The manager requires relevant information while making important decisions; there is a choice inherent in each decision and in particular when they require deciding about the elimination of segments, they must consider the revenue, variable costs, direct fixed costs and also the avoidable allocated fixed costs of that particular segment or product. Supervalu plans to reduce its inventory items by eliminating one of its product line, Sugar-Bits. By making reduction in the number of items in the inventory, Supervalu plans to save its costs. With the reduction in each dollar in inventory, a consequent dollar reduction takes place in working capital requirements which further leads to dollar improvement in the free cash flow (Edmunds and Tsay et al., 2011). With reduction in inventory, holding costs and storage costs are reduced; further, as it plans to eliminate outside brands, the delivery costs, transportation costs and the maintenance expense for the vehicles is reduced. Generally, by the reduction in inventory, the company would reduce its marketing costs, carriage costs, and also handling costs (Gunasekaran and Sandhu, 2010).
Reducing costs is one of the most critical ways to enhance the efficiency within the company; but efficiency is not just about reduction in costs. There are other matter too which need to be achieved like keeping existing customers, raising the quality of the service and also reducing the cost of delivery (Edmunds and Tsay et al., 2011). These are some of the ways that operational efficiency can be achieved. Further, the operational efficiency can be enhanced by removing human errors and improving the speed of the tasks (Page, 2010). By the increase in efficiency of operations, the productivity is enhanced while the costs are saved—this means that the bottom line is strengthened. Supervalu is eliminating one of its product lines which would lead to reduction in inventory.
The decision of product elimination is of high strategic significance as the competition has been increasing continuously. There are two decisions to be made during this process: the decision of retaining/eliminating the product; and to decide how to eliminate the product actually. The decision rests on whether the revenue of the product exceeds the direct costs of the product or not. Full costing or incremental analysis can be used while making the segment/product decisions. For full costing, two income statements are prepared side by side and then making comparisons between them (Gunasekaran and Sandhu, 2010).
On the other hand, the incremental analysis is believed to be the best and the most straight forward approach where all the relevant parts are taken into consideration. If the decrease in revenue exceeds the decrease in the costs, then do not consider dropping the product line/segment; until and unless the fixed costs which are eliminated exceeds the loss in contribution margin, the segment must be retained (Page, 2010). If the decrease in revenue is lesser than the decrease in costs, then it is a must to drop the product line/segment. It must also be taken into consideration how the decision would impact the revenue and the expenses. The managers must focus on those revenues that would be changed with the decision of elimination and also on those incremental costs that are affected. Then the option which is more profitable is chosen.
Below is given the revised statement after these changes have been implemented.
Revised Earnings Statement after the changes
*Since we have assumed that company has decided to retain that equipment right now so its depreciation will be allocated as per the units consumed by other two departments.
Edmunds, T., Tsay, B. and Olds, P. (2011). Fundamental Managerial Accounting Concepts. 6th ed. New York: McGraw-Hill Irwin.
Gunasekaran, A. and Sandhu, M. (2010). Handbook on business information systems. Singapore: World Scientific.
Page, S. (2010). The power of business process improvement. New York: American Management Association.