Closing an Unprofitable Department 1. Income (loss) from closure $(12,800) Tipton One-Stop Decorating sells paint and paint supplies, carpet, and wallpaper at a single-store location in suburban Des Moines. Although the company has been very profitable over the years, management has seen a significant decline in wallpaper sales and earnings. Much of this decline is attributable to the Internet and to companies that advertise deeply discounted prices in magazines and offer customers free shipping and toll-free telephone numbers. Recent figures follow: Paint and Supplies Carpeting Wallpaper Sales ............... $380,000 $460,000 $140,000 Variable cost..........$228,000 $322,000 $112,000 Fixed costs ... 56,000 75,000 45,000 Total costs ......$284,000 $397,000 $157,000 Operating (income loss) $ 96,000 $ 63,000 $ (17,000) Tipton is studying whether to drop wallpaper because of the changing market and accompanying loss. If the line is dropped, the following changes are expected to occur: •The vacated space will be remodeled at a cost of $12,400 and will be devoted to an expanded line of high-end carpet. Sales of carpet are expected to increase by $120,000, and the line’s overall contribution margin ratio will rise by five percentage points. •Tipton can cut wallpaper’s fixed costs by 40 percent. Remaining fixed costs will continue to be incurred. •Customers who purchased wallpaper often bought paint and paint supplies. Sales of paint and paint supplies are expected to fall by 20 percent. •The firm will increase advertising expenditures by $25,000 to promote the expanded carpet line. Required: 1. Should Tipton close its wallpaper operation? Show computations to support your answer. 2. Assume that Tipton’s wallpaper inventory at the time of the closure decision amounted to $23,700. How would you have treated this additional information in making the decision? 3. What advantages might Internet- and magazine-based firms have over Tipton that would allow these organizations to offer deeply discounted prices—prices far below what Tipton can offer?
Closing an Unprofitable Department
1. Income (loss) from closure $(12,800)
Tipton One-Stop Decorating sells paint and paint supplies, carpet, and wallpaper at a single-store location in suburban Des Moines. Although the company has been very profitable over the years, management has seen a significant decline in wallpaper sales and earnings. Much of this decline is attributable to the Internet and to companies that advertise deeply discounted prices in magazines and offer customers free shipping and toll-free telephone numbers. Recent figures follow:
Paint and Supplies Carpeting Wallpaper
Sales ............... $380,000 $460,000 $140,000 Variable cost..........$228,000 $322,000 $112,000
Fixed costs ... 56,000 75,000 45,000
Total costs ......$284,000 $397,000 $157,000
Operating (income loss) $ 96,000 $ 63,000 $ (17,000)
Tipton is studying whether to drop wallpaper because of the changing market and accompanying loss. If the line is dropped, the following changes are expected to occur:
•The vacated space will be remodeled at a cost of $12,400 and will be devoted to an expanded line of high-end carpet. Sales of carpet are expected to increase by $120,000, and the line’s overall contribution margin ratio will rise by five percentage points.
•Tipton can cut wallpaper’s fixed costs by 40 percent. Remaining fixed costs will continue to be incurred.
•Customers who purchased wallpaper often bought paint and paint supplies. Sales of paint and paint supplies are expected to fall by 20 percent.
•The firm will increase advertising expenditures by $25,000 to promote the expanded carpet line.
Required:
1. Should Tipton close its wallpaper operation? Show computations to support your answer.
2. Assume that Tipton’s wallpaper inventory at the time of the closure decision amounted to $23,700. How would you have treated this additional information in making the decision?
3. What advantages might Internet- and magazine-based firms have over Tipton that would allow these organizations to offer deeply discounted prices—prices far below what Tipton can offer?
4. Build a spreadsheet: Construct an Excel spreadsheet to solve requirement (1) above. Show how the solution will change if the following information changes: sales were $400,000, $450,000, and $130,000, for paint and supplies, carpeting, and wallpaper, respectively.
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