Problem:
Company ABC is a one-stop home decorating company that sells paint, carpet and wallpaper at a single store location.
Although the company has been very profitable over the years management has seen a significant decline in wallpaper sales and earnings. Much of the decline had been due to online Internet companies offering deep discounts.
Recent figures follow:
Paint Carpet Wallpaper
Sales 380,000 460,000 140,000
Variable costs 228,000 322,000 112,000
Fixed Costs 56,000 75,000 45,000
Total Costs 284,000 397,000 157,000
Operating Income 96,000 63,000 (17,000)
Company ABC is studying whether to drop wallpaper because of changing market and current loss
If the wallpaper line is dropped the following changes are expected:
The vacated space will be remodeled at a cost of 12,400 and will be devoted to carpet. Sales are expected to increase by 120,000 and the carpet line contribution margin will rise 5%
Company ABC can cut wallpaper fixed costs by 40%. Remaining fixed costs will continue to be incurred.
Customer who purchased wallpaper often bought paint. Sales of paint are expected to fall by 20%
The firm will increase advertising expenditures by 25,000 to promote the expanded carpet department
Required to do:
1. Should Company ABC close the wallpaper department? Show computation to support your answer.
2. Assume Company ABC's wallpaper inventory at the time of closure decision amounted to 23,700
How would you have treated the additional information in making the decision?
3. What advantages might Internet based firms have over Company ABC that would allow organizations to offer deeply discounted prices- prices far below what Company ABC can offer?