Gail Johnston is the CFO of Lancet Technologies, a manufacturer of parts and supplies for the cable TV industry. Gail has developed an analysis of the profitability of the firm's two main product lines, cable hardware, and cable supplies. Based on the analysis, she concludes that cable hardware is the most profitable of the firm's product lines. Hardware Supplies Total Sales $ 4,000,000 $ 3,000,000 $ 7,000,000 Cost of goods sold (2,300,000) (1,900,000) (4,200,000) Gross profit $ 1,700,000 $ 1,100,000 2,800,000 Research and development (1,200,000) Selling expenses (600,000) Profit before taxes $ 1,000,000 Required: 1. Explain why Gail may be wrong in her assessment of the relative performances of the two product lines. 2. Suppose that 80 percent of the R & D and selling expenses are traceable to Hardware line. Prepare life-cycle income statements for each product and calculate the return on sales. What does this tell you about the importance of accurate life-cycle costing?
Gail Johnston is the CFO of Lancet Technologies, a manufacturer of parts and supplies for the cable TV industry. Gail has developed an analysis of the profitability of the firm's two main product lines, cable hardware, and cable supplies. Based on the analysis, she concludes that cable hardware is the most profitable of the firm's product lines.
| Hardware | Supplies | Total | |
|---|---|---|---|
| Sales | $ 4,000,000 | $ 3,000,000 | $ 7,000,000 |
| Cost of goods sold | (2,300,000) | (1,900,000) | (4,200,000) |
| Gross profit | $ 1,700,000 | $ 1,100,000 | 2,800,000 |
| Research and development | (1,200,000) | ||
| Selling expenses | (600,000) | ||
| Profit before taxes | $ 1,000,000 |
Required:
1. Explain why Gail may be wrong in her assessment of the relative performances of the two product lines.
2. Suppose that 80 percent of the R & D and selling expenses are traceable to Hardware line. Prepare life-cycle income statements for each product and calculate the return on sales. What does this tell you about the importance of accurate life-cycle costing?
Income Statement
| PARTICULAR | HARDWARE | SUPPLIES | TOTAL |
| Sales | $ 4,000,000 | $ 3,000,000 | $ 7,000,000 |
|---|---|---|---|
| Cost of goods sold | (2,300,000) | (1,900,000) | (4,200,000) |
| Gross profit | $ 1,700,000 | $ 1,100,000 | 2,800,000 |
| Research and development |
960,000 (1,200,000 X 80%) |
240,000 (1,200,000 X 20%) |
(1,200,000) |
| Selling expenses |
480,000 (600,000 X 80%) |
120,000 (600,000 x 20) |
(600,000) |
| Profit before taxes | 260,000 | 740,000 | $ 1,000,000 |
| Return on sales |
6.50% (260,000 / 4,000,000 x 100) |
24.67% (740,000 / 3,000,000 x 100) |
Gail assessment is wrong because there is More return on sales in case of Supplies than Hardware
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