[rknight21]

ok normally when i get a question incorrect the explaination usually clears it up but not this time. I chose A for the answer…Can someone please attempt to explain why they consider Contribution margin in the calculation when if the segment is closed there is no sales and no varibale cost!!!!

The following information is available on Crain Co.’s two product lines:

Tables

Sales

$48,000

Variable costs

(30,000)

Contribution margin

18,000

Fixed costs:

Avoidable

(12,000)

Unavoidable

(10,800)

Operating income (loss)

($4,800)

Assuming the tables line is discontinued, and the factory space previously used to make tables is rented for $24,000 per year, operating income will increase by what amount?

A. $13,200

This answer is incorrect. Refer to the correct answer explanation.

B. $18,000

Answer B is correct. The requirement is to calculate the amount by which income will increase if the tables line is discontinued. To make the determination you would compare the amount of revenue from renting the factory space to the contribution margin less the avoidable costs from producing tables. The unavoidable costs allocated to the tables line would be incurred regardless of the decision and therefore are irrelevant. Answer B is correct because income would increase by $18,000 [$24,000 rent – ($18,000 contribution margin – $12,000 avoidable costs].

C. $24,000

This answer is incorrect. Refer to the correct answer explanation.

D. $28,800

This answer is incorrect. Refer to the correct answer explanation.

[kperrucci]

The contribution margin is basically an “opportunity cost” it is the benefit given up by discontinuing operations. Basically you will be gaining 24,000 in rent and saving on the avoidable costs that are in fact “avoided” by discontinuing operations. So that is 24,000+12,000 in benefits. But, you have to factor out the contibution margin that you are giving up. So subtract the 18,000 and you get 18,000. I'm assuming you did 24,000 minus the unavoidable costs of 10,800. Well, those costs would be there with the segment in operation or if the operations were discontinued…so the unavoidable costs are not a factor when determining the net increase(decrease) of income when discountinuing operations. Does this make any sense? or am I rambling?

FAR 4/9/2011: 88 (Becker)
AUD 5/16/2011: 88 (Becker)
REG 7/1/2011: 82 (Becker)
BEC 8/3/2011: 91 (Becker and Ninja)

[Anonymous]

Okay, let me try if i can explain it:

both the Unavoidable (10,800) and Operating income (loss) ($4,800) are irrelevant to the calculation because the unavoidable would happen no matter if the table line exists or not, the operating income/ loss is computed from the contribution margin as a final result, so you can't use it again!

when the table line dropped, the $24,000 rent fee saved, but the $18,000 contribution margin lost, plus, the avoidable fixed cost of $12000 also saved, so, in total it saved ($24,000+$12,000 ) (these two figures are the amount saved when discontinuing the table line) – $18000 (this is the contribution margin lost due to discontinuing table line) = $18,000

maybe my formula is clearer(??): $24,000+ $12,000 – $18,000 = $18,000

so, $18,000 is the correct answer!

hope it helps!

[rknight21]

thanks cocacpa & kperrucci

Kperrucci your explaination is exactly whats missing.. its makes more sense than the wiley explaination…thanks i will be able to ace any such questions now

[kperrucci]

No problem! Glad I could help. When is your exam?

FAR 4/9/2011: 88 (Becker)
AUD 5/16/2011: 88 (Becker)
REG 7/1/2011: 82 (Becker)
BEC 8/3/2011: 91 (Becker and Ninja)

[rknight21]

Aug 22

[Author]

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