Clinton Company sells two items, product A and product B. The company is considering dropping product B. It is expected that sales of product A will increase by 40% as a result. Dropping product B will allow the company to cancel its monthly equipment rental costing $100 per month. The other existing equipment will be used for additional production of product A. One employee earning $200 per month can be terminated if product B production is dropped. Clinton's other fixed costs are allocated and will continue regardless of the decision made. A condensed, budgeted monthly income statement with both products follows:
Required:
Prepare an incremental analysis to determine the financial effect of dropping product B.
Definitions:
Liquidity
The ease with which assets can be converted into cash without significantly affecting their value.
Current Ratio
A liquidity ratio that measures a company's ability to pay short-term obligations with its current assets over current liabilities.
Acid Test Ratio
A financial metric that assesses a company's ability to pay off its short-term liabilities with its quick assets (cash, marketable securities, and receivables).
Current Assets
Assets that are expected to be converted into cash within one fiscal year or one operating cycle, whichever is longer.
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