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Question Bank ACCA F5 Performance Management

Exams from September 2017

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First Intuition 2017

i i Int ro duc t io n ACC A F5 Q uest i on Ba nk

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ACC A F5 Q uest i on Ba nk Int ro duc t io n i i i

C o m p u t e r o r p a p e r - b a s e d e x a m ?

Sessional computer based exams are available for papers F5 to F9. Until December 2017 these run alongside the traditional paper based exams and you may sit either.

At the time of printing this question bank, the ACCA had announced that they are hoping to phase out the paper exams from March 2018. If this happens you will then have to sit the CBE. If you are taking your exam from March 2018 onwards, please check the ACCA website for further detail www.accaglobal.com

The timing of the paper exam and the computer based exam differ. In the paper exam you will have 3 hours and 15 minutes. However, in the computer based exam you will be given 3 hours and 20 minutes, but there will be an extra five objective test questions, known as ‘seeded’ questions. The ACCA set seeded questions for control purposes only and there is no mark allocated to them. However, you will not know which of the questions is seeded at the point that you are answering the questions, so you will need to take the same approach to all questions.

The technical content of paper based and computer based exams is identical, but there is a slightly wider variety of question styles in the computer based exam.

You will find a variety of question styles in this question bank, so that you are prepared for the computer based exam as well as the paper one. You will find more detail about the computer based exams in the following places:

http://www.accaglobal.com/gb/en/student/exam-support-resources/fundamentals-exams-study-resources/f5/specimen-exams.html

and

http://www.accaglobal.com/content/dam/ACCA_Global/Students/exam/Guide%20to%20CBEs_FINAL.PDF

The ACCA has produced a specimen exam.

The paper version of the 2016 specimen exam is included at the back of this question bank.However, there is a computer based version of the specimen on the ACCA website. If you are taking the computer based exam , it is VITAL that you work through the computer based specimen, which can be found at the following:

https://sampletds1.pearsonvue.com/Minerva/startDelivery?sessionUUID=e9d2538e-a34f-4137-9e10-9bca83a3867a

In addition, it is VITAL that you look at the extra constructed response questions and the constructed response workspace information provided at:

https://sampletds1.pearsonvue.com/Minerva/startDelivery?sessionUUID=c1b72428-26de-4c09-9c0f-04c69ef893c5

http://www.accaglobal.com/









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iv Int ro duc t io n ACC A F5 Q uest i on Ba nk

Contents

Page

Computer or paper-based exam? iii

Tuition Questions 3

Tuition Answers 65

Revision Questions 139

Revision Answers 229

Exam paper questions and answers 347

Formulae sheet 379

Icons in this Question Bank

You will find a full debrief of this question on your online course

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ACC A F5 Q uest i on Ba nk Part 1 T ui t io n q ue s t io ns 1

PART 1 TUITION QUESTIONS

Objective test and Scenario

Syllabus area

Question no

Page ref Q

1: Specialist cost and management accounting techniques

Activity based costing 1-4 3 65 Scenario question: Duff Co 5-9 4 66

Target costing 10-16 5 66 Scenario question: Edward Co 17-21 7 68

Life cycle costing 22-26 8 69 Throughput accounting 27-32 9 69

Scenario question: Gopher Garage 33-37 11 70 Environmental accounting 38-40 12 72

2: Decision-making techniques

Relevant cost analysis 1-4 14 73 Cost volume profit analysis 5-11 15 73

Scenario question: Cardio Co 12-16 17 75 Limiting factors 17-22 18 76 Pricing decisions 23-28 20 77 Make-or-buy and other short-term decisions

Scenario question: Herera Co 29-33 22 78 Dealing with risk and uncertainty in decision-making 34-38 23 79

Scenario question: Louiedewie Co 39-43 25 80

3: Budgeting and control

Budgetary systems and type of budget 1-10 27 81 Quantitative analysis in budgeting 11-17 29 82 Standard costing 18-19 31 84

Scenario question: Kamal Co 20-24 31 84 Material mix and yield variances 25-28 33 85

Scenario question: Product Zed 29-33 34 86 Sales mix and quantity variances 34-35 35 87

Scenario question: Memia Co 36-40 36 88 Planning and operational variances 41-45 38 89

Scenario question: Demia Co 46-50 39 90 Performance analysis 51 41 91

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2 Part 1 T ui t io n q ue s t io ns ACC A F5 Q uest i on Ba nk

Syllabus area

Question no

Page ref Q

4: Performance measurement and control

Performance management information systems 1-5 42 92 Sources of management information 6-9 43 92 Management reports 10-12 44 93 Performance analysis in private sector organisations 13-17 45 94

Scenario question: Oliver’s Salon 18-22 46 94 Divisional performance and transfer pricing 23-29 47 96

Scenario question: Abel Co 30-34 50 97 Performance analysis in not-for-profit organisations and the public sector

35-37 51 98

External considerations and behavioural aspects 38-39 52 98

Long form

Question name

Syllabus area

Based on Past exam

Page ref Q A


1 Cut and Stitch Limiting factor analysis Q3 J10 (a)-(c) 53 99

2 WX Pricing Q3, J13, (b) amended 54 102

3 Gym Bunnies Risk and uncertainty in decision making

Q1, J13, (a) and (c) 55 105

3: Budgeting and control

1 PC Co Budgetary systems/Types of budget Q3, D11 57 109

2 The Safe Soap Co Materials mix and yield variances/Activity-based budgeting

Q5, D14 57 112

3 Bedco Planning and operational variances Q5, D13 58 114

4 Jump Performance analysis and behavioural aspects

Q5, J10 59 116

4: Performance measurement and control

1 Web Co Performance analysis in private sector organisations

Q3, D12 61 119

2 AT Co Performance analysis in private sector organisations

Q2, D10 62 122

3 Bath Co Divisional performance and transfer pricing

Q2, D11, (b) and (c) 63 126

4 Hammer Co Divisional performance and transfer pricing

Q4, J10 64 130

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ACC A F5 Q uest i on Ba nk Tuition questions: 1: Specialist cost and management accounting techniques 3

P A R T 1 T U I T I O N Q U E S T I O N S : O b j e c t i v e t e s t a n d S c e n a r i o

1 : S p e c i a l i s t c o s t a n d m a n a g e m e n t a c c o u n t i n g t e c h n i q u e s

Activity based costing 1 RDE plc uses an activity based costing system to attribute overhead costs to its three products.

The following budgeted data relates to the year to 31 December 20X8:

Product X Y Z Production units (000) 15 25 20 Batch size (000 units) 2.5 5 4

Machine set up costs are caused by the number of batches of each product and have been estimated to be $600,000 for the year.

Calculate the machine set up costs that would be attributed to each unit of Product Y to the nearest $0.01.

$

2 According to ABC, which of the following is the correct statement of the hierarchy of levels of activity within an organisation, ranked from the bottom upwards?

Facility sustaining

Product

Product sustaining

Batch

3 For which one of the following costs might the number of production runs be a cost driver?

Production scheduling Product development costs Short-run variable overhead costs Materials handling and despatch costs

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4 Tuition questions: 1: Specialist cost and management accounting techniques ACC A F5 Q uest i on Ba nk

4 KY makes several products including Product W. KY is considering adopting an activity-based approach for setting its budget. The company’s production activities, budgeted activity costs and cost drivers for next year are given below.

Activity

$

Cost driver

Cost driver quantity

Set up costs 200,000 No. of set ups 800 Inspection / quality control 120,000 No. of quality tests 400

Machines are reset after each batch. Quality tests are carried out after every second batch.

The budgeted data for Product W for next year are:

Direct materials $2.50 per unit Direct labour 0.03 hours per unit @ $18 per hour Batch size 150 units Budgeted production 15,000 units

Calculate, using activity based costing, the budgeted total production cost per unit for Product W to the nearest $0.01.

$

DUFF CO The following scenario relates to questions 5-9. Each question is worth 2 marks.

Duff Co manufactures three products X, Y and Z. Each product uses the same materials and the same type of direct labour but in different quantities. For many years Duff Co has been using full absorption costing and absorbing overheads on the basis of direct labour hours, but is considering switching to activity-based costing (ABC).

The following data relates to the three products. Product X Product Y Product Z

20,000 16,000 22,000 Direct material cost ($ per unit) 25 28 22 Direct labour (hours per unit) 2.5 3 2 Direct labour cost ($ per unit, @ $12 per hour) 30 36 24 Machine hours per unit 1.5 1.25 1.4 Batch size (units) 500 800 400 Number of purchase orders per batch 4 5 4

Duff Co also expects to incur the following indirect costs.

Cost pools $ Machine set up costs Number of batches 280,000 Material ordering costs Number of purchase orders 316,000 Machine running costs Number of machine hours 420,000 General facility costs Number of machine hours 361,400 1,377,400

5 Calculate the budgeted full production cost per unit of product X using Duff Co’s current method of absorption costing, to the nearest $0.01.

$

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6 Calculate the total material ordering costs for Product Y to the nearest $.

$

7 Calculate the machine running and general facility costs per unit for Product Z to the nearest $0.01.

$

8 Calculate the budgeted full production cost per unit of product X using ABC, to the nearest $0.01, on the basis that total overheads allocated to Product X under activity-based costing are $492,824.

$

9 Which TWO of the following statements about ABC are correct?

ABC is only useful for production overheads. ABC is most useful when overheads are related to volume. ABC is an absorption costing system. ABC must be based on activities that are measurable in quantitative terms.

Target costing 10 The selling price of Product X is set at $350 for each unit and sales for the coming year are

expected to be 500 units.

A return of 30% on the investment of $300,000 in Product X will be required in the coming year.

What is the target cost for each unit of Product X?

$

11 A company has calculated that the target cost for Product Z is $40 per unit. This is based on an expected production and sales volume of 3,000 units. The company wishes to earn a profit of 25% on sales.

What market price is the target cost for Product Z based on (to two decimal places)?

$10.00 $30.00 $50.00 $53.33

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12 T Company uses target costing. The company wishes to close the target cost gap that exists for one of its products.

Which of the following may be used to close the target cost gap?

Replace skilled workers with less skilled workers for the more basic production tasks Replace existing material with higher quality material Raise the selling price of the product Use a higher grade of labour to complete work ahead of schedule

13 The following are all steps in the implementation of the target costing process for a product. Rank them in the correct sequence.

Calculate the target cost

Calculate the target cost gap

Calculate the current cost

Set the required profit

Set the selling price

14 Which of the following statements describes target costing?

It calculates the expected cost of a product and then adds a margin to it to arrive at the target selling price.

It allocates overhead costs to products by collecting the costs into pools and sharing them out according to each product’s usage of the cost driving activity.

It identifies the market price of a product and then subtracts a desired profit margin to arrive at the desired cost.

It identifies different markets for a product and then sells that same product at different prices in each market

15 Saris Co has set a budgeted labour cost based on the assumption of a learning rate of 80%. Its Production Director has now found that the actual learning rate is 70%.

Which of the following statements is true?

The cost gap will increase and the target cost will increase. The cost gap will decrease and the target cost will decrease. The cost gap will remain the same and the target cost will decrease. The cost gap will decrease and the target cost will remain the same.

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16 Which TWO of the following techniques are relevant to target costing?

Value analysis Iso-contribution analysis Variance analysis Functional analysis

EDWARD CO The following scenario relates to questions 17-21. Each question is worth 2 marks.

Edward Co assembles and sells many types of radio, and also repairs radios for customers. It is considering extending its product range to include digital radios. These radios produce a better sound quality than traditional radios and have a large number of potential additional features not possible with the previous technologies.

A radio is produced by assembly workers assembling a variety of components. Production overheads are currently absorbed into product costs on an assembly labour hour basis.

Edward Co is considering a target costing approach for its new digital radio product. A selling price of $44 has been set in order to compete with a similar radio on the market that has comparable features to Edward Co’s intended product. The board have agreed that the acceptable margin (after allowing for all production costs) should be 20%.

Cost information for the new radio is as follows.

Component 1 (Circuit board) – these are bought in and cost $4.70 each.

Component 2 (Wiring) – in an ideal situation 25 cm of wiring is needed for each completed radio. However, Edward Co estimates that 4% of the purchased wire is lost in the assembly process. Wire costs $4.80 per metre to buy.

Other materials – other materials cost $8.10 per radio.

Assembly labour – these are skilled people who are difficult to recruit and retain. It takes 30 minutes to assemble a radio and the assembly workers are paid $12.60 per hour. It is estimated that 10% of hours paid to the assembly workers is for idle time.

Production overheads – variable production overhead for each radio is $20 per hour and fixed overhead for each radio is $12 per hour.

17 Which TWO of the following would be benefits of introducing a target costing approach?

Edward Co will have a greater internal focus on its product development. Cost control can begin at the design stage. Edward Co will be able to pass on cost increases to its customers. The radio will only include features that the customer regards as valuable.

18 Calculate the reduction in cost that would be achieved by eliminating the labour idle time and the wire lost in the assembly process, to the nearest $0.01.

$

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19 Assuming a change in supplier meant that the cost of Component 2 fell to $4.40 per metre, there was no idle time with labour and all other costs remained the same, calculate the cost gap to the nearest $0.01.

$

20 Which TWO of the following are measures that Edward Co might wish to use to reduce the cost gap?

Only including standard components in the radio Including additional features that the competitor’s radio does not have Analysing costs into cost pools Increasing the automation of the manufacturing process

21 Which of the following would be a problem with introducing a target cost approach to the repair services provided by Edward Co?

The outcomes of the repair services cannot be specified properly. The repair work carried out will vary according to the problems found. The time of the skilled labour used in the repair process has to be costed. The service is carried out when the customer requires it.

Life cycle costing 22 Which THREE of the following costs are typically costs which occur at the Research and

Development stage of a product’s life cycle?

Design costs Testing costs Promotional costs Production facility investment costs Customer support costs Inventory costs

23 A company is about to launch a new product. Total lifetime sales are expected to be 44,000 units. $3,250,000 has been incurred on design and development. Promotional costs over the product’s life are expected to be $2,000,000. De-commissioning of the machine will cost $250,000 at the end of the product’s life. Production of the product is expected to cost an average of $150 per unit.

What is the life cycle cost per unit over the product’s life?

$

24 Which of the following is NOT a benefit of life cycle costing?

Improved awareness of total costs Assists with long-term planning Emphasises the importance of early stage design and development costs Results in a market driven pricing strategy

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25 In calculating the life cycle costs of a product, which of the following items would be included?

Included Excluded Research and development Planning and concept design Testing Production Advertising Distribution and customer service

26 When are the bulk of a product's life cycle costs normally determined?

At the design/development stage When the product is introduced to the market When the product is in its growth stage On disposal

Throughput accounting 27 A company manufactures two products which requires three different machine processes:

Processing time per metre in hours Product A Product B Pressing 0.50 0.50 Stretching 0.25 0.40 Rolling 0.40 0.25

Each product requires 1 metre of material/unit. Production for the month is expected to be 10,000 metres for Product A and 15,000 for Product B.

Available resources for the month are expected to be: Available resource Material 30,000 metres Pressing time 13,000 hours Stretching time 8,000 hours Rolling time 7,750 hours

Using throughput accounting, what is the bottleneck resource?

Material Pressing time Stretching time Rolling time

28 A company manufactures a product which requires two hours per unit of machine time. Machine time is a bottleneck resource as there are only five machines which are available for 24 hours per day, five days per week. The product has a selling price of $65 per unit, direct material costs of $25 per unit, labour costs of $20 per unit and factory overhead costs of $10 per unit. These costs are based on weekly production and sales of 300 units.

What is the throughput accounting ratio (to 2 decimal places)?

$

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29 Z Company uses throughput accounting to help assess the efficiency of its operations.

Which of the following would improve its throughput accounting ratio?

Introduce restrictions specifying the maximum allowed hours for each shift Replace existing material with higher quality material Raise the selling price of the product Use a higher grade of labour for the work

30 X Co uses a throughput accounting system. Details of product A, per unit, are as follows:

Selling price $320 Material costs $80 Conversion costs $60 Time on bottleneck resource 6 minutes

What is the return per hour for product A?

$

31 Which TWO of the following features distinguish throughput accounting from other costing systems?

It does not attempt to maximise profit. Work in progress is valued at material cost only. Costs are allocated to products when they are completed or sold. Only labour cost is treated as a variable cost.

32 Which of the following is NOT an influence on the throughput contribution measure used in a system of throughput accounting?

Direct material price Direct material usage Direct labour price The volume of throughput

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GOPHER GARAGE The following scenario relates to questions 33-37. Each question is worth 2 marks.

Gopher Garage offers MOTs and full services to its customers. All MOTs and services have to be carried out by one of the four mechanics at the garage. They are assisted by three trainees. The garage’s two receptionists also deal with customers when they arrive and when they pay for the work that has been done.

The average length of time that is spent by each member of staff on work for each customer is as follows:

MOTs Service Hours Hours Mechanic 1.25 3.20 Trainee 0.50 1.50 Receptionist 0.25 0.30

The garage is open for 10 hours a day, 5 days a week. It is closed for public holidays that total two weeks in any year. Annual staff salaries are $55,000 for each mechanic, $25,000 for each trainee and $30,000 for each receptionist. The cost of oil and other materials used during MOTs is $15 per customer, and the cost of oil and other materials used during services is $25 per customer. Other garage costs (excluding raw materials and labour) amount to $125,000.

Gopher Garage charges $120 for each MOT and $200 for each service.

The garage’s accountant has identified mechanic time as being the bottleneck activity.

33 What is the annual capacity of the bottleneck activity in terms of the maximum number of each activity?

MOTs

Services

34 The garage’s accountant has calculated the cost per hour to be $48.

What is the throughput accounting ratio for both services?

MOT 1.75 Service 1.14 MOT 0.57 Service 0.88 MOT 1.16 Service 0.56 MOT 0.86 Service 1.79

35 What would be the effect on the bottleneck if the garage employed another three mechanics?

The mechanics’ time would be a bottleneck for MOTs only. The mechanics’ time would be a bottleneck for services only. The mechanics’ time will remain the bottleneck for both MOTs and services. There will no longer be a bottleneck.

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36 Which TWO of the following measures could the garage use to improve the throughput accounting ratio?

Decrease the time spent by the mechanics on each customer Decrease the time spent by the trainees on each customer Decrease the operating expenses of the garage Decrease the price of the work done for each customer

37 Which of the following statements regarding the theory of constraints is/are true?

True False It can be applied to the management of all external factors affecting the organisation.

It is concerned with overcoming a bottleneck identified in a single activity.

It aims to limit the amount of non-bottleneck resources used.

It tries to avoid the build-up of inventories.

Environmental accounting 38 Which of the following statements about environmental accounting is/are true?

True False A significant problem for environmental accounting is that it is difficult to measure environmental costs.

An aim of environmental accounting is to encourage organisations to quantify the costs and benefits of improving environmental practices.

The use of input/output analysis forces an organisation to monitor the cost of wasted material and other environmental pollution.

It is not possible to use activity based costing to identify cost drivers for environmental costs.

39 Using the US Environmental Protection Agency’s definition of environmental costs, how would the cost of producing an environmental report be classified?

Conventional cost Contingent cost Image and relationship cost Potentially hidden cost

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40 When activity-based costing is used for environmental accounting, which statement is correct for environment-related costs and environment-driven costs?

Environment-related costs can be attributed to joint cost centres and environment-driven costs cannot be.

Environment-driven costs can be attributed to joint cost centres and environment-related costs cannot be.

Both environment-related costs and environment-driven costs can be attributed to joint cost centres.

Neither environment-related costs nor environment-driven costs can be attributed to joint cost centres.

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14 Tu i t io n q ue st io ns : 2 : D ec i s io n-m ak in g tec h ni q u es ACC A F5 Q uest i on Ba nk

2 : D e c i s i o n - m a k i n g t e c h n i q u e s

Relevant cost analysis 1 L is currently quoting for a job that will involve the use of three materials A, B and C. Material A

is currently in inventory with a book value of $4,000. If it was used on the job, it would need to be replaced at a cost of $5,000. Its scrap value is $1,000. There is a surplus of Material B in inventory. Its book value is $3,000 and it has no realisable or scrap value. There is a surplus of Material C in inventory. Its book value is currently $6,000. It could be sold for $4,500 or used on another job as a substitute for Material D, which L currently does not have in inventory. The costs of obtaining D would be $4,250.

What is the relevant cost to L of using materials in inventory on this job?

$

2 A company is considering a one-year contract which will require three skilled workers. Skilled workers can be hired on a temporary basis for one year at a cost of $20,000 per worker. Alternatively, the company could retrain some existing workers who are currently paid $12,000 per worker. The training would cost $5,000 in total. If these existing workers were used, the company would need to replace them at a total cost of $45,000.

What is the total relevant cost of labour for the one-year contract?

$60,000 $41,000 $45,000 $50,000

3 Studley Co purchased a machine three years ago for $15,000. It can be sold now for $9,000. The current replacement cost of an equivalent machine is $14,000. If Studley Co keeps the machine for use in the business it is expected to generate net income of $17,000.

What is the relevant cost of the machine?

$9,000 $14,000 $15,000 $17,000

4 A company has received a special order for which it is considering the use of material B which it has held in its inventory for some time. This inventory of 945 kg was bought at $4.50 per kg. The special order requires 1,500 kg of material B. If the inventory is not used for this order, it would be sold for $2.75 per kg. The current price of material B is $4.25 per kg.

What is the total relevant cost of material B for the special order, to the nearest $0.01?

$

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ACC A F5 Q uest i on Ba nk Tu i t io n q ue st io ns : 2 : D ec i s io n-m ak in g tec h ni q u es 15

Cost volume profit analysis 5 A business manufactures a single product which it sells for $50. The variable costs of production

are $10 a unit. Next month fixed costs will be $800,000. The Finance Director wants to realise a profit of $120,000. How many units must be sold to generate this profit?

6 Which of the following is the correct formula to calculate the break-even sales volume (in units) for a business?

𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹 𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝐶𝐶𝑐𝑐𝐶𝐶𝑐𝑐𝐶𝐶𝐹𝐹𝐶𝐶𝐶𝐶𝑐𝑐𝐹𝐹𝑐𝑐𝐶𝐶 𝑝𝑝𝐹𝐹𝐶𝐶 𝐶𝐶𝐶𝐶𝐹𝐹𝑐𝑐

𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹𝐹 𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝐶𝐶𝑆𝑆 𝐶𝐶𝑟𝑟𝑐𝑐𝐹𝐹𝑐𝑐

𝑉𝑉𝑟𝑟𝐶𝐶𝐹𝐹𝑟𝑟𝐶𝐶𝑉𝑉𝐹𝐹 𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝐶𝐶𝑐𝑐𝐶𝐶𝑐𝑐𝐶𝐶𝐹𝐹𝐶𝐶𝐶𝐶𝑐𝑐𝐹𝐹𝑐𝑐𝐶𝐶 𝑝𝑝𝐹𝐹𝐶𝐶 𝐶𝐶𝐶𝐶𝐹𝐹𝑐𝑐

𝑉𝑉𝑟𝑟𝐶𝐶𝐹𝐹𝑟𝑟𝐶𝐶𝑉𝑉𝐹𝐹 𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝑐𝐶𝐶𝑆𝑆 𝐶𝐶𝑟𝑟𝑐𝑐𝐹𝐹𝑐𝑐

7 A company makes a single product which it sells for $30 per unit.

Fixed costs are $18,000 per month. The contribution/sales ratio is 40%.

Next month the company’s profit target is $36,000.

What sales volume is required to achieve next month’s profit target?

1,200 units 1,500 units 3,000 units 4,500 units

8 ZT Ltd produces and sells three products, A,B and C in the ratio 1:2:1.

Sales price and variable cost data for the products is as follows:

A B C Selling price ($) 8 8 10 Variable cost ($) 5 4.50 6

ZT Ltd has fixed costs of $70,000

What is ZT’s break-even sales revenue?

$

9 A profit-volume chart can illustrate the relationship between

Sales revenue and costs Sales volume and costs Sales volume, revenue and costs Sales volume and profit

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Fixed costs are $13,000 per month.

The contribution/sales ratio is 40%.

Sales revenue is $62,500.

What is the margin of safety in units?

11 Matt Milk Bar is planning to invest in a new blending machine, which will expand the range of drinks it can offer. Its owner has estimated the following daily results for drinks associated with the new machine:

$ Sales (200 units) 600 Variable costs (450) Contribution 150 Incremental fixed costs (45) Profit 105

Which of the following statements that relate to the sensitivity of the investment are true?

True False

The investment is more sensitive to a change in sales price than sales volume.

If variable costs increase by 25% the investment will make a loss.

The margin of safety is 92.5%.

The investment’s sensitivity to incremental fixed costs is 70%.

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CARDIO CO The following scenario relates to questions 12-16. Each question is worth 2 marks.

Cardio Co manufactures and sells three types of fitness equipment: treadmills (T), cross trainers (C) and rowing machines (R).

The budgeted sales prices and volumes for the next year are as follows:

T C R Selling price $1,600 $1,800 $1,400 Units 420 400 380

The budgeted revenues and costs for each product are shown below. T C R $ $ $ Sales revenues 672,000 720,000 532,000 Variable costs 263,760 286,400 201,780 Fixed costs 73,940 78,100 59,320

Cardio Co’s Finance Director is considering various possibilities, including aiming for a contribution/sales ratio of 65%. He is also looking at a scenario where the contribution/sales ratio was 60%, with sales revenues falling to $1,600,000 and fixed costs to $175,000.

12 Calculate the weighted average contribution to sales ratio for Cardio Co to the nearest 0.01%.

%

13 Calculate the breakeven sales revenue at a Contribution/Sales ratio of 65%, to the nearest $000.

$ 000

14 Calculate the margin of safety at a contribution/sales ratio of 60%, with sales revenues having fallen to $1,600,000 and fixed overheads to $175,000, to the nearest 0.1%.

%

15 Cardio Co’s production department currently has problems meeting demand for these products, although this will be addressed in the medium-term by a large investment in manufacturing facilities. For now, Cardio Co’s Chief Executive has instructed the Production Department to prioritise manufacture of products by the contribution per unit that they make.

Which of the following would NOT occur if the products making the highest contribution were manufactured and sold first?

Cardio Co will cover its fixed costs more quickly. Fewer unit sales will need to be made in order to break even. The breakeven point will be lower. The C/S ratio will rise.

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16 Once Cardio Co’s new manufacturing facilities are open, the company intends to introduce a new, mobile, cross-trainer. This will be supported by a large advertising and promotion campaign to encourage demand. The intention is initially to charge a high price for this product, although it may fall over time.

