Problem 7-24

Toxaway Company is a merchandiser that segments its business into two divisionsCommercial and Residential. The companys accounting intern was asked to prepare segmented income statements that the companys divisional managers could use to calculate their break-even points and make decisions. She took the prior months companywide income statement and prepared the absorption format segmented income statement shown below:

	Total Company			Commercial			Residential
Sales	$	870,000		$	290,000		$	580,000
Cost of goods sold		571,300			153,700			417,600
Gross margin		298,700			136,300			162,400
Selling and administrative expenses		272,000			120,000			152,000
Net operating income	$	26,700		$	16,300		$	10,400

In preparing these statements, the intern determined that Toxaways only variable selling and administrative expense is a 10% sales commission on all sales. The companys total fixed expenses include $75,000 of common fixed expenses that would continue to be incurred even if the Commercial or Residential segments are discontinued, $66,000 of fixed expenses that would be avoided if the Commercial segment is dropped, and $44,000 of fixed expenses that would be avoided if the Residential segment is dropped.

Required:

1. Do you agree with the interns decision to use an absorption format for her segmented income statement?

2. Based on a review of the interns segmented income statement:

a. How much of the companys common fixed expenses did she allocate to the Commercial and Residential segments?

b. Which of the following three allocation bases did she most likely used to allocate common fixed expenses to the Commercial and Residential segments: (a) sales, (b) cost of goods sold, or (c) gross margin?

3. Do you agree with the interns decision to allocate the common fixed expenses to the Commercial and Residential segments?

4. Redo the interns segmented income statement using the contribution format.