Victor Corporation has provided you with the following budgeted income statement for one of its products:
$$\begin{array} {| l | r | }
\hline \text { Sales revenue } & \$ 800,000 \
\hline \text { Variable costs } & \underline { 540,000 } \
\hline \text { Contribution margin } & \$ 260,000 \
\hline \text { Fixed costs } & \underline { 275,000 } \
\hline\text { Operating income (loss)} & \underline { (\$ 15,000) }\
\hline
\end{array}$$ Victor Corporation believes that 65% of the fixed costs would be avoidable if the product line was dropped.Based on the impact on the company's operating income or loss,Victor should keep the product line.

Question

Victor Corporation has provided you with the following budgeted income statement for one of its products:
 $$\begin{array} {| l | r | } 
\hline \text { Sales revenue } & \$ 800,000 \
\hline \text { Variable costs } & \underline { 540,000 } \
\hline \text { Contribution margin } & \$ 260,000 \
\hline \text { Fixed costs } & \underline { 275,000 } \
\hline\text { Operating income (loss)} &  \underline { (\$ 15,000) }\
\hline
\end{array}$$ Victor Corporation believes that 65% of the fixed costs would be avoidable if the product line was dropped.Based on the impact on the company's operating income or loss,Victor should keep the product line.

Quizplus · Accepted Answer

If the product line is dropped, the avoidable fixed costs of $178,750 (65% of $275,000) would be saved, but the contribution margin of $260,000 would be lost. The net effect would be a decrease in operating income by $81,250 ($260,000 - $178,750), worsening the loss. Therefore, Victor should keep the product line.

Victor Corporation Has Provided You with the Following Budgeted Income