Which TWO of the following are reasons why Cardio Co may wish to charge a high price initially for the mobile cross-trainer?

The sensitivity of its demand to price is uncertain. The product is likely to have a long life cycle. It will generate high initial cash flows to cover the marketing expenditure. It wishes to discourage competitors from entering the market.

Limiting factors 17 TT Co operates a JIT policy with minimal inventories. It manufactures a single product with the

following cost card:

Product A $ Materials (at $2 per kg) 8 Labour (at $5 per hour) 10 Other overheads 7 Total production cost 25

Next month demand is 4,000 units, 15,000 kg of material are available and 8,500 labour hours.

What is the limiting factor next month?

Sales demand Material only Labour only Material and labour

18 Conrad Co manufactures two products, X and Y. Details of both products are as follows:

Product X Product Y $ $ Selling price 105 136 Materials 18 16 Labour (at $10 per hour) 30 45 Variable overhead 12 15 Fixed overhead 20 25 Profit per unit 25 35 Maximum demand (units) 800 1,500

It has selected the optimal production plan to maximise profit for the month based on 4,650 labour hours. An extra 90 hours have become available at the standard rate of $10 per hour.

How much additional profit can be earned in the month?

$

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19 The following statements have been made about linear programming:

1 The shadow price of a scarce resource is the increase in contribution available if one more unit of the resource is obtained

2 Non-scarce resources always have zero slack

Which of the above statements is/are true?

1 only 2 only Neither 1 nor 2 Both 1 and 2

20 A company has the following production planned for the next four weeks. The figures reflect the full capacity level of operations. Planned output is equal to the maximum demand per product.

Product A B C D $ per unit $ per unit $ per unit $ per unit Selling price 160 214 100 140 Raw material cost 24 56 22 40 Direct labour cost 66 88 33 22 Variable overhead cost 24 18 24 18 Fixed overhead cost 16 10 8 12 Profit 30 42 13 48

Planned output 300 125 240 400 Direct labour hours per unit 6 8 3 2

The direct labour force is threatening to go on strike for two weeks out of the coming four. This means that only 2,160 hours will be available for production rather than the usual 4,320 hours.

If the strike goes ahead, which TWO products should be produced if profits are to be maximised?

A B C D

21 Highfly Co manufactures two products, X and Y, and any quantities produced can be sold for $60 per unit and $25 per unit respectively.

Variable costs per unit of the two products are as follows:

Product X Product Y $ $ Materials (at $5 per kg) 15 5 Labour (at $6 per hour) 24 3 Other variable costs 6 5 Total 45 13

Next month, only 4,200 kg of material and 3,000 labour hours will be available. The company aims to maximise its profits each month.

The company wants to use the linear programming model to establish an optimum production plan. The model considers ‘x’ to be number of units of Product X and ‘y’ to be the number of units of Product Y.

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Which of the following statements of objective function and constraints is/are correct?

Correct Incorrect Objective function 60x + 25y Material constraint 3x + y ≤ 4,200

Labour constraint 4x + 0.5y ≥ 3,000

22 C Co uses material B, which has a current market price of $0·80 per kg. In a linear program, where the objective is to maximise profit, the shadow price of material B is $2 per kg.

Which TWO of the following statements are correct?

Contribution will be increased by $2 for each additional kg of material B purchased at the current market price.

The maximum price which should be paid for an additional kg of material B is $2. Contribution will be increased by $1·20 for each additional kg of material B purchased at

the current market price. The maximum price which should be paid for an additional kg of material B is $2·80.

Pricing decisions 23 Clogs Co sells its most popular style of wooden shoes at a profit of 20% on the current selling

price of $35. Due to a material shortage, the costs of producing this style of shoe are expected to increase by 5% next year.

What will the new selling price need to be to maintain the 20% profit margin, to the nearest $0.01?

$

24 Longbourne Co manufactures and sells covers for phones and MP3 players. The current selling price is $10 each. Weekly demand is currently 300 covers. If Longbourne increased its price by $1, the demand would drop to 250 covers.

What is the straight line demand equation for Longbourne Co?

P = 10 – 0.02Q P = 10 – 0.004Q P = 16 – 0.02Q P = 16 – 0.004Q

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25 A car rental company charges different prices to customers hiring the same make of car, depending on the day of the week, the month of the year and the length of the rental. The following statements have been made about its pricing strategy.

1 The company has adopted a price discrimination strategy.

2 The company’s strategy is successful because all customers have the same price elasticity of demand.



26 DCT Co cleans carpets. It determines its selling price by adding a mark-up of 40% to total costs. Variable costs are $5 per carpet for cleaning and $1 for advertising. Based on an expected volume of 2,000 carpets, fixed cleaning costs are expected to be $9,000.

What should DCT charge per carpet for cleaning?

$7.00 $8.40 $10.50 $14.70

27 A company sets a low initial price for its product with the aim that high volumes will be sold and market share gained quickly.

This is an example of the application of which pricing policy?

Target pricing Volume discounting Penetration pricing Price skimming

28 A company has entered two different new markets.

In market A, it is initially charging low prices so as to gain rapid market share while demand is relatively elastic.

In market B, it is initially charging high prices so as to earn maximum profits while demand is relatively inelastic.

Which price strategy is the company using in each market?

Price discrimination

Penetration pricing

Market skimming

A

B

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Make or buy and other short-term decisions

HERERA CO The following scenario relates to questions 29-33. Each question is worth 2 marks.

Herera Co manufactures and sells three products, details of which are as follows:

Product X Product Y Product Z

$ $ $

Selling price 80 90 100

Materials 20 30 25

Labour 30 15 40

Share of general overhead (based on maximum demand) 10 15 15

Profit per unit 20 30 20

The same employees are used to make all three products. The maximum demand for any product is 1,000 units per month. Available labour is restricted to $55,000 monthly.

An outside manufacturer has now offered to supply Herera at the following costs:

Product X Product Y Product Z

Cost to buy in ($ per unit) 55 65 105

29 If Herera Co wishes to use the outside manufacturer wherever it is profitable, which products should Herera Co buy in?

X only Y only Both X and Y X, Y and Z

30 What would be the order of priority of making the products in house?

X Y Z

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31 Herera Co has just received a special contract to make Product Y. Labour will not be a constraint now, but it does need additional machine capacity. It purchased a machine that could be used three years ago for $25,000. It can be sold now for $8,000. The current replacement cost of an equivalent machine is $10,000. If Herera Co keeps the machine for use elsewhere in the business it is expected to generate net income of $11,000.

What is the relevant cost of the machine for the special contract?

$8,000 $10,000 $11,000 $17,000

32 Which of the following represents the minimum price that Herera Co could charge for the contract?

Marginal cost Full cost Marginal cost plus incremental costs Incremental costs plus opportunity costs

33 On the basis of winning the special contract to manufacture Product Y, Herera Co now believes it has evidence that it can apply price discrimination to Product Y.

Which of the following conditions must hold if price discrimination is to be effective?

There must be little or no chance of a black market developing. There must be little or no chance that competitors can and will undercut the firm's prices

in the lower-priced market segments. Each of the sectors of the market must show similar intensities of demand. The cost of segmentation and administration should exceed the extra revenue derived

from the price discrimination strategy.

Dealing with risk and uncertainty in decision-making 34 A decision maker who uses the maximax criteria to make decisions would be classified as:

Risk averse Risk seeking Risk neutral Risk managing

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35 A company is not sure whether to build a small or large café and past experience suggests there is a 40% chance that demand will be low.

Demand Size of restaurant Low High $ $ Small 400,000 600,000 Large (500,000) 1,000,000

The company has determined that building the small café will be best, based on the fact it has the highest expected value at $520,000.

The company could commission a survey which would accurately predict the level of demand.

What is the maximum that it should pay for the survey?

$

Use the following information to answer the next three questions.

Sarah owns a café on the beach at Sandsea that serves light lunches. She has analysed her results over the last summer and has found that they have varied according to the supplies she has ordered each day, and the daily demand levels, which have mostly been determined by the weather. Sarah has put together a payoff table that shows the level of daily profits the café would earn depending on the combination of demand and supply of lunches:

Daily supply (lunches) 50 75 100 125

50 $200 $160 $125 $95 Daily demand 75 $200 $300 $265 $235 (lunches) 100 $200 $300 $420 $390 125 $200 $300 $420 $540

36 If Sarah uses a maximax approach in decision-making, what level of supply will she choose?

50 75 100 125

37 If Sarah uses a maximin approach in decision-making, what level of supply will she choose?

50 75 100 125

38 If Sarah uses a minimax regret approach in decision-making, what level of supply will she choose?

50 75 100 125

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LOUIEDEWIE CO The following scenario relates to questions 39-43. Each question is worth 2 marks.

Louiedewie Co has identified an investment project and estimated the following cash returns for next year, depending on how strong competition is likely to be.

Estimated cash return ($) Probability No competition +150,000 0.35 Average competition +75,000 0.20 Strong competition -35,000 0.45

39 What is the expected cash return on the project?

$

40 If the project requires an investment of $80,000, what is the probability that it will be profitable?

Nil 0.35 0.55 0.65

41 Louiedewie Co is also bidding for three other contracts, which are awarded independently of each other. The board estimates it has a 45% chance of winning Contract A, 20% chance of winning Contract B, and 35% chance of winning Contract C. The profits from A, B and C are estimated to be $500,000, $550,000 and $575,000 respectively.

What is the expected value to the company of the profits from all three contracts?

$225,000 $500,000 $542,000 $536,250

42 Louiedewie Co’s contract manager has now claimed that if the company wins Contract A which is awarded first, it can use the knowledge it has gained to improve its chances of winning Contracts B and C. He claims its chances of winning contracts B will increase to 30% and its chances of winning Contract C will increase to 50%.

Calculate the expected value to the company of the profits from all three contracts if Contract A is won.

$

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43 The following statements have been made about the uses of expected value:

1 Expected values are used to promote a risk-seeking attitude to decision-making.

2 Expected values are more valuable as a guide to decision-making when they refer to outcomes that will occur many times.



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ACC A F5 Q uest i on Ba nk Tu i t io n q ue st io ns : 3 : B u dg et in g an d co n tro l 27

3 : B u d g e t i n g a n d c o n t r o l

Budgetary systems and type of budget 1 Which of the following would be considered as objectives of budgeting?

Objective Not objective Authorisation of expenditure Business expansion Performance monitoring Resource allocation

2 Which of the following statements about budgeting is/are true?

True False A budget helps to control an organisation by forcing it to create a plan.

A budget helps an organisation to co-ordinate the allocation of resources.

A budget can help an organisation to motivate staff. An organisation is legally required to prepare a master budget annually.

3 A budget which is broken down into departmental or functional objectives is likely to be MOST useful to an organisation’s:

Senior management Middle management Junior management All levels of management

4 Using variances to comparing actual performance against standard at the end of the period is:

A strategic planning tool A non-financial control technique A feed-forward control technique An example of feedback control

5 X Co uses rolling budgeting, updating its budgets on a quarterly basis. After carrying out the last quarter’s update to the cash budget, it projected a forecast cash deficit of $400,000 at the end of the year. Consequently, the planned purchase of new capital equipment has been postponed.

Which of the following types of control is the sales manager’s actions an example of?

Feedforward control Negative feedback control Positive feedback control Double loop feedback control

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28 Tu i t io n q ue st io ns : 3 : B u dg et in g an d co n tro l ACC A F5 Q uest i on Ba nk

6 The following statements have been made about the behavioural issues relating to the difficulty of targets:

1 If a budget is too easy, most staff will be motivated to excel as they will see the budget as realistic and attainable.

2 If a business wants to encourage staff to improve efficiency it is best to create a budget based on ideal conditions.



7 Match the following descriptions to the budgeting processes that they describe.

Rolling

Incremental

Flexible

Zero-based

Beyond budgeting

Set at the start of the year for various different activity levels

Continually extended by adding another budget period when the first budget period expires

Prepared by building on a previous period’s budgeted or actual figures

Uses adaptive management processes and procedures

8 Zed Co wishes to change from a top-down system of budgeting to a bottom-up system.

Which of the following difficulties is it most likely to encounter as a result of the change?

A lack of appropriate systems and spreadsheets A lack of comparative information Less ownership of the budget by staff Budgets will take longer to produce

9 Which of the following is an advantage of non-participative budgeting as compared to participative budgeting?

It increases motivation. It is less time consuming. It increases acceptance. The budgets produced are more attainable.

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10 Following complaints by its managers about the current system of budgeting, P is considering adopting principles of ‘beyond budgeting’. Which of the following is most likely to be a disadvantage of introducing ‘beyond budgeting’?

There will be more budgetary slack. More time will be spent on budgeting. It may be more difficult to co-ordinate the plans of different departments. It will lead to P becoming less focused on customer requirements.

Quantitative analysis in budgeting Use the following information to answer the next two questions.

Zee Ltd made 500 units of product Y in April with a total cost of $10,000, and 800 units in May with a total cost of $13,000. Using the high/low method of analysing costs:

11 What is the variable cost per unit, to the nearest $0.01?

$

12 What will the total cost be in June, if Zee makes 700 units?

$

13 TW is a company which designs and manufactures e-readers. From its past experiences, TW has realised that whenever a new engineer is employed, there is a learning curve with a 95% learning rate which exists for the first 20 jobs.

A new design engineer has just completed his first job in three hours.

Note: at the 95% learning rate the value of b is – 0.074 How long would it take the engineer to complete the sixth job (do all workings to 3 decimal places)? 2.45 hours 2.78 hours 3.00 hours 4.67 hours

14 The following statements have been made about budgeting techniques:

1 Learning curves are of limited relevance in a modern manufacturing business where production is all automated.

2 Where there is uncertainty surrounding the annual sales figure for a product, the use of expected values may help quantify the long-run average sales figure.



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15 Which of the following statements about using spreadsheets in budgeting is/are true?

True False Spreadsheets can easily take account of lots of qualitative factors.

Spreadsheets are useful when the values of the inputs to the budget are likely to change.

Spreadsheets are only as accurate as the formulae and other inputs that they depend on.

Spreadsheets allow for the analysis of large volumes of quantitative data.

16 A company predicted that the learning rate for production of a new product would be 80%. The actual learning rate was 75%. The following possible reasons were stated for this:

I Additional training was given to the workforce before they started to produce the product.

II Unexpected problems were encountered with production.

III Unexpected changes to Health and Safety laws meant that the company had to increase the number of breaks during production for employees.

Which of the above reasons could have caused the difference between the expected rate of learning and the actual rate of learning?

All of the above II and III only I only None of the above

17 The accountant of West Co is currently preparing the company’s annual flexed budget. She has calculated that the maximum production capacity is 350,000 units and also come up with the following figures:

Production units 250,000 300,000 325,000 $ $ $ Material costs 1,500,000 1,800,000 1,950,000 Labour costs 1,250,000 1,500,000 1,625,000 Fixed costs 600,000 600,000 600,000

In addition, for each increment of 40,000 units produced, one supervisor will need to be employed, at an annual salary of $30,000.

What will be the total production cost if production is 90% of total capacity?

$

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Standard costing 18 Which of the following statements about standard costing is/are true?

True False Standard costs should only ever be based on marginal costing principles.

The use of basic standards is likely to give rise to meaningful variances.

Current standards provide the best basis for motivating employees to improve performance.

Basic standards are short-term targets and useful for day-to-day control purposes.

19 Standard costing may be used for which FOUR of the following purposes?

Planning Valuing inventory Meeting the legal requirement to report standard costs to shareholders Claiming tax back Assessing performance Motivating staff

KAMAL CO The following scenario relates to questions 20-24. Each question is worth 2 marks.

Kamal Co has produced the following performance analysis for the January to March quarter during which no changes were made to the specification of its product. Budget Actual Number of units 6,000 7,200 $ $ Revenue 540,000 633,600 Labour (48,000) (58,716) Materials (210,000) (205,000) Fixed overheads (69,000) (79,500) Profit 213,000 290,384

20 The following statements have been made:

1 The company must have dropped the selling price in the period. 2 Overheads have increased as a result of the increase in sales volume.



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21 What should the profit be according to the flexed budget?

$

22 As a result of the results in January to March, Kamal Co reconsidered its approach to budgeting and adopted a form of rolling budgeting, starting in April for the next twelve months. The budgeted figures for the remainder of the year before the rolling budget was introduced were as follows:

$ April-June 550,000 July-September 560,000 October-December 575,000

Kamal Co amended the budget so that budgeted sales for April-June were 20% higher than in the original budget, and then increased by 5% in July-September and October-December. It did not subsequently amend the budget for July-September. Actual sales for July-September were $610,000.

Calculate the difference in the total sales operational variance, using the original budgeted and revised (rolling) budgeting figures.

$

23 One of the directors has proposed that Kamal Co should consider introducing a system of zero-based budgets for certain activities, for example marketing.

Which of the following would be considered in relation to the marketing department under zero-based budgeting?

Considered Not considered Whether a marketing initiative should be undertaken at all

Whether the marketing department should be outsourced

Whether some or all of the activities that are part of a proposed marketing campaign are justified

Whether some or all of the activities that are part of a proposed marketing campaign can be done more cheaply

24 The following statements have been made about the rolling and zero-based approaches to budgeting:

1 When pricing and resources are uncertain, rolling budgets are likely to provide better information for control and decision-making.

2 Zero-based budgeting is likely to identify opportunities to carry out activities more efficiently.



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Material mix and yield variances 25 A company has a process in which the standard mix for producing 9 litres of output is as follows:

$ 4.0 litres of D at $9 per litre 36.00 3.5 litres of E at $5 per litre 17.50 2.5 litres of F at $2 per litre 5.00 58.50

A standard loss of 10% of inputs is expected to occur. The actual inputs for the latest period were:

$ 4,300 litres of D at $9 per litre 38,700 3,600 litres of E at $5 per litre 19,800 2,100 litres of F at $2 per litre 4,620 63,120 Actual output for the period was 9,100 litres.

What is the materials mix variance?

Adverse Favourable

$...................

26 A company that manufactures luxury biscuits has decided to amend the ingredients mix to include more fruit and nuts which are expensive and less oats which are cheap.

The following have arisen:

1 An adverse materials mix variance 2 A lower quality biscuit

Which of the above are most likely to be a result of the decision to change the ingredient mix?


27 Which of the following is a NOT a method of controlling a company’s production process?

Appointment of a machine supervisor Training for customer service team Sample testing of batches of product Monitoring of materials and labour variances

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28 A company manufactures Product P by mixing three materials. The standard material quantity and material cost per unit of Product P are as follows:

$ Material W 12 kg @ $5.00 60 Material X 18 kg @ $6.00 108 Material Y 20 kg @ $8.00 160 328

In February, the actual mix used was as follows: Quantity $ Material W 970 kg 4,947 Material X 1,230 kg 7,134 Material Y 1,400 kg 11,060

The actual output was 76 units of Product P. What was the material yield variance for February?

Adverse Favourable

$...................

PRODUCT ZED The following scenario relates to questions 29-33. Each question is worth 2 marks.

To produce 15 litres of product Zed, a standard input of 16 litres is required, made up of 9 litres of Chemical A and 7 litres of Chemical B. Chemical A has a standard cost of $10 per litre and Chemical B has a standard cost of $15 per litre.

During September, the actual results showed that 1,650 litres of product Zed were produced, using a total input of 900 litres of Chemical A and 900 litres of Chemical B (1,800 litres in total).

The price/litre was as budgeted for both chemicals.

29 The following statements have been made about the period:

1 There was no materials price variance. 2 The materials yield variance was favourable.

Which of the above statements are true?


30 What was the materials mix variance in September, to the nearest $0.01?

Adverse Favourable

$...................

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31 The following statements have been made about mix variances

1 Mix variances help managers identify problems with the quality of output.

2 Adverse mix variances over a period are likely to have an adverse effect on labour efficiency variances.



32 The production department now believes that the total input of 900 litres of Chemical A and 900 litres of Chemical B (1,800 litres in total) should only have produced 1,500 litres of product Zed.

Calculate the material usage operational variance to the nearest $0.01.

Adverse Favourable

$...................

33 Which of the following factors would explain an adverse material usage planning variance?

Explain Not explain Changes in the production process causing increased loss of materials

A higher than expected level of waste of materials Quality control identifying a high proportion of materials as sub-standard

A new supplier supplying poorer quality materials

Sales mix and quantity variances 34 A company which sells a range of different breakfast cereals experiences an adverse sales mix

variance.

Which of the following is the most likely cause?

The number of people eating breakfast cereals has fallen. The company has increased the price of its cereals. The company has spent too much money on marketing. Cost-conscious customers are switching to lower margin cereals in the range.

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35 The following budgeted data for a particular period was available for a company selling two products:

Sales price per unit Variable cost per unit Sales volume in units Product A $20 $8 15,840 Product B $24 $11 10,560

The actual results for the period were as follows:

Sales price per unit Variable cost per unit Sales volume in units Product A $22 $8 14,200 Product B $26 $11 12,500

What is the total sales quantity contribution variance for the period?

Adverse Favourable

$...................

MEMIA CO The following scenario relates to questions 36-40. Each question is worth 2 marks.

Memia Co makes televisions and computers. The standard costs and revenue for each television are as follows:

$ Standard cost 130 Standard contribution 80 Standard sales price 210

The standard costs and revenue for each computer are as follows:

$ Standard cost 210 Standard contribution 100 Standard sales price 310

Budgeted production and sales were 12,000 televisions (10% of the market) and 8,000 computers.

As more people are watching TV on their computers, the market for televisions has shrunk to 100,000. Memia Co’s actual sales for the period were 11,000 televisions with total revenue of $2,200,000. However, Memia Co did sell 14,000 computers.

36 The following statements have been made about the total sales variances for televisions:

1 The total sales volume variance has all arisen due to the shrinking market.

2 The only sales price variance is an operational variance of $110,000 adverse.



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37 Calculate the sales market size and share variances for televisions.

Market size

Adverse Favourable

$...................

Market share

Adverse Favourable

$...................

38 Calculate the sales mix variance.

Adverse Favourable

$...................

39 Calculate the sales quantity contribution variance.

Adverse Favourable

$...................

40 The directors of Memia Co have collected some non-financial data relevant to sales of televisions over the last two years as follows:

20X1 20X2 Sales volumes (units) 12,000 11,000 Number of returns (units) 1,080 1,000 No of customer complaints regarding late delivery 360 320

Which of the following is true?

Performance has improved in relation to both product returns and customer complaints. Performance has deteriorated in relation to both product returns and customer

complaints. Performance has improved in relation to product returns but deteriorated in relation to

customer complaints. Performance has deteriorated in relation to product returns but improved in relation to

customer complaints.

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Planning and operational variances 41 After Gen Co prepared its material budget for the first quarter, two pieces of additional

information came to light:

The Purchasing Manager managed to reduce the price of the material by placing one bulk order at the start of the quarter.

At the end of the previous quarter, Gen Co bought a new machine as a result of its use in the first quarter, material wastage levels fell from 3% to 2%.

Which of these factors should the budget be revised for?

The price saving only The use of the new machine Neither factor Both factors

42 The learning effect entered on a budget spreadsheet was overstated due to a computer input error.

Which of the following is this most likely to give rise to?

An adverse labour rate variance A favourable labour usage variance A favourable labour efficiency operational variance An adverse labour efficiency planning variance

43 Julienne Co has identified a labour efficiency planning variance. Which of the following is the MOST likely cause?

A decision by the production manager to work overtime A decision by the production manager to change the grade of labour A surplus of labour in the market A change in working practices to comply with new regulatory restrictions on rest periods

44 Caf Co budgeted to sell 10,000 units of a new product in the period at a budgeted selling price of $5 per unit. Actual sales volumes in the period were as budgeted but the actual sales price achieved was only $4 per unit. This was because a competitor launched a similar product at the same time. Caf Co had been unaware that this was going to happen when it prepared its budget and, had it known this, it would have revised its expected selling price to $3·80 per unit, which was the price of the competitor’s product.

What is the sales price planning variance?

Adverse Favourable

$...................

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45 The following details have been extracted from the accounting records of RG for August.

Output of RG 800 units 890 units Materials 4,000kg 4,375kg Cost per kg $20.00 $21.60

It has now been realised that the standard cost per kg of the material should have been $20.90.

What are the following variances for August to the nearest $0.01?

Materials planning price variance

Adverse Favourable

$...................

Materials operational price variance

Adverse Favourable

..................

DEMIA CO The following scenario relates to questions 46-50. Each question is worth 2 marks.

Demia Co makes televisions. The original standard prime costs, based on a budgeted production and sales of 12,000 units, are as follows:

$ Materials 70 Labour 3hrs @ $20 per hr 60 Standard prime cost 130

Actual production and sales were 11,000 televisions.

Before the period started, Demia’s production equipment broke down and it was forced to buy a new machine, which requires less labour input. As a result the new standard time for production is 2.5 hours per unit. During the period Demia spent $756,250 on 29,000 hours of labour.

46 The following statements have been made about the total labour variances:

1 The total labour rate variance is all due to planning errors.

2 The total labour efficiency variance is Nil.



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47 What are the correct planning and operational labour efficiency variances?

Planning labour efficiency variance

Adverse Favourable

$...................

Operational labour efficiency variance

Adverse Favourable

$...................

48 The new standard labour cost is based on 2.5 hours of semi-skilled labour at $20/hr. The labour supervisor is thinking of arranging for the work to be done in pairs, using one semi-skilled and one unskilled worker, each working for 1.5 hours.

Calculate the maximum hourly rate, to the nearest $0.01, that the supervisor can afford to pay the unskilled workers without giving rise to an adverse labour rate variance.

$

49 The total overheads for 12,000 units were budgeted as $504,000, compared with $400,000 at last year’s level of 9,000. The management accountant has identified that the fixed costs step up by 20% at 10,000 units.

Calculate the budgeted variable cost per unit for televisions.

$

50 The management of Demia Limited wishes to increase the level of contribution from sales of televisions and to do so by adopting a target costing approach.

Which TWO of the following would be techniques that Demia Limited could use to aim towards achieving a target cost?

Use of bespoke components where possible Better training for unskilled workers Change in the packaging of the televisions Use of components with a longer lifespan

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Performance analysis 51 Which of the following statements about variances is/are true?

True False

In a rapidly changing environment variances based on standard costs are likely to provide a meaningful analysis of performance.

When monitoring performance, a company only needs to focus on adverse variances.

A desire to create a favourable material price variance may result in the purchasing manager taking decisions which are incompatible with TQM.

