Analyzing Decision to Eliminate Unprofitable Segment
Woodchuck Corp. (see PB7-1 and PB7-2) is considering eliminating a product from its line of outdoor tables. Two products, the Oak-A and Fiesta tables, have impressive sales. However, sales for the Studio model have been dismal.
Information related to Woodchuck’s outdoor table line follows:
Segmented Income Statement for Woodchuck’s Outdoor Table Products | ||||
| Oak-A | Fiesta | Studio | Total |
Sales Revenue | $110,000 | $77,000 | $33,000 | $220,000 |
Variable Costs | 77,000 | 52,000 | 24,000 | 153,000 |
Contribution Margin | $ 33,000 | $25,000 | 9,000 | $ 67,000 |
Less: Direct Fixed Costs | 3,200 | 2,400 | 800 | 6,400 |
Segment Margin | $ 29,800 | $22,600 | $ 8,200 | $ 60,600 |
Common Fixed Costs* | 16,800 | 11,760 | 5,040 | 33,600 |
Profit | $ 13,000 | $10,840 | $ 3,160 | $ 27,000 |
*Allocated based on total sales dollars. | ||||
Woodchuck has determined that eliminating the Studio model will cause sales of the Oak-A and Fiesta tables to increase by 20 percent and 5 percent, respectively. Variable costs for these two models will increase proportionately. Direct fixed costs are avoidable, but common fixed costs will remain unchanged.
Required:
1.Determine what would happen to the company’s total profit if Woodchuck were to drop the Studio product. What is your recommendation to Woodchuck?
2.Suppose Woodchuck had $1,800 of direct fixed overhead that was traceable to the Studio model. Would your recommendation to Woodchuck change? Why or why not?
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