Question

The management of Furrow Corporation is considering dropping product L07E. Data from the company’s budget for the upcoming year appear below:

Sales	$	940,000
Variable expenses	$	390,000
Fixed manufacturing expenses	$	372,000
Fixed selling and administrative expenses	$	252,000

In the company's accounting system all fixed expenses of the company are fully allocated to products. Further investigation has revealed that $237,000 of the fixed manufacturing expenses and $198,000 of the fixed selling and administrative expenses are avoidable if product L07E is discontinued. The financial advantage (disadvantage) for the company of eliminating this product for the upcoming year would be:

1. -74,000

2. 115,000 3. 74,000 4. -115,000

Answer 1

If the product is discontinued, there will be no sales and variable costs but unavoidable fixed costs will remain as it is and the organization will have to bear this cost

Unavoidable Fixed costs of manufacturing

= Total manufacturing fixed costs – Avoidable fixed costs

= $372,000 - $237,000

= $135,000

Unavoidable Fixed selling and administrative expenses

= $252,000 - $198,000

= $54,000

Calculations	Particulars	Current	Proposed
A	Sales	940,000	-
B	Variable expenses	390,000	-
C = A-B	Contribution	550,000	-
D	Fixed manufacturing expenses	372,000	135,000
E	Fixed selling and administrative expenses	252,000	54,000
F = C-D-E	Net Income	(74,000)	(189,000)

As we can find from the above calculations, the losses will increase from $74,000 to $189,000 which will result in increase in losses by $115,000 ($189,000 - $74,000)

So, as per above calculations, option 4 is the correct option