Chapter 13, Problem 28P

a.

To determine

Mention whether Company BM should eliminate Division B or not. Justify by preparing companywide income statements.

Explanation of Solution

Special order decisions: Special order decisions include circumstances in which the board must choose whether to acknowledge abnormal customer orders. These requests or orders normally necessitate special dispensation or include a demand for lesser price.

Outsourcing: It can be termed as conveying all or part of an activity to a supplier or a provider. While outsourcing was initially limited to fundamental activities, it as of now invades the administration of numerous organizations.

Opportunity cost: Opportunity cost is the forfeit of certain benefits such as cost savings, incomes, which is surrendered by not picking an option. Opportunity costs are applicable in decisions where the acknowledgment of one option disqualifies the likelihood of selecting different alternatives.

Determine the contribution to profit:

$\begin{array}{c}\text{Contibution}\text{to}\text{Profit=}\left[\begin{array}{l}\text{Sales Revenue}-\text{Manufacturing Costs}-\\ \text{Rent on Facility}-\text{Unit Level Selling \& Administration Costs-}\\ \text{Division Level Selling \& Administration Costs}\end{array}\right]\\ \text{=}\left[\begin{array}{l}\text{\$600,000}-\text{\$400,000}-\text{\$150,000}-\text{\$28,000}-\\ \text{\$40,000}\end{array}\right]\\ \text{=(\$18,000)}\end{array}$

Therefore the contribution to profit is ($18,000).

The companywide income statement before and after eliminating Division B is as follows:

Company BM
Companywide income statement
Particulars	Keep	Eliminate
	Division B	Division B
Sales	$ 5,100,000	$4,500,000
Less: Cost of goods sold:
Unit-level manufacturing costs	($3,100,000)	($2,700,000)
Rent on manufacturing facility	($620,000)	($470,000)
Gross margin	$1,380,000	$1,330,000
Less: Operating expenses
Unit-level selling and administration expenses	($309,000)	($281,000)
Division-level fixed selling and administration expenses	($400,000)	($360,000)
Headquarters facility-level costs	($300,000)	($300,000)
Net income (loss)	$371,000	$389,000

Table (1)

Conclusion

From the results obtained above, the contribution to profit is negative at ($18,000). Hence the Division B should be eliminated.

Therefore Division B should be eliminated.

b.

To determine

Explain whether the recommendations in Requirement A would change if the units are increased to 20,000 units.  Justify by comparing differential avoidable cost and revenue for Division B.

Explanation of Solution

Initiate by calculating the cost price per unit and the selling per unit that will vary with respect to the quantity of units produced and sold. The result is to be divided with the total cost for respective group by 20,000 units to compute the cost per unit. The headquarters facility-level costs are not considered for analysis since these costs are not avoidable.

Determine the selling price per unit:

$\begin{array}{c}SellingPriceperunit=\left[\frac{Sales}{NumberofUnits}\right]\\ =\left[\frac{\$600,000}{20,000}\right]\\ =\$30\end{array}$

Therefore the selling price per unit is $30.

Determine the unit level manufacturing costs

$\begin{array}{c}UnitLevelManufacturing\mathrm{Cos}ts=\left[\frac{Actual\mathrm{Cos}ts}{NumberofUnits}\right]\\ =\left[\frac{\$400,000}{20,000}\right]\\ =\$20\end{array}$

Therefore the unit level manufacturing costs is $20.

Determine the unit level selling and administrative costs

$\begin{array}{c}\text{Unit Level Administrative Costs}=\left[\frac{Actual\mathrm{Cos}ts}{NumberofUnits}\right]\\ =\left[\frac{\$28,000}{20,000}\right]\\ =\$1.40\end{array}$

Therefore the unit level selling and administrative costs is $1.40.

Determine the contribution to profit:

The comparison between differential revenue and avoidable cost is determined in the below step.

$\begin{array}{c}Contibutionto\mathrm{Pr}ofit=\left[\begin{array}{l}\text{Sales}-\text{Manufacturing Costs}-\text{Rent on Facility}-\\ \text{Unit Level Selling \& Administrative Costs}-\\ \text{Division Level Selling \& Administrative Costs}\end{array}\right]\\ =\left[\begin{array}{l}\left(\$30\times 30,000\right)-\left(\$20\times 30,000\right)-\$150,000-\\ \left(\$1.40\times 30,000\right)-\$40,000\end{array}\right]\\ =\left[\$900,000-\$600,000-\$150,000-\$42,000-\$40,000\right]\\ =\$68,000\end{array}$

Therefore the contribution to profit is $68,000.

Conclusion

From the results obtained above, the profit contributed by Division B would be 30,000 units. Hence the division should not be eliminated. Additionally, it is vital to consider the growth prospective before choosing to eliminate a segment.

Therefore, Division B should not be eliminated.

c.

To determine

Explain whether to operate the division with volume of 30,000 units or it should be closed.

Explanation of Solution

Determine the profit or loss of the division:

$\begin{array}{c}\text{Profit or Loss=}\left[\text{Profit}-\text{Opportunity Cost}\right]\\ \text{=}\left[\text{\$68,000}-\text{\$170,000}\right]\\ \text{=}\left(\text{\$102,000}\right)\end{array}$

Therefore the loss of the division is ($102,000).

The reasons on whether to operate the division with volume of 30,000 units or it should be closed is as follows:

It is mentioned that Company BM is paying $150,000 to lease the manufacturing facility for Division B.

The business could earn $170,000 $\left(\$320,000-\$150,000\right)$  by subleasing the manufacturing facility.

By operating the division, the organization is allowing up the chance to sublease the office.

This is an opportunity cost that would be avoidable by eradicating Division B.

 Consequently, it must be considered for analysis. If the volume is 30,000 units Division B contributes $68,000 as profit.

Conclusion

When considering opportunity cost, the profit turns into a loss of $102,000. According to these conditions, Division B should be eliminated.

Therefore Division B should be eliminated.