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Management for eliminating a department

Department Closing:

Prior to last year, Leastan Company had not kept departmental income statements. To achieve better management control, the company decided to install department-by-department accounts. At the end of the last year, the new account showed that although the business as a whole was profitable, the Dry Goods Department had shown a substantial loss. The income statement for the Dry Goods Departments, shown here, reports on operations for the last year.

Leastan Company
Dry Goods department
Partial Income Statement
Sales.......................................................................... $250,000
Cost of Goods Sold.....................................................187,500
Gross Margin.............................................................. $62,500
Costs:
Payroll, Direct Labor, and Supervision...................$16,500
Commissions of sale staff.......................................... .15,000
Rent............................................................................... 13,000
States Taxes.................................................................. 1,500
Insurance on Inventory................................................2,000
Depreciation.................................................................. 3,500
Administration and General Office...........................11,000
Interest for Inventory Carrying Costs.....................2,500
Total Costs............................................................ 65,000
Loss before Allocation of Income Taxes......$(2,500)

Analysis of these results had led management to suggest that it close the Dry Goods Department. Member of the management team agree that keeping the Dry Goods Department is not essential to maintaining good customer relations and supporting the rest of the company's business. In other words, eliminating the Dry Goods Department is not expected to affect the amount of business done by the other departments.

What action do you recommend to management of Leastan Company in the short run? Why?

Solution Summary

The solution explains how to decide if a department should be closed

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