Question

Exercise 11-2 Dropping or Retaining a Segment [LO11-2]

The Regal Cycle Company manufactures three types of bicycles—a dirt bike, a mountain bike, and a racing bike. Data on sales and expenses for the past quarter follow:

	Total			Dirt Bikes			Mountain Bikes			Racing Bikes
Sales	$	922,000		$	264,000		$	402,000		$	256,000
Variable manufacturing and selling expenses		474,000			117,000			205,000			152,000
Contribution margin		448,000			147,000			197,000			104,000
Fixed expenses:
Advertising, traceable		69,300			8,600			40,300			20,400
Depreciation of special equipment		43,600			20,400			7,700			15,500
Salaries of product-line managers		114,800			40,600			38,500			35,700
Allocated common fixed expenses*		184,400			52,800			80,400			51,200
Total fixed expenses		412,100			122,400			166,900			122,800
Net operating income (loss)	$	35,900		$	24,600		$	30,100		$	(18,800)

*Allocated on the basis of sales dollars.

Management is concerned about the continued losses shown by the racing bikes and wants a recommendation as to whether or not the line should be discontinued. The special equipment used to produce racing bikes has no resale value and does not wear out.

Required:

1. What is the financial advantage (disadvantage) per quarter of discontinuing the racing bikes?

2. Should the production and sale of racing bikes be discontinued?

3. Prepare a properly formatted segmented income statement that would be more useful to management in assessing the long-run profitability of the various product lines.

Answer 1

1
	Current Total	Total If Racing Bikes Are Dropped	Difference: Net Operating Income
Sales	922000	666000	-256000
Variable manufacturing and selling expenses	474000	322000	152000
Contribution margin (loss)	448000	344000	-104000
Fixed expenses:
Advertising, traceable	69300	48900	20400
Depreciation on special equipment	43600	43600	0
Salaries of product manager	114800	79100	35700
Common allocated costs	184400	184400	0
Total fixed expenses	412100	356000	56100
Net operating income (loss)	35900	-12000	-47900
Financial (disadvantage) (47900)
2
No, production and sale of racing bikes should not be discontinued
3
	Total	Dirt Bikes	Mountain Bikes	Racing Bikes
Sales	922000	264000	402000	256000
Variable manufacturing and selling expenses	474000	117000	205000	152000
Contribution margin (loss)	448000	147000	197000	104000
Traceable fixed expenses:
Advertising, traceable	69300	8600	40300	20400
Depreciation on special equipment	43600	20400	7700	15500
Salaries of product manager	114800	40600	38500	35700
Total traceable fixed expenses	227700	69600	86500	71600
Product line segment margin	220300	77400	110500	32400
Common fixed expenses	184400
Net operating income (loss)	35900