Usually not on the strength of a full cost report alone. Compare the contribution the product earns with the fixed costs that would genuinely disappear if you stopped selling it, then add the knock on effects: sales of other lines that would be lost, what the freed capacity could earn instead, and one off closure costs. Drop the product only if the cash saved and earned elsewhere exceeds the revenue given up.
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Why can a product show a loss and still be worth keeping?
Most product profit reports charge each line with a share of the business’s fixed overheads: rent, the finance team, insurance, software, directors’ pay. The share is set by a formula, such as floor space, labour hours or sales value. That allocation is useful for pricing and for the statutory accounts, but it does not tell you what happens to total costs if a product stops.
ACCA’s technical article on relevant costs makes the point directly: however the management accounts split up costs, if total costs remain the same there is no cash flow effect from the decision, so reapportioned existing fixed costs are not relevant. If the rent and the finance team stay exactly as they are after the product goes, the share that was charged to it simply moves onto the remaining products, and total profit falls by the contribution you have given up.
A product that covers its own variable costs and makes some contribution towards the shared overheads is therefore helping profit, even when the report shows a loss after allocation. See contribution margin explained and absorption vs marginal costing for the underlying measures.
Which figures should the decision be based on?
Use the future cash flows that change because of the decision, which is the approach set out in our page on relevant costs for decisions. In practice that means:
- Revenue lost from the product itself.
- Variable costs saved: materials, direct labour that will actually be released, packaging, delivery, payment fees and commission.
- Avoidable fixed costs: costs that exist only because of this product and would stop, such as a dedicated storage unit, a specialist licence or a member of staff who works only on that line.
- Opportunity gains: contribution that could be earned by using the released space, machine time or people for something else.
- One off costs and receipts of stopping: redundancy, lease exit payments, sale of equipment and clearing remaining stock.
The same ACCA article lists what to leave out. Sunk costs, such as past market research, are not relevant. Committed costs are not relevant either: its example is a two year machinery lease, which cannot be avoided by a decision about a short project. Depreciation and book values are not cash flows and are excluded too.
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How does the calculation work?
Illustration only. A small manufacturer sells three products. Fixed overheads of £176,000 are allocated at 40% of sales value.
| Product A | Product B | Product C | Total | |
|---|---|---|---|---|
| Revenue | £200,000 | £150,000 | £90,000 | £440,000 |
| Variable costs | £110,000 | £80,000 | £60,000 | £250,000 |
| Contribution | £90,000 | £70,000 | £30,000 | £190,000 |
| Allocated overheads | £80,000 | £60,000 | £36,000 | £176,000 |
| Reported profit or (loss) | £10,000 | £10,000 | (£6,000) | £14,000 |
Product C appears to lose £6,000. Investigation shows that only £12,000 of the overheads would stop if C were dropped: a rented storage bay and part of a packer’s hours. The rest stays. Dropping C loses £30,000 of contribution and saves £12,000, so total profit falls by £18,000, turning a £14,000 profit into a £4,000 loss. Product C should stay unless something better can use its capacity.
ACCA’s article works through a similar case with two production lines. Line B reports a loss of $4m after $24m of fixed costs are apportioned on floor space. Closing either line would save only 25% of those fixed costs, $6m, while Line B’s revenue of $30m less marginal costs of $20m gives up $10m of contribution. Closing it would reduce profit.
What else changes when a product is dropped?
The direct numbers are only the start. Before deciding, check:
- Linked sales. Customers who buy the weak product may also buy your strong ones. A trade customer who wants a full range may move all their orders to a competitor that offers it.
- Freed capacity. ACCA notes that if an old product is discontinued early to make room for a new one, the revenue and cost decreases on the old product and the increases on the new one are all relevant. If the space or machine time would sit idle, there is no gain to count.
- Scarce resources. If skilled hours or machine time are the bottleneck, rank products by contribution per unit of that scarce resource, not by total profit.
- Stepped and shared costs. Volume discounts from suppliers, carriage rates or a delivery round may depend on total volume. Losing a line can push other costs up.
- Overhead allocation itself. If overheads are allocated on a crude basis, a more careful method such as activity based costing may show that a different product is the one consuming the support costs.
Which one off closure costs should be counted?
Stopping a product can trigger costs that do not appear in any monthly report. The most common in the UK is redundancy. GOV.UK states that an employee is normally entitled to statutory redundancy pay after 2 years or more with their current employer. For redundancies on or after 6 April 2026, weekly pay for the calculation is capped at £751 and the maximum statutory payment is £22,530. Contractual schemes can be more generous. Our page on statutory redundancy pay covers the calculation.
Other items to include are penalties for ending supply or lease contracts early, the cost of honouring warranties on units already sold, and the net cash from selling surplus equipment and clearing stock. Count the cash you will actually receive for stock, not its carrying value, because book values are not relevant to the decision.
Which factors cannot be put into the numbers?
Some consequences are real but hard to value. Customers may see the business as less reliable or less complete. Staff in the affected area may leave even if they are not made redundant. A product early in its life cycle may be loss making now but heading for growth, while a mature product may be sliding. Reversibility also counts: restarting a line after staff, suppliers and know how have gone usually costs more than keeping it ticking over.
Write these down alongside the calculation. A decision that saves a small amount of cash but damages a key customer relationship is rarely a good one.
Does dropping a product affect the statutory accounts?
The decision itself is a management accounting exercise based on cash flows. The financial statements follow their own rules. For companies, paragraph 27(3) of Schedule 1 to the Large and Medium sized Companies and Groups (Accounts and Reports) Regulations 2008 allows the production cost of stock to include a reasonable proportion of costs only indirectly attributable to production, relating to the period of production. Stock in the accounts therefore often carries absorbed overheads, so the statutory gross margin by product will not match your contribution analysis. Where a business closes a whole major line or area of operations, the accounts may need to present it separately; see discontinued operations. Ordinary pruning of a product range does not usually reach that level.
What mistakes come up most often?
- Treating the allocated overhead charge as a cost that will disappear.
- Ignoring sales of other products that depend on the weak line.
- Counting a gain from freed capacity without a realistic plan to use it.
- Leaving out redundancy, contract exit and stock clearance costs.
- Using book values or depreciation instead of cash.
- Looking at one bad year rather than the expected contribution over the next two or three.
- Not asking whether the product could be repriced, redesigned or sold through a cheaper channel instead of being dropped. A short break even analysis often shows how much a price rise or cost cut would need to achieve.
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Related Accountapedia entries
- Make or buy decisions
- Limiting factor analysis
- Fixed, variable and semi variable costs
- Pricing methods: cost plus, value and competitive pricing
- Overhead absorption rates
Sources
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 19 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.