You are the new Chief Financial Officer for Callahan Automotive and have been asked by the Chief Executive Officer to take a look at the Muffler Division. The other two divisions of Callahan Automotive, the Brake Pad Division and the Oil Filter Division are performing well financially, however the Muffler Division has shown a loss for the past three quarters and the CEO is considering dropping the division. Discontinuing the muffler division would not affect the company’s sales of its other product lines, its total general factory overhead, or its total purchasing department expenses.
Below is the Muffler Division’s income statement for the current quarter.
Callahan Automotive
Income Statement – Muffler Division
For the Quarter Ended June 30
Sales
$450,000
Variable Expenses:
Variable Manufacturing Overhead
$130,000
Sales Commissions
$ 48,000
Shipping
$ 12,000
Total Variable Expenses
$190,000
Contribution Margin
$ 260,000
Fixed Expenses:
Salary of Product Line Manager
$ 21,000
General Factory Overhead *
$104,000
Depreciation of Equipment (no resale value)
$ 36,000
Advertising ‘ traceable
$110,000
Insurance on inventories
$ 9,000
Purchasing Department **
$ 50,000
Total Fixed Expenses
$330,000
Net Operating Loss
$ (70,000)
*allocated on the basis of machine-hours
** allocated on the basis of sales dollars
Would you recommend to the CEO that the company discontinue the Muffler Division?
Support your answer with appropriate computations. Include in your response which line items on the income statement are relevant to this decision and why.