ranfield Company is considering eliminating its backpack division, which reported an operating loss for the recent year of $42,000. The division sales for the year were $960,000 and the variable costs were $475,000. The fixed costs of the division were $527,000. If the backpack division is dropped, 40% of the fixed costs allocated to that division could be eliminated. The impact on Granfield's operating income for eliminating this business segment would be:

The 40% saving on fixed assets will increase Granfield overall operating income by $210,800

Explanation:

If Granfield discontinues it backpack division, below is the saving from fixed cost:

Avoidable fixed cost (40%) = 40% * $527,000

=$210,800

The $210,800 saving will increase Granfield overall operating income.

The 60% balance of the fixed cost is a sunk cost and will not have any impact on the operating income.

Hence, a decision has to be made whether to continue with the segment $42,000 operating loss or discontinue the operation to have savings of $210,800.

If discontinued, then their operating income will decrease by 168,800

It is a better deal to continue the backpack division active.

Explanation:

sales 960,000

variable cost (475,000)

contribution 485,000

fixed cost (527,000)

loss (42,000)

if Dropped

40% of fixed cost are unavoidable

527,000 x 40% = (210,800)

Difference: 42,000-210,800 = (168,800)