Question

The Foundational 15 (Algo) [LO4-1, LO4-2, LO4-3, LO4-4, LO4-5]

[The following information applies to the questions displayed below.]

Diego Company manufactures one product that is sold for $77 per unit in two geographic regions—the East and West regions. The following information pertains to the company’s first year of operations in which it produced 48,000 units and sold 43,000 units.

Variable costs per unit:
Manufacturing:
Direct materials	$	27
Direct labor	$	12
Variable manufacturing overhead	$	3
Variable selling and administrative	$	5
Fixed costs per year:
Fixed manufacturing overhead	$	864,000
Fixed selling and administrative expense	$	456,000

The company sold 33,000 units in the East region and 10,000 units in the West region. It determined that $220,000 of its fixed selling and administrative expense is traceable to the West region, $170,000 is traceable to the East region, and the remaining $66,000 is a common fixed expense. The company will continue to incur the total amount of its fixed manufacturing overhead costs as long as it continues to produce any amount of its only product.

13. Prepare a contribution format segmented income statement that includes a Total column and columns for the East and West regions.

14. Diego is considering eliminating the West region because an internally generated report suggests the region’s total gross margin in the first year of operations was $50,000 less than its traceable fixed selling and administrative expenses. Diego believes that if it drops the West region, the East region's sales will grow by 5% in Year 2. Using the contribution approach for analyzing segment profitability and assuming all else remains constant in Year 2, what would be the profit impact of dropping the West region in Year 2?

15. Assume the West region invests $38,000 in a new advertising campaign in Year 2 that increases its unit sales by 20%. If all else remains constant, what would be the profit impact of pursuing the advertising campaign?

Answer 1

Contribution format income statement

	Total	East	West
Sales Revenue	3,311,000	2,541,000	770,000
Less: variable costs
Direct material	1161000	891000	270,000
Direct labor	516000	396000	120000
Variable manufacturing overhead	129000	99000	30000
Variable selling and admin expenses	215000	165000	50,000
Contribution Margin	1290000	990,000	300,000
Traceable fixed costs	390,000	170,000	220,000
Segment Margin	900,000	820,000	80,000
Less: Common fixed costs	930,000
Net operating income	-30,000

14.impact = increase in contribution margin - segment margin lost

= 990,000*5% -80,000

=-$30,500

I.e. Income will reduce by $30,500

15.impact on profit = 300,000*20% -38000

=$22,000

I.e. income will increase by $22,000