Profits have been decreasing for several years at Pegasus Airlines. In an effort

Question

Profits have been decreasing for several years at Pegasus Airlines. In an effort to improve the company’s performance, consideration is being given to dropping several flights that appear to be unprofitable.

  

  

  

Members of the flight crew are paid fixed annual salaries, whereas the flight attendants are paid by the flight.

One-third of the liability insurance is a special charge assessed against Flight 482 because, in the opinion of the insurance company, the destination is in a high-risk area. The remaining two-thirds would be unaffected by a decision to drop Flight 482.

The baggage loading and flight preparation expense is an allocation of ground crew’s salaries and depreciation of ground equipment. Dropping Flight 482 would have no effect on the company’s total baggage loading and flight preparation expenses.

Dropping Flight 482 would not allow Pegasus Airlines to reduce the number of aircraft in its fleet or the number of flight crew on its payroll.

  

Prepare an analysis showing what impact dropping Flight 482 would have on the airline’s profits. (Do not round intermediate calculations. Negative amounts should be indicated with a minus sign.)

  

      

Profits have been decreasing for several years at Pegasus Airlines. In an effort to improve the company’s performance, consideration is being given to dropping several flights that appear to be unprofitable.

Explanation / Answer

The following costs are not relevant to the decision

- Salaries, fligh crew because it is fixed annual salaries which will not change

- Depreciation of aircraft because it is sunk cost

- Liability insurance (two-thirds) because two-thirds of liability insurance is unaffected by this decision

- Baggage loading and flight preparation because it is an allocated cost this will continue even if the flight is discontinued.

Contribution margin lost if the tour is discontinued -52440 Less: flight costs that can be avoided if the flight is discontinued Flight promotion 2850 Fuel for aircraft 27300 Liability insurance (17100*1/3) 5700 Salaries, flight attendants 2000 Overnight costs for flight crew and attendants at destination 1140 38990 Net increase (decrease) in profit if the flight is discontinued -13450

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