Nordica Foods: Closure, a Private-Label Offer, and Allocated Overhead
Nordica Foods operates three divisions. Its frozen ready-meals division reports revenue of €42m, variable costs of €28m, direct fixed costs of €11m, and an allocation of group overhead at 8% of revenue (€3.36m), producing a reported operating loss of €0.36m. Of the €11m direct fixed cost, €7m is dedicated and avoidable if the division closes; €4m is shared site cost. Group overhead does not disappear on closure but is reallocated to the other two divisions. The frozen plant runs at 88% of practical capacity and has 1,150 freezer-line hours available in the next 12 months. A grocery chain has offered a 12-month private-label contract worth €9.8m. It would require €7.6m of variable cost and €0.9m of incremental fixed cost for a third shift, and would consume 620 freezer-line hours; the displaced internal volume would be sourced externally at a contribution loss of €0.4m. The division manager argues that the contract should be rejected because its price is below fully loaded cost.
1. Should Nordica close the frozen ready-meals division on the reported loss?
Read the worked answer
No. The reported loss of €0.36m is after €3.36m of allocated group overhead, which is not caused by the division. The relevant test is avoidable cost.
Contribution is €42m − €28m = €14m. Of the €11m direct fixed cost, €7m is dedicated and avoidable; €4m is shared and continues. Closing changes group profit by −€14m + €7m = −€7m. Group overhead is then reallocated to the ambient and chilled divisions, making them look worse and potentially triggering a second bad closure decision.
The division is covering all variable costs, all dedicated fixed costs, and €3m towards shared and corporate costs. Before any closure, the board needs two things: the capital employed in the division, to test whether €3m is an adequate return, and an alternative use of the freezer line or site that contributes more than €3m after avoidable costs. If neither exists, closing destroys value. The manager's own argument for closure is a symptom of a distorted metric, not evidence about the business.
2. Evaluate the private-label contract and state the conditions under which Nordica should accept it.
Read the worked answer
Incremental analysis: €9.8m revenue − €7.6m variable cost − €0.9m incremental fixed cost − €0.4m displaced contribution = €0.9m incremental profit. The fully loaded cost objection is irrelevant: the 8% allocation and the €4m shared fixed cost do not change with the contract.
Capacity check: 620 of 1,150 available hours, leaving 530 idle. Contribution per constrained hour is €1.8m ÷ 620 = about €2,903 before the step fixed cost, and €1,452 after it. That is the number to compare against any competing order.
Accept, subject to four conditions. First, verify that the €0.9m third-shift cost is genuinely variable; if it is a 12-month commitment, the contract must cover it even at low volume. Second, verify the €0.4m external-sourcing quote, because it is the only figure that could flip the decision. Third, cap the private-label volume at 530 hours without a full capacity review, so the contract cannot crowd out higher-margin business. Fourth, assess retail cannibalisation: if the retailer's brand takes shelf space from Nordica's own frozen brand, the true cost is higher than €0.4m.
3. What behavioural and accounting problem does the 8%-of-revenue overhead allocation create, and what would you change?
Read the worked answer
An 8% revenue levy is not a causal cost. It makes a division with €14m of contribution and €3m of segment margin look loss-making, punishes managers for growing revenue, and gives the division manager a false full-cost floor for pricing - which is exactly how the private-label contract is being evaluated. It also creates an incentive to shrink revenue to reduce the allocation.
Change the management reporting in three steps. First, present contribution margin and segment margin before group allocation as the primary view. Second, show group overhead as a single unallocated corporate cost, reconciled to the statutory accounts. Third, if allocation is required for external reporting or local tax, use a driver that reflects consumption - headcount, floor space, IT tickets - not revenue.
Keep both views in the board pack and label them clearly. The behavioural test is simple: a system that leads a division manager to argue for the closure of their own profitable-on-contribution division is misaligned. Fix the metric before making a closure decision, because the current numbers would justify almost any outcome the presenter wants.