Problem
Lakeland Financial Services provides outsourcing services for three areas: payroll, general ledger (GL), and tax compliance. The company is currently contemplating the elimination of the GL area because it is showing a pre-tax loss. An annual income statement follows.
Lakeland Financial Services
Income Statement by Service Line
For the Year Ended July 31, 2013
(in thousands)
Payroll GL Tax Total
Sales $ 4,394 $ 3,195 $3,596 $11,185
Cost of sales (2,818) (1,991) (2,154) (6,963)
Gross margin $1,576 $1,204 $ 1,442 $4,222
Avoidable fixed and variable cost $1,268 $1,474 $1,046 $3,788
Allocated fixed costs 180 141 202 523
Total fixed cost $1,448 $1,615 $1,248 $4,311
Operating profit $ 128 $ (411) $ 194 $ (89)
a. Should corporate management drop the GL area?
Yes
Gross margin GL services $_____________
Avoidable fixed and operating costs $_____________
Segment margin $_____________
b. If the GL area were dropped, how would the company's pre-tax profit be affected?
The pretax profit of the company would
Increase by $______________
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a. Compute the segment margin to see if this segment should be dropped. Remember to include only relevant costs that are avoidable if dropped. Those that will remain irrespective of dropping the segment will not be considered in the decision.
b. If there was a negative segment margin, this would be the amount of the savings.