Value of Fixed Asset Usage Information for Efficient Operation: A Nontraditional View

Firms build excess capacities in fixed cost resources for two purposes — to accommodate uncertainty and to plan for potential growth. Fluctuating demand and internal processing times result in uncertainty, while lead times in building fixed resources result in excess capacities being built to meet future growth in demand. Dropping a product from the production line also creates unused capacity that needs to be replanned into production or disposed. An example is presented in this chapter for a classic keep or drop a product situation where product line shows negative income. The usual advice is to look at only the variable costs related to the product and see the contribution to common costs. The fixed costs, in this approach, are termed irrelevant information. However, this chapter argues that the fixed costs that stay with the company are the really relevant costs and shows that dropping the product decision can be made considering the fixed costs only and ignoring the variable costs as irrelevant.