If a company operates a JIT policy, it is not likely to experience any labour idle time variance.

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42 Tu i t io n q ue st io ns : 4 : P erf o rma nce m eas u re me nt a n d co nt ro l ACC A F5 Q uest i on Ba nk

4 : P e r f o r m a n c e m e a s u r e m e n t a n d c o n t r o l

Performance management information systems 1 An information system contains external and internal data which is both qualitative and

quantitative.

What is this system most likely to be used for?

Strategic planning Management control Operational control Strategic planning, management control and operational control

2 A report which provides information about daily inventory movements would be most likely to be used for:

Strategic planning Management control Operational control Strategic planning, management control and operational control

3 Which of the following is/are characteristics of a Decision support system?

Characteristic Not a characteristic

Provides summary information for the Board

Provides information in a flexible format

Facilitates “what if” analysis

Can be used to assist resource planning

4 The following statements have been made about open and closed systems:

1 Open systems refer to systems that interact with other systems or the outside environment.

2 Closed systems are preferable for performance management.



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ACC A F5 Q uest i on Ba nk Tu i t io n q ue st io ns : 4 : P erf o rma nce m eas u re me nt a n d co nt ro l 43

5 Which of the following areas of a business would an enterprise resource planning system generally cover?

Cover Not cover Order processing Manufacturing Distribution Customer service Human resources Finance

Sources of management information 6 Which of the following is/are internal sources of management accounting information and

which are external sources?

Internal External Database of customer information Inventory management system Results of market research Payroll system

7 The following statements have been made about sources of information:

1 Having access to external information means decisions can be made in a more informed way.

2 Using internal information reduces the need to rely on third party information which may be inaccurate.



8 The following are all types of costs associated with management information:

I Use of bar coding and scanners

II Verification of payroll accuracy by Financial Controller

III Lack of resource available to spend on other value-adding activities

Which of the above are examples of process costs?

II only I and II only I and III only All of the above

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9 Which of the following is/are examples of direct data capture costs and which is/are examples of processing costs?

Direct data capture

Processing

Use of bar coding and scanners Payroll department analysis of personnel costs Completion of timesheets by employees Input of timesheet information onto management information system

Management reports 10 Which TWO of the following controls within an organisation help to ensure the accuracy of

information?

Completeness checks Hierarchical passwords Data encryption Validation of input data

11 Which of the following statements about data controls is/are true?

True False A range check is a form of validation control. Hierarchical passwords can be used to grant different access rights to different users of a database.

Firewalls protect data from external access. Encryption means that data can only be understood by those transmitting and receiving it, and not by anyone intercepting it.

12 Which of the following controls would NOT be designed to ensure the security of confidential information?

Storage of sensitive data in locked filing cabinets Remote storage of back-up copies of data Use of a data encryption software package Requiring all staff to sign a confidentiality agreement

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Performance analysis in private sector organisations 13 Which of the following performance indicators are considered to be financial measures and

which of the following are considered to be non-financial measures?

Financial Non-financial Product returns rate Market share Asset turnover Staff turnover

14 Which of the following is NOT a perspective of the balanced scorecard?

Non-financial Internal Business Processes Customer Innovation & Learning

15 Which THREE of the following are included in Fitzgerald and Moon’s Building blocks?

Decisions Dimensions Returns Rewards Standards Targets

16 For which of the following would the return on capital employed be a useful performance measure?

The sales team who are responsible for the revenue generated from selling product Factory supervisors who are responsible for the costs incurred in producing product The Operations Director who is responsible for the sales team and for factory costs The Managing Director who has overall responsibility for the businesses costs and

revenues, including the administration and finance functions

17 The following ratios have been calculated for a company:

Gross profit margin 42% Operating profit margin 28% Gearing (debt/equity) 40% Asset turnover 65%

What is the return on capital employed for the company, to the nearest 0.1%?

%

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OLIVER’S SALON The following scenario relates to questions 18-22. Each question is worth 2 marks.

Oliver is the owner and manager of Oliver’s Salon, which is a quality hairdresser that experiences high levels of competition. The salon traditionally provided a range of hair services to female clients only. A year ago, at the start of his 20X9 financial year, Oliver decided to expand his operations to include the hairdressing needs of male clients.

The prices for the female clients were not increased during the whole of 20X8 and 20X9 and the mix of services provided for female clients in the two years was the same.

Two new staff were recruited at the start of 20X9. The first was a junior hairdresser, to support the specialist hairdressers for the female clients. She was appointed on a salary of $9,000 per annum. The second new staff member was a specialist hairdresser for the male clients. There were no increases in pay for existing staff at the start of 20X9 after a big rise at the start of 20X8, which was designed to cover two years’ worth of increases.

The latest financial results are as follows. 20X8 20X9 $ $ $ $ Sales 200,000 238,500 Less cost of sales: Hairdressing staff costs 65,000 91,000 Hair products – female 29,000 27,000 Hair products – male 8,000 94,000 126,000 Gross profit 106,000 112,500 Less expenses: 28,000 32,500 Profit 78,000 80,000

Oliver thinks the salon is much busier than a year ago and was expecting more profit.

Oliver introduced some non-financial measures of success two years ago. 20X8 20X9 Number of complaints 12 46 Number of male client visits 0 3,425 Number of female client visits 8,000 6,800 Number of specialist hairdressers for female clients 4 5 Number of specialist hairdressers for male clients 0 1

18 Calculate the average price for hair services per male client in 20X9.

$

19 Are the following statements about Oliver’s Salon true or false?

True False

Gross and net profit margins have decreased in 20X9 compared with 20X8.

Average cost per staff member has increased in 20X9 compared with 20X8.

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20 Which of the following is least likely to be an explanation for the increase in the number of complaints in 20X9 compared with 20X8?

The change in customer base bringing in male clients who are more likely to complain Female customers complaining about the change in atmosphere following the

introduction of male services The mix of services offered to female clients Poor quality work from the new trainee

21 Which of the following statements is true?

Resource utilisation of the property has increased and resource utilisation of specialist female hairdressers has decreased.

Resource utilisation of the property has increased and resource utilisation of specialist female hairdressers has increased.

Resource utilisation of the property has decreased and resource utilisation of specialist female hairdressers has decreased.

Resource utilisation of the property has decreased and resource utilisation of specialist female hairdressers has increased.

22 Oliver is thinking about introducing more non-financial measures of performance, as he believes that selecting the right measures can help improve customer satisfaction and hence ultimately profitability.

Which of the following will be a problem/problems for Oliver in introducing more measures?

Problem Not a problem It may be difficult to define measures for quality of service provided.

Increasing the number of measures may increase the chances of the measures giving a conflicting picture.

Increasing the number of measures will mean that the business has more of an external focus, rather than focusing on internal problems.

Oliver may have to spend more time himself on measurement work and less on servicing customers.

Divisional performance and transfer pricing 23 Which of the following does the manager have control over in a cost centre?

Control No control Revenue generation Attributable costs Apportioned head office costs Investment in non-current assets

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24 Division A makes and transfers a product to Division B and receives the market price for the transferred item, whilst Division B only gets charged with the variable cost of the item.

This transfer pricing approach is known as a:

Dual pricing system Opportunity cost system Two-part tariff system Market based system

25 Tallulah Ltd uses Return on Investment (ROI) and Residual Income (RI) performance measures. The Medchester division has net assets of $12m and in the year to 31 December 20X4 it earned profit before interest and tax of $1.8m and paid interest of $0.3m. Tallulah Ltd’s cost of capital is 12%.

What are the correct ROI, to the nearest 0.1%, and RI, to the nearest $0.01m, for the year to 31 December 20X4?

ROI

%

RI

$ million

26 Dust Co has two divisions, A and B. Each division is currently considering the following separate projects:

Division A Division B Capital required for the project $32·6 million $22·2 million Sales generated by project $14·4 million $8·8 million Operating profit margin 30% 24% Cost of capital 10% 10% Current return on investment of division 15% 9%

If residual income is used as the basis for the investment decision, which Division(s) would choose to invest in the project?

Division A only Division B only Both Division A and Division B Neither Division A nor Division B

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27 Oxco has two divisions, A and B. Division A makes a component for air conditioning units which it can only sell to Division B. It has no other outlet for sales.

Current information relating to Division A is as follows: Marginal cost per unit $100 Transfer price of the component $165 Total production and sales of the component each year 2,200 units Specific fixed costs of Division A per year $10,000

Cold Co has offered to sell the component to Division B for $140 per unit. If Division B accepts this offer, Division A will be shut.

If Division B accepts Cold Co’s offer, what will be the impact on profits per year for the group as a whole?

Increase Decrease

$...................

28 Which of the following does the manager have control over in an investment centre?

Control No control Generation of revenues Investment in non-current assets Investment in working capital Apportioned head office costs

29 At the start of the year, a division has non-current assets of $4 million and makes no additions or disposals during the year. Depreciation is charged at a rate of 10% per annum on all non-current assets held at the end of the year. Working capital is $0·5 million at the start of the year although this is expected to increase by 20% by the end of the year. The budgeted profit of the division after depreciation is $1·2m. What is the expected ROI of the division for the year, to the nearest 0.01%, based on average capital employed?

%

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ABEL CO The following scenario relates to questions 30-34. Each question is worth 2 marks.

The production division of Abel Co has the following standard unit costs for the production of an electronic component:

Direct material $2.00 Direct labour $2.50 Variable overheads $1.50

Fixed overheads are expected to be $300,000 and maximum capacity is 100,000 units.

The production division currently makes and transfers all 100,000 components to the retail division, which completes the assembly and sells it to individual consumers for $15, after incurring additional costs of $2.50 per unit. The current transfer price policy is full cost plus 30%.

The production division has been offered the chance to sell all the components it can produce to a commercial buyer who is willing to pay $11 per unit. The retail division can source components externally at a price of $11.50. Assume the maximum demand for the retail division’s product is 100,000 units.

30 What is the transfer price per unit under the current policy, to the nearest $0.01?

$

31 Which of the following statements relating to the current system of transfer pricing are true?

1 Full cost-based transfer prices are most appropriate where there is an intermediate market for the product.

2 When the producing division is operating at full capacity, a full cost-based approach should be used for the transfer price.


32 What is the minimum transfer price that will ensure Abel Co maximises company profit, given the offer from the commercial buyer?

$12.50 $11.00 $9.00 $8.50

33 What is the maximum contribution that Abel Co can earn if the production division decides to supply the commercial customer?

$

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34 The Finance Director of Abel Co is considering switching away from the current policy, but is concerned about how the Production division will cover its fixed costs.

Which of these methods will NOT help address the problem?

Giving the production and retail divisions a share of Abel Co’ s overall contribution Setting the transfer price at variable cost, but reporting the value of the transfer for the

Production division at total cost Setting the transfer price at market value if an external market exists for the product Transferring a fixed fee to the Production division

Performance analysis in not-for-profit organisations and the public sector 35 Which of the following is/are characteristics for a public sector organisation such as a hospital?

Characteristic Not a characteristic Some non-quantifiable objectives Multiple stakeholders Objectives may be subject to political pressures Conflicting priorities for resource allocation

36 Which of the following is a common way of assessing Value For Money?

Economy, Efficiency, Effectiveness Economy, Efficiency, Environment Efficiency, Effectiveness, Environment Economy, Energy, Effectiveness

37 Def Co provides accounting services to government departments. On average, each staff member works six chargeable hours per day, with the rest of their working day being spent on non-chargeable administrative work. One of the company’s main objectives is to produce a high level of quality and customer satisfaction.

Match DEF Co’s targets for the next year to the aspect of economy, efficiency and effectiveness at Def Co to which they relate.

Economy Efficiency Effectiveness Cutting departmental expenditure by 5%

Increasing the number of chargeable hours handled by advisers to 6·2 per day

Obtaining a score of 4·7 or above on customer satisfaction surveys

Retaining all current contracts with government departments

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External considerations and behavioural aspects 38 Which TWO of the following are negative behavioural aspects of a change in an organisation’s

performance management system?

Increased motivation to achieve rewards by achieving targets Manipulation of targets to ensure results achieved Dysfunctional decision making Teamwork rather than self-interest encouraged

39 The following statements have been made about external considerations and performance management

1 An organisation which takes account of external factors is more likely to focus on the aspects of performance that its managers can control.

2 Planning and operational variances are a way of taking external considerations into account when assessing performance.

Which of the above statements is/are true? 1 only 2 only Neither 1 nor 2 Both 1 and 2

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P A R T 1 T U I T I O N Q U E S T I O N S : L o n g f o r m


Limiting factors

1 CUT AND STITCH (Q3, JUNE 2010) Cut and Stitch (CS) make two types of suits using skilled tailors (labour) and a delicate and unique fabric (material).

Both the tailors and the fabric are in short supply and so the accountant at CS has correctly produced a linear programming model to help decide the optimal production mix.

The model is as follows.

Variables: Let W = the number of work suits produced Let L = the number of lounge suits produced

Constraints: Tailors’ time: 7W + 5L ≤ 3,500 (hours) – this is line T on the diagram Fabric: 2W + 2L ≤ 1,200 (metres) – this is line F on the diagram Production of work suits: W ≤ 400 – this is line P on the diagram

Objective is to maximise contribution subject to:

C = 48W + 40L

On the diagram provided the accountant has correctly identified OABCD as the feasible region and point B as the optimal point.

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Required:

(a) Find by appropriate calculation the optimal production mix and related maximum contribution that could be earned by CS. (4 marks)

(b) Calculate the shadow prices of the fabric per metre and the tailor time per hour. (6 marks)

The tailors have offered to work an extra 500 hours provided that they are paid three times their normal rate of $1.50 per hour at $4.50 per hour.

Required:

(c) Briefly discuss whether CS should accept the offer of overtime at three times the normal rate. (6 marks)

(d) Calculate the new optimum production plan if maximum demand for W falls to 200 units. (4 marks)

(20 marks)

Pricing decisions

2 WX (Q3B, JUNE 2013 AMENDED) WX is reviewing the selling price of one of its electronic products. The current selling price of the product is $25 per unit and annual demand is forecast to be 150,000 units at this price. Market research indicates that the level of demand would be affected by any change in the selling price. Detailed analysis from this research shows that for every $1 increase in selling price, annual demand would reduce by 25,000 units and that for every $1 decrease in selling price, annual demand would increase by 25,000 units.

A forecast of the annual costs that would be incurred by WX in respect of this product at differing activity levels is as follows.

Annual production (units) 100,000 160,000 200,000

$000 $000 $000 Direct materials 200 320 400 Direct labour 600 960 1,200 Overhead 880 1,228 1,460

The cost behaviour patterns represented in the above forecast will apply for the whole range of output up to 300,000 units per annum of this product.

Required:

(a) (i) Calculate the total variable cost per unit. (2 marks) (ii) Calculate the selling price of the product that will maximise the company’s profits.

(4 marks) (b) Explain TWO reasons why WX might decide NOT to use this optimum selling price. (4 marks)

WX has recently been suffering from liquidity problems and hopes that these will be eased by the launch of its new webcam, which has revolutionary audio sound and visual quality. The webcam is expected to have a product life cycle of two years.

(c) Explain the ‘market skimming’ (also known as ‘price skimming’) pricing strategy and discuss, as far as the information allows, whether this strategy may be more appropriate for WX than charging one price throughout the webcam’s entire life. (10 marks)

(20 marks)

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Dealing with risk and uncertainty in decision making

3 GYM BUNNIES (Q1, JUNE 2013 AMENDED) Gym Bunnies (GB) is a health club. It currently has 6,000 members, with each member paying a subscription fee of $720 per annum. The club is comprised of a gym, a swimming pool and a small exercise studio.

A competitor company is opening a new gym in GB’s local area, and this is expected to cause a fall in GB’s membership numbers, unless GB can improve its own facilities. Consequently, GB is considering whether or not to expand its exercise studio in a hope to improve its membership numbers. Any improvements are expected to last for three years.

Option 1

No expansion. In this case, membership numbers would be expected to fall to 5,250 per annum for the next three years. Operational costs would stay at their current level of $80 per member per annum.

Option 2

Expand the exercise studio. The capital cost of this would be $360,000. The expected effect on membership numbers for the next three years is as follows:

Probability Effect on membership numbers 0.4 Remain at their current level of 6,000 members per annum 0.6 Increase to 6,500 members per annum

The effect on operational costs for the next three years is expected to be:

Probability Effect on operational costs 0.5 Increase to $120 per member per annum 0.5 Increase to $180 per member per annum

A decision tree has been started to illustrate these options, but requires completion:

D A

C

B

5,250 members

Option 1

Option 2 $(360k)

0.6

0.4

6,500 members

6,000 members

0.5

0.5

0.5

0.5

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Required: (a) Using the criterion of expected value, use the points on the decision tree to recommend the

decision that GB should make.

Note: Ignore time value of money. (8 marks) (b) Calculate the maximum price that GB should pay for perfect information about the expansion’s

exact effect on MEMBERSHIP NUMBERS. (6 marks)

(c) Briefly discuss the problems of using expected values for decisions of this nature. (2 marks) (d) Discuss the usefulness of simulation, and worst and best case figures as methods of analysing

and assess the risk that exists in a business’s decision-making. (4 marks)

(20 marks)

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Budgetary systems and types of budget

1 PC CO (Q3, DECEMBER 2011) You have recently been appointed as an assistant management accountant in a large company, PC Co. When you meet the Production Manager, you overhear him speaking to one of his staff, saying:

‘Budgeting is a waste of time. I don’t see the point of it. It tells us what we can’t afford but it doesn’t keep us from buying it. It simply makes us invent new ways of manipulating figures. If all levels of management aren’t involved in the setting of the budget, they might as well not bother preparing one.’

Required:

(a) Identify and explain SIX objectives of a budgetary control system. (9 marks)

(b) Discuss the concept of a participative style of budgeting in terms of the six objectives identified in part (a). (11 marks)

(20 marks)

Materials mix and yield variances

2 THE SAFE SOAP CO (DECEMBER 2014 AMENDED) The Safe Soap Co makes environmentally-friendly soap using three basic ingredients. The standard cost card for one batch of soap for the month of September was as follows:

Material Kilograms Price per kilogram ($) Lye 0.25 10 Coconut oil 0.6 4 Shea butter 0.5 3

The budget for production and sales in September was 120,000 batches. Actual production and sales were 136,000 batches. The actual ingredients used were as follows:

Material Kilograms Lye 34,080 Coconut oil 83,232 Shea butter 64,200

The Safe Soap Co has used activity-based costing to allocate its overheads for a number of years. One of its main overheads is machine set-up costs. The following information was available in relation to set-up costs for September.

Budget

Total number of set ups 30 Total set-up costs $40,500

Actual

Total number of set ups 36 Total set-up costs $45,400

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Required:

(a) Calculate the total material mix variance and the total material yield variance for September. (8 marks)

(b) In October the materials mix and yield variances were as follows:

Mix: $6,000 adverse Yield: $10,000 favourable

The production manager is pleased with the results overall, stating:

‘At the beginning of September I made some changes to the mix of ingredients used for the soaps. As I expected, the mix variance is adverse in both months because we haven’t yet updated our standard cost card but, in both months, the favourable yield variance more than makes up for this. Overall, I think we can be satisfied that the changes made to the product mix are producing good results and now we are able to produce more batches and meet the growing demand for our product.’

The sales manager, however, holds a different view and says:

‘I’m not happy with this change in the ingredients mix. I’ve had to explain to the board why the sales volume variance for October was $22,000 adverse. I’ve tried to explain that the quality of the soap has declined slightly and some of my customers have realised this and simply aren’t happy but no-one seems to be listening. Some customers are even demanding that the price of the soap be reduced and threatening to go elsewhere if the problem isn’t sorted out.’

Required:

(i) Briefly explain what the adverse materials mix and favourable materials yield variances indicate about production at Safe Soap Co in October. (4 marks)

Note: You are NOT required to discuss revision of standards or operational and planning variances.

(ii) Discuss whether the sales manager could be justified in claiming that the change in the materials mix has caused an adverse sales volume variance in October. (2 marks)

(c) Calculate the following activity-based variances in relation to the set-up cost of the machines:

(i) The expenditure variance (3 marks) (ii) The efficiency variance (3 marks)

(20 marks)

Planning and operational variances

3 BEDCO (Q5, DECEMBER 2013) Bedco manufactures bed sheets and pillowcases which it supplies to a major hotel chain. It uses a just-in-time system and holds no inventories.

The standard cost for the cotton which is used to make the bed sheets and pillowcases is $5 per m2. Each bed sheet uses 2 m2 of cotton and each pillowcase uses 0.5 m2. Production levels for bed sheets and pillowcases for November were as follows.

Budgeted production levels (units)

Actual production levels (units)

Bed sheets 120,000 120,000 Pillowcases 190,000 180,000

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The actual cost of the cotton in November was $5.80 per m2. 248,000 m2 of cotton was used to make the bed sheets and 95,000 m2 was used to make the pillowcases.

The world commodity prices for cotton increased by 20% in the month of November. At the beginning of the month, the hotel chain made an unexpected request for an immediate design change to the pillowcases. The new design required 10% more cotton than previously. It also resulted in production delays and therefore a shortfall in production of 10,000 pillowcases in total that month.

The Production Manager at Bedco is responsible for all buying and any production issues which occur, although he is not responsible for the setting of standard costs.

Required:

(a) Calculate the following variances for the month of November, for both bed sheets and pillow cases, and in total:

(i) Material price planning variance; (3 marks)

(ii) Material price operational variance; (3 marks)

(iii) Material usage planning variance; (3 marks)

(iv) Material usage operational variance. (3 marks)

(b) Assess the performance of the production manager for the month of November. (8 marks)

(20 marks)

Performance analysis and behavioural aspects

4 JUMP (Q5, JUNE 2010) Jump has a network of sports clubs which is managed by local managers reporting to the main board. The local managers have a lot of autonomy and are able to vary employment contracts with staff and offer discounts for membership fees and personal training sessions. They also control their own maintenance budget but do not have control over large amounts of capital expenditure.

A local manager’s performance and bonus is assessed relative to three targets. For every one of these three targets that is reached in an individual quarter, $400 is added to the manager’s bonus, which is paid at the end of the year.

The maximum bonus per year is therefore based on 12 targets (three targets in each of the four quarters of the year).

Accordingly, the maximum bonus that could be earned is 12 × $400 = $4,800, which represents 40% of the basic salary of a local manager. Jump has a 31 March year end.

The performance data for one of the sports clubs for the last four quarters is as follows.

Qtr to Qtr to Qtr to Qtr to 30 June

2009 30 September

2009 31 December

2009 31 March

2010 Number of members 3,000 3,200 3,300 3,400 Member visits 20,000 24,000 26,000 24,000 Personal training sessions booked 310 325 310 339 Staff days 450 480 470 480 Staff lateness days 20 28 28 20 Days in quarter 90 90 90 90

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Agreed targets are:

1. Staff must be on time over 95% of the time (no penalty is made when staff are absent from work)

2. On average 60% of members must use the clubs’ facilities regularly by visiting at least 12 times per quarter

3. On average 10% of members must book a personal training session each quarter

Required:

(a) Calculate the amount of bonus that the manager should expect to be paid for the latest financial year. (6 marks)

(b) Discuss to what extent the targets set are controllable by the local manager (you are required to make a case for both sides of the argument). (9 marks)

(c) Describe two methods as to how a manager with access to the accounting and other records could unethically manipulate the situation so as to gain a greater bonus. (5 marks)

(20 marks)

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Performance analysis in private sector organisations

1 WEB CO (Q3, DECEMBER 2012) Web Co is an online retailer of fashion goods and uses a range of performance indicators to measure the performance of the business. The company’s management have been increasingly concerned about the lack of sales growth over the last year and, in an attempt to resolve this, made the following changes right at the start of Quarter 2.

(a) Advertising: Web Co placed an advert on the webpage of a well-known online fashion magazine at a cost of $200,000. This had a direct link from the magazine’s website to Web Co’s online store.

(b) Search engine: Web Co also engaged the services of a website consultant to ensure that, when certain key words are input by potential customers onto key search engines, such as Google and Yahoo, Web Co’s website is listed on the first page of results. This makes it more likely that a customer will visit a company’s website. The consultant’s fee was $20,000.

(c) Website availability: During Quarter 1, there were a few problems with Web Co’s website, meaning that it was not available to customers some of the time. Web Co was concerned that this was losing them sales and the IT department therefore made some changes to the website in an attempt to correct the problem.

The following incentives were also offered to customers:

(a) Incentive 1: A free ‘Fast Track’ delivery service, guaranteeing delivery within two working days, for all continuing customers who subscribe to Web Co’s online subscription newsletter. Subscribers are thought by Web Co to become customers who place further orders.

(b) Incentive 2: A $10 discount to all customers spending $100 or more at any one time.

The results for the last two quarters are shown below, Quarter 2 being the most recent one. The results for Quarter 1 reflect the period before the changes and incentives detailed above took place and are similar to the results of other quarters in the preceding year.

Quarter 1 Quarter 2 Total sales revenue $2,200,000 $2,750,000 Net profit margin 25% 16.7% Total number of orders from customers 40,636 49,600 Total number of visits to website 101,589 141,714 Conversion rate – visitor to purchaser 40% 35% The percentage of total visitors accessing website through magazine link 0 19.9% Website availability 95% 95% Number of customers spending more than $100 per visit 4,650 6,390 Number of subscribers to online newsletter 4,600 11,900

Required:

Assess the performance of the business in Quarter 2 in relation to the changes and incentives that the company introduced at the beginning of this quarter. State clearly where any further information might be necessary, concluding as to whether the changes and incentives have been effective.

(20 marks)

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2 AT CO (Q2, DECEMBER 2010) The Accountancy Teaching Co (AT Co) is a company specialising in the provision of accountancy tuition courses in the private sector. It makes up its accounts to 30 November each year. In the year ending 30 November 2009, it held 60% of market share. However, over the last 12 months, the accountancy tuition market in general has faced a 20% decline in demand for accountancy training leading to smaller class sizes on courses. In 2009 and before, AT Co suffered from an ongoing problem with staff retention, which had a knock-on effect on the quality of service provided to students. Following the completion of developments that have been ongoing for some time, in 2010 the company was able to offer a far-improved service to students. The developments included:

A new dedicated 24-hour student helpline An interactive website providing instant support to students A new training programme for staff An electronic student enrolment system An electronic marking system for the marking of students’ progress tests. The costs of marking

electronically were expected to be $4 million less in 2010 than marking on paper. Marking expenditure is always included in cost of sales

Extracts from the management accounts for 2009 and 2010 are shown below: 2009 2010

$000 $000 $000 $000 Turnover 72,025 66,028 Cost of sales (52,078) (42,056) Gross profit 19,947 23,972 Indirect expenses: Marketing 3,291 4,678 Property 6,702 6,690 Staff training 1,287 3,396 Interactive website running costs – 3,270 Student helpline running costs – 2,872 Enrolment costs 5,032 960 Total indirect expenses (16,312) (21,866) Net operating profit 3,635 2,106

On 1 December 2009, management asked all ‘freelance lecturers’ to reduce their fees by at least 10% with immediate effect (‘freelance lecturers’ are not employees of the company but are used to teach students when there are not enough of AT Co’s own lecturers to meet tuition needs). All employees were also told that they would not receive a pay rise for at least one year. Total lecture staff costs (including freelance lecturers) were $41·663 million in 2009 and were included in cost of sales, as is always the case. Freelance lecturer costs represented 35% of these total lecture staff costs. In 2010 freelance lecture costs were $12·394 million. No reduction was made to course prices in the year and the mix of trainees studying for the different qualifications remained the same. The same type and number of courses were run in both 2009 and 2010 and the percentage of these courses that was run by freelance lecturers as opposed to employed staff also remained the same.

Due to the nature of the business, non-financial performance indicators are also used to assess performance, as detailed below.

2009 2010 Percentage of students transferring to AT Co from another training provider 8% 20% Number of late enrolments due to staff error 297 106 Percentage of students passing exams first time 48% 66% Labour turnover 32% 10% Number of student complaints 315 84 Average no of employees 1,080 1,081

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Required:

Assess the performance of the business in 2010 using both financial performance indicators calculated from the above information AND the non-financial performance indicators provided.

Note: Clearly state any assumptions and show all workings clearly. Your answer should be structured around the following main headings: turnover; cost of sales; gross profit; indirect expenses; net operating profit. However, in discussing each of these areas you should also refer to the non-financial performance indicators, where relevant.

(20 marks)

Divisional performance and transfer pricing

3 BATH CO (Q2, DECEMBER 2011) Bath Co is a company specialising in the manufacture and sale of baths. Each bath consists of a main unit plus a set of bath fittings. The company is split into two divisions, A and B. Division A manufactures the bath and Division B manufactures sets of bath fittings. Currently, all of Division A’s sales are made externally. Division B, however, sells to Division A as well as to external customers. Both of the divisions are profit centres.

The following data is available for both divisions.

Division A

Current selling price for each bath $450 Costs per bath:

Fittings from Division B $75 Other materials from external suppliers $200 Labour costs $45

Annual fixed overheads $7,440,000 Annual production and sales of baths (units) 80,000 Maximum annual market demand for baths (units) 80,000

Division B

Current external selling price per set of fittings $80 Current price for sales to Division A $75 Costs per set of fittings:

Materials $5 Labour costs $15

Annual fixed overheads $4,400,000 Maximum annual production and sales of sets of fittings (units) (including internal and external sales)

200,000

Maximum annual external demand for sets of fittings (units) 180,000 Maximum annual internal demand for sets of fittings (units) 80,000

The transfer price charged by Division B to Division A was negotiated some years ago between the previous divisional managers, who have now both been replaced by new managers. Head Office only allows Division A to purchase its fittings from Division B, although the new manager of Division A believes that he could obtain fittings of the same quality and appearance for $65 per set, if he was given the autonomy to purchase from outside the company. Division B makes no cost savings from supplying internally to Division A rather than selling externally.

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Required:

(a) Under the current transfer pricing system, prepare a profit statement showing the profit for each of the divisions and for Bath Co as a whole. Your sales and costs figures should be split into external sales and inter-divisional transfers, where appropriate. (6 marks)

(b) Head Office is considering changing the transfer pricing policy to ensure maximisation of company profits without demotivating either of the divisional managers. Division A will be given autonomy to buy from external suppliers and Division B to supply external customers in priority to supplying to Division A.

Calculate the maximum profit that could be earned by Bath Co if transfer pricing is optimised. (8 marks)

(c) Discuss the issues of encouraging divisional managers to take decisions in the interests of the company as a whole, where transfer pricing is used. Provide a reasoned recommendation of a policy Bath Co should adopt. (6 marks)

(20 marks)

4 HAMMER CO (Q4, JUNE 2010) Hammer is a large garden equipment supplier with retail stores throughout Toolland. Many of the products it sells are bought in from outside suppliers but some are currently manufactured by Hammer’s own manufacturing division ‘Nail’.

The prices (a transfer price) that Nail charges to the retail stores are set by head office and have been the subject of some discussion. The current policy is for Nail to calculate the total variable cost of production and delivery and add 30% for profit. Nail argues that all costs should be taken into consideration, offering to reduce the mark-up on costs to 10% in this case. The retail stores are unhappy with the current pricing policy arguing that it results in prices that are often higher than comparable products available on the market. Nail has provided the following information to enable a price comparison to be made of the two possible pricing policies for one of its products.

Garden shears

Steel: the shears have 0.4kg of high quality steel in the final product. The manufacturing process loses 5% of all steel put in. Steel costs $4,000 per tonne (1 tonne = 1,000kg) Other materials: Other materials are bought in and have a list price of $3 per kg although Hammer secures a 10% volume discount on all purchases. The shears require 0.1kg of these materials.

The labour time to produce shears is 0.25 hours per unit and labour costs $10 per hour.

Variable overheads are absorbed at the rate of 150% of labour rates and fixed overheads are 80% of the variable overheads.

Delivery is made by an outsourced distributor that charges Nail $0.50 per garden shear for delivery.

Required: (a) Calculate the price that Nail would charge for the garden shears under the existing policy of

variable cost plus 30%. (6 marks) (b) Calculate the increase or decrease in price if the pricing policy switched to

total cost plus 10%. (4 marks)

(c) Discuss whether or not including fixed costs in a transfer price is a sensible policy. (4 marks)

(d) Discuss whether the retail stores should be allowed to buy in from outside suppliers if the prices are cheaper than those charged by Nail. (6 marks)

(20 marks)

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ACC A F5 Quest ion Ba nk Tuition answers: 1: Specialist cost and management accounting techniques 65

P A R T 1 T U I T I O N A N S W E R S : O b j e c t i v e t e s t a n d S c e n a r i o


Activity based costing

1 $

Total number of batches = (15/2·5) + (25/5) + (20/4) = 16

Cost driver rate = $600,000 / 16 = $37,500

Cost per unit = $37,500 / 5,000 = $7·50

Alternatively cost per unit = $37,500 × 5/ 25,000 = 7.50

2

Facility sustaining

4

Product

1

Product sustaining

3

Batch

2

3 Production scheduling

4 $

Cost driver rates

Set up costs $200,000 / 800 = $250 per set up Inspection/quality costs $120,000 / 400 = $300 per test

Product W cost per unit

Direct materials $2.50 Direct labour $0.54

Set up costs: 15,000/150 units = 100 batches, 100 × $250 / 15,000 units = $1.67 Inspection / quality cost: 100 batches/2 = 50 inspections, 50 × $300 / 15,000 units = $1.00 Total production costs = $2.50 + $0.54 + $1.67 + $1.00 = $5.71

7.50

5.71

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66 Tuition answers: 1: Specialist cost and management accounting techniques ACC A F5 Quest ion Ba nk

DUFF CO

5 $

Total labour hours = (20,000 × 2.5) + (16,000 × 3) + (22,000 × 2) = 142,000 Overhead absorption rate = 1,377,400/142,000 = $9.70 per hour Full cost per unit of X = $25 + $30 + ($9.70 × 2.5) = $79.25

6 $

Budgeted production and sales volumes (units) 20,000 16,000 22,000 Batch size (units) 500 800 400 Number of batches 40 20 55 Number of purchase orders per batch 4 5 4 Number of purchase orders 160 100 220

Total number of purchase orders = 160 + 100 + 220 = 480 orders Total ordering costs for Y = $316,000 × (100/480) = $65,833

7 $

Total machine hours = (20,000 × 1.5) + (16,000 × 1.25) + (22,000 × 1.4) = 80,800 machine hours Machine running and facility costs = $420,000 + $361,400 = $781,400 Machine running and facility costs allocated to Z = ($781,400/80,800) × (22,000 × 1.4) = $297,860 Machine running and general facility costs per unit of Z = $297,860/22,000 = $13.54

8 $

Overhead cost per unit of X = $492,824/20,000 = $24.64 Full cost per unit of X = $25 + $30 + $24.64 = $79.64

9 ABC is an absorption costing system. ABC must be based on activities that are measurable in quantitative terms.

ABC can be used for production and non-production overheads and is only of limited use if overheads are volume-related.

Target costing

10 $

Required return = 30% × $300,000 = $90,000

Target cost = (500 × $350) – $90,000 = $85,000

Per unit = $85,000/500 = $170

79.25

65833

13.54

79.64

170

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11 $53.33

If profit = 25% sales, then target cost = 75% sales

Selling price = $40/0.75 = $53.33

12 Replace skilled workers with less skilled workers for the more basic production tasks

13

Calculate the target cost

3

Calculate the target cost gap

5

Calculate the current cost

4

Set the required profit

2

Set the selling price

1

14 It identifies the market price of a product and then subtracts a desired profit margin to arrive at the desired cost.

A target cost is arrived at by identifying the market price of a product and then subtracting a desired profit margin from it.

15 The cost gap will decrease and the target cost will remain the same.

The lower learning rate will mean costs are lower and the cost gap will decrease. The target cost will not be affected by the change in the learning rate as it is determined by selling price and desired margin.

16 Value analysis Functional analysis

Iso-contribution analysis relates to limiting factor analysis. Variance analysis is a feedback technique whereas target costing is a feedforward technique.

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EDWARD CO

17 Cost control can begin at the design stage.

The radio will only include features that the customer regards as valuable.

Target costing will mean that Edward Co has a greater external focus. The introduction of target costing is likely to have been prompted by the market conditions that are forcing Edward Co to accept a selling price and not subsequently being able to pass on cost increases to its customers.

18 $

Cost of labour idle time = (30/60) × $12.60 × (10/90) = $0.70

Cost of material waste = (25/100) × $4.80 × (4/96) = $0.05

Total cost reduction = $0.70 + $0.05 = $0.75

19 $

Desired cost = $44 × 80% = $35.20

Revised cost of material for radio = $4.40 × (25/100) × (100/96) = $1.15

Current cost = $4.70 + $1.15 + $8.10 + ((30/60) × ($12.60 + $20 + $12)) = $36.25

Cost gap = $36.25 – $35.20 = $1.05

20 Only including standard components in the radio

Increasing the automation of the manufacturing process

Just using standard components is a legitimate way to reduce costs. Automation could reduce costs by cutting down skilled labour time. Reducing the number of features will reduce the cost gap – increasing the number of features will only work if Edward Co can charge a higher price. Analysing costs into cost pools is the starting point of activity-based costing.

21 The repair work carried out will vary according to the problems found.

The repair service will be a potentially unique job in response to the problems that the customer has had.

The outcome of the repair service can be specified – it is the problem being fixed and the radio working properly again. Costing the time is not itself a problem as that will have to be done whatever the costing method. Reducing labour time may however be problematic. The service being carried out when required should not be an issue with costing this sort of service.

0.75

1.05

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Life cycle costing

22 Design costs Testing costs Production facility investment costs

Promotional costs are normally incurred at Introduction. Customer support costs increase from the growth stage onwards. Inventory costs would only be relevant once production had started.

23 $

3,250,000 + 2,000,000+250,000 = 5,500,000/44,000units = $125

$125 + $150 = $275 per unit

24 Results in a market driven pricing strategy

This is a benefit of target costing.

25

Included Excluded

Research and development

Planning and concept design

Testing

Production

Advertising

Distribution and customer service

26 At the design/development stage

Throughput accounting

27 Stretching time

Available resource Required Material 30,000 metres 10,000 + 15,000 = 25,000 metres Pressing time 13,000 hours 10,000 × 0.5 + 15,000 × 0.5 = 12,500 hrs Stretching time 8,000 hours 10,000 × 0.25 + 15,000 × 0.4 = 8,500 hrs Rolling time 7,750 hours 10,000 × 0.4 + 15,000 × 0.25 = 7,750 hrs

28 $

Time available = 24 × 5 × 5 = 600 hrs Production = 300 units, hence time per unit = 2 hrs (600/300) Return per machine hour = (65 ─ 25)/2 = $20 Conversion cost per hour = (20 + 10)/2 = $15 TAR = $20/15 = 1.33

275

1.33

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29 Raise the selling price of the product

This will increase the throughput contribution.

30 $

$320 – $80/(6/60) = $2,400

31 It does not attempt to maximise profit. Work in progress is valued at material cost only.

Throughput assumes that only material costs are variable, whereas labour and other costs will also be variable beyond a certain time horizon, and this will affect the calculation of maximum profit.

32 Direct labour price

GOPHER GARAGE

33

MOTs 8000

Services 3125

Total garage hours per year = 10 × 5 × 50 = 2,500 hours

There are 4 mechanics, so total hours available = 2,500 hours × 4 = 10,000

Based on the time taken for each activity, they can perform 10,000/1.25 = 8,000 MOTs or 10,000/3.2 = 3,125 services

34 MOT 1.75 Service 1.14

MOT

Return per hour = (Selling price – Materials)/Time taken on the bottleneck = ($120 – $15)/1.25 = $84

Throughput accounting ratio = Return per hour/Cost per hour = $84/$48 = 1.75

Service

Return per hour = (Selling price – Materials)/Time taken on the bottleneck = ($200 – $25)/3.2 = $54.69

Throughput accounting ratio = Return per hour/Cost per hour = $54.69/$48 = 1.14

2400

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35 The mechanics’ time would be a bottleneck for MOTs only.

The existing capacity for each activity is: MOTs Service

Mechanic 8,000 3,125 Trainee (2,500 × 3 ÷ 0.5/1.5) 15,000 5,000 Receptionist (2,500 × 2 ÷ 0.25/0.3) 20,000 16,667

Employing another three mechanics would mean that their hours available would be 17,500, allowing them to carry out 14,000 MOTs or 5,469 services. As a result, the mechanics would still be the bottleneck for MOTs but the trainees would be the bottleneck for services, as they can only work on 5,000 services.

36 Decrease the time spent by the mechanics on each customer

Decrease the operating expenses of the garage

Throughput accounting is concerned with minimising the throughput activity, inventory and operating expenses. The time taken by the trainees is not relevant, as it is not currently the throughput activity. Decreasing the selling price will worsen the throughput ratio.

37

True False

It can be applied to the management of all external factors affecting the organisation.

It is concerned with overcoming a bottleneck identified in a single activity.

It aims to limit the amount of non-bottleneck resources used.

It tries to avoid the build-up of inventories.

According to the theory of constraints, it is wasteful to use non-bottleneck resources above the level required for maximum throughput, as it will lead to a build-up of excess inventory.

Using throughput accounting will not help manage external activities that the business cannot control. Overcoming a bottleneck in one activity may result in another activity becoming a bottleneck and throughput accounting will be applied to this as well.

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Environmental accounting

38

True False

A significant problem for environmental accounting is that it is difficult to measure environmental costs.

An aim of environmental accounting is to encourage organisations to quantify the costs and benefits of improving environmental practices.

The use of input/output analysis forces an organisation to monitor the cost of wasted material and other environmental pollution.

It is not possible to use activity based costing to identify cost drivers for environmental costs.

ABC principles can be used to identify cost drivers for environmental costs.

39 Image and relationship cost

40 Environment-related costs can be attributed to joint cost centres and environment-driven costs cannot be.

This is the correct option as environment-driven costs are allocated to general overheads, not joint centres.

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ACC A F5 Quest ion Ba nk Tu i t io n a n swe r s: 2 : Dec i s i on ma ki n g tec h ni q ue s 73

2 : D e c i s i o n m a k i n g t e c h n i q u e s

Relevant cost analysis

1 $

Relevant cost of A is replacement cost of $5,000.

Relevant cost of B is zero as material is surplus with no realisable value.

Relevant cost of C is best alternative use. L is better off selling C for $4,500 compared with using it and not having to purchase D for $4,250.

Relevant cost = $5,000 + $4,500 = $9,500

2 $50,000

The company can either hire new workers at a cost of $60,000 or retrain the existing ones.

The incremental cost of using the existing workers is the training cost of $5,000 plus their replacement cost of $45,000 = $50,000 in total. This is the cheaper option.

3 $14,000

Deprival value is the lower of

Replacement cost ($14,000) and

The higher of NRV ($9,000) and economic value ($17,000) = $17,000

Hence relevant cost = $14,000

4 $

Cost of the quantity to be bought = (1,500 – 945) × $4·25 = $2,358.75

Opportunity cost of quantity in hand = 945 × $2·75 = $2,598.75

Total relevant cost = $4,957.50

Cost volume profit analysis

5

Fixed cost + Profit

Contribution per unit =

920,000

40 = 23,000

9500

4957.50

23000

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74 Tu i t io n a n swe r s: 2 : Dec i s i on ma ki n g tec h ni q ue s ACC A F5 Quest ion Ba nk

6 𝐹𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠

𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡

Note: 𝐹𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡𝑠

𝐶

𝑆 𝑟𝑎𝑡𝑖𝑜

is used to calculate break-even sales revenue ($)

7 4,500 units

Contribution required = $18,000 + $36,000 = $54,000

Contribution per unit = 40% × $30 = $12

Hence break-even sales = $54,000/$12 = 4,500 units

8 $

One package makes (2 × $3.50) + $3 + $4 = total contribution of $14

Break-even no. of packages = $70,000/$14 = 5,000

Break-even sales revenue = (10,000 × $8) + (5,000 × $8) + (5,000 × $10) = S170,000

9 Sales volume and profit

A break-even chart illustrates the relationship between sales volume, revenue and costs.

10

Sales = $62,500

Break even sales = $13,000/0.4 = $32,500

Margin of safety (sales revenue) = $30,000

Margin of safety (units) $30,000/$2 =15,000 units

11

True False

The investment is more sensitive to a change in sales price than sales volume.

If variable costs increase by 25% the investment will make a loss.

The margin of safety is 92.5%.

The investment’s sensitivity to incremental fixed costs is 133%.

Price will have to fall by (105/600) × 100% = 17.5% for investment to breakeven. Volume will have to fall by (105/150) × 100% = 70%.

An increase in variable costs of 25% = $450 × 0.25 = $112.50, greater than the profit of $105

Sales at breakeven point = 45/(150/200) = 60

Margin of safety = ((200 – 60)/200) × 100% = 70%

Sensitivity to fixed costs = (105/45) × 100% = 233%

170000

15000

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CARDIO CO

12 %

Weighted average contribution to sales ratio (WA C/S ratio) = total contribution/total sales revenue.

T C R $ $ $

Sales revenue 672,000 720,000 532,000 Variable costs (263,760) (286,400) (201,780)

Contribution 408,240 433,600 330,220

WA C/S ratio = ($408,240 + $433,600 + $330,220)/($672,000 + $720,000 + $532,000) = $1,172,060/$1,924,000 = 60·92%

13 $ 000

Fixed costs = $73,940 + $78,100 + $59,320 = $211,360

Breakeven sales revenue = fixed costs/weighted average C/S ratio = $211,360/65% = $325,169, say $325,000

14 %

Breakeven sales revenue = fixed costs/weighted average C/S ratio = $175,000/60% = $291,667

Margin of safety = ((Budgeted sales – Breakeven sales)/Budgeted sales sales) × 100% = (($1,600,000 – $291,667)/$1,600,000) × 100% = 81.8%

15 The C/S ratio will rise.

If all the products are eventually sold, the total C/S ratio will remain the same. Even if they are not, the products with the highest contribution per unit may not be the products with the highest C/S ratio.

16 The sensitivity of its demand to price is uncertain. It will generate high initial cash flows to cover the marketing expenditure.

Cardio Co is likely to play safe and start by charging a higher price to try to cover the large marketing expenditure, if it is not sure of the responsiveness of demand to price. The product may be a prestige product, where a higher price can be charged to gain the kudos of owning it.

A long life cycle is more likely to mean lower prices being charged initially, as the product has a longer time to become profitable. A high price gives competitors who are prepared to undercut similar products more opportunity to enter the market.

60.92

325

81.8

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Limiting factors

17 Material only

4,000 units require 16,000 kg material and 8,000 labour hours. Hence material is currently the scarce resource.

18 $

Since X makes the best contribution per labour hour (see working below), the company will already be producing the maximum of X (800 units = 2,400 hours) and using the balance for Y. Hence a further 90 hours would make 20 more units of Y and therefore $1,200 additional contribution (profit).

Working Product X Product Y Contribution per unit $45 $60 Labour hours 3 4.5 Contribution per hour $15 $13.33 Maximum demand (units) 800 1,500 Current plan: 4,650 hours available 800 units of X 500 units of Y

2,400 hours

2,250 hours

19 1 only

Non-scarce resources are not being used to their maximum capacity so by definition will have some slack. Resources that form the critical constraints limiting the optimal production plan will have zero slack.

20 A

D

Product A B C D Selling price per unit $160 $214 $100 $140 Raw material cost $24 $56 $22 $40 Direct labour cost at $11 per hour $66 $88 $33 $22 Variable overhead cost $24 $18 $24 $18 Contribution per unit $46 $52 $21 $60

Direct labour hours per unit 6 8 3 2

Contribution per labour hour $7.67 $6.50 $7 $30 Rank 2 4 3 1 Normal monthly hours (total units × hours per unit)

1,800

1,000

720

800

If the strike goes ahead, only 2,160 labour hours will be available.

Therefore make all of D, then 1,360 hours’ worth of A (2,160 – 800 hrs).

1200

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21

Correct Incorrect

Objective function 60x + 25y

Material constraint 3x + y ≤ 4,200

Labour constraint 4x + 0.5y ≥ 3,000

Contribution for X = $15 ($60 – $45)

Contribution for Y = $12 ($25 – $13)

Objective function = 15x + 12y

Constraints:

Material = 3x + y ≤ 4,200 (as X uses 3 kgs of material (15/5), Y uses 1 kg (5/5))

Labour = 4x + 0.5y ≤ 3,000 (as X uses 4 labour hrs (24/6), Y uses 0.5 hrs (3/6))

22 Contribution will be increased by $2 for each additional kg of material B purchased at the current market price.

The maximum price which should be paid for an additional kg of material B is $2·80.

The statement that the maximum price is £2 is wrong as it reflects the common misconception that the shadow price is the maximum price which should be paid, rather than the maximum extra over the current purchase price.

The statement about contribution being $1.20 is wrong but could be thought to be correct if the statement about the maximum price being $2 was wrongly assumed to be correct.

Pricing decisions

23 $

Current cost = 80% × $35 = $28

New selling price = ($28 × 1.05) /0.80 = $36.75

24 P = 16 – 0.02Q

P = a – bQ and when P = 10, Q = 300, so 10 = a – 300b

b = change in price/change in quantity = 1/50 = 0.02

10 = a – (0.02 × 300)

10 = a – 6, so a = 16

25 1 only

In order for the company to charge different prices, each group of customers (market segment) must have different price elasticity of demand.

36.75

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26 $14.70

Total cost per carpet = 5 + 1 + 4.5 ($9,000/2,000) = $10.50

Selling price = $10.50 × 1.40 = $14.70

27 Penetration pricing

28


Penetration pricing

Market skimming

A

B

Make-or-buy and other short-term decisions

HERERA CO

29 Both X and Y

Z makes a loss if it is bought in, whereas X and Y still make a contribution (see below).

30

X 3

Y 2

Z 1

Working: Product X Product Y Product Z

Contribution per unit if make 30 45 35 Contribution if buy in 25 25 (5) Labour saved if buy in 30 15 n/a Lost contribution per $ labour $0.17 $1.33 n/a Order of making 3 2 1

31 $10,000

Deprival value is the lower of:

Replacement cost ($10,000) and The higher of NRV ($8,000) and economic value ($11,000) = $11,000

Hence relevant cost = $10,000

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32 Incremental costs plus opportunity costs

These are the costs that are relevant to the decision.

33 There must be little or no chance of a black market developing.

The lack of a black market means that Herera Co can enforce price discrimination.

Dealing with risk and uncertainty in decision-making

34 Risk seeking

35 $

Expected value with the survey = (0.4 × $400,000) + (0.6 × $1,000,000) = $760,0000

Expected value without the survey = $520,000

Therefore maximum value of the survey = $760,000 – $520,000 = $240,000

36 125

The choice using maximax will be the choice that gives the best possible result, which is a profit of $540 if demand and supply are 125 lunches.

37 50

Look at the worst possible outcome for each level of supply:

50 75 100 125 $200 $160 $125 $95

The best of these outcomes is $200 for 50 lunches supplied.

38 125

Minimax regret table is as follows:

Daily supply (units) 50 75 100 125

50 $0 $40 $75 $105 Daily demand 75 $100 $0 $35 $65 (units) 100 $220 $120 $0 $30 125 $340 $240 $120 $0

The highest regret figures are shown in bold, and 125 has the lowest of these, therefore choose 125.

240000

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LOUIEDEWIE CO

39 $

Expected return = (0.35 × 150,000) + (0.20 × 75,000) + (0.45 × -35,000) = $51,750

40 0.35

The project will make a profit if returns exceed $80,000, which only applies in the no competition situation.

41 $536,250

Expected value = (0.45 × $500k) + (0.2 × $550k) + (0.35 × $575k) = $536,250

42 $

Expected value = $500k + (0.3 × $550k) + (0.5 × $575k) = $952,500

43 2 only

Expected values support a risk-neutral attitude to decision-making. They are most useful when they refer to events that will occur many times.

51750

952500

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ACC A F5 Quest ion Ba nk Tu i t io n a n swe r s: 3 : B u d ge t i ng a nd con tro l 81



1

Objective Not objective

Authorisation of expenditure

Business expansion

Performance monitoring

Resource allocation

2

True False

A budget helps to control an organisation by forcing it to create a plan.

A budget helps an organisation to co-ordinate the allocation of resources.

A budget can help an organisation to motivate staff.

An organisation is legally required to prepare a master budget annually.

There is no legal obligation to prepare a budget.

3 Junior management

4 An example of feedback control

5 Feedforward control

6 Neither 1 nor 2

If a budget is too easy, staff will not necessarily give their greatest efforts.

A budget based on ideal conditions is likely to be demotivating. Budgets need to be challenging but achievable in order to encourage improved efficiency.

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82 Tu i t io n a n swe r s: 3 : B u d ge t i ng a nd con tro l ACC A F5 Quest ion Ba nk

7

Rolling

Incremental

Flexible

Zero-based

Beyond budgeting

Set at the start of the year for various different activity levels

Continually extended by adding another budget period when the first budget period expires

Prepared by building on a previous period’s budgeted or actual figures

Uses adaptive management processes and procedures

8 Budgets will take longer to produce

9 It is less time consuming.

10 It may be more difficult to co-ordinate the plans of different departments.

Quantitative analysis in budgeting

11 $

Highest cost is $13,000 for an output of 800 units.

Lowest cost is $10,000 for an output of 500 units.

Using the high-low method to establish values for a and b:

Variable cost per unit = $(13,000−10,000)

(800−500) =

$3,000

300 𝑢𝑛𝑖𝑡𝑠 = $10 per unit

12 $

As above: Variable cost per unit = $(13,000−10,000)

(800−500) =

$3,000

300 𝑢𝑛𝑖𝑡𝑠 = $10 per unit

Fixed costs can be calculated by reference to the total costs when output is 500 units

Total cost = $10,000 = Fixed cost + (500 units × $10)

Fixed cost = $10,000 ─ $5,000 = $5,000

So in June total cost = $5000 + (700 × $10) = $12,000

10.00

12000

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13 2.45 hours

Y = axb

Average time for six jobs: 3 × 6 – 0.074 = 2.627 hours

Total time required for six jobs = 6 × 2.627 hours = 15.762 hours

Average time for five jobs: 3 × 5 – 0.074 = 2.663 hours

Total time required for five jobs = 5 × 2.663 hours = 13.315 hours

Time required to perform the 6th job = Total time required for six jobs – total time required for five jobs.

Therefore, time required to perform the 6th job = 15.762hours –13.315 hours = 2.447 hours

14 Both 1 and 2

15

True False

Spreadsheets can easily take account of lots of qualitative factors.

Spreadsheets are useful when the values of the inputs to the budget are likely to change.

Spreadsheets are only as accurate as the formulae and other inputs that they depend on.

Spreadsheets allow for the analysis of large volumes of quantitative data.

Spreadsheets are unable to deal with qualitative factors.

16 I only

The learning rate was actually better than expected and only I could cause it to improve.

17 $

90% production = 350,000 × 0.9 = 315,000

At each level of production, material cost = $6 per unit, labour cost = $5 per unit, so both are fully variable, total variable cost = $11 per unit

315,000/40,000 = 7.875, so 8 supervisors will be required.

Total production costs = (315,000 × $11) + $600,000 + (8 × $30,000) = $4,305,000

4305000

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Standard costing

18

True False

Standard costs should only ever be based on marginal costing principles.

The use of basic standards is likely to give rise to meaningful variances.

Current standards provide the best basis for motivating employees to improve performance.

Basic standards are short-term targets and useful for day-to-day control purposes.

Standard costs can be based on a variety of costing approaches e.g. total absorption costing, marginal costing, ABC principles

Basic standards are often out-of-date and therefore unlikely to give rise to meaningful variances.

Current standards reflect existing levels of efficiency and are unlikely to motivate employees to improve performance.

Basic standards are likely to be out-of-date and may not be relevant for day-to-day control.

19 Planning

Valuing inventory

Assessing performance

Motivating staff

KAMAL CO

20 1 only

The budget selling price was $90 ($540,000/6,000) and the actual price was $88 ($633,600/7,200). Fixed overheads should not be affected by changes in sales volume.

21 $

Budget contribution = $282,000 (213,000 + 69,000) = $47 per unit

Flexed profit = (7,200 @ 47) – 69,000 = $269,400

269400

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22 $

Variance calculated using original budget = $610,000 – $560,000 = $50,000 F

Revised budget = $550,000 × 120% × 105% = $693,000

Variance calculated using revised budget = $610,000 – $693,000 = $83,000 A

Difference = $50,000 + $83,000 = $133,000

Note that this is the difference between the original and revised budget figures for the quarter.

23

Considered Not considered

Whether a marketing initiative should be undertaken at all

Whether the marketing department should be outsourced

Whether some or all of the activities that are part of a proposed marketing campaign are justified

Whether some or all of the activities that are part of a proposed marketing campaign can be done more cheaply

All of these would be considered as part of zero-based budgeting.

24 Both 1 and 2

Rolling budgets are updated a short period at a time, so can more easily accommodate changes in price and resource availability.

Zero-based budgeting starts with no preconceived assumptions about how activities should be carried out, so budget-setters can identify the most efficient way to operate without being influenced by whether it will mean changing the current way things are done.

Material mix and yield variances

25

Adverse Favourable

$2400

Material

Actual quantity

Standard mix

Actual quantity

Actual mix

Variance

Standard cost

per kg

Variance

kgs kgs kgs $ $ A 4,000 4,300 (300) 9 (2,700) B 3,500 3,600 (100) 5 (500) C 2,500 2,100 400 2 800

10,000 10,000 (2,400) A

133000

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26 1 only

The change will increase the cost of the mix at standard prices and most likely increase the quality of the biscuit.

27 Training for customer service team

This will not affect the production process.

28

Adverse Favourable

$1312

Material

Standard quantity

Standard mix

Actual quantity

Standard mix

Variance

Standard

cost per kg

Variance kgs kgs kgs $ $

W 912 864 48 5 240 X 1,368 1,296 72 6 432 Y 1,520 1,440 80 8 640

3,800 3,600 1312F

PRODUCT ZED

29 1 only

We’re told that the price/litre is as budgeted.

Standard yield is 15/16 = 0.9375 × input quantity. Expected yield from actual input of 1,800 litres is 1,800 x 0.9375 = 1,687.5 litres. Actual yield is only 1,650 litres, less than expected.

30

Adverse Favourable

$562.50

9/16 7/16 A B Total

Standard 1,012.5 787.5 1,800 Actual 900 900 1,800

112.5 112.5

$10 $15

1,125 F 1,687.5 A 562.5 A

AQSM: A = 9/16 × 1,800 = 1, 012.50 litres; B = 7/16 × 1,800 = 787.50 litres

The Mix Variance is given by: T2 – T1 = $562.50 adverse

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31 Neither 1 nor 2

Material mix variances are concerned with quantity, not quality. A favourable materials mix is more likely to lead to an adverse labour efficiency variance, because the cheaper materials may be more difficult to use or take more time to use because there is more waste.

32

Adverse Favourable

$1631.25

AM SQSM

Materials AQ SP SQ SP A 900 9,000 1,113.75 11,137.50 B 900 13,500 866.25 12,993.75 Total T1 = 22,500 T2 = 24,131.25

SM: A = 9/16 and B = 7/16

Expected input for yield of 1,650 litres = 1,650 × (1,800/1,500) = 1,980 litres

SQSM: A = 9/16 × 1,980 = 1,113.75 litres; B = 7/16 × 1,980 = 866.25 litres

Operational materials usage variance = $24,131.25 – $22,500 = $1,631.25 favourable

33

Explain Not explain

Changes in the production process causing increased loss of materials

A higher than expected level of waste of materials

Quality control identifying a high proportion of materials as sub-standard

A new supplier supplying poorer quality materials

Advanced knowledge of changes in the production process and a new supplier supplying sub-quality materials could have influenced the planning process. Actual waste being higher is an operational factor. Quality control rejecting a large amount of materials is generally an operational factor, unless we know that quality control procedures were changed.

Sales mix and quantity variances

34 Cost-conscious customers are switching from premium products to lower margin cereals in the range.

This will increase the proportion of low margin sales and have a negative impact on profitability.

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35

Adverse Favourable

$3720

The sales quantity contribution variance is calculated as follows:

Actual sales in std mix

Standard sales in std mix

Difference in units

Standard contribution

Variance

Product A 16,020 15,840 180F $12 $2,160F Product B 10,680 10,560 120F $13 $1,560F

Total $3,720F

MEMIA CO

36 2 only

The difference between budgeted and actual sales is 1,000 televisions. The volume variance that would be expected due to the shrinking market is 2,000 units (revised sales would be 10% × 100,000 units = 10,000 units). Therefore, there must be both a planning and operational sales volume variance (see below).

Sales price variance: actual revenue $2,200,000 – (11,000 units @$210) = $110,000 adverse

There is no information to suggest this is anything other than an operational variance.

37 Market size

Adverse Favourable

$160000

Market share

Adverse Favourable

$80000

Market size (Planning sales volume) Televisions Revised budget sales 10,000 Original budget sales 12,000 Variance 2,000 (A) Valued at STANDARD CONTRIBUTION $80 VARIANCE IN $ 160,000 (A)

Market share (Operating sales volume) Televisions Actual sales 11,000 Revised sales 10,000 Variance in televisions 1,000 (F) Valued at STANDARD CONTRIBUTION $80 VARIANCE IN $ 80,000 (F)

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38

Adverse Favourable

$80000

Actual sales

in std mix Actual sales

in actual mix Difference

in units Standard

contribution

Variance

Televisions 15,000 11,000 4,000A $80 $320,000A Computers 10,000 14,000 4,000F $100 $400,000F

Total $80,000F

39

Adverse Favourable

$440000

Weighted average budgeted contribution per unit = (12,000 × $80) + (8,000 × $100)

/(12,000 + 8,000) = $88

Sales quantity variance in units = (15,000 + 10,000) – (12,000 + 8,000) = 5,000 favourable

Sales quantity variance in $ = 5,000 × $88 = $440,000 favourable

40 Performance has deteriorated in relation to product returns but improved in relation to customer complaints

Sales volumes (units) 12,000 11,000 Number of returns (units) 1,080 1,000 No of customer complaints regarding late delivery 360 320 Returns as % of sales 9.0% 9.1% Customer complaints as % of sales 3.0% 2.9%


41 The use of the new machine

The price saving is the result of an operational decision. The budget should however have been prepared on the basis that the new machine would be used.

42 An adverse labour efficiency planning variance

If the learning curve was overstated in error at the planning stage the work will have taken longer than expected.

43 A change in working practices to comply with new regulatory restrictions on rest practices

This is likely to have a negative impact on productivity but is due to an uncontrollable external factor.

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44

Adverse Favourable

$12000

Planning variance = ($3·80 – $5) × 10,000 = $12,000 adverse

45 Materials planning price variance

Adverse Favourable

$3937.50

4,375 kg × ($20 – $20.90) = $3,937.50 adverse

Materials operational price variance

Adverse Favourable

$3062.50

(4,375kg × ($20.90 – $21.60)) = $3,062.50 adverse

DEMIA CO

46 Neither 1 nor 2

There is no revised planning information for labour rate, any rate difference will be operational.

If Demia spent 29,000 hours making 11,000 units compared to an original flexed budget of 33,000 hours, there is clearly a labour efficiency variance of some sort.

Total labour efficiency variance = (29,000 hours – 33,000 hours) @ $20 = $80,000 favourable

47 Planning labour efficiency variance

Adverse Favourable

$110000


Adverse Favourable

$30000

Planning labour efficiency variance

(Standard hours for actual production (11,000 × $3) – revised hours for actual production (11,000 × 2.5)) × standard rate

11,000 TVs: (33,000 –27,500) × $20 = $110,000 favourable


(Actual hours – revised standard hours for actual production) × standard rate

11,000 TVs: (29,000 – 27,500) × $20 = $30,000 adverse

Note: this approach uses the Examiner’s preferred method of calculating the P&O variances.

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48 $

Original standard = 2.5 @$20 = $50

For a nil variance, cost of 1.5 hours unskilled time must be no more than $50 – (1.5@$20) = $20

So max rate per hour = $20/1.5 = $13.33

49 $

400,000 – 9,000 VC = (504,000 – 12,000 VC)/1.2

480,000 – 10,800 VC = 504,000 – 12,000 VC

1,200 VC = $24,000

VC = $20

50 Better training for unskilled workers Change in the packaging of the televisions

Better training should reduce inefficiencies and waste. Changing the packaging could either make the packaging cheaper, or more durable (with any increase in costs because the packaging was more durable being outweighed by the reduced risk of breakages).

Use of standard components should help reduce costs. The length of life of components used does not affect production costs.

Performance analysis

51

True False

In a rapidly changing environment variances based on standard costs are likely to provide a meaningful analysis of performance.

When monitoring performance, a company only needs to focus on adverse variances.

A desire to create a favourable material price variance may result in the purchasing manager taking decisions which are incompatible with TQM.

If a company operates a JIT policy, it is not likely to experience any labour idle time variance.

Variances will be less meaningful in a rapidly changing environment as standards are likely to be out of date. When monitoring performance, a company should focus on significant favourable and adverse variances. A desire to create a favourable material price variance may result in the Purchasing Manager buying cheaper quality material which would be incompatible with TQM. If a company operates a JIT policy, it will produce to order and not for inventory and therefore may experience a labour idle time variance.

13.33

20

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92 Tu i t io n a n swe r s: 4 : P er for manc e m ea s ur em e nt an d c ont ro l ACC A F5 Quest ion Ba nk


Performance management information systems

1 Strategic planning

2 Operational control

3 Provides summary information for the Board


Provides summary information for the Board

Provides information in a flexible format

Facilitates “what if” analysis

Can be used to assist resource planning

Providing summary information for the board is a characteristic of an Executive information system.

4 1 only

Open systems are preferable for performance management as they are able to take account of external uncontrollable factors.

5

Cover Not cover

Order processing

Manufacturing

Distribution

Customer service

Human resources

Finance

Sources of management information

6

Internal External

Database of customer information

Inventory management system

Results of market research

Payroll system

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ACC A F5 Quest ion Ba nk Tu i t io n a n swe r s: 4 : P er for manc e m ea s ur em e nt an d c ont ro l 93

7 Both 1 and 2

8 II only

Use of bar coding and scanners are costs of direct data capture.

Lack of resource available to spend on other value-adding activities is an example of an indirect cost.

9

Direct data capture

Processing

Use of bar coding and scanners

Payroll department analysis of personnel costs

Completion of timesheets by employees

Input of timesheet information onto management information system

Management reports

10 Completeness checks

Validation of input data

11

True False

A range check is a form of validation control.

Hierarchical passwords can be used to grant different access rights to different users of a database.

Firewalls protect data from external access.

Encryption means that data can only be understood by those transmitting and receiving it, and not by anyone intercepting it.

12 Remote storage of back-up copies of data

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13

Financial Non-financial

Product returns rate

Market share

Asset turnover

Staff turnover

14 Non-financial

The other perspective is Financial.

15 Dimensions

Rewards

Standards

16 The Managing Director who has overall responsibility for the businesses costs and revenues, including the administration and finance functions

17 %

ROCE can be calculated by multiplying the operating profit margin and the asset turnover. 28% × 65% = 18·2%

OLIVER’S SALON

18 $

20X8: Female clients paid $200,000 for 8,000 visits. This is an average price per visit of $200,000/8,000 = $25

In 20X9 the female hairdressing prices did not increase and the mix of services did not change so of the total revenue $170,000(6,800 × $25) was from female clients. This means that the balance of $68,500 ($238,500 – $170,000) was from male clients at an average price of $20 per visit ($68,500/3,425)

18.2

20

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19

True False

Gross and net profit margins have decreased in 20X9 compared with 20X8.

Average cost per staff member has increased in 20X9 compared with 20X8.

Gross margin: 20X8 – $106,000/$200,000 = 53%, 20X9 – $112,500/238,500 = 47.2%

Net margin: 20X8 – $78,000/200,000 = 39%, 20X9 – $80,000/238,500 = 33.5%

Both margins have fallen, so the first statement is true.

Average staff cost: 20X8 – $65,000/4 = $16,250, 20X9 – $91,000/6 = $15,167

Average staff cost has fallen, so the second statement is false.

20 The mix of services offered to female clients

We are told that the mix hasn’t changed. The others are all plausible explanations on the basis of the information given.

21 Resource utilisation of the property has increased and resource utilisation of specialist female hairdressers has decreased.

Property used is the same, so resource allocation is reflected in the total number of cuts, which have increased from 8,000 to 6,800 + 3,425 = 10,225

Average number of clients per specialist female hairdresser has fallen from (8,000/4) = 2,000 to (6,800/5) = 1,360

22

Problem Not a problem

It may be difficult to define measures for quality of service provided.

Increasing the number of measures may increase the chances of the measures giving a conflicting picture.

Increasing the number of measures will mean that the business has more of an external focus, rather than focusing on internal problems.

Oliver may have to spend more time himself on measurement work and less on servicing customers.

The business needs to solve the internal problems that it has, but having an external focus should mean that it concentrates on the measures that are more important to customers, where its competitors may be doing better.

Some of the new measures are likely to involve assessment and inspection, which Oliver is likely to have to carry out himself. He will also need to spend time making an overall assessment of what the measures tell him.

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23

Control No control

Revenue generation

Attributable costs

Apportioned head office costs

Investment in non-current assets

24 Dual pricing system

25 ROI

%

RI

$ million

ROI = 1.8/12 = 15.0%

RI = 1.8 – (12% × 12) = 0.36

26 Division A only

Division A: Profit = $14·4m × 30% = $4·32m Imputed interest charge = $32·6m × 10% = $3·26m Residual income = $1·06m

Division B: Profit = 8·8m × 24% = $2·112m Imputed interest charge = $22·2m × 10% = $2·22m Residual income = $(0·108)m

27

Increase Decrease

$78000

Increase in variable costs from buying in (2,200 units × $40 ($140 – $100)) = $88,000 Less the specific fixed costs saved if A is shut down = ($10,000) Decrease in profit = $78,000

28

Control No control

Generation of revenues

Investment in non-current assets

Investment in working capital

Apportioned head office costs

15.0

0.36

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29 %

Opening capital employed: $4m + $0·5m = $4·5m

Closing capital employed: ($4m × 0·9) + ($0·5 × 1·2) = $3·6m + $0·6 = $4·2m

Average capital employed = $4·35m

Profit after depreciation = $1·2m

Therefore, ROI = $1·2m/$4·35m = 27·59%

ABEL CO

30 $

Marginal cost = $6 + share of overheads $3 ($300,000/100,000 units) = full cost $9 $9 × 1.3 = $11.70

31 Neither 1 or 2

A full cost-based approach should only be used if there is no intermediate market for the product. An opportunity cost approach should be used if the producing division is operating at full capacity.

32 $11

If capacity is limited, it is better for the company to sell 100,000 components to the individual consumer: contribution = $15 ─ $6 ─ $2.50 = $6.50 per unit, than to the commercial buyer at a contribution of $5 ($11 ─ $6)

The production division will therefore want the TP to be at least $11.

The retail division will accept transfers provided the cost is less than its incremental net revenue $15 ─ $2.50 = $12.50

33 $

Now the production division can sell 100,000 components to the commercial buyer @$5 contribution = $500,000 and the retail division can buy in the components and earn contribution from the individual consumers @ $1 per unit ($15 ─ $11.50 ─ $2.50) = $100,000

Total company contribution = $500,000 + $100,000 = $600,000

34 Setting the transfer price at market value if an external market exists for the product

There is no guarantee that the market value will be enough to cover fixed costs. The other methods are all used in practice to resolve this problem.

27.59

11.70

600000

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Performance analysis in not-for-profit organisations and the public sector

35


Some non-quantifiable objectives

Multiple stakeholders

Objectives may be subject to political pressures

Conflicting priorities for resource allocation

36 Economy, Efficiency, Effectiveness

37

Economy Efficiency Effectiveness

Cutting departmental expenditure by 5%

Increasing the number of chargeable hours handled by advisers to 6·2 per day

Obtaining a score of 4·7 or above on customer satisfaction surveys

Retaining all current contracts with government departments

External considerations and behavioural aspects

38 Manipulation of targets to ensure results achieved

Dysfunctional decision making

39 Both 1 and 2

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ACC A F5 Quest ion Ba nk Tu i t io n a n swe r s: 2 : Dec i s i on-ma ki n g tec h ni q ue s 99

P A R T 1 T U I T I O N A N S W E R S : L o n g f o r m


Limiting factors

1 CUT AND STITCH

EXAMINER’S COMMENTS

This was probably the least-well answered question on the paper overall. This is not really surprising, since I find that few students enjoy linear programming, and I think this comes from a fear of anything too mathematical.

Part (a) was fairly straightforward. This should have been really well answered and I think the reason why it wasn’t is because candidates did not expect to be given the optimal production point in a question. They expected to have to find it themselves. Because of this, they didn’t read the question properly and many candidates performed lots of calculations trying to find the optimal production point!

It is so important to read questions carefully in all exams. An expectation of what the requirement will read, based on past questions must not be developed as, when this happens, candidates inevitably don’t answer the question that is currently being asked.

A good attempt at part (a) would have been to solve the two simultaneous equations for the critical constraints at point B, in order to arrive at the optimum quantity of W and L to be produced. Then, these numbers needed to be put into the objective function in order to find contribution.

It is essential to show all workings. Where workings are not shown, full marks cannot be given. Also, it was not sufficient to simply try and read the optimum quantities off the graph. The requirement said “find by appropriate calculation....”

(a) The optimal production mix can be found by solving the two equations given for F and T.

7W + 5L = 3,500 2W + 2L = 1,200

Multiplying the second equation by 2.5 produces:

7W + 5L = 3,500 5W + 5L = 3,000 2W = 500 W = 250

Substituting W = 250 in the fabric equation produces:

2 × 250 + 2L = 1,200 2L = 700 L = 350

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100 Tu i t io n a n swe r s: 2 : Dec i s i on -ma ki n g tec h ni q ue s ACC A F5 Quest ion Ba nk

The optimal solution is when 250 work suits are produced and 350 lounge suits are produced. The contribution gained is $26,000:

C = 48W + 40L C = (48 × 250) + (40 × 350) C = 26,000

EXAMINER’S COMMENTS: PART (b)

Some candidates gave perfect answers to this but, admittedly, these candidates were in the minority.

Most answers were poor and this is clearly an area that needs to be revisited. A common error was finding a total shadow price of $14 for fabric and tailor time jointly, rather than calculating them separately. Such answer scored poorly.

EXAM SMART

Learning how to perform key techniques is really important in the exam. For example here you need to know and be able to demonstrate that the shadow price is calculated by:

Adding one extra unit of resource to the constraint. Recalculating the optimum point and the quantities of the two products at the new optimum point. Recalculating the overall contribution at the new optimum point and Identifying the increased contribution over and above the original optimum point.

(b) The shadow prices can be found by adding one unit to each constraint in turn.

Shadow price of T 7W + 5L = 3,501 2W + 2L = 1,200

Again multiplying the second equation by 2.5 produces:

7W + 5L = 3,501 5W + 5L = 3,000 2W = 501 W = 250.5

Substituting W = 250.5 in the fabric equation produces:

(2 × 250.5) + 2L = 1,200 2L = 1,200 – 501 L = 349.5

Contribution earned at this point would be = (48 × 250.5) + (40 × 349.5) = 26,004 which is an increase of $4.

Hence the shadow price of T is $4 per hour.

Shadow price of F

7W + 5L = 3,500 2W + 2L = 1,201

Again, multiplying the second equation by 2.5 produces:

7W + 5L = 3,500.0 5W + 5L = 3,002.5 2W = 497.5 W = 248.75

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Substituting W = 248.75 in the fabric equation produces:

(2 × 248·75) +2L = 1,201 2L = 1,201 – 497.5 L = 351.75

Contribution earned at this point would be = (48 × 248.75) + (40 × 351.75) = 26,010, which is an increase of $10.

Hence the shadow price of F is $10 per metre.

EXAMINER’S COMMENTS: PART (c)

If part (b) was poorly answered, part (c) was really poorly answered!

Many candidates could perform the calculations in part (b) but did not, on the whole, understand that the shadow price is the premium OVER AND ABOVE the normal price that could be paid for extra tailor time. Again, this area clearly needs revisiting.

EXAM SMART

The Examiner’s point raises a common issue with interpreting shadow prices. You need to realise that the shadow price (in this case $4 per hour of tailor time) represents the maximum amount over and above the current price of the resource ($1.50 per hour) that CS might consider paying. Hence $1.50 + $5 = $5.50 per hour is the theoretical maximum per hour that might be considered worth paying for extra tailor hours.

(c) The shadow price represents the maximum premium above the normal rate a business should be willing to pay for more of a scarce resource. It is equal to the increased contribution that can be gained from gaining that extra resource.

The shadow price of labour here is $4 per hour. The tailors have offered to work for $4.50 – a premium of $3.00 per hour. At first glance the offer seems to be acceptable. However, many businesses pay overtime at the rate of time and a half and some negotiation should be possible to create a win/win situation. Equally some consideration should be given to the quality aspect here. If excessive extra hours are worked then tiredness can reduce the quality of the work produced.

EXAMINER’S COMMENTS: PART (d)

Candidates needed to appreciate that whilst fabric remained a critical constraint, maximum demand for W now became the other critical constraint rather than tailor time. Therefore, the constraints for fabric and W now needed to be solved in order to find the optimum production mix. It was surprising to see that candidates who completed part (a) correctly could not do part (d) as essentially, the technique required was the same.

(d) If maximum demand for W falls to 200 units, the constraint for W will move left to 200 on the x axis of the graph. The new optimum point will then be at the intersection of:

W = 200 and 2W + 2L = 1,200

Solving these equations simultaneously, if:

W = 200, then (2 × 200) + 2L = 1,200 Therefore L = 400.

So, the new production plan will be to make 400L and 200W.

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EXAM SMART

A quick inspection of the graph for the maximum demand of W (line P) moving to 200 units would identify that there would now be a new optimum point (not point B anymore).

Marking guide Marks

(a) Optimal point calculation 3

Contribution 1

4

(b) For each shadow price 3 6

(c) Rate discussion 3

Other factors e.g. tiredness, negotiation 3

6

(d) Find optimum point 1

Solve 2 equations 2

Conclusion 1

4

Maximum marks available 20

Pricing decisions

2 WX

EXAMINER’S COMMENTS: PART (a)

It was surprising, even disappointing, to find that many candidates were not able to apply the ‘high – low’ technique to calculate the total variable cost of the unit.

Part (a)(ii) was generally answered well, but a significant number of candidates made an error when calculating the selling price that would maximise the company’s profit, and put forward an answer that could not be possible in the context of the question.

Common errors

Unable to apply the high-low technique (part (a)(i)). Incorrectly believing that the total variable cost was simply the sum of the direct

material and direct labour. Unable to calculate the selling price that would maximise the company’s profits (part (a)(ii)).

EXAM SMART

From the information we can tell that material and labour are purely variable costs since the total costs change in direct proportion to annual production units. Material costs are $2 per unit and labour is $6 per unit.

