Problem 47
Simon Hinson Company operates two divisions: Gordon and Ronin. A segmented income statement for the company’s most recent year is as follow:
Total Company
Gordon Division
Ronin Division
Sales
$850,000
$250,000
$600,000
Less variable expense
505,000
145,000
360,000
Contribution margin
$345,000
$105,000
$240,000
Less traceable fixed costs
145,000
45,000
100,000
Division segment margin
$200,000
$60,000
$140,000
Less common fixed cost
130,000
Net income
$70,000
Required:
A. If the Gordon Division increased its sales by $85,000 per year, how much would the company’s net income change? Assume that all cost behavior patterns remained constant.
B. Assume that the Ronin Division increased sales by $100,000, the Gorgon Division sales remained the same, and there was no change in fixed costs.
1. Calculate the net income amounts for each division and the total company.
2. Calculate the segment margin ratios before and after these changes and comment on the results. Explain the changes.
C. How do the sales increases and decreases impact divisional contribution marhin ratio and segment margin ratio?
To solve the problem, let's break it down step by step:
A. To calculate the company's net income change if the Gordon Division increased its sales by $85,000 per year, you need to consider the contribution margin ratio. The contribution margin ratio is calculated by dividing the contribution margin by sales.
The contribution margin ratio for the Gordon Division is $105,000 / $250,000 = 0.42 or 42%.
To find the net income change, you can multiply the increase in sales ($85,000) by the contribution margin ratio (0.42).
Net income change = $85,000 * 0.42 = $35,700.
Therefore, the company's net income would increase by $35,700 if the Gordon Division increased its sales by $85,000 per year.
B. To calculate the net income amounts for each division and the total company if the Ronin Division increased sales by $100,000, you can use the segment margin ratio. The segment margin ratio is calculated by dividing the segment margin by sales.
1. Net income amounts:
Gordon Division:
Segment margin ratio = $60,000 / $250,000 = 0.24 or 24%
Net income = Sales - Variable expense - Fixed costs = $250,000 - $145,000 - $45,000 = $60,000
Ronin Division:
Segment margin ratio = $140,000 / $600,000 = 0.2333 or 23.33%
Net income = Sales - Variable expense - Fixed costs = $600,000 - $360,000 - $100,000 = $140,000
Total Company:
Net income = Segment margin Gordon Division + Segment margin Ronin Division - Common fixed costs
= $60,000 + $140,000 - $130,000 = $70,000
2. Segment margin ratios before and after the changes:
Before: Gordon Division = 0.24 or 24%, Ronin Division = 0.2333 or 23.33%
After: Gordon Division = 0.24 or 24%, Ronin Division = ($240,000 + $100,000) / ($600,000 + $100,000) = 0.28 or 28%
Comment on the results: The net income for the Gordon Division remains the same, while the net income for the Ronin Division increases due to the increase in sales. The segment margin ratio for the Ronin Division also increases because the increase in sales exceeds the increase in variable expenses.
C. Sales increases and decreases impact divisional contribution margin ratio and segment margin ratio. When sales increase, the contribution margin ratio and the segment margin ratio tend to increase as well because more sales generate higher contribution margin and therefore higher profits. Conversely, when sales decrease, the ratios are likely to decrease, resulting in lower profits. The impact on the ratios depends on the relationship between the increase or decrease in sales and the fixed and variable expenses associated with those sales.