Members of the board of directors of have received the following operating income data for the year ended: May 31, 2018:
Members of the board are surprised that the industrial systems product line is not profitable. They commission a study to determine whether the company should drop the line. Company accountants estimate that dropping industrial systems will decrease fixed cost of goods sold by and decrease fixed selling and administrative expenses by $10,000.
Requirements:
1. Prepare a differential analysis to show whether Safety Point Safety Point should drop the industrial systems product line.
2. Prepare contribution margin income statements to show Safety Point's Safety Point's total operating income under the two alternatives: (a) with the industrial systems line and (b) without the line. Compare the difference between the two alternatives' income numbers to your answer to Requirement 1.
3. What have you learned from the comparison in Requirement 2?
Product Line
Industrial Household
Systems Total
Net Sales Revenue $340,000 $370,000 $710,000
Cost of Goods Sold:
Variable 36,000 46,000 82,000
Fixed 250,000 69,000 319,000
Total Cost of Goods
Sold 286,000 115,000 401,000
Gross Profit 54,000 255,000 309,000
Selling and Administrative Expenses:
Variable 65,000 72,000 137,000
Fixed 45,000 22,000 67,000
Total Selling and Administrative
Expenses 110,000 94,000 204,000
Operating Income
(Loss) ($56,000) $161,000 $105,000

Safety Point Company accountants estimate that dropping industrial systems will decrease fixed cost of goods sold by $50,000 and decrease fixed selling and administrative expenses by $10,000.

Answer:

Safety Point Company

1. Differential Analysis, showing Safety Point Dropping the Industrial Systems Product Line:

Net Sales Revenue $370,000

Cost of Goods Sold:

Variable 46,000

Fixed 269,000

Total Cost of Goods Sold 315,000

Gross Profit 55,000

Selling and Administrative Expenses:

Variable 72,000

Fixed 57,000

Total Selling and Administrative

Expenses 129,000

Operating Income (Loss) ($74,000)

2. Safety Point Company's Contribution Margin Income Statements for the year ended May 31, 2018, under the two alternatives:

Without With

Industrial Systems

Net Sales Revenue $370,000 $710,000

Variable costs:

Cost of Goods Sold 46,000 82,000

Selling and Administrative 72,000 137,000

Total Cost of Goods Sold 118,000 219,000

Contribution Margin 252,000 491,000

Fixed Expenses:

Cost of goods sold 269,000 319,000

Selling and Administrative 57,000 67,000

Total Fixed Expenses 326,000 386,000

Operating Income (Loss) ($74,000) $105,000

3. The comparison in requirement 2 shows that eliminating the Industrial Systems Product Line makes Safety Point Company unprofitable with an operating loss of $74,000. This loss cannot be compared to the total operating income of $105,000 which is made with the industrial systems. So, it is not the Industrial System Product line that is causing Safety Point Company to record a loss of $56,000. It is the fixed cost of $60,000 which cannot be eliminated with the elimination of the Industrial System product line that causes the loss and reduces total operating for the company.

Explanation:

a) Data:

Safety Point

Income Statement for the year ended May 31, 2018:

Product Line

Industrial Household

Systems Systems Total

Net Sales Revenue $340,000 $370,000 $710,000

Cost of Goods Sold:

Variable 36,000 46,000 82,000

Fixed 250,000 69,000 319,000

Total Cost of Goods Sold 286,000 115,000 401,000

Gross Profit 54,000 255,000 309,000

Selling and Administrative Expenses:

Variable 65,000 72,000 137,000

Fixed 45,000 22,000 67,000

Total Selling and Administrative

Expenses 110,000 94,000 204,000

Operating Income (Loss) ($56,000) $161,000 $105,000