A withdrawal by the owner is recorded as a deduction from assets ...

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A withdrawal by the owner is recorded as a deduction from assets and an increase in expenses.
  Indicate whether the statement is true or false

Question 2

Closing and opening stores.
 
  Sanchez Corporation runs two convenience stores, one in Connecticut and one in Rhode Island. Operating income for each store in 2014 is as follows:
 
  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.
 
  Required:
  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.

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Answer to Question 1

F

Answer to Question 2

1. Solution Exhibit 11- 25, Column 1, presents the relevant loss in revenues and the relevant savings in costs from closing the Rhode Island store. Lopez is correct that Sanchez Corporation's operating income would increase by 7,000 if it closes down the Rhode Island store. Closing down the Rhode Island store results in a loss of revenues of 860,000 but cost savings of 867,000 (from cost of goods sold, rent, labor, utilities, and corporate costs). Note that by closing down the Rhode Island store, Sanchez Corporation will save none of the equipment-related costs because this is a past cost. Also note that the relevant corporate overhead costs are the actual corporate overhead costs 44,000 that Sanchez expects to save by closing the Rhode Island store. The corporate overhead of 40,000 allocated to the Rhode Island store is irrelevant to the analysis.
2. Solution Exhibit 11- 25, Column 2, presents the relevant revenues and relevant costs of opening another store like the Rhode Island store. Lopez is correct that opening such a store would increase Sanchez Corporation's operating income by 11,000. Incremental revenues of 860,000 exceed the incremental costs of 849,000 (from higher cost of goods sold, rent, labor, utilities, and some additional corporate costs). Note that the cost of equipment written off as depreciation is relevant because it is an expected future cost that Sanchez will incur only if it opens the new store. Also note that the relevant corporate overhead costs are the 4,000 of actual corporate overhead costs that Sanchez expects to incur as a result of opening the new store. Sanchez may, in fact, allocate more than 4,000 of corporate overhead to the new store, but this allocation is irrelevant to the analysis.
The key reason that Sanchez's operating income increases either if it closes down the Rhode Island store or if it opens another store like it is the behavior of corporate overhead costs. By closing down the Rhode Island store, Sanchez can significantly reduce corporate overhead costs presumably by reducing the corporate staff that oversees the Rhode Island operation. On the other hand, adding another store like Rhode Island does not increase actual corporate costs by much, presumably because the existing corporate staff will be able to oversee the new store as well.
EXHIBIT 11- 25
Relevant-Revenue and Relevant-Cost Analysis of Closing Rhode Island Store and Opening Another Store Like It.
Incremental (Loss in Revenues) Revenues and
and Savings in (Incremental Costs)
Costs from Closing of Opening New Store
Rhode Island Store Like Rhode Island Store
(1) (2)
Revenues (860,000)  860,000
Cost of goods sold 660,000 (660,000)
Lease rent 75,000 (75,000)
Labor costs 42,000 (42,000)
Depreciation of equipment 0 (22,000)
Utilities (electricity, heating) 46,000 (46,000)
Corporate overhead costs 44,000 (4,000)
Total costs 867,000 (849,000)
Effect on operating income (loss)  7,000  11,000