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ACCA Strategic Professional · Strategic Business Leader · Cost and management accounting

A board at Calder Retail is told that its absorption costing system shows a product line as unprofitable, but marginal costing shows a positive contribution. Most fixed costs would continue even if the line were dropped. From a strategic decision-making viewpoint, what does this imply?

Keep the line in the short term. It has a positive contribution, and the fixed costs are unavoidable, so dropping it would leave those costs uncovered and reduce total profit. The absorption loss arises from apportioned overhead, which is not relevant to this decision.

  1. ADrop the line, because absorption costing gives the true long-run cost
  2. BKeep the line in the short term, because it contributes towards fixed costs that would otherwise be unrecoveredCorrect
  3. CDrop the line, because any product with a negative profit reduces total contribution
  4. DReprice the line to recover the fixed costs, since marginal costing ignores them

Explanation

If the fixed costs are unavoidable, they remain whether or not the line is dropped. A positive contribution then improves total profit, so the line should be kept short term unless a better use of resources exists. Absorption losses reflect arbitrary apportionment, not avoidable cost.

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