Cornerstone Exercise 17.2 Keep-Or-Drop Decision, Alternatives, Relevant Costs In
ID: 2451722 • Letter: C
Question
Cornerstone Exercise 17.2
Keep-Or-Drop Decision, Alternatives, Relevant Costs
In addition, Model 1 requires the rental of specialized equipment costing $20,000 per year.
Required:
1. Reformulate the segmented income statement using the additional information on activities. Use a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
$
$
$
$
Contribution margin
$
$
$
$
Less traceable fixed expenses:
Product margin
$
$
$
$
Less common fixed expenses:
Operating income
$
Hide Feedback
Partially Correct
Check My Work Feedback
1. Review what you have learned about segmented income statements in the chapter. To determine the traceable fixed costs, you will need to compute the activity rates for each activity to assign the costs of the activities to each product. Common fixed expenses are not traceable to the segments. They would remain even if one of the segments were eliminated.
2. Using your answer to Requirement 1, assume that Reshier Company is considering dropping any model with a negative product margin. What are the alternatives?
- Select your answer -Keeping Model 1Dropping Model 1Keeping Model 1 or dropping itCorrect 1 of Item 2
Which alternative is more cost effective and by how much? (Assume that any traceable fixed costs can be avoided.)
- Select your answer -Keeping Model 1Dropping Model 1Correct 2 of Item 2 will add $ to operating income
3. What if Reshier Company can only avoid 175 hours of engineering time and 5,000 hours of setup time that are attributable to Model 1? How does that affect the alternatives presented in Requirement 2? Which alternative is more cost effective and by how much?
- Select your answer -Keeping Model 1Dropping Model 1Correct 4 of Item 2 will add $ to operating income
Hide1. Reformulate the segmented income statement using the additional information on activities. Use a minus sign to indicate any negative margins.
Reshier Company
Segmented Income Statement
Model 1
Model 2
Model 3
Total
$
$
$
$
Contribution margin
$
$
$
$
Less traceable fixed expenses:
Product margin
$
$
$
$
Less common fixed expenses:
Operating income
$
Explanation / Answer
1. Activity rate for each activity should be computed as follows:
Activity rate for engineering = $30,000 / (800+75+125) = $30 per engineering hour
Activity rate for setting up = $180,000 / (12,400+12,500+5,100) = $6 per setup hour
Activity rate for customer service = $110,000 / (13,600+1,500+4,900) = $5.5 per service call
The segmented income statement should be reformulated as follows:
2. The company should drop Model 1 because its product margin is negative. If Model 1 is dropped, the company's operating income will increase by $45,700.
3. If the company can avoid only 175 hours of engineering hours and 5,000 hours of setup time, it will be able to save only $5,250 (175 x $30) of fixed enginering costs and $30,000 of fixed setting up costs by dropping Model 1. In addition, $20,000 of rental for specialized equipment will also be saved by dropping Model 1. As a result, $137,950 fixed traceable costs will still have to be incurred even after dropping Model 1. This will lead to an overall loss of $27,760 to the company.