Using the differential approach is desirable for two

This preview shows page 13 - 20 out of 67 pages.

Using the differential approach is desirable for two reasons:1.Only rarely will enough information be available to prepare detailed income statements for both alternatives.2.Mingling irrelevant costs with relevant costs may cause confusion and distract attention away from the information that is really critical.
12-14Adding/Dropping SegmentsOne of the most important decisions managers make is whether to add or drop a business segment. Ultimately, a decision to drop an old segment or add a new one is going to hinge primarily on the impact the decision will have on net operating income. One of the most important decisions managers make is whether to add or drop a business segment. Ultimately, a decision to drop an old segment or add a new one is going to hinge primarily on the impact the decision will have on net operating income. To assess this impact, it is necessary to carefully analyze the costs.To assess this impact, it is necessary to carefully analyze the costs.
12-15Adding/Dropping SegmentsDue to the declining popularity of digital watches, Lovell Company’s digital watch line has not reported a profit for several years. Lovell is considering discontinuing this product line.Due to the declining popularity of digital watches, Lovell Company’s digital watch line has not reported a profit for several years. Lovell is considering discontinuing this product line.
12-16A Contribution Margin ApproachDECISION RULELovell should drop the digital watch segment only if its profit would increase.Lovell will compare the contribution margin that would be lost to the costs that would be avoided if the line was to be dropped. DECISION RULELovell should drop the digital watch segment only if its profit would increase.Lovell will compare the contribution margin that would be lost to the costs that would be avoided if the line was to be dropped.
12-17Adding/Dropping SegmentsSegment Income StatementDigital WatchesSales500,000$ Less: variable expensesVariable manufacturing costs120,000$ Variable shipping costs5,000Commissions75,000200,000Contribution margin300,000$ Less: fixed expensesGeneral factory overhead60,000$ Salary of line manager90,000Depreciation of equipment50,000Advertising - direct100,000Rent - factory space70,000General admin. expenses30,000400,000Net operating loss(100,000)$
12-18Adding/Dropping SegmentsSegment Income StatementDigital WatchesSales500,000$ Less: variable expensesVariable manufacturing costs120,000$ Variable shipping costs5,000Commissions75,000200,000Contribution margin300,000$ Less: fixed expensesGeneral factory overhead60,000$ Salary of line manager90,000Depreciation of equipment50,000Advertising - direct100,000Rent - factory space70,000General admin. expenses30,000400,000Net operating loss(100,000)$
12-19Adding/Dropping SegmentsSegment Income StatementDigital WatchesSales500,000$ Less: variable expensesVariable manufacturing costs120,000$ Variable shipping costs5,000Commissions75,000200,000Contribution margin300,000$ Less: fixed expensesGeneral factory overhead60,000$ Salary of line manager90,000Depreciation of equipment50,000Advertising - direct100,000Rent - factory space70,000General admin. expenses30,000400,000Net operating loss(100,000)$

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture