Maxley Markets Company sells logo sports merchandise and does custom embroidery.
ID: 2386692 • Letter: M
Question
Maxley Markets Company sells logo sports merchandise and does custom embroidery. They are trying to decide whether or not to continue embroidery. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the embroidery were dropped.Embroidery
Apparel Sales
Sales
$120,000
$420,000
Variable Costs
$90,000
$220,000
Contribution Margin
$30,000
$200,000
Direct Fixed Costs
$18,000
$70,000
Allocated Common Fixed Costs
$20,000
$70,000
Net Income
($ 8,000)
$ 60,000
(a) What would be the impact on profits if embroidery was dropped?
(b) Assume that if embroidery was dropped, apparel sales would increase 20%. What is the impact on contribution margin and net income?
(c) Give an example of a cost that is not relevant in this analysis.
Explanation / Answer
1-If the Embroidery segment is dropped the contribution margin of $30,000 will be lost and only the direct fixed costs of $18,000 will be saved. There will be a loss of $12,000 profit ($30,000 - $18,000) if the Embroidery segment is closed. 2-If Apparel sales increase 20% the company will gain $40,000 in profits (Apparel sales will increase by 20% of $200,000 and variable cost will increase by 20% of $220,000). The company will lose $18,000 in profits if it closes the Embroidery segment. The net gain would be $22,000 ($40,000 - $18,000) if the Embroidery segment is dropped. The common fixed costs are not relevant since they will exist in either case.