution, it should not be eliminated. (b) On the basis of specific fixed costs: Statement of Comparative Profitability Departments X Y Z Total N N N N Sales 100,000 150,000 250,000 500,000 Less: Variable cost 90,000 100,000 150,000 340,000 Contribution 10,000 50,000 100,000 160,000 Less: Specific fixed Costs 5,000 55,000 30,000 90,000 Net contribution 5,000 (5,000) 70,000 70,000 Less: General Fixed costs 10,000 Profit 60,000 Comment Although, the second statement shows the same profit of N 60,000 as is shown by the first statement, it tells an entirely different story. From the above statement, it is Department Y which incurs a loss of N 5,000 instead of Department X. This position has been brought about by the availability of fixed costs specifically assigned to different departments. It also highlights the anomalies created by the apportionment of fixed costs on some arbitrary basis, as according to sales in this example. It is also evident that, if Department Y is closed or eliminated, the total contribution as well as profit would increase by N 5,000. Advice on these lines would be tendered only if either the working of Department Y can not be improved so as to show a profit, or at least to break-even, or the price of its products can not be increased. Ideally, it is better from the point of view of business to offer a wider range of choice to its
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COST DATA FOR SHORT-RUN TACTICAL DECISION MAKING 249 customers. It is assumed that Product Y can be eliminated together with its specific fixed costs. The position on the elimination of Department Y can be shown as follows: Statement of Comparative Profitability Departments X Z Total N N N Sales 100,000 250,000 350,000 Less: Variable costs 90,000 150,000 240,000 Contribution 10,000 100,000 110,000 Less: Specific fixed costs 5,000 30,000 35,000 Net Contribution 5,000 70,000 75,000 Less: General Fixed costs 10,000 Profit 65,000 Thus, profit increases by N 5,000 on the elimination of Department Y,
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