4a) For answering this question, we assume that if the subsidiary is dropped, the parent company will be able

to contract the services from an external provider at the same cost i.e $82000/month. Also the parent should be able to sell all the equipment (computers, furniture etc) of the subsidiary at book value, leading to zero depreciation cost. Moreover, we also assume that staff and other resources (systems, billing, and office space etc) that the parent is providing to the subsidiary can again be put back to economically productive use and will generate the same revenue for the parent as it was charging the subsidiary. Closing the company immediately would mean that the parent would not have to incur any of the variable costs. However, the leasing contract (assuming that the parent company cannot use the computers for any other purposes) and therefore would cost the parent $95000/month. Hence, if the subsidiary is continued the monthly loss would be $21438/month and if it is closed before the expiry of leases, the loss would be $95000/month (equal to the cost of leases). Therefore keeping the subsidiary is cheaper than closing it. In reality, it is very unlikely that the parent will be able to generate the same economic value from the resources as it is charging the subsidiary, and hence all the fixed costs will not be eliminated. The likely loss will be higher than our estimate of $95000. 4b) In this scenario, there would be no leasing costs and hence there would be no monthly loss to the parent. Thus, it is beneficial to drop the subsidiary. Again, the above assumes that the parent is able to fire the workers and eliminate all the other variable costs. Also, we assume that staff and other resources (systems, billing, office space, corporate services etc) that the parent is providing to the subsidiary can again be put back to economically productive use and will generate the same revenue for the parent as it was charging the subsidiary. 5) When the parent set the limit of $82000 for the service provided by the subsidiary, it is not clear from the case if the limit is indeed based on the market rate for such services. Also, no information has been provided on the number of hours on which $82000 figure has been calculated. It is likely that the parent would have to pay higher than $82000 to avail the same services if it was to contract an external vendor. Given that the subsidiary has customers who are willing to pay $ 800 per hour, we assume this is the market value of the service and therefore think we should be able to charge this rate to the parent as well. This would increase our revenue by $89,200 (223 intercompany hours * $400/hour) and therefore would result in a net income of $67672 (additional revenue of $89200 less earlier loss of $21438). We believe a better accounting system would be to look at the true costs, i.e the costs that could be eliminated if the subsidiary has to be closed. In the given case, we feel that the parent will not be able to eliminate a lot of fixed costs and these costs are not material for establishing the profitability of the subsidiary. As is currently given, the subsidiary actually helps the parent generate revenue to offset a large portion of fixed costs.