Should the production and sale of racing bikes be discontinued?
1. Compute the Office Products Division’s ROI for this year.
2. Compute the Office Products Division’s ROI for the new product line by itself.
3. Compute the Office Products Division’s ROI for next year assuming that it performs the same as this year and adds the new product line.
4. If you were in Dell Havasi’s position, would you accept or reject the new product line?
5. Why do you suppose headquarters is anxious for the Office Products Division to add the new product line?
6. Suppose that the company’s minimum required rate of return on operating assets is 14% and that performance is evaluated using residual income.
a. Compute the Office Products Division’s residual income for this year.
b. Compute the Office Products Division’s residual income for the new product line by itself.
c. Compute the Office Products Division’s residual income for next year assuming that it performs the same as this year and adds the new product line.
d. Using the residual income approach, if you were in Dell Havasi’s position, would you accept or reject the new product line?
Question 4.
The Regal Cycle Company manufactures three types of bicycles—a dirt bike, a mountain bike, and a racing bike. Data on sales and expenses for the past quarter follow:
| Total | Dirt Bikes | Mountain Bikes | Racing Bikes | |||||||||
| Sales | $ | 932,000 | $ | 267,000 | $ | 409,000 | $ | 256,000 | ||||
| Variable manufacturing and selling expenses | 467,000 | 113,000 | 203,000 | 151,000 | ||||||||
| Contribution margin | 465,000 | 154,000 | 206,000 | 105,000 | ||||||||
| Fixed expenses: | ||||||||||||
| Advertising, traceable | 69,700 | 8,400 | 40,700 | 20,600 | ||||||||
| Depreciation of special equipment | 43,100 | 20,400 | 7,200 | 15,500 | ||||||||
| Salaries of product-line managers | 114,800 | 40,800 | 38,500 | 35,500 | ||||||||
| Allocated common fixed expenses* | 186,400 | 53,400 | 81,800 | 51,200 | ||||||||
| Total fixed expenses | 414,000 | 123,000 | 168,200 | 122,800 | ||||||||
| Net operating income (loss) | $ | 51,000 | $ | 31,000 | $ | 37,800 | $ | (17,800) | ||||
*Allocated based on sales dollars.
Management is concerned about the continued losses shown by the racing bikes and wants a recommendation as to whether or not the line should be discontinued. The special equipment used to produce racing bikes has no resale value and does not wear out.
Required:
1. What is the financial advantage (disadvantage) per quarter of discontinuing the Racing Bikes?
2. Should the production and sale of racing bikes be discontinued?
3. Prepare a properly formatted segmented income statement that would be more useful to management in assessing the long-run profitability of the various product lines.
Question 5.
Troy Engines, Ltd., manufactures a variety of engines for use in heavy equipment. The company has always produced all of the necessary parts for its engines, including all of the carburetors. An outside supplier has offered to sell one type of carburetor to Troy Engines, Ltd., for a cost of $40 per unit. To evaluate this offer, Troy Engines, Ltd., has gathered the following information relating to its own cost of producing the carburetor internally:
| Per Unit | 18,000 Units Per Year | |||||
| Direct materials | $ | 18 | $ | 324,000 | ||
| Direct labor | 9 | 162,000 | ||||
| Variable manufacturing overhead | 2 | 36,000 | ||||
| Fixed manufacturing overhead, traceable | 9 | * | 162,000 | |||
| Fixed manufacturing overhead, allocated | 12 | 216,000 | ||||
| Total cost | $ | 50 | $ | 900,000 | ||
*One-third supervisory salaries; two-thirds depreciation of special equipment (no resale value).