Closing and opening stores. Sanchez Corporation runs two convenience stores, one in Connecticut and one in Rhode Island. Operating income for each store in 2017 is as follows:
Connecticut Store Rhode Island Store
Revenues $1,150,000 $820,000
Operating costs
Cost of goods sold 700,000 640,000
Lease rent (renewable each year) 86,000 71,000
Labor costs (paid on an hourly basis) 41,000 44,000
Depreciation of equipment 21,000 19,000
Utilities (electricity, heating) 40,000 49,000
Allocated corporate overhead 50,000 42,000
Total operating costs 938,000 865,000
Operating income (loss) $212,000 $(45,000)
The equipment has a zero disposal value. In a senior management meeting, Maria Lopez, the management accountant at Sanchez Corporation, makes the following comment, "Sanchez can increase its profitability by closing down the Rhode Island store or by adding another store like it."
1. By closing down the Rhode Island store, Sanchez can reduce overall corporate overhead costs by $44,000. Calculate Sanchez’s operating income if it closes the Rhode Island store. Is Maria Lopez’s statement about the effect of closing the Rhode Island store correct? Explain.
2. Calculate Sanchez’s operating income if it keeps the Rhode Island store open and opens another store with revenues and costs identical to the Rhode Island store (including a cost of $22,000 to acquire equipment with a one-year useful life and zero disposal value). Opening this store will increase corporate overhead costs by $4,000. Is Maria Lopez’s statement about the effect of adding another store like the Rhode Island store correct? Explain.

Answer:

Sanchez Corporation

1.                                                       Connecticut

                                                         Store          

Revenues                                        $1,150,000  

Operating costs

Cost of goods sold                             700,000

Lease rent (renewable each year)      86,000

Labor costs (paid on an hourly basis)  41,000

Depreciation of equipment                  21,000

Utilities (electricity, heating)                40,000

Allocated corporate overhead           92,000

Total operating costs                       980,000

Operating income (loss)                 $170,000

Maria Lopez is correct by $3,000 increase in operating income.

2.                                                   Connecticut  Rhode Island   Identical

                                                            Store            Store            Store

Revenues                                        $1,150,000   $820,000   $820,000

Operating costs

Cost of goods sold                             700,000     640,000     640,000

Lease rent (renewable each year)      86,000         71,000        71,000

Labor costs (paid on an hourly basis)  41,000        44,000       44,000

Depreciation of equipment                  21,000         19,000      22,000

Utilities (electricity, heating)                40,000        49,000      49,000

Allocated corporate overhead           50,000        42,000         4,000

Total operating costs                       938,000      865,000    808,220

Operating income (loss)                $212,000     $(45,000)     $11,780

Maria Lopez is correct by $11,780 increase in operating income.

Explanation:

a) Data and Calculations:

                                                  Connecticut  Rhode Island

                                                         Store            Store

Revenues                                        $1,150,000   $820,000

Operating costs

Cost of goods sold                             700,000     640,000

Lease rent (renewable each year)      86,000         71,000

Labor costs (paid on an hourly basis)  41,000        44,000

Depreciation of equipment                  21,000         19,000

Utilities (electricity, heating)                40,000        49,000

Allocated corporate overhead           50,000        42,000

Total operating costs                       938,000      865,000

Operating income (loss)                $212,000     $(45,000)

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