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Shoe is thinking about eliminating a division. The division’s annual contribution margin is $160,000. The division...

Shoe is thinking about eliminating a division. The division’s annual contribution margin is $160,000. The division has $320,000 in annual fixed costs, $180,000 of which cannot be avoided. The annual financial advantage (disadvantage) for Shoe to eliminate this division would be:

  • $160,000

  • ($160,000)

  • ($20,000)

  • $20,000

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Answer #1

Annual contribution margin = $160,000

Annual fixed costs is $320,000, out of which $180,000 cannot be avoided. It means Shoe has to incur them irrespective of keeping or eliminating a division. Therefore,it is irrelevant for decision making.

Avoidable fixed cost = $320,000 - $180,000 = $140,000. This is relevant for decision making as this could be avoided if they eliminate a division.

Therefore, if they eliminate a division,

Annual contribution margin - Avoidable fixed cost = $160,000 - $140,000 = $20,000 (Incremental Gain)

The annual financial advantage for Shoe to eliminate this division would be $20,000 (Option D)

I hope I've explained to the point. Please feel free to ask any queries and do give a thumbsup if the solution was satisfactory. Thankyou.

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