Since the overhead costs do not vary in proportion to the units produced and are not constant in total they must represent a semi variable cost.

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(a) (i) The optimum selling price occurs where marginal cost = marginal revenue.

Marginal cost is assumed to be the same as variable cost. From the data it can be determined that the costs of direct materials and direct labour are wholly variable and total $8 per unit. [($200,000+ $600,000) / 100,000]

The overhead costs appear to be semi-variable and will be analysed using the High Low method: Units $000 High 200,000 1,460 Low 100,000 880 Difference 100,000 580

Thus, the variable overhead cost per unit is $580,000 / 100,000 = $5.80. The total variable cost per unit is therefore $13.80.

EXAM SMART

An alternative working for part (ii) for the price/demand relationship would be as follows.

𝑏 =1

25,000= 0.00004

Where P = $25, X = 150,000 and b = 0.00004

Therefore 25 = a - 0.00004 × 150,000

25 = a - 6 a = 31

Therefore P = 31 - 0.00004X

(ii) The price at which there is zero demand can be calculated to be $25 + ((150,000/25,000)

× $1)) = $31

There is a change in demand of 25,000 units for every $1 change in selling price so the equation of the selling price is:

$31 ─ 0.00004x

And thus the equation for marginal revenue is:

$31 ─ 0.00008x

Equating marginal cost and marginal revenue gives:

13.80 = 31 ─ 0.00008x ─17.20 = ─0.00008x ─17.2/-0.00008 = x = 215,000

If x = 215,000 then the optimum selling price is:

$31 ─ (0.00004 × 215,000) = $22.40


The situation described above was compounded in part (b) when candidates attempted to explain figures that were completely incorrect.

Example 1: explaining an optimum selling price of $5 Example 2: discussing an output figure of 3.34 million units

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Common errors

Submitting reasons in part (b) that did not relate to the figure calculated in part (a)(ii). Unclear workings. Submitting lengthy answers when addressing part (b) that were disproportionate to the

marks available.

(b) There are many reasons why this price may not be used (candidates are expected to explain TWO).

There may be inaccuracies in the demand forecasts at different prices because the model assumes that demand is driven solely by price. In fact there are many different factors that influence demand; these include advertising, competitor actions and changing fashions / tastes.

The model also assumes that the relationship between price and demand is static whereas in reality it is regularly changing.

There may be inaccuracies in the determination of the marginal cost, the assumption that marginal cost equals variable cost may itself be invalid, but even if this is acceptable then the assumption that all variable costs vary with volume is unrealistic. Some of these costs may be driven by factors other than volume. Again there is an assumption the unit variable cost is unchanging once it has been determined.

(c) Market skimming

Market skimming is a strategy that attempts to exploit those areas of the market which are relatively insensitive to price changes. Initially, high prices for the webcam would be charged in order to take advantage of those buyers who want to buy it as soon as possible, and are prepared to pay high prices in order to do so.

The existence of certain conditions is likely to make the strategy a suitable one for WX. These are as follows:

Where a product is new and different, so that customers are prepared to pay high prices in order to gain the perceived status of owning the product early. The webcam has superior audio sound and visual quality, which does make it different from other webcams on the market.

Where products have a short life cycle this strategy is more likely to be used, because of the need to recover development costs and make a profit quickly. The webcam does only have a two-year life cycle, which does make it rather short.

Where high prices in the early stages of a product’s life cycle are expected to generate high initial cash inflows. If this were to be the case for the webcam, it would be particularly useful for WX because of the current liquidity problems the company is suffering. Similarly, skimming is useful to cover high initial development costs, which have been incurred by WX.

Where barriers to entry exist, which deter other competitors from entering the market; as otherwise, they will be enticed by the high prices being charged. These might include prohibitively high investment costs, patent protection or unusually strong brand loyalty. It is not clear from the information whether this is the case for WX.

Where demand and sensitivity of demand to price are unknown. In WX’s case, market research has been carried out to establish a price based on the customers’ perceived value of the product. The suggestion therefore is that some information is available about price and demand, although it is not clear how much information is available.

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It is not possible to say for definite whether this pricing strategy would be suitable for WX, because of the limited information available. However, it does seem unusual that a high-tech, cutting edge product like this should be sold at the same price over its entire, short life cycle. Therefore, price skimming should be investigated further, presuming that this has not already been done by WX.

Marking guide Marks

(a) Calculate the variable cost per unit Determine the selling price equation Calculate the optimum selling price per unit

2 2 2

(b) Explain two reasons why the company might not use this optimum price – two marks each)

4

(c) Explanation Discussion of each condition – max two marks each Conclusion

2 7 1


Dealing with risk and uncertainty in decision making

3 GYM BUNNIES

(a) Option 1

Net income = $720 – $80 = $640 per annum.

Total annual income = $640 × 5,250 = $3.36m

Option 2

If costs $120 per annum, net income = $720 – $120 = $600 per annum. If costs $180 per annum, net income = $720 – $180 = $540 per annum.

Total annual income

If membership 6,000 (A):

$600 × 6,000 = $3.6m

$540 × 6,000 = $3.24m

If membership 6,500 (B):

$600 × 6,500 = $3.9m

$540 × 6,500 = $3.51m

Expected value and decision:

EV at A = (0.5 × $3.6m) + (0.5 × $3.24m) = $3.42m EV at B = (0.5 × $3.9m) + (0.5 × $3.51m) = $3.705m EV at C = (0.4 × $3.42m) + (0.6 × $3.705m) = $3.591m per annum

At D, compare EV of:

Option 1: (3 × $3.36m) = $10·08m Option 2: (3 × $3.591m) – $360k = $10·413m

Therefore choose option 2 – expand exercise studio.

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$10.413m


Part (b) asked candidates to calculate the maximum price that the company should pay for perfect information about the expansion’s exact effect on membership numbers. Very few candidates answered part (b) correctly. Candidates must revise this area well.

EXAM SMART

Remember that the value of perfect information (VOPI) is calculated be working out the difference between what the EV would be if you had perfect information (in this case this would be knowledge of what the membership numbers would change to) compared to the EV if you didn’t have this knowledge. It might help to consider this in tabular format. The values in the table represent the net income figures over the full three-year period

Expansion option Option 1 Option 2 $ $ 6,000 members under option 2 (see note 1 below) $10.08m $9.9m 6,500 members under option 2 $10.08m $10.755m

Note 1

If option 1 is undertaken you know you will get net income of $3.36m pa (5,250 × {720 – 80}), hence over three years this is $10.08m. If we choose option 2 and it turns out member numbers are 6,000 then the return is $9.9m. (Net income of 3 yrs × $3.42m (see decision tree) = $10.26m less the capital costs of $0.36m = $9.9m.)

If we don’t have perfect information about the membership levels then the EV’s are as per the examiners workings above, namely;

Option 1 = $10.08m Option 2 = $10.413m

D A

C

B

5,250 members: net income $640 per annum

Option 1

Option 2 $(360k)

0.6

0.4

6,500 members

6,000 members

0.5

0.5

0.5

0.5

$3.591m per annum

$3.42m per annum

$3.705 per annum

Net income $540 per annum




Net income $3.24 per annum





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So, without perfect information you’d choose option 2 per the tree and get an EV of $10.413m. With perfect information the following can be concluded. If you knew membership was going to be 6,000 (prob = 0.4), you would choose option 1 and get $10.08m whereas if you knew membership was going to be 6,500 (prob = 0.6) you would choose option 2 and get $10.755m, giving an overall EV of $10.485m ({0.4x$10.08m} + {0.6x$10.755m})

The VOPI is therefore $10.485m - $10.413m = $0.072m

(a) With perfect information:

If membership numbers were 6,000:

EV = $3.42m × 3 = $10.26m Less costs of $360k = $9.9m

Therefore, with these membership numbers, GB would choose option 1 instead.

If membership numbers were 6,500:

EV = $3.705 × 3 = $11.115m Less costs of $360k = $10.755m

In this instance, GB would choose option 2.

So, if membership numbers are 6,000, of which there is a 0.4 probability, EV will be $10.08m (option 1) and if membership numbers are 6,500, of which there is a 0.6 probability, then EV will be $10.755m (option 2).

Therefore EV with perfect information = (0.4 × $10.08m) + (0.6 × $10.755) = $10.485m.

Without perfect information the EV is $10·413m, therefore the value of it is $72k ($10.485m – $10.413m). This represents the maximum price that GB should be prepared to pay for the information.


Part (c) asked for a brief discussion of using expected values for a decision of this nature. It was only worth two marks, which is why the requirement asked for only a ‘BRIEF’ discussion. Many candidates spotted the most obvious point, which is that the expected value criterion is useful for decisions that are repeated but is less relevant to one off decisions of this nature since it merely gives a long run average of what the outcome would be if a decision were repeated many times. However, marks could still be earned for making points such as the fact that probabilities are difficult to ascertain etc. Please note that the marks available for a requirement are indicative of the length of answer expected. Writing a whole page of answer for this requirement is simply wasting valuable time that could have been spent elsewhere.

(b) The expansion decision is a one-off decision, rather than a decision that will be repeated many times. Expected values, on the other hand, give us a long run average of the outcome that would be expected if a decision was to be repeated many times. The actual outcome may not be very close to the expected value calculated and the technique is therefore not really very useful here.

Also, estimating accurate probabilities is difficult because this exact situation has not arisen before.

The expected value criterion for decision-making is useful where the attitude of the investor is risk neutral. We do not know what the management of Gym Bunnies’ attitude to risk is, which

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makes it difficult to say whether this criterion is a good one to use. In a decision such as this one, it would be useful to see what the worst case scenario and best case scenario results would be too, in order to assist decision-making.

(c) Methods of uncertainty reduction

Simulation

Computer models can be built to simulate real life scenarios. The model will predict what range of returns the business could expect from a given decision without having risked any actual cash. The models use random number tables to generate possible values for the uncertainty the business is subject to. Again, computer technology is assisting in bringing down the cost of such risk analysis.

Calculation of worst and best case figures

A business will often be interested in range. It enables a better understanding of risk. An accountant could calculate the worst case scenario, including poor demand and high costs while being sensible about it. He could also calculate best case scenarios including good sales and minimum running costs. This analysis can often reassure the business. The production of a probability distribution to show the business the range of possible results is also useful to explain risks involved. A calculation of standard deviation is also possible.

Marking guide Marks

(a) Expected value and decision EV at A EV at B EV at C Compare EVs at D Recommendation that follows

2 2 2 1 1

8 (b) Price of perfect information EV with 6,000 members EV with 6,500 members Price

2 2 2

6 (c) Discussion 2 (d) Simulation Worst-best case figures

2 2

4


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1 PC CO


Part (a) was where the bulk of the easy marks were on this paper: a requirement to identify and explain six objectives of a budgetary control system. A good number of answers scored full marks. On the whole, candidates either knew the answer or didn’t; there wasn’t much in between.

EXAM SMART

If you had identified that the bulk of the easy marks on this paper were in this question, it would have been worth your while attempting this question first.

(a) Objectives of a budgetary control system

To compel planning

Budgeting makes sure that managers plan for the future, producing detailed plans in order to ensure the implementation of the company’s long-term plan. Budgeting makes managers look at the year ahead and consider the changes in conditions that might take place and how to respond to those changes in conditions.

To co-ordinate activities

Budgeting is a method of bringing together the activities of all the different departments into a common plan. If an advertising campaign is due to take place in a company in three months’ time, for example, it is important that the production department know about the expected increase in sales so that they can scale up production accordingly. Each different department may have its own ideas about what is good for the organisation. For example, the purchasing department may want to order in bulk in order to obtain bulk quantity discounts, but the accounts department may want to order in smaller quantities so as to preserve cash flow.

To communicate activities

Through the budget, top management communicates its expectations to lower level management. Each department has a part to play in achieving the desired results of the company, and the annual budget is the means of formalising these expectations. The whole process of budget setting, whereby information is shared between departments, facilitates this communication process.

To motivate managers to perform well

The budget provides a basis for assessing how well managers and employees are performing. In this sense, it can be motivational. However, if the budget is imposed from the top, with little or no participation from lower level management and employees, it can have a seriously demotivational effect. This is discussed further in part (b).

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To establish a system of control

Expenditure within any organisation needs to be controlled and the budget facilitates this. Actual results are compared to expected results, and the reasons for any significant, unexpected differences are investigated. Sometimes the reasons are within the control of the departmental manager and he/she must be held accountable; at other times, they are not.

To evaluate performance

Often, managers and employees will be awarded bonuses based on achieving budgeted results. This makes more sense than evaluating performance by simply comparing the current year to the previous year. The future may be expected to be very different than the past as economic conditions change. Also, events happen that may not be expected to reoccur. For example, if weather conditions are particularly wet one year, a company making and selling umbrellas would be expected to make higher than usual sales. It would not be fair to assess managers against these historical sales levels in future years, where weather conditions are more normal.

(Other possible objectives include:

To delegate authority to budget holders A formal budget permits budget holders to make financial decisions within the specified limits agreed, i.e. to incur expenditure on behalf of the organisation.

To ensure achievement of the management’s objectives Objectives are set not only for the organisation as a whole but also for individual targets. The budget helps to work out how these objectives can be achieved.)


Part (b) was a little more challenging: a requirement to discuss the concept of participative budgeting in terms of the objectives identified in part (a). Answers to this were mixed, with some good attempts but some poor ones too. A small number of candidates didn’t know what participative budgeting was (the clue is in the title) so they scored nothing. Others managed to score marks by making some valid observations about it, even if they didn’t necessarily tackle it in the best way, which was by using the objectives in part (a) as headings in order to give the answer some structure.

EXAM SMART

Remember that participative budgeting is sometimes referred to as bottom up budgeting, where there is more involvement from all across the organisation.

(b) Participative budgeting

‘Participative budgeting’ refers to a budgeting process where there is some level of involvement from subordinates within the organisation, rather than budgets just being set by the top level of management.

There are various views about whether participative budgeting is more effective than other styles. Each of the objectives from part (a) is dealt with below, considering the extent to which participative budgeting helps to achieve this.

To compel planning

Participative budgeting will compel planning. Although participation can take many forms, often it will take the form of bottom-up budgeting, whereby the participation starts at the lowest level of management and goes all the way up to the top. If this is the

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case, then planning is taking place at many levels, and should be more accurate than if it simply takes place at a high level, by individuals who are not familiar with the day to day needs of the business.

To co-ordinate activities

Co-ordination of activities may become more time consuming if a participative style of budgeting is used. This is because, not only does there need to be co-ordination between departments but there also has to be co-ordination between the different levels of management within each department. The process should be cumbersome but also effective, with everyone knowing exactly what the plan is.

To communicate activities

Communication will be particularly effective with participative budgeting, although how effective depends on the extent of the participation. If all levels of management are involved, from the bottom up, then all levels of management know what the plan is. However, the plan may change as different departments’ budgets are reviewed together and the overall budgeted profit compared to the top level management’s expectations. Hence, it may be the case that those people involved in the initial budgets, i.e. lower level management, have to deal with their budgets being changed.

To motivate managers to perform well

If managers play a part in setting the budget, they are more likely to think that the figures included in them are realistic. Therefore, they are more likely to try their best to achieve them. However, it may be that managers have built budgetary slack into their budgets, in an attempt to make themselves look good. Therefore, managers could end up performing less well than they would do had tougher targets been set by their superiors.

To establish a system of control

In terms of establishing a system of control, it is largely irrelevant whether the budget setting process is a participative one or not. What is important is that actual results are compared to expected, and differences are investigated. This should happen irrespective of the budget setting process. Having said that, control is only really effective if the budgeted figures are sound. As stated above, whilst they are more likely to be realistic if a participative style of budgeting is used, the system is open to abuse in the form of budgetary slack.

To evaluate performance

Managers will be appraised by comparing the results that they have achieved to the budgeted results. A participative budget will be an effective tool for this provided that participation is real rather than pseudo and provided that the managers have not built slack into their figures, which has gone uncorrected.

[Examiner’s note: candidates would not be required to write all of this for the available marks.]

Marking guide Marks

(a) Objectives Each objective

1½

Max 9 (b) Participative style of budgeting

Explaining participative budgeting Each objective discussed in relation to it

2

1½

Max 11


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Materials mix and yield variances

2 THE SAFE SOAP CO


The final question on the paper was for 15 marks and covered material mix and yield variances. Part (a) asked for the calculations for these and was very well answered. It was impressive to see the number of candidates who scored full marks here.

(a) Variance calculations

Mix variance

Total kg of materials per standard batch = 0·25 + 0·6 + 0·5 = 1·35 kg Therefore standard quantity to produce 136,000 batches = 136,000 × 1·35 kg = 183,600 kg Actual total kg of materials used to produce 136,000 batches = 34,080 + 83,232 + 64,200 = 181,512 kg

Material

Actual quantity Standard mix

Actual quantity

Actual mix

Variance

Standard cost

per kg

Variance

kgs kgs kgs $ $ Lye 181,512 × 0·25/1·35 = 33,613·33 34,080 (466·67) 10 (4,666·70) Coconut oil 181,512 × 0·6/1·35 = 80,672 83,232 (2,560) 4 (10,240) Shea butter 181,512 × 0·5/1·35 = 67,226·67 64,200 3,026·67 3 9,080·01

181,512 181,512 (5,826·69)A

Yield variance Material

Standard quantity

Standard mix

Actual quantity

Standard mix

Variance

Standard

cost per kg

Variance kgs kgs $ $

Lye 0·25 × 136,000 = 34,000 33,613·33 386·67 10 3,866·70 Coconut oil 0·6 × 136,000 = 81,600 80,672 928 4 3,712 Shea butter 0·5 × 136,000 = 68,000 67,226·67 773·33 3 2,319·99

183,600 181,512 9,898·69F


Part b(i) asked for a brief explanation of what each of the variances indicates about production at the company, Safe Soap Co. Some candidates did not read the question properly and started discussing the manager’s performance. This was not what the question asked so – future candidates – make sure that you always read requirements carefully. So, for example, as regards the adverse material mix variance, answers should have stated that it shows that the mix of materials used in October was more expensive than the standard mix. It was surprising to see that many candidates did not know that this is what an adverse materials mix variance shows. This was similar to some of the responses to question 2, where the calculations were done reasonably well but understanding of what the calculations actually meant was sometimes lacking.

Part b (ii) also proved problematic for a number of candidates. It read ‘discuss whether the sales manager could be justified in claiming that the change in the materials mix has caused an adverse sales volume variance in October.’ The expectation was that candidates would

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identify the fact that the change in mix could have led to the adverse sales volume variance but it cannot be definitively said that it did. Many answers tried to make it a black and white matter i.e. yes or no, when in fact the answer was grey.

Quite a few candidates said that the sales manager couldn’t be justified in his claims because a more expensive mix of materials was used and this means sales volumes should go up. Again, it’s simply not as straight-forward as this. A more expensive mix might be used in production but this doesn’t mean that a product will necessarily be better. In the case of something like soap, adhering to a certain formula is very important.

(b) (i) A materials mix variance will occur when the actual mix of materials used in production is

different from the standard mix. So, it is inputs which are being considered. Since the total mix variance is adverse for the Safe Soap Co, this means that the actual mix used in September and October was more expensive than the standard mix.

A material yield variance arises because the output which was achieved is different from the output which would have been expected from the inputs. So, whereas the mix variance focuses on inputs, the yield variance focuses on outputs. In both September and October, the yield variance was favourable, meaning that the inputs produced a higher level of output than one would have expected.

(ii) Whilst the mix and yield variances provide Safe Soap Co with a certain level of information, they cannot address any quality issues which arise because of the change in mix. The consequences of the change may well have an impact on sales volumes. In Safe Soap Co’s case, the sales volume variance is adverse, meaning that sales volumes have fallen in October. It is not known whether they also fell in September but it would be usual for the effects on sales of the change in mix to be slightly delayed, in this case by one month, given that it is only once the customers start receiving the slightly altered soap that they may start expressing their dissatisfaction with the product.

There may also be other reasons for the adverse sales volume variance but given the customer complaints which have been received, the sales manager’s views should be taken on board.

(c) (i) Expenditure variance

Cost driver rate = $40,500/30 = $1,350 Expected cost therefore = 36 × $1,350 $48,600 Actual cost $45,400

Variance $3,200 F

(ii) Efficiency variance

Expected no. of batches per set up 120,000/30 = 4,000

Therefore, expected no. of set ups for 136,000 = 136,000/4,000 = 34 Actual number of set ups 36

Difference 2 A

× standard rate per set up $1,350

Variance $2,700 A

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Marking guide Marks


Mix variance

Quantity variance

4

4

8

(b) (i) Variances

Marks per variance explained

(ii) Discussion

Per valid point

2

1

4

2

(c) (i) Expenditure variance

(ii) Efficiency variance

3

3



3 BEDCO

(a) Planning and operational variances

(i) Material Price Planning Variance (MPPV)

(Standard price – revised price) × actual quantity

Sheets ($5 – $6) × 248,000 = $248,000 adverse Pillow cases ($5 – $6) × 95,000 = $95,000 adverse Total $343,000 adverse

(ii) Material Price Operational Variance (MPOV)

(Revised price – actual price) × actual quantity

Sheets ($6 – $5.80) × 248,000 = $49,600 favourable Pillow cases ($6 – $5.80) × 95,000 = $19,000 favourable Total $68,600 favourable

(iii) Material Usage Planning Variance (MUPV)

(Standard quantity for actual production – revised quantity for actual production) × standard price

RQ for each pillow case = 0·5 m × 1·1 = 0·55 m

Sheets (240,000 – 240,000) × $5 = 0 Pillow cases (90,000 – 99,000) × $5 = $45,000 adverse Total $45,000 adverse

(iv) Material Usage Operational Variance (MUOV)

(Actual quantity – revised quantity for actual production) × standard price

Sheets (248,000 – 240,000) × $5 = $40,000 adverse Pillow cases (95,000 – 99,000) × $5 = $20,000 favourable Total $20,000 adverse

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(b) Performance of the Production Manager

In total, there has been an overspend of $339,400, which looks poor. However, when the reasons for this are examined, together with the variances calculated in (a), it is apparent that the production manager cannot be held solely responsible for the overspend. In fact, he has had little control over the situation.

Increase in cotton price

Since cotton is used to make bed sheets and the price of this rose in the world market by 20%, the Production Manager’s performance has to be looked at in light of this. Because of the increased market price, the adverse material price planning variance is very high, since the budgeted cost of $5 per m2 was far below the actual market price of $6 per m2. The Production Manager cannot be held responsible for this since he does not set the standard costs. He can only be held responsible for any difference in price between the $6 market price and the $5.80 actual price paid. Since the $5.80 paid per m2 is less than the market price of $6 per m2, the Production Manager performed well, as shown by the favourable material price operating variance of $68,600.

Increase in amount of cotton used

Since more cotton was used for actual production than budgeted, a total adverse material usage variance of $65,000 ($45,000 + $20,000) arose. However, of this, $45,000 (material usage planning variance) arose because of the request for a change in the design of the pillowcases by Bedco’s customer. This was not within the control of the Production Manager and his performance should not therefore be assessed on it. However, an adverse material usage operational variance of $20,000 also arose; the performance of the Production Manager is weak here. Most of the adverse operational variance actually related to the production of bed sheets rather than pillowcases. It is not clear why this arose but it is definitely poor. Bedco was also unable to produce all the pillowcases ordered by its customer in November as the order fell short by 10,000 units. If this was genuinely because of the late design change, however, it seems unfair to judge the Production Manager on this.

Marking guide Marks


MPPV

MPOV

MUPV

MUOV

3

3

3

3

Max 12

(b) Discussion

Each valid point

2

Max 8


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4 JUMP


Part (a) examined the calculation of bonuses for a manager based on a set of given targets; answers to this were good on the whole.

(a) Bonus calculation:

Qtr to Qtr to Qtr to Qtr to Bonus hits 30/06/09 30/09/09 31/12/09 31/03/10 Staff on time On-time % 430/450 = 452/480 = 442/470 = 460/480 = 95.5% 94.2% 94.0% 95.8% 2 Bonus earned? Yes No No Yes Members visits Target visits 60% × 3,000 ×12 60% × 3,200 × 12 60% × 3,300 × 12 60% × 3,400 × 12

= 21,600 = 23,040 = 23,760 = 24,480 Actual visits 20,000 24,000 26,000 24,000 Bonus earned? No Yes Yes No 2 Personal training Target 10% × 3,000 10% × 3,200 10% × 3,300 10% × 3,400 = 300 = 320 = 330 = 340 Actual sessions 310 325 310 339 Bonus earned Yes Yes No No 2 Total 6

The bonus earned by the manager would be 6 × $400 = $2,400, which is 50% of the total bonus available.


Part (b) required a discussion of the extent to which the three targets set were controllable by managers. For a narrative requirement, this was fairly well answered overall.

A minority of candidates did misread the requirement though and instead gave commentary on the extent to which the targets had been met in the year.

EXAM SMART

Follow the clues given by the Examiner in the requirement. Here:

There are three targets given: a sub-heading for each one would give a clear line of demarcation between each part of the question.

There are nine marks awarded for this requirement: three marks per target. The requirement states that you need to make a case for both sides of the argument.

Therefore your answer needs to be balanced. Focus on how much control you think the manager has. Form a conclusion on this for

each target if you can.

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(b) An important principle of any target-based bonus system is that the targets must be based on controllable aspects of the manager’s role.

Staff on time

The way in which a manager manages staff can have a big bearing on whether or not an individual staff member is keen to work and arrive on time. We are told that the local manager has the power to vary employment contracts so he should be able to agree acceptable shift patterns with staff and reward them for compliance. In this respect the lateness of staff is controllable by the manager.

On the other hand, an individual staff member may be subject to home pressures or problems with public or other transport meaning that even they cannot control the time of arrival at work on some days. The manager cannot control these events either. If this problem became regular for a member of staff, then the local manager could vary the contract of employment accordingly.

Overall, lateness to work is controllable by the local manager.

Member use of facilities

The local manager controls the staff and hence the level of customer service. Good quality customer services would probably encourage members to use the facilities more often. Equally, by maintaining the club to a high standard, then the local manager can remove another potential reason for a member not to use the facilities regularly.

On the other hand, customers are influenced by many factors outside of the club. Their state of health or their own work pressures can prevent members being able to come to the club.

Overall, the local manager can only partly control the number of member visits.

Personal training sessions

Again, the local manager controls the level of customer service and the standard of maintenance in the personal training department. He also has control over prices so, if the bookings fall, he is able to reduce prices or make special offers to encourage use of the facilities.

