CAF-5 · Chapter 17 · Question 18 of 20
(Decision Making: Shut Down) Product Line Z generates sales revenue of Rs. 200,000 and incurs variable costs of Rs. 140,000. It is allocated Rs. 100,000 in fixed costs, resulting in a net loss of Rs. 40,000. If Product Line Z is shut down, Rs. 30,000 of its fixed costs (specific supervisor salaries) can be completely avoided, but the remaining Rs. 70,000 (general factory rent) must still be absorbed by other products. What is the true financial impact on the company of shutting down Product Z?
Test yourself: pick an answer
Reveal answer & explanation
Correct answer: C) Profit decreases by Rs. 30,000
Explanation
Contribution margin currently generated by Z = Sales (200,000) - VC (140,000) = Rs. 60,000. If Z is dropped, the company loses 60,000 in contribution but saves 30,000 in avoidable fixed costs. The remaining 70,000 fixed costs stay. Net impact = 60,000 lost cash inflow vs 30,000 saved cash outflow = Net profit decreases by Rs. 30,000.
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