Question

Exercise 11-2 Dropping or Retaining a Segment [L011-2] 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: Dirt Bikes Mountain Racing Bikes Total Bikes 60,000 33,000 Sales Variable manufacturing and selling expenses Contribution margin Fixed expenses: $ 300,000 $ 90,000 $ 150,000 60,000 90,000 120,000 27,000 180,000 63,000 6,000 8,000 10,000 12,000 36,000 $ 32,000 17,000 24,000 (9,000) 14,000 9,000 13,000 30,000 Advertising, traceable 30,000 10,000 6,000 35,000 12,000 60,000 18,000 148,000 46,000 Depreciation of special equipment Salaries of product-line managers Allocated common fixed expenses* 23,000 Total fixed expenses Net operating income (loss) 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

	Current Total	Total If Racing Bikes Are Dropped	Difference: Net Operating Income
Sales	300000	240000	-60000
Variable manufacturing and selling expenses	120000	87000	33000
Contribution margin (loss)	180000	153000	-27000
Fixed expenses:
Advertising, traceable	30000	24000	6000
Depreciation on special equipment	23000	23000	0
Salaries of product manager	35000	25000	10000
Common allocated costs	60000	60000	0
Total fixed expenses	148000	132000	16000
Net operating income (loss)	32000	21000	-11000
Financial (disadvantage) $(11000)
2
No, production and sale of racing bikes should not be discontinued
3
	Total	Dirt Bikes	Mountain Bikes	Racing Bikes
Sales	300000	90000	150000	60000
Variable manufacturing and selling expenses	120000	27000	60000	33000
Contribution margin (loss)	180000	63000	90000	27000
Traceable fixed expenses:
Advertising, traceable	30000	10000	14000	6000
Depreciation on special equipment	23000	6000	9000	8000
Salaries of product manager	35000	12000	13000	10000
Total traceable fixed expenses	88000	28000	36000	24000
Product line segment margin	92000	35000	54000	3000
Common fixed expenses	60000
Net operating income (loss)	32000