@ 2012, Cengage Learning

Differential Analysis, Product Pricing, and Activity-Based Costing

LO 1b – Leasing/Selling Equipment and Discontinuation of Segment Decisions

Lease or Sell

On June 22, 2012, Marcus Company is considering leasing or disposing of the following equipment:

Cost of equipment $200,000Less accumulated depreciation 120,000Book value $ 80,000Lease Option:

Total revenue for five-year lease 160,000Total estimated repair, insurance, and

property tax expenses during life of lease 35,000Residual value at end of 5th year of lease 0

Sell Option:Sales price $100,000Commission on sales 6%

LO 1

(continued)

Lease or Sell

Lease the equipment

LO 1

(continued)

Lease or SellLO 1

The $80,000 book value of the equipment is a sunk cost and is not considered in the differential analysis.

Sunk costs are costs that have been incurred in the past, cannot be recouped, and are not relevant to future decisions.

Discontinue a Segment or ProductManagement may consider discontinuing a

product or segment of a business that is generating losses. Based on the information in the condensed income statement in Exhibit 3 (next slide), management of Battle Creek Cereal Co. is considering discontinuing Bran Flakes.

LO 1

Discontinue a Segment or ProductDiscontinuing the product or segment usually

eliminates all of the product or segment’s variable costs (direct materials, direct labor, sales commissions, and so on). However, the fixed costs (depreciation, insurance, property taxes, and so on) may not be decreased.

LO 1

Discontinue a Segment or Product

LO 1

Discontinue a Segment or Product

Don’t discontinue Bran Flakes!

LO 1

Discontinue a Segment or Product

LO 1