Question

Appraise the results of operations of Prestige Data Service. Is the subsidiary really a problem to Prestige Telephone Company? Consider carefully the differences between reported costs and cost relevant for decisions that Daniel Rowe is considering.

Answer 1

Solution:

Reducing hours would reduce demand for commercial revenue hours by 20%, from 138  hours to 110 hours. At that level, the total contribution would be:

110 hours x ($800 - $71.5) = $80,135 or $20,398 less than at present.

Raising the cost to $1,000 per hr for commercial clients would less demand by 30%. In March, the request had been for 138 hrs and a loss of 30% will also end up leaving 97 hrs of demand (138 hrs x 70 = 96.6 hrs).

Demand x Contribution per hour = Contribution 97 hours x ($1,000 - $71.50) = $90,064.5

Compare to present:

138 hours x ($800 - $71.50) = $100,533

The monthly contribution to fixed costs and income at $800 is greater by $10,469 than the contribution expected at $1,000. Therefore, the income will be higher if we retain the $800/hour price.