On the other hand, personal training sessions may be seen as a luxury by customers and in times of financial difficulty they are expendable by them. Personal training sessions are often available from other sources and competition can force down the sales of the club. The manager can respond to that by improving services. He cannot, however, make significant investment in improving the facilities without board approval.

Overall, the local manager can only partly control the number of personal training sessions booked.


Again, there were some good answers here, with only a minority of candidates talking about manipulating profits, which wasn’t relevant to a business where profit based targets weren’t being used.

EXAM SMART

In this requirement you should have focused on the instances where no bonus would be received and think about whether it would have been possible to manipulate the figures to hit a bonus target in any of those situations.

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(c) There are a variety of methods by which the performance data can be manipulated.

Cut off

The unethical manager could record visits in a different period than was actually the case. For example, in quarter three the target for personal training sessions was not met by 20 sessions. This was probably obvious to the manager in the last few days of that quarter. He could have therefore recorded some sessions as having taken place in the next quarter. Indeed, only one session would have to be moved in this way in order for the manager to meet the target in the final quarter and gain another $400 of bonus.

Reduce prices to below economic levels to encourage use

The targets that the manager is subject to are mainly volume driven. A reduction in prices would harm profitability but would not damage the manager’s bonus potential. More sessions are bound to follow if the price is set low enough. (Other ideas would be acceptable, including advising staff to take the day off if they were going to be late. This would damage service levels admittedly, but would potentially gain a bonus for lateness.)

Marking guide Marks

(a) Per target 2 Max 6

(b) For each target – supporting controllability 1½

For each target – denying controllability 1½

Max 9

(c) For each idea of manipulation, up to 2½ Max 5


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1 WEB CO


This was a classic performance management question and was generally well-answered by candidates compared to other questions on the paper. The company in the question had made certain changes and introduced some incentives in order to boost sales and the requirement asked for a discussion of whether these changes and incentives had been effective. As usual, it was necessary to do some preliminary calculations in order to assess performance and candidates should be reminded that absolute figures are rarely useful and percentage changes are far more informative.

The most common weakness in answers was the classic commentary stating that, for example, “Sales have gone up, which is good.” Comments such as these simply won’t score marks. Candidates needed to consider the relationship between the data and calculations with the information given in the question, in this case relating to the changes and incentives introduced. If this link is not being made, rarely will comments score marks.

Good candidates identified that, although sales had increased by 25%, net profit had decreased by 33%, but this was due to the mass of expenses that had been incurred in bringing about the changes. Consequently, the benefits of these changes would be expected to continue for some time, and it would certainly be useful to see quarter 3’s results when these were available.

Poorer candidates seemed to think that the decrease in net profit margin was a sign that things were going wrong and cost of sales must be increasing dramatically. Again, I would emphasise that, at this level, candidates are expected to link the information in the scenario with the data and their calculations in order to draw valid conclusions. The candidates producing weaker answers appeared almost not to have read the scenario and simply to have read the data. In a question like this, it is really useful to annotate the written parts of the scenario and where, for example, it states that $200,000 has been spent on advertising, note down next to it the calculations that might help to analyse the effect of that (NPM, increase in sales.) Then, when writing answers, the link has already been noted down and is ready to be discussed.

As far as the calculations go, it is useful to produce a small schedule either at the beginning or end of the answer with all workings on. This makes it easy to mark and see where the calculations have come from, so that credit can still be given even where minor errors have been made.

EXAM SMART

In exams it is important to not make silly mistakes. For example, it is very easy to misread a calculator and see the increase in subscriptions as 259% and not 159%. You need to work steadily and methodically, clearly showing workings as you progress.

Also do be imaginative in your calculations and make sure you talk about them too!

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For example, if the profit margin had been maintained at 25% then profit would have been: $2750k × 25% = $687.5k. With the actual profit only being $459,250, this is a shortfall of $228,250. This then gives you room to think why this has happened and what the impact could be.

You could calculate the average spend per visit – it has risen from $54.14 to $55.44, a 2% increase and so on.

Since you have to relate the performance to changes in incentives you should start off by identifying what the changes in incentives are. Then use clear subheadings to break your answer down for the Examiner to make it easy for the markers to award you marks.

Web Co has made three changes and introduced two incentives in an attempt to increase sales. Using the performance indicators given in the question, it is possible to assess whether these attempts have been successful.

Total sales revenue

This has increased from $2.2 million to $2.75m, an increase of 25% (W1). This is a substantial increase, especially considering the fact that a $10 discount has been given to all customers spending $100 or more at any one time. However, because a number of changes and incentives have been introduced, it is not possible to assess how effective each of the individual changes/incentives has been in increasing sales revenue without considering the other performance indicators.

Net profit margin (NPM)

This has decreased from 25% to 16.7%. In $ terms this means that net profit was $550,000 in Quarter 1 and $459,250 in Quarter 2 (W2). If the 25% NPM had been maintained in Quarter 2, the net profit would have been $687,500 for Quarter 2. It is therefore $228,250 lower than it would have been. This is mainly because of the $200,000 paid out for advertising and the $20,000 paid to the consultant for the search engine work. The remaining $8,250 difference could be a result of the cost of the $10 discounts given to customers who spent more than $100, depending on how these are accounted for. Alternatively, it could be due to the costs of providing the Fast Track service. More information would be required on how the discounts are accounted for (whether they are netted off sales revenue or instead included in cost of sales) and also on the cost of providing the Fast Track service.

While it is not clear how long the advert is going to run for in the fashion magazine, $200,000 does seem to be a very large cost.

This expense is largely responsible for the fall in NPM. This is discussed further under ‘number of visits to website’.

Number of visits to website

These have increased dramatically from 101,589 to 141,714, an increase of 40,125 visits (39.5% W3). The reason for this is a combination of visitors coming through the fashion magazine’s website (28,201 visitors W5), with the remainder of the increase most probably being due to the search engine consultants’ work. Both of these changes can therefore be said to have been effective in improving the number of people who at least visit Web Co’s online store. However, given that the search engine consultant only charged a fee of $20,000 compared to the $200,000 paid for magazine advertising, in relative terms, the consultant’s work provided value for money. Web Co’s sales are not really high enough to withstand a hit of $200,000 against profit, hence the fall in NPM.

Number of orders/customers spending more than $100

The number of orders received from customers has increased from 40,636 to 49,600, an increase of 22% (W4). This shows that, while most of the 25% sales revenue increase is due to a higher number of orders, 3% of it is due to orders being of a higher purchase value. This is also reflected in the fact that the number of customers spending more than $100 per visit has increased from 4,650 to 6,390, an

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increase of 1,740 orders. So, for example, if each of these 1,740 customers spent exactly $100 rather than the $50 they might normally spend, it would easily explain the 3% increase in sales that is not due to increased order numbers. It depends partly on how the sales discounts of $10 each are accounted for. As stated above, further information is required on these.

An increase in the number of orders would also be expected, given that the number of visitors to the site has increased substantially.

This leads on to the next point.

Conversion rate – visitor to purchaser

The conversion rate of visitors to purchasers has gone down from 40% to 35%. This is not surprising, given the advertising on the fashion magazine’s website. Readers of the magazine may well have clicked on the link out of curiosity and may come back and purchase something at a later date. It may be useful to have a breakdown of the visitor to purchaser rate, showing one statistic for visitors who have come from the online magazine and one for those who have not. This would help clarify the position.

Website availability

Rather than improving after the work completed by Web Co’s IT department, the website’s availability has stayed the same. This means that the IT department’s changes to the website have not corrected the problem. Lack of availability is not good for business, although its exact impact is difficult to ascertain. It may be that visitors have been part of the way through making a purchase only to find that the website then becomes unavailable. More information would need to be available about aborted purchases, for example, before any further conclusions could be drawn.

Subscribers to online newsletter

These have increased by a massive 159%. It is not clear what impact this has had on the business as we do not know whether the level of repeat customers has increased. This information is needed. Surprisingly, it seems that there has not been an increased cost associated with providing Fast Track delivery, as the whole fall in net profit has been accounted for, so one can only assume that Web Co managed to offer this service without incurring any additional cost itself.

Conclusion

With the exception of the work carried out to make the system more available, all of the other measures seem to have increased sales or, in the case of Incentive 1, increased subscribers. More information is needed in relation to a couple of areas, as noted above. The business has therefore been responsive to changes made and incentives implemented but the cost of the advertising was so high that, overall, profits have declined substantially. This expenditure seems too high in relation to the corresponding increase in sales volumes.

Workings

1 Increase in sales revenue ($2.75m ─ $2.2m)/$2.2m = 25% increase.

2 NPM: 25% × $2.2m = $550,000 profit in Quarter 1. 16.7% × $2.75m = $459,250 profit in Quarter 2.

3 No. of visits to website: increase = (141,714 ─ 101,589)/101,589 = 39.5%

4 Increase in orders = (49,600 ─ 40,636)/40,636 = 22%

5 Customers accessing website through magazine line = 141,714 × 19.9% = 28,201

6 Increase in subscribers to newsletter = (11,900 ─ 4,600)/4,600 = 159%

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Marking guide Marks

Calculations 4

Missing info 3

Discussion and further analysis (2 to 3 marks per point) 18

Conclusion 2

Max 20


2 AT CO


This was a typical performance measurement question. There was quite a lot of information to absorb but I strongly believe that, unless you are given plenty of information to work with, it is only possible to make very generalised, insipid comments. This is not what F5 is all about. I want candidates to be able to handle information and make some quality analysis about it. It requires common sense and ability to link information. This should not be too much to ask of a part-qualified accountant, who would have to exhibit these qualities in the workplace.

Needless to say, answers were poor. Anyone who had read my article on this area, or indeed my predecessor’s article on this area, would know that insipid comments such as ‘turnover decreased by 8.3%, which is poor’ will score only a calculation mark, for working out the 8.3%. Is this decrease in turnover poor? Well, it depends on the market in which the company is operating. You have to read the scenario. When you take into account the fact that there has been a 20% decline in the demand for accountancy training, AT Co’s 8.3% looks relatively good. You must link information; this is an essential skill for any accountant. Nothing is ever what it seems...ask any auditor!

Let me also take the opportunity to distinguish between an acceptable comment, which might earn one mark, compared to a good point, which might earn two marks. Cost of sales fell by $10.022m in the year. Part of this reduction was down to a fall in freelance lecture costs. A good candidate would have commented that, whilst the company requested that freelance lecturers reduce their fees by 10%, the actual fee reduction gained was 15%, a strong performance. A comment such as this would have earned two marks. A less observant comment, earning one mark, would have been that the reduction in cost of sales was partly due to the fact that the company requested freelance lecturers to reduce their fees by 10%.

I hope that this question will serve as a good revision question to future examinees of F5. The information given is there to help you make worthwhile comments. It is not there to trip you up. When planning the question, you should annotate it carefully, cross-referencing different parts of the question, linking financial and non-financial information etc.

EXAM SMART

Let’s develop the examiner’s points about the good commentary about the freelance lecturer costs. A good style is to think:

What has happened (often the number calculated)? Why has it happened (root cause – often given in the question)? So what or what then (your judgement and/or the possible consequence)?

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By thinking of this, you should be able to not only pick up the computation marks but also the ‘good’ standard narrative marks.

For example:

Cost of sales:

This fell by $10.022m (19.2%) over the year (what). This impressive cost reduction was largely caused by (so what) AT Co requiring freelance tutors to reduce their fees by 10% (why). Freelance fees were however cut by 15.0% (W1), creating major cost savings (why). AT Co will need to maintain freelance tutor goodwill, so seeking future major fee reductions may not be possible (what then).

Working 1

2009 freelance fees: 35% x $41.663m = $14.582m 2010 freelancer fees = $12.394m

% fall = 12.394−14.582

14.582 × 100% = -15.0%

Turnover

Turnover has decreased from $72.025 million in 2009 to $66.028 million in 2010, a fall of 8.3%. However, this must be assessed by taking into account the change in market conditions, since there has been a 20% decline in demand for accountancy training. Given this 20% decline in the market place, AT Co’s turnover would have been expected to fall to $57.62m if it had kept in line with market conditions. Comparing AT Co’s actual turnover to this, its actual turnover is 14.6% higher than expected. As such, AT Co has performed fairly well, given market conditions.

It can also be seen from the non-financial performance indicators that 20% of students in 2010 are students who have transferred over from alternative training providers. It is likely that they have transferred over because they have heard about the improved service that AT Co is providing. Hence, they are most likely the reason for the increased market share that AT Co has managed to secure in 2010.

Cost of sales

Cost of sales has decreased by $10.022m (19.2%) in 2010. This must be considered in relation to the decrease in turnover as well. In 2009, cost of sales represented 72·3% of turnover and in 2010 this figure was 63.7%. This is quite a substantial decrease. The reasons for it can be ascertained by, firstly, looking at the freelance staff costs.

In 2009, the freelance costs were $14.582m. Given that a minimum 10% reduction in fees had been requested to freelance lecturers and the number of courses run by them was the same year on year, the expected cost for freelance lecturers in 2010 was $13.124m. The actual costs were $12.394m ($2.2m lower than 2009). These show that a fee reduction of 15% was actually achieved. This can be seen as a successful reduction in costs.

Other cost savings must have occurred. Permanent staff numbers have remained constant as have their salaries at about $27m. Given that of the $10.0m overall reduction in cost of sales, $2.2m savings arose from freelancer savings, $7.8m will have come from other sources. $4m savings have been gained by moving to electronic marking of progress tests. This appears to be a sensible move and will lead to lower marking costs going forward. The remaining $3.8m savings may have arisen due to less costs being incurred in other activities relating to student numbers. The fall in student numbers over the year causing cost savings.

Gross profit

As a result of the above, the gross profit margin has increased in 2010 from 27.7% to 36.3%. This is a big increase and reflects very well on management.

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Indirect expenses

Marketing costs: These have increased by 42.1% in 2010. Although this is quite significant, given all the improvements that AT Co has made to the service it is providing, it is very important that potential students are made aware of exactly what the company now offers. The increase in marketing costs has been rewarded with higher student numbers relative to the competition in 2010 and these will hopefully continue increasing next year, since many of the benefits of marketing won’t be felt until the next year anyway. The increase should therefore be viewed as essential expenditure rather than a cost that needs to be reduced.

Property costs: These have largely stayed the same in both years.

Staff training: These costs have increased dramatically by over $2 million, a 163.9% increase. However, AT Co had identified that it had a problem with staff retention, which was leading to a lower quality service being provided to students. Also, due to the introduction of the interactive website, the electronic enrolment system and the online marking system, staff would have needed training on these areas. If AT Co had not spent this money on essential training, the quality of service would have deteriorated further and more staff would have left as they became increasingly dissatisfied with their jobs. Again, therefore, this should be seen as essential expenditure.

Given that the number of student complaints has fallen dramatically in 2010 to 84 from 315, the staff training appears to have improved the quality of service being provided to students.

Interactive website and the student helpline: These costs are all new this year and result from an attempt to improve the quality of service being provided and, presumably, improve pass rates. Therefore, given the increase in the pass rate for first time passes from 48% to 66% it can be said that these developments have probably contributed to this. Also, they have probably played a part in attracting new students, hence improving turnover.

Enrolment costs have fallen dramatically by 80·9%. This huge reduction is a result of the new electronic system being introduced. This system can certainly be seen as a success, as not only has it dramatically reduced costs but it has also reduced the number of late enrolments from 297 to 106.

Net operating profit

This has fallen from $3.635m to $2.106m. On the face of it, this looks disappointing but it has to be remembered that AT Co has been operating in a difficult market in 20Y0. It could easily have been looking at a large loss. Going forward, staff training costs will hopefully decrease. Also, market share may increase further as word of mouth spreads about improved results and service at AT Co. This may, in turn, lead to a need for less advertising and therefore lower marketing costs.

It is also apparent that AT Co has provided the student website free of charge when really it should have been charging a fee for this. The costs of running it are too high for the service to be provided free of charge and this has had a negative impact on net operating profit.

[Note: Students would not have been expected to write all this in the time available.]

Workings (Workings in $000)

1 Turnover

Decrease in turnover = $72,025 – $66,028/$72,025 = 8.3% Expected 2010 turnover given 20% decline in market = $72,025 × 80% = $57,620 Actual 2010 turnover CF expected = $66,028 – $57,620/$57,620 = 14.6% higher

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2 Cost of sales

Decrease in cost of sales = $42,056 – $52,078/$52,078 = 19·2% Cost of sales as percentage of turnover: 2009 = $52,078/$72,025 = 72.3% 2010 = $42,056/$66,028 = 63.7%

Freelance staff costs: in 2009 = $41,663 × 35% = $14,582 Expected cost for 2010 = $14,582 × 90% = $13,124 Actual 2010 cost = $12,394 $12,394 – $14,582 = $2,188 decrease $2,188/$14,582 = 15% decrease in freelancer costs

3 Gross profit margin

2009: $19,947/$72,025 = 27.7% 2010: $23,972/$66,028 = 36.3%

4 Increase in marketing costs = $4,678 – $3,291/$3,291 = 42.1%

5 Increase in staff training costs = $3,396 – $1,287/$1,287 = 163.9%

6 Decrease in enrolment costs = $960 – 5,032/5,032 = 80.9%

7 Net operating profit

Decreased from $3,635 to $2,106. This is fall of 1,529/3,635 = 42.1%

Marking guide Marks

Turnover: 8.3% decrease Actual turnover 14.6% higher Performed well CF market conditions Transfer of students

½ ½ 1 1

Max 3 Cost of sales: 19.2% decrease 63.7% of turnover 15% fee reduction from freelance staff Other costs of sale fell by $3.8m Online marketing saving $4m

½ ½ 2 2 1

Max 5 Gross profit – numbers and comment 1

Indirect expenses: Marketing costs 42.1% increase Increase necessary to reap benefits of developments Benefits may take more than one year to be felt Property costs – stayed the same

½ 1 ½

½

Staff training: 163.9% increase Necessary for staff retention Necessary to train staff on new website etc Without training staff would have left Less student complaints

½ 1 1 1 1

Interactive website and student helpline: Attracted new students Increase in pass rate

1 1

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Marking guide Marks

Enrolment costs: Fall of 80.9% Result of electronic system being introduced Reduced number of late enrolments

½ 1 1

Max 9 Net operating profit: Fallen to $2.106m Difficult market Staff training costs should decrease in future Future increase in market share Lower advertising cost in future Charge for website

½ 1 1 1 1 1

Max 3



3 BATH CO


This question covered transfer pricing and really separated out the strong candidates from the weak ones. Part (a) contained the easy marks, with a simple requirement to prepare a profit statement under the current transfer pricing system. There were many perfect answers here, because the requirement was not difficult. However, weaker candidates simply didn’t know what the words ‘profit statement’ meant, and just produced some workings showing total profit for the company. These candidates scored very few marks.

EXAM SMART

It is really important to take your time to read the question set. A profit statement implies that some sort of income statement is needed – clearly showing the revenues and costs of each division and also the company in total.

The best approach was to use a table, set out with columns for Division A, Division B and the company as a whole. The rows need to show each key revenue source and cost and also the key sub-totals. Remember, in the individual division’s profit statement, the transfer price needs to appear. Here it is a revenue for Division B, being exactly matched by a cost in Division A. From the company’s perspective these amounts cancel (as would any inter-company trading in a group).

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(a) Profit statement Division A Division B Division C

$000 $000 $000 Sales revenue: External (1) 36,000 9,600 45,600 Inter-divisional transfers 0 6,000

Total 36,000 15,600 45,600

Variable costs:

External material costs (2) (16,000) (1,000) (17,000) Inter-divisional transfers (3) (6,000) 0 Labour costs (4) (3,600) (3,000) (6,600)

Total (25,600) (4,000) (23,600)

Fixed costs (7,440) (4,400) (11,840)

Profit 2,960 7,200 10,160

Workings ($000)

1 External sales

Div A: 80,000 × $450 = $36,000 Div B: 120,000 × $80 = $9,600 Div B: 80,000 × $75 = $6,000

2 External material costs

Div A: 80,000 × $200 = $16,000 Div B: 200,000 × $5 = $1,000

3 Inter-divisional transfers

Div A: 80,000 × $75 = $6,000

4 Labour costs

Div A: 80,000 × $45 = $3,600 Div B: 200,000 × $15 = $3,000


Part (b) asked for a calculation of the maximum profit that could be earned if transfer pricing was optimised. ‘Optimised’ meant set at a level that would make the total company profit as high as possible. In order for this to be the case, the transfer price needed to be set somewhere between Division B’s marginal cost of $20 and the current market price of the fittings of $65 per set. Any price between this range would make sure that Division A bought the fittings from Division B, provided that Division A was told that it could only buy the fittings from outside the group if the price was lower than the price being charged by Division B. If Division B was allowed to sell to the external market too, then the profit could be maximised at $11,060.

This logic was totally lost on the majority of candidates. However, many of them managed to get to the maximum profit by having Division B selling 180,000 sets of fittings outside the group and then selling the remaining 20,000 sets of fittings to B at $75. This was a half decent attempt at the question but the reality would be, of course, that, in the real world, Division A would not want to pay $75 for the fittings if it could buy them from an external supplier for only $65. This is not, therefore, optimisation of transfer pricing, because this would require the company to have a policy of making Division A buy from B, EVEN if fittings were cheaper elsewhere and this would cause behavioural issues, with Division A’s manager becoming de-motivated.

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EXAM SMART

It is important to think of the behavioural aspects of the question and how that affects your numerical calculations. Try to think of the divisions as if they were stand-alone entities. They will want to maximise their own profits, particularly if their management receive profit-related incentives.

The transfer price will have to be $65 or lower, if Division A’s manager will see it as more profitable to buy from Division B as opposed to externally.

Similarly, Division B’s manager, knowing that the division is not at full capacity (and must therefore be selling externally all that it can), will be willing to accept a transfer price bigger than its variable costs per unit (here $20 variable production cost).

Therefore, any transfer price between $20 and $65 per unit should be acceptable to both managers and would have gained full marks in the exam.

(b) Bath Co’s profit if transfer pricing is optimised Division A Division B Division C

$000 $000 $000 Sales revenue: External (1) 36,000 14,400 50,400 Internal sales (2) 0 1,300 0

Total 36,000 15,700 50,400

Variable costs: External material costs (3) (19,900) (1,000) (20,900) Inter-divisional transfers (2) (1,300) 0 0 Labour costs (3,600) (3,000) (6,600)

Total (24,800) (4,000) (27,500)

Fixed costs (7,440) (4,400) (11,840)

Profit 3,760 7,300 11,160

Note: A transfer price of $65 has been used on the assumption that the company will introduce the policy discussed in (c). Provided that the transfer price is set between the minimum of $20 (Division B’s marginal cost) and $65 (the cost to Division A of buying from outside the group), the actual transfer price is irrelevant in this calculation. The overall profit of the company will be the same.

Workings ($000)

1 External sales

Div A: 80,000 × $450 = $36,000 Div B: 180,000 × $80 = $14,400

2 Internal sales/inter-divisional transfers

20,000 × $65 = $1,300

3 Material costs

Div A: 60,000 × $265 + (20,000 x $200) = $19,900 Div B: 200,000 × $5 = $1,000

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Part (c) was a narrative requirement and was generally poorly answered. There was a certain element of follow on from (b), although not entirely, so problems of lack of understanding in (b) fed through to (c). It was surprising how many candidates attempted part (c) before parts (a) and (b). While it’s always advisable to get the easy marks first where possible, and these are often the discussion marks, this is not possible where the narrative fully or partly follows on from the numbers.

EXAM SMART

Be careful to identify sub requirements where you need to have tackled the earlier parts of the question first. This is one of them! Failure to do this will mean your answer to part (c) is little more than a sterile textbook answer.

(c) Issues and suitable transfer price

Divisional managers’ performance is assessed using a metric as decided by the company. This may simply be the profit for the period, or, depending on the type of responsibility centre being used, a metric such as residual income or return on capital employed. Whatever the metric being used, the division’s profit figure is going to affect it and divisional managers are therefore going to be keen to maximise their individual profits. By focusing on individual decisions, divisional managers are often not aware of the impact of their decisions on the company as a whole. This would particularly be the case where a decision which is in the best interests of the company actually makes an individual division’s performance look worse.

The transfer pricing system in place needs to take into account the behavioural impact of the prices being charged. Sometimes, this can mean that a ‘dual transfer pricing system’ needs to be introduced in order to ensure that divisional managers act in the interests of the company as a whole.

It can be seen from part (b) that the best decision for the company is that:

Division A buys 60,000 sets of fittings from an outside supplier and buys the remaining 20,000 sets of fittings from Division B in order to ensure that Division B is working to full capacity.

Division B sells as many sets of fittings as possible externally, at $80 per set. Since the maximum external demand is 180,000 units, Division B sells the remaining 20,000 sets of fittings to Division A. The minimum transfer price that would be acceptable to Division B is its marginal cost of $20 per unit, since it has spare capacity. However, if this transfer price is used, Division B becomes worse off than before the autonomy was given, and Division B’s manager will not like this. As far as Division A is concerned, it will not want to pay more than the $65 that it can buy from outside the Group.

Bath Co’s policy therefore needs to ensure that, first, Division A’s manager is prepared to buy 20,000 sets of fittings from Division B and second, Division B is prepared to sell them at $65 per set. Since it is in Division B’s best interest to work to full capacity and the manager of Division B knows that Division A can obtain fittings for $65 per set, it should not be difficult for B to agree to sell to A at this price. A policy of negotiated transfer prices would achieve this fairly quickly. However, the company also needs to have a policy that divisions buy internally first, where this would be in the best interests of the overall profitability of the company. This would ensure that Division A buys the 20,000 sets of fittings from Division B. This way, the overall profit of the company is maximised while also ensuring that divisional managers do not become demotivated.

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Marking guide Marks

(a) Profit statement Sales revenue: External Inter-divisional transfers (revenue – Div B) External material costs Inter-divisional transfers (costs – Div A) Labour costs Fixed costs

Profit

1 ½ 1 ½ 1 1 1

6 (b) Revised profit

External sales Inter-divisional transfers (revenue – Div B) Material costs Internal transfers (materials) (costs – Div A) Labour costs Fixed costs

Profit

1 1 2 1 1 1 1

8 (c) Transfer price difficulties and policies

Each well explained point on difficulties 1

Well reasoned recommendation Max 4

4

Maximum for (c) overall 6


4 HAMMER CO


The numerical parts were quite well answered by most candidates. However, a disappointing number of answers included the fixed costs within part (a) and part (b) which defied the purpose of the whole question really.

That having been said, most answers were good.

EXAM SMART

Requirements (a) and (b) represent a fairly simple 10 marks which students at this level should be expecting to get. Essentially this is just cost plus pricing workings.

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(a) Price under existing policy $ Steel (0.4/0.95 × $4.00) 1.68 Other materials ($3.00 × 0.9 × 0.1) 0.27 Labour (0.25 × $10) 2.50 Variable overhead (0.25 × $15) 3.75 Delivery 0.50

Total variable cost 8.70 Mark-up 30% 2.61

Transfer price 11.31

(b) The only difference would be to add the fixed costs and adjust the mark-up %. $ Existing total variable cost 8.70 Extra fixed cost (0.25 × $15 × 0.8) 3.00

Total cost 11.70 Mark-up 10% 1.17

Transfer price 12.87

The price difference is therefore 12.87 – 11.31 = $1.56 per unit


In part (c), a discussion of whether fixed costs should be included in a transfer price was required. The quality of answers was really poor.

The question was looking for a couple of key points, for example, that including fixed costs guarantees a profit for the seller but invites manipulation of overheads and passes on inefficiencies from one part of the business to another.

Also, that this strategy causes fixed costs of one division to be turned into a variable cost for another division.

EXAM SMART

Following on from the examiners point about turning a fixed cost into a variable cost, this in a transfer pricing scenario can always run the risk of leading to sub-optimal decision making from the group’s perspective.

The danger is that by incorporating the fixed cost into the transfer price leads to the selling division charging a price that is above that of an external supplier.

(c) As far as the manufacturer is concerned, including fixed costs in the transfer price will have the advantage of covering all the costs incurred. In theory this should guarantee a profit for the division (assuming the fixed overhead absorption calculations are accurate). In essence the manufacturer is reducing the risk in his division.

The accounting for fixed costs is notoriously difficult with many approaches possible. Including fixed costs in the transfer price invites manipulation of overhead treatment.

One of the main problems with this strategy is that a fixed cost of the business is being turned into a variable cost in the hands of the seller (in our case the stores). This can lead to poor decision-making for the group since, although fixed costs would normally be ignored in a decision (as unavoidable), they would be relevant to the seller because they are part of their variable buy in price.

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Part (d) also rarely produced answers scoring full marks.

It asked whether retail stores should be allowed to buy in from outside suppliers. Key points in any answer should have been that the overall profitability of the company is key, as is goal congruence; these points were rarely made.

Thankfully, many candidates did spot the more obvious points such as the fact that the quality and reliability of any external supplier would need to be assessed.

EXAM SMART

A balanced argument here is important. There are likely to be advantages and disadvantages of allowing the purchase of the shears or other products from outside suppliers.

However, once again keep your ideas practical and applied to the scenario! An answer could look like this:

Local managers may like the autonomy and freedom to purchase from outside. It may allow Hammer to make more profit if manager’s can locally bargain with suppliers.

However control may be needed if local managers are buying inferior products. Poor local purchasing may damage customer goodwill and ultimately Hammer’s brand.

Similarly careful attention to the service levels of suppliers should be paid. If suppliers were to dramatically raise prices then local managers may not be able to respond effectively. Only a centralised buying department may have the power to negotiate more strongly on Hammer’s behalf.

(d) Degree of autonomy allowed to the stores in buying policy

If the stores are allowed too much freedom in buying policy Hammer could lose control of its business. Brand could be damaged if each store bought a different supplier’s shears (or other products). On the other hand, flexibility is increased and profits could be made for the business by entrepreneurial store managers exploiting locally found bargains. However, the current market price for shears may only be temporary (sale or special offer) and therefore not really representative of their true market ‘value’. If this is the case, then any long-term decision to allow retail stores to buy shears from external suppliers (rather than from Nail) would be wrong.

The question of comparability is also important. Products are rarely ‘identical’ and consequently, price differences are to be expected. The stores could buy a slightly inferior product (claiming it is comparable) in the hope of a better margin. This could seriously damage Hammer’s brand.

Motivation is also a factor here, however. Individual managers like a little freedom within which to operate. If they are forced to buy what they see as an inferior product (internally) at high prices it is likely to de-motivate. Also with greater autonomy, the performance of the stores will be easier to assess as the store managers will have control over greater elements of their business.

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Marking guide Marks

(a) Steel 1

Other material 1

Labour 1

Variable overhead 1

Delivery 1

Mark-up 1

6

(b) Fixed cost 2

Mark-up 2

4

(c) Covers all cost 1

Risk 1

Fixed cost accounting 1

Converts a FC to VC 2

Max 4

(d) Market price may be temporary 1

Brand 1

Profitability 1

Flexibility 1

Control 1

Motivation 1

Performance assessment 1

Comparability 1

Max 6


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ACC A F5 Q uest i on Ba nk Part 2 R ev is io n qu e st ion s 135

PART 2 REVISION QUESTIONS

Objective test and Scenario

Syllabus area

Question no

Page ref Q A

1: Specialist cost and management accounting techniques

Activity based costing 1-4 139 229 Scenario question: Wash Co 5-9 140 230

Target costing 10-16 141 232 Scenario question: Helot Co 17-21 143 233

Life cycle costing 22-25 145 234 Scenario question: Fit Co 26-30 146 235

Throughput accounting 31-35 147 236 Scenario question: Sweet Treats Bakery 36-40 149 238

Environmental accounting 41-43 151 239


Relevant cost analysis 1-3 153 240 Scenario question: Losmetic Co 4-8 154 241

Cost volume profit analysis 9-14 155 242 Scenario question: Hare Events 15-19 157 243

Limiting factors 20-24 159 244 Scenario question: Higgins Co 25-29 161 246

Pricing decisions 30-35 162 248 Scenario question: ALG Co 36-40 164 249

Make-or-buy and other short-term decisions 41 165 250 Scenario question: Three departments 42-46 165 251 Scenario question: Chemco 47-51 167 252

Dealing with risk and uncertainty in decision-making 52-55 168 253 Scenario question: Three products 56-60 169 254 Scenario question: Sandrunner 61-65 170 255 Scenario question: Mylo 66-70 170 256

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136 Part 2 R ev is io n qu e st ion s ACC A F5 Q uest i on Ba nk

Syllabus area Question

no Page ref Q A

3: Budgeting and control Budgetary systems and type of budget 1-10 174 258

Scenario question: Kenneth Co 11-15 176 260 Quantitative analysis in budgeting 16-21 178 262

Scenario question: Comfynap Co 22-26 179 263 Standard costing 27 181 265

Scenario question: Corfe Co 28-32 181 265 Material mix and yield variances 33-36 183 266

Scenario question: Romeo Co 37-41 185 268 Sales mix and quantity variances 42-43 186 269

Scenario question: Cut Co 44-48 187 270 Planning and operational variances 49-52 188 271

Scenario question: Fedia Co 53-57 190 272 Performance analysis 58-59 191 274

4: Performance measurement and control Performance management information systems 1-4 192 275 Sources of management information 5-6 193 276 Management reports 7-9 193 276 Performance analysis in private sector organisations 10-13 194 276

Scenario question: Bus Co 14-18 196 278 Scenario question: Jamair Co 19-23 198 279

Divisional performance and transfer pricing 24-29 199 280 Scenario question: Cardale Co 30-34 202 283 Scenario question: Andover and Winchester 35-39 203 284


40-41 205 285

Scenario question: Seatown Council 42-46 205 285 External considerations and behavioural aspects 47 207 286

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ACC A F5 Q uest i on Ba nk Part 2 R ev is io n qu e st ion s 137

Long form

Question name Syllabus area Based on Past exam

Page ref Q A

2: Decision-making techniques 1 The Telephone Co Relevant costs Q1, D11, (a) 209 287

2 Hair Co CVP Q1, D12, (a) and (b) 210 292

3 CSC Co Limiting factors 211 295

4 Heat Co Pricing, Learning curves Q2, J11, (a) 213 298

5 Robber Co Make or Buy and other short term decisions

Q1, J12, (a) and (c) 214 302

6 Cement Co Risk and uncertainty in decision making

Q1, J11 215 306

3: Budgeting and control 1 Newtown School Budgetary systems/Types of budget Q5, J13, (c) and (d) 216 311

2 Mic Co Quantitative analysis in budgeting Q3, D13 217 314

3 Noble Standard costing, including sales mix and quantity variances

Q3, J11, (a) and (c) 218 316

4 Block Co Sales mix and quantity variances including Planning and operational variances

Q4, J13 220 320

5 Truffle Co Planning and operational variances Q2, D12 221 323

6 Sticky Wicket Performance analysis and behavioural aspects

Q2, J10 221 326

4: Performance measurement and control 1 Squarize Performance analysis in private

sector organisations Q2, J13 223 330

2 Jungle Co Performance analysis in private sector organisations

224 332

3 Protect against Fire Co Divisional performance and transfer pricing

Q4, D13 225 336

4 Biscuits and Cakes Divisional performance and transfer pricing

Q5, J12, (a),(b),(c) and (e)

226 338

5 Man Co Divisional performance and transfer pricing/ Performance analysis in private sector organisations

227 341

Q2, S16

Q1, S16

Q4, M/J 16 amended

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138 Part 2 R ev is io n qu e st ion s ACC A F5 Q uest i on Ba nk

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ACC A F5 Q uest i on Ba nk Revision questions: 1: Specialist cost and management accounting techniques 139

P A R T 2 R E V I S I O N Q U E S T I O N S : O b j e c t i v e t e s t a n d S c e n a r i o


Activity based costing 1 Which of the following statements about activity-based costing is/are true?

True False ABC can only be used within a manufacturing environment.

ABC assumes that most overhead costs are incurred at the product level.

A cost driver is a factor which causes a change in the cost of an activity.

Traditional absorption costing tends to under-estimate overhead costs for high volume products.

2 A company manufactures two products, C and D, for which the following information is available:

Product C Product D Total Budgeted production (units) 1,000 4,000 5,000 Labour hours per unit/in total 8 10 48,000 Number of production runs required 13 15 28 Number of inspections during production 5 3 8

Total production set up costs $140,000 Total inspection costs $80,000 Other overhead costs $96,000

Other overhead costs are absorbed on the basis of labour hours per unit.

Using activity-based costing, what is the budgeted overhead cost per unit of product D, to the nearest $0.01?

$

3 Teddy Co makes two products using the same type of material and the same workforce. The following information is available:

Product Lou

Product Dew

Budgeted production (units) 5,000 4,000 Material per unit ($) 20 25 Labour per unit ($) 40 60

Fixed overheads relating to materials are $150,000. The cost driver for these costs is the cost of material purchased.

General fixed overheads are $374,000. These are absorbed on the basis of labour cost.

Using activity-based costing, what is the budgeted fixed overhead cost per unit of product Lou, to the nearest $0.01?

$

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140 Revision questions: 1: Specialist cost and management accounting techniques ACC A F5 Q uest i on Ba nk

4 A company makes two products using the same type of materials and skilled workers. The following information is available:

Product A Product B Budgeted volume (units) 1,000 2,000 Material per unit ($) 10 20 Labour per unit ($) 5 20

Fixed costs relating to material handling amount to $100,000. The cost driver for these costs is the volume of material purchased.

General fixed costs, absorbed on the basis of labour hours, amount to $180,000.

Using activity-based costing, what is the total fixed overhead amount to be absorbed into each unit of product B (to the nearest whole $)?

$113 $120 $40 $105

WASH CO The following scenario relates to questions 5-9. Each question is worth 2 marks.

Wash Co assembles and sells two types of washing machines – the Spin (S) and the Rinse (R).

The company’s policy is to transfer the machines from its assembly division to its retail division at full cost plus 10%.

The overhead costs are currently allocated to the products on the basis of labour hours, but Wash Co’s Chief Management Accountant is contemplating using machine hours or activity-based costing (ABC) for absorption.

You have obtained the following information for the last month from the assembly division.

Product S Product R Production and sales (units) 3,200 5,450 Materials cost $117 $95 Labour cost (at $12 per hour) $6 $9 Machine hours (per unit) 2 1 Total no. of production runs 30 12 Total no. of purchase orders 82 64 Total no. of deliveries to retail division 64 80 Overhead costs: $ Machine set-up costs 306,435 Machine maintenance costs 415,105 Ordering costs 11,680 Delivery costs 144,400 Total 877,620

5 Calculate a transfer price to the nearest $ for Product S if machine hours are used as the basis for absorption.

$

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6 Using ABC, calculate to the nearest $ the machine overheads (set-up and maintenance costs) that will be absorbed by each unit of Product S.

$

7 Using ABC, calculate to the nearest $ the selling overheads (ordering and delivery costs) that will be absorbed by each unit of Product R.

$

8 The Chief Accountant is also considering using ABC when analysing environmental costs.

Which of the following statements relating to environmental activity-based costing (environmental ABC) is/are true?

True False Environmental ABC will be concerned with prevention activities as well as detection and correction activities.

Environmental ABC helps identify environment-driven costs, which may be hidden within general overheads.

Volume of emissions may be a cost driver in environmental ABC.

Environmental ABC can measure cost savings resulting from measures to reduce environmental impact.

9 As well as environmental ABC, the Chief Accountant is looking at other techniques for accounting for environmental impacts.

Which TWO of the following statements relating to accounting for environmental costs are true?

Flow cost accounting involves analysing materials flows into two categories, material and disposal

Input/output analysis aims to identify residual or waste. Environmental life cycle costing looks at costs up until the point production ceases. Environment-related costs are connected with activities for which costs can be directly

traced.

Target costing 10 Which of the following statements in relation to costing techniques is/are true?

True False Target costing is a market driven approach to pricing. Using target costing to set selling prices guarantees that a company will make a profit on its products.

Unlike traditional costing methods, in ABC production overheads are not absorbed across product units.

An organisation which switches to ABC may find that some of its existing products, which require minimal labour hours, no longer appear profitable.

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11 The unit selling price of Product Z has been set at $200. The company requires a profit margin of 40%. The product specification includes material, labour and overheads at $55, $75 and $15 respectively.

What is the cost gap for each unit of Product Z?

$

12 Which of the following is/are characteristics of a service industry?

Characteristic Not characteristic Homogenity Intangibility Perishability Spontaneity

13 Which TWO of the following methods of reducing an organisation’s costs in order that its target cost gap can be closed would be most effective in reducing the costs in a service industry context?

Use a lower grade of labour Renegotiate terms with suppliers Reduce the time spent in terms of labour hours Attempt to increase sales volumes to achieve economies of scale

14 S Company is a manufacturer of multiple products and uses target costing. It has been noted that Product P currently has a target cost gap and the company wishes to close this gap.

Which of the following may be used to close the target cost gap for product P?

Use overtime to complete work ahead of schedule Substitute current raw materials with cheaper versions Raise the selling price of P Negotiate cheaper rent for S Company’s premises

15 The selling price of Product X is set at $550 for each unit and sales for the coming year are expected to be 800 units.


What is the target cost for each unit of Product X, to the nearest $0.01?

$

16 Which of the following techniques is NOT relevant to target costing?

Value analysis Variance analysis Functional analysis Activity analysis

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HELOT CO (SECTION B, SEPTEMBER 2016) The following scenario relates to Questions 17–21. Each question is worth 2 marks.

Helot Co develops and sells computer games. It is well known for launching innovative and interactive role-playing games and its new releases are always eagerly anticipated by the gaming community. Customers value the technical excellence of the games and the durability of the product and packaging.

Helot Co has previously used a traditional absorption costing system and full cost plus pricing to cost and price its products. It has recently recruited a new finance director who believes the company would benefit from using target costing. He is keen to try this method on a new game concept called Spartan, which has been recently approved.

After discussion with the board, the finance director undertook some market research to find out customers’ opinions on the new game concept and to assess potential new games offered by competitors. The results were used to establish a target selling price of $45 for Spartan and an estimated total sales volume of 350,000 units. Helot Co wants to achieve a target profit margin of 35%.

The finance director has also begun collecting cost data for the new game and has projected the following:

Production costs per unit $ Direct material 3·00 Direct labour 2·50 Direct machining 5·05 Set-up 0·45 Inspection and testing 4·30

Total non-production costs $000 Design (salaries and technology) 2,500 Marketing consultants 1,700 Distribution 1,400

17 Which of the following statements would the finance director have used to explain to Helot Co’s board what the benefits were of adopting a target costing approach so early in the game’s life-cycle?

1 Costs will be split into material, system, and delivery and disposal categories for improved cost reduction analysis

2 Customer requirements for quality, cost and timescales are more likely to be included in decisions on product development

3 Its key concept is based on how to turn material into sales as quickly as possible in order to maximise net cash

4 The company will focus on designing out costs prior to production, rather than cost control during live production

1, 2 and 4 2, 3 and 4 1 and 3 2 and 4

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18 What is the forecast cost gap for the new game?

$2·05 $0·00 $13·70 $29·25

19 The board of Helot Co has asked the finance director to explain what activities can be undertaken to close a cost gap on its computer games.

Which of the following would be appropriate ways for Helot Co to close a cost gap?

1 Buy cheaper, lower grade plastic for the game discs and cases 2 Using standard components wherever possible in production 3 Employ more trainee game designers on lower salaries 4 Use the company’s own online gaming websites for marketing

1, 2 and 3 1, 3 and 4 2 and 4 2 and 3

20 The direct labour cost per unit has been based on an expected learning rate of 90% but now the finance director has realised that a 95% learning rate should be applied.

Which of the following statements is true?

The target cost will decrease and the cost gap will increase The target cost will increase and the cost gap will decrease The target cost will remain the same and the cost gap will increase The target cost will remain the same and the cost gap will decrease

21 Helot Co is thinking about expanding its business and introducing a new computer repair service for customers. The board has asked if target costing could be applied to this service.

Which of the following statements regarding services and the use of target costing within the service sector is true?

The purchase of a service transfers ownership to the customer Labour resource usage is high in services relative to material requirements A standard service cannot be produced and so target costing cannot be used Service characteristics include uniformity, perishability and intangibility

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Life cycle costing 22 Which TWO of the following statements about life cycle costing are correct?

A disadvantage of life cycle costing is that it may be difficult, at the start of a product’s life, to arrive at a realistic estimate of the product’s costs over a number of years.

Life cycle costing is particularly suitable for innovative organisations which incur high costs during the early stages of a product's life cycle.

Life cycle costing is particularly useful for organisations that develop products with a long life.

The life cycle approach is designed to help organisations analyse product costs each year easily.

23 What is the name of the costing approach which identifies a product’s selling price and establishes ways of making the product that will earn an acceptable profit?

Absorption costing Activity based costing Life cycle costing Target costing

24 Which of the following statements that have been made about life cycle costing is/are true?

True False

It focuses on the short-term by identifying costs at the beginning of a product’s life cycle.

It identifies all costs which arise in relation to the product each year and then calculates the product’s profitability on an annual basis.

It accumulates a product’s costs over its whole life time and works out the overall profitability of a product.

It allocates costs to each stage of a product’s life cycle and writes them off at the end of each stage.

25 A manufacturing company which produces a range of products has developed a budget for the life-cycle of a new product, P. The information in the following table relates exclusively to product P:

Lifetime total Per unit Design costs $800,000 Direct manufacturing costs $20 Depreciation costs $500,000 Decommissioning costs $20,000 Machine hours 4 Production and sales units 300,000

The company’s total fixed production overheads are budgeted to be $72 million each year and total machine hours are budgeted to be 96 million hours. The company absorbs overheads on a machine hour basis.

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What is the budgeted life-cycle cost per unit for product P?

$24·40 $25·73 $27·40 $22·73

FIT CO The following scenario relates to questions 26-30. Each question is worth 2 marks.

Fit Co specialises in the manufacture of a small range of high-tech products for the fitness market. It is currently considering the development of a new type of fitness monitor, which would be the first of its kind in the market. It would take one year to develop, with sales then commencing at the beginning of the second year. The product is expected to have a life cycle of two years, before it is replaced with a technologically superior product. The following cost estimates have been made.

Year 1 Year 2 Year 3 Units manufactured and sold 100,000 200,000 Research and development costs $160,000 Product design costs $800,000 Marketing costs $1,200,000 $1,000,000 $1,750,000 Manufacturing costs:

Variable cost per unit $40 $42 Fixed production costs $650,000 $1,290,000

Distribution costs: Variable cost per unit $4 $4.50 Fixed distribution costs $120,000 $120,000

Selling costs: Variable cost per unit $3 $3.20 Fixed selling costs $180,000 $180,000

Administration costs $200,000 $900,000 $1,500,000

26 Which of the following costs would be included as part of the calculation of life cycle costs?

Included Not included Research and development costs Product design costs Marketing costs Distribution costs Selling costs Administration costs

27 Which TWO of the following are benefits of using life cycle costing?

It attempts to distinguish clearly between the costs of different periods. It gives a good indication of the success of research and development and design activities. It ensures that products do not enter a decline stage of their life cycle. It matches initial costs to the revenues that the product finally earns.

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28 In which TWO of the following circumstances is life cycle costing particularly useful?

Products with a short life Products with an even spread of costs and revenues over their lives Very simple products Products being launched in a competitive environment where time to market is very

important

29 After preparing the cost estimates above, Fit Co realises that it has not taken into account the effect of the learning curve on the production process. The variable manufacturing cost per unit above, of $40 in Year 2 and $42 in Year 3, includes a cost for 0.5 hours of labour. The Year 2 cost per hour for labour is $24 and the Year 3 cost is $26 per hour. Subsequently, it has been estimated that, although the first unit is expected to take 0.5 hours, a learning curve of 95% is expected to occur until the 100th unit has been completed. The result will be that it takes a total labour time of 35.56 hours for the first 100 units.

Calculate to the nearest $10,000, the labour cost that will be included for Year 2 in the calculation of the life cycle cost.

$ 000

30 Further analysis has been undertaken of the costs of the new product. Now the total manufacturing life cycle costs of the monitor are estimated to be $12,600,000 and total life cycle costs overall of $23,000,000. The sales director believes that the maximum price of the new monitor would be $85 and the board wishes to make a 20% profit margin on it. The research and development and product design teams have estimated that they could undertake extra work, with the aim of finding ways to reduce total manufacturing costs by 25%.

Calculate the maximum level of costs that could be incurred by the research and development and product design teams if a 20% profit margin is to be achieved, assuming that the changes they suggest successfully reduce manufacturing costs by 25%.

$ 000

Throughput accounting 31 Which of the following statements about throughput accounting is/are true?

True False

Throughput accounting is based on the concept that there is a finite capacity at certain critical points in an organisation’s production schedule.

Throughput accounting treats labour as a fixed cost in the short-term.

Throughput accounting focusses on improving efficiency by using all production facilities to their maximum capacity.

The aim of throughput accounting is to increase the speed with which products move through an organisation in order to maximise profit.

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32 S Ltd manufactures three products, A, B and C. The products use a series of different machines but there is a common machine, P, that is a bottleneck. The selling price and standard cost for each product for the forthcoming year is as follows:

A B C $ $ $ Selling price 200 150 150 Direct materials 41 20 30 Conversion costs 55 40 66 Machine P - minutes 12 10 7

Using a throughput accounting approach, what would be the ranking of the products for best use of the bottleneck?

A B C

33 A company manufactures a product which requires four hours per unit of machine time. Machine time is a bottleneck resource as there are only ten machines which are available for 12 hours per day, five days per week. The product has a selling price of $130 per unit, direct material costs of $50 per unit, labour costs of $40 per unit and factory overhead costs of $20 per unit. These costs are based on weekly production and sales of 150 units.

What is the throughput accounting ratio (to 2 decimal places)?

1.33 2.00 0.75 0.31

34 Which of the following statements about the concepts underlying throughput accounting is/are correct?

True False Inventory levels should be kept to a minimum. All machines within a factory should be 100% efficient, with no idle time.

The distinction between direct and indirect costs is not useful.

Labour should be treated as a fixed cost that is part of total factory cost.

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35 A manufacturing company uses three processes to make its two products, X and Y. The time available on the three processes is reduced because of the need for preventative maintenance and rest breaks.

The table below details the process times per product and daily time available:

Hours Hours required Hours required available to make one unit to make one unit Process per day of product X of product Y 1 22 1·00 0·75 2 22 0·75 1·00 3 18 1·00 0·50

Daily demand for product X and product Y is 10 units and 16 units respectively.

Which of the following will improve throughput?

Increasing the efficiency of the maintenance routine for Process 2 Increasing the demand for both products Reducing the time taken for rest breaks on Process 3 Reducing the time product X requires for Process 1

SWEET TREATS BAKERY (SECTION B, DECEMBER 2016) The following scenario relates to questions 36-40. Each question is worth 2 marks.

Sweet Treats Bakery makes three types of cake: brownies, muffins and cupcakes. The costs, revenues and demand for each of the three cakes are as follows:

Brownies Muffins Cupcakes Batch size (units) 40 30 20 Selling price ($ per unit) 1.50 1.40 2.00 Material cost ($ per unit) 0.25 0.15 0.25 Labour cost ($ per unit) 0.40 0.45 0.50 Overhead ($ per unit) 0.15 0.20 0.30 Minimum daily demand (units) 30 20 10 Maximum daily demand (units) 140 90 100

The minimum daily demand is required for a long-term contract with a local cafe and must be met.

The cakes are made in batches using three sequential processes; weighing, mixing and baking. The products must be produced in their batch sizes but are sold as individual units. Each batch of cakes requires the following amount of time for each process:

Brownies Muffins Cupcakes Weighing (minutes) 15 15 20 Mixing (minutes) 20 16 12 Baking (minutes) 120 110 120

The baking stage of the process is done in three ovens which can each be used for eight hours a day, a total of 1,440 available minutes. Ovens have a capacity of one batch per bake, regardless of product type.

Sweet Treats Bakery uses throughput accounting and considers all costs, other than material, to be 'factory costs' which do not vary with production.

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36 On Monday, in addition to the baking ovens, Sweet Treat Bakeries has the following process resources available:

Process Minutes available Weighing 240 Mixing 180

Which of the three processes, if any, is a bottleneck activity?

Weighing Mixing Baking There is no bottleneck

37 On Wednesday, the mixing process is identified as the bottleneck process. On this day, only 120 minutes in the mixing process are available.

Assuming that Sweet Treats Bakery wants to maximise profit, what is the optimal production plan for Wednesday?

80 brownies, 30 muffins and 100 cupcakes 0 brownies, 90 muffins and 100 cupcakes 120 brownies, 0 muffