ready

Stamford University Bangladesh
MBA Program, Dhanmondi Campus
Cost and Management Accounting

Course Teacher: Shahadat Hosan, E-mail: [e-mail]

Relevant Cost for Decision Making

Exercise-13-8: Bed and Bath, a retailing company has two departments, Hardware and Linens. A recent monthly contribution format income statement for the month follows: Department Total Hardware Linens
Sales $ 40,00,000 $ 30,00,000 $ 10,00,000
Variable expenses 13,00,000 9,00,000 4,00,000
Contribution margin 27,00,000 21,00,000 6,00,000
Fixed expense 22,00,000 14,00,000 8,00,000
Net operating income ( loss) 5,00,000 7,00,000 ( 2,00,000)

A study indicates that $ 3,40,000 of fixed expenses being charged to Linens are sunk cost or allocated costs that will continue even if the Linens Department is dropped. In addition, the elimination of the Linens Department will result in a 10% decrease in the sales of the Hardware department.

Required: Should the production and sale of the Linens Department be discontinued? Show computation to support your answer. If the Linens Department is dropped, what will be the effect of the net operating income of the company as a whole?

Solution:
Contribution margin lost if the Linen Department is dropped:

Lost from the Linen Department ............................................ $600,000
Lost from the Hardware Department (10% × $2,100,000) ....... 210,000
Total lost contribution margin ................................................... 810,000
Less fixed costs that can be avoided ($800,000 – $340,000)....... 460,000
Decrease in profits for the company as a whole ......................... $350,000

The production and sale of the liens Department not