Bed & Bath, a retailing company, has two departments, Hardware and Linens. The c

Question

Bed & Bath, a retailing company, has two departments, Hardware and Linens. The company’s most recent monthly contribution format income statement follows:

Department

A study indicates that $378,000 of the fixed expenses being charged to Linens are sunk costs or allocated costs that will continue even if the Linens Department is dropped. In addition, the elimination of the Linens Department will result in a 16% decrease in the sales of the Hardware Department.

If the Linens Department is dropped, what will be the effect on the net operating income of the company as a whole?

Bed & Bath, a retailing company, has two departments, Hardware and Linens. The company’s most recent monthly contribution format income statement follows:

Explanation / Answer

Contribution margin ratio for Hardware=Contribution margin/Sales

=(2258000/3140000)=0.71910828

New sales for Hardware=$3,140,000(1-0.16)=$2637600

Hence new Contribution margin for Hardware=($2637600*0.71910828)

=$1896720

Less:Fixed expenses for Hardware=($1420000)

Net operating income for Hardware=$476720

Less:Fixed expenses for Linens unavoidable=($378000)

New Net operating income for the company=$98720

Hence decrease in Net operating income=(653000-98720)

=$554280.

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