Question

Problem 12-21 Dropping or Retaining a Flight [LO12-2]

Profits have been decreasing for several years at Pegasus Airlines. In an effort to improve the company’s performance, consideration is being given to dropping several flights that appear to be unprofitable.

   

     A typical income statement for one round-trip of one such flight (flight 482) is as follows:

Ticket revenue (100 seats × 40%     occupancy × $65 ticket price)	$	2,600	100	%
Variable expenses ($15.00 per person)		600	23.1
Contribution margin		2,000	76.9	%
Flight expenses:
Salaries, flight crew	$	400
Flight promotion		700
Depreciation of aircraft		420
Fuel for aircraft		195
Liability insurance		210
Salaries, flight assistants		690
Baggage loading and flight preparation		195
Overnight costs for flight crew and      assistants at destination		60
Total flight expenses		2,870
Net operating loss	$	(870)

The following additional information is available about flight 482:

a.	Members of the flight crew are paid fixed annual salaries, whereas the flight assistants are paid based on the number of round trips they complete.
b.	One-third of the liability insurance is a special charge assessed against flight 482 because in the opinion of the insurance company, the destination of the flight is in a "high-risk" area. The remaining two-thirds would be unaffected by a decision to drop flight 482.
c.	The baggage loading and flight preparation expense is an allocation of ground crews' salaries and depreciation of ground equipment. Dropping flight 482 would have no effect on the company's total baggage loading and flight preparation expenses.
d.	If flight 482 is dropped, Pegasus Airlines has no authorization at present to replace it with another flight.
e.	Aircraft depreciation is due entirely to obsolescence. Depreciation due to wear and tear is negligible.
f.	Dropping flight 482 would not allow Pegasus Airlines to reduce the number of aircraft in its fleet or the number of flight crew on its payroll.

  

Required:
1.	Prepare an analysis showing what impact dropping flight 482 would have on the airline's profits. (Any losses/ reductions should be indicated by a minus sign.)

Answer 1

Contribution margin lost if the flight is discontinued						-2,000
less Flight costs that can be avoided if the flight is
discontinued:
Flight promotion					700
Fuel for aircraft					195
liability insurance		(210*1/3)			70
Salaries,Flight assistants					690
overnight costs for flight crew and assistants					60	1715
net decrease in profits if the flight is discontinued						-285