Performance Management · Relevant cost analysis

Shut-Down and Further Processing Decisions in ACCA PM

Updated 11 October 2026 · Fact-checked

A shut-down or further processing decision compares only future cash flows that change. Close a segment if the avoidable costs saved (variable plus avoidable fixed) exceed the revenue lost, i.e. if its contribution does not cover its avoidable fixed costs. Process a joint product further if the extra revenue exceeds the extra processing cost. Joint costs and sunk costs are ignored.

Understand Shut-Down and Further Processing Decisions

Every decision here asks one question: what changes in cash terms if we do this? Costs and revenues that change are relevant. Everything else is ignored, even if it looks large in the accounts.

In a shut-down decision you compare keeping the product, division or segment with closing it. Keeping it earns revenue and costs you avoidable costs. Closing it loses the revenue but saves those avoidable costs. The segment's revenue less avoidable costs (variable plus avoidable fixed) is the benefit you lose on closure. Allocated head office costs usually carry on after closure, so they do not count unless they would really be saved.

A special order is a one-off sale, often at a discount. Accept it if the extra revenue is greater than the extra relevant costs. Spare capacity means labour and fixed costs are usually not relevant. If capacity is full, add the opportunity cost, which is the contribution lost on normal work. Also think about whether the lower price could spoil your normal market.

In further processing, joint products come out of a common process. The joint cost is the same whether you sell at split-off or process further. It is a sunk cost for this decision. Only compare the extra revenue from further processing with the extra (incremental) costs.

Always add non-financial points: staff morale, customer relationships, brand, and whether closing a product hurts sales of others. In shut-down cases, also check if the segment helps other products.

Key rules to remember

Shut-down rule: Close if: segment revenue < avoidable costs (variable plus avoidable fixed), i.e. if the contribution after avoidable fixed costs is negative, other things equal; Use avoidable costs only. Include avoidable fixed costs, such as a manager's salary that would end.
Special order rule: Accept if: order revenue > relevant costs (incl. opportunity costs); Spare capacity: opportunity cost is nil. Full capacity: add the contribution lost elsewhere.
Further processing rule: Process further if: (final sales value − split-off sales value) > extra processing cost; Joint costs are ignored because they are incurred either way.
Net benefit of closure: Change in profit from closing = avoidable costs saved − revenue lost (positive = close; negative = keep); Show this as a clear final line. Avoidable costs include variable costs and avoidable fixed costs.
Relevant cost of materials: Materials to be bought: current purchase price. Materials already in stock: if they would be replaced for normal use, the relevant cost is replacement cost. If they would not be replaced, the relevant cost is the higher of net realisable value (sale value less any costs of sale) and the value in an alternative use. If there is no other use and no sale value, the relevant cost is nil.; This rule is used heavily in special order questions. Compare the alternative-use value with the sale value, and take the higher.

How to solve Shut-Down and Further Processing Decisions questions

Use this method for any shut-down, special order or further processing question. Write the relevant cash flows in a clear list.

1Identify the decision and the alternatives: keep or close, accept or reject, sell at split-off or process further.
2List every cost and revenue. Mark each one as future or past, and as differing between alternatives or not.
3Remove sunk costs, committed costs, joint costs, and general overheads that carry on whatever you choose.
4Check capacity. If there is spare capacity, labour and fixed costs are usually not relevant. If not, add the opportunity cost.
5Work out the incremental revenue less the incremental relevant cost for each option, or the net gain for the option you assess.
6State the financial result and the decision using the rule: accept, close or process further if the change in profit from taking that action is positive.
7Add non-financial factors, for example customer reaction, redundancy costs, impact on other products, and the risk of a price war.

Quickest way: Incremental table in four lines

When to use it: Use in Section A or in a short OT case where you must pick the best option quickly.

Write the revenue effect of taking the action, with revenue gained as positive and revenue lost as negative.
Write only the costs that change, with costs saved as positive and costs added as negative. Cross out allocated overheads, depreciation and joint costs unless the question says they are avoidable.
Add them up to get the change in profit from taking the action.
If the change in profit is positive, choose the action; otherwise reject it. Re-read the wording for 'avoidable' or 'spare capacity' before answering.

Common mistakes in Shut-Down and Further Processing Decisions

Including apportioned head office costs in a shut-down decision.
The segment profit statement shows a loss after apportioned costs, so closure looks attractive.
Fix: Check which costs would truly disappear. Only avoidable costs count. A segment with positive contribution toward shared costs may be worth keeping.
Deducting joint costs in a further processing decision.
Students want the product to 'cover' its share of the cost.
Fix: Joint costs are sunk at split-off. Compare only the extra revenue with the extra processing cost.
Charging full labour cost to a special order when labour is idle.
Students use standard cost cards without checking capacity.
Fix: If labour is paid anyway and has no other use, its relevant cost is nil. If overtime or lost work arises, include that cost.
Using the book value of materials already in stock.
Historic cost is on the stock record and looks reliable.
Fix: Use replacement cost if the material would be replaced for normal use, or sale value or nil if not. Ignore historic cost.
Ignoring the opportunity cost when capacity is full.
Students focus on direct costs and forget what is given up.
Fix: Add the contribution lost on displaced production to the order's relevant cost.
Giving a financial answer only.
Students stop once the numbers give a result.
Fix: Add two or three non-financial factors that apply to the scenario, then give a clear recommendation.

Worked examples

Example 1

Division Z has sales of ₹12,00,000, variable costs of ₹7,00,000, directly attributable fixed costs of ₹3,00,000 (all avoidable), and apportioned head office costs of ₹2,50,000 that would continue if Z closed. Should Z be closed?

Show the solution

Contribution = ₹12,00,000 − ₹7,00,000 = ₹5,00,000.
Avoidable fixed costs = ₹3,00,000.
Contribution after avoidable fixed costs = ₹5,00,000 − ₹3,00,000 = ₹2,00,000.
The apportioned head office cost of ₹2,50,000 continues either way, so it is ignored.
Closing Z would lose ₹2,00,000 of cash benefit to the company.

Answer: Do not close Z. It contributes ₹2,00,000 toward unavoidable costs. Closure would reduce company profit by ₹2,00,000, unless there are other benefits such as freeing capacity for something more profitable.

Example 2

A joint process makes 1,000 kg of Product P at a joint cost of ₹4,00,000. P can be sold at split-off for ₹300 per kg. Further processing costs ₹120 per kg, after which the sale price is ₹400 per kg. Should P be processed further?

Show the solution

Sales value at split-off = 1,000 × ₹300 = ₹3,00,000.
Sales value after processing = 1,000 × ₹400 = ₹4,00,000.
Extra revenue = ₹4,00,000 − ₹3,00,000 = ₹1,00,000.
Extra processing cost = 1,000 × ₹120 = ₹1,20,000.
Net effect = ₹1,00,000 − ₹1,20,000 = −₹20,000.
The joint cost of ₹4,00,000 is ignored as it is incurred either way.

Answer: Do not process further. Doing so would reduce profit by ₹20,000. Sell P at split-off for ₹300 per kg.

Exam tips

Look for wording like 'avoidable', 'would continue', 'spare capacity' and 'already purchased'. They tell you what is relevant.
In Section C, set out a clear relevant cost table and state your decision. Marks are given for method, so show each cost's treatment even where the relevant cost is nil.
In OT questions, remember marking is all or nothing, so check one rule twice: whether joint or allocated costs have been wrongly included.
Add non-financial points tied to the scenario. A generic list gains fewer marks than one or two specific comments.
If a question asks about long-term closure, comment on risks beyond the immediate numbers, such as lost customers or redundancy costs.

Practice questions from Relevant cost analysis

Shut-Down and Further Processing Decisions in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Shut-Down and Further Processing Decisions: frequently asked questions

What costs are relevant in a shut-down decision?

Only future cash flows that change if you close. These are the lost revenue and the avoidable costs saved, including avoidable fixed costs. Apportioned overheads that continue after closure are not relevant.

Why are joint costs ignored in further processing decisions?

The joint cost is incurred before the split-off point, so it is the same whichever choice you make. It is a sunk cost. Only the extra revenue and extra processing costs after split-off matter.

How do I decide whether to accept a special order?

Compare the order's revenue with its relevant costs. Use current prices for materials, include labour only if it is an extra cost, and add opportunity costs if capacity is full. Accept if the net result is positive, then consider non-financial effects.

Does a segment making a loss always have to close?

No. A segment with a reported loss may still make a positive contribution after avoidable costs. If so, closing it reduces total profit unless the freed resources can be used better.