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Profit center responsibility reporting for a service company Red Line Railroad Inc. has three regional divisions organized as profit centers. The chief executive officer (CKO) evaluates divisional performance, using income from operations as a percent of revenues. The following quarterly income and expense accounts were provided from the trial balance as of December 31: Revenues—East $1,400,000 Revenues—West 2,000,000 Revenues—Central 3,200,000 Operating Expenses—East 800,000 Operating Expenses—West 1.350,000 Operating Expenses—Central 1,900,000 Corporate Expenses—Shareholder Relations 300,000 Corporate Expenses—Customer Support 320,000 Corporate Expenses—Legal 500,000 General Corporate Officers’ Salaries 1.200,000 The company operates three service departments: Shareholder Relations, Customer Support, and Legal. The Shareholder Relations Department conducts a variety of services for shareholders of the company. The shareholder Relations Department and general corporate officers’ salaries are not controllable by division management. The Customer Support Department is the company’s point of contact for new service, complaints, and requests for repair. The department believes that the number of customer contacts is an activity base for this work. The Legal Department provides legal services for division management. The department believes that the number of hours hilled is an activity base for this work. The following additional information has been gathered: East West Central Number of customer contacts 1,500 2,800 5,700 Number of hours billed 7S0 1,750 1,500 Instructions 1. Prepare quarterly income statements showing income from operations for the three divisions. Use three column headings: East, West, and Central. 2. Identify the most successful division according to the profit margin. 3. Provide a recommendation to the CEO for a better method for evaluating the performance of the divisions. In your recommendation, identify the major weakness of the present method.

BuyFind

Accounting

27th Edition
WARREN + 5 others
Publisher: Cengage Learning,
ISBN: 9781337272094
BuyFind

Accounting

27th Edition
WARREN + 5 others
Publisher: Cengage Learning,
ISBN: 9781337272094

Solutions

Chapter
Section
Chapter 24, Problem 24.2APR
Textbook Problem

Profit center responsibility reporting for a service company

 Red Line Railroad Inc. has three regional divisions organized as profit centers. The chief executive officer (CKO) evaluates divisional performance, using income from operations as a percent of revenues. The following quarterly income and expense accounts were provided from the trial balance as of December 31:

Revenues—East $1,400,000
Revenues—West 2,000,000
Revenues—Central 3,200,000
Operating Expenses—East 800,000
Operating Expenses—West 1.350,000
Operating Expenses—Central 1,900,000
Corporate Expenses—Shareholder Relations 300,000
Corporate Expenses—Customer Support 320,000
Corporate Expenses—Legal 500,000
General Corporate Officers’ Salaries 1.200,000

 The company operates three service departments: Shareholder Relations, Customer Support, and Legal. The Shareholder Relations Department conducts a variety of services for shareholders of the company. The shareholder Relations Department and general corporate officers’ salaries are not controllable by division management. The Customer Support Department is the company’s point of contact for new service, complaints, and requests for repair. The department believes that the number of customer contacts is an activity base for this work. The Legal Department provides legal services for division management. The department believes that the number of hours hilled is an activity base for this work. The following additional information has been gathered:

  East West Central
Number of customer contacts 1,500 2,800 5,700
Number of hours billed 7S0 1,750 1,500

 Instructions

  1. 1. Prepare quarterly income statements showing income from operations for the three divisions. Use three column headings: East, West, and Central.
  2. 2. Identify the most successful division according to the profit margin.
  3. 3. Provide a recommendation to the CEO for a better method for evaluating the performance of the divisions. In your recommendation, identify the major weakness of the present method.

Expert Solution

(1)

To determine

Income statement: The financial statement which reports revenues and expenses from business operations and the result of those operations as net income or net loss for a particular time period is referred to as income statement.

Service department charges: These are the indirect expenses incurred by profit center. These are charged for the services received by the department or division, based on the activity base of the service department.

Profit margin: This ratio gauges the operating profitability by quantifying the amount of income earned from business operations from the sales generated.

Formula of profit margin:

Profit margin=Income from operationsSales

To prepare: The income statements for E, W, and C Divisions of Incorporation RLR for the quarter ended December 31

Explanation of Solution

Prepare divisional income statements for E, W, and C Divisions of Incorporation RLR for the quarter ended December 31.

Incorporation RLR
Divisional Income Statements
For the Quarter Ended December 31
  E Division W Division C Division
Sales $1,400,000 $2,000,000 $3,200,000
Operating expenses 800,000 1,350,000 1,900,000
Income from operations before service department charges 600,000 650,000 1,300,000
Less: Service department charges:
         Customer support 48,000 89,600 182,400
         Legal 93,750 218,750 187,500
Income from operations $458,250 $341,650 $930,100

Table (1)

Working Notes:

Determine the service charges to be charged for customer support department of E Division.

Customer support department}{Number of customer contacts for E Division× Rate per customer contact}={Number of customer contacts for E Division× Customer support department expensesTotal number of customer contacts}= 1,500 customer contacts × $320,000{(1,500+2,800+5,700) customer contacts}= $48,000

Determine the service charges to be charged for customer support department of W Division.

Customer support department}{Number of customer contacts for W Division× Rate per customer contact}={Number of customer contacts for W Division× Customer support department expensesTotal number of customer contacts}= 2,800 customer contacts × $320,000{(1,500+2,800+5,700) customer contacts}= $89,600

Determine the service charges to be charged for customer support department of C Division

Expert Solution

(2)

To determine
Profit margin and indicate the most profitable division

Expert Solution

(3)

To determine

To recommend: The chief executive officer to use better measure to evaluate the performance or profitability of the division

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Chapter 24 Solutions

Accounting
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