led cost that is incre e of a fixed cost that is not incremen EXERCISE 7-2. ILO 1] Jordan Walken owns an Washington. Her accountant has prep below. (Jordan’s two lines are music devices the accountant allocated all common assistants, utilities, and other common costs based on relative sales (rounded eason: “Each product line needs to cover its share of common costs d operates an electronics store in Seattle duct line income statement that is reproduced and accessories.) In preparing the income statement s0) nethod (27o) ared a pro costs, including rent, Jordan’s salary and the salary of her two In light of this report, Jordan is considering eliminating accessories and concentrating solely on the sale of music devices (although, she does not expect an increase in music device sales) only Music Devices Accessories lo Total Sales $970,000 705,000 265,000 43,000 $150,000 $1,120,000 825,000 295,000 Cost of merchandise Gross margin Rent Salaries Utilities 30,000 50,000 32,000 7,000 6,000 293,000 $ 2,000 6,000 1,000 41,000 11,000) 252,000 Total $13,000 Income before taxes Analyze the effect on profit of dropping accessories. Then write a paragraph explaining the role of common costs in your analysis and how allocation of common costs can lead to the cost allocation death spiral. REQUIRED

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Incremental Revenue-150000
Incremental savings:120000
Incremental decrease in profit if the ‘accessories’ product line is dropped-30000
New profit = Original operating income +/- Change in operating income =
New profit(loss) = 2000 – 30000-28000
Dropping the accessories product line will result in a drop in operating income for the entire company from $2,000 to -$28000
Allocated fixed costs called as common costs are costs that are not traceable to a particular product, service, product line, or segment. They are never relevant because the costs are assigned to a number of products. The total allocated fixed costs will remain the same total costs regardless of whether the product is dropped or not are not avoidable.
Allocated fixed costs often make a segment look unprofitable, the company’s total profit will decrease when a product or segment is dropped because allocated fixed costs must be absorbed by other products.Each additional product drop causes the company to be worse off due to allocated fixed costs that continue to be a cost for a company. This process is called the cost allocation death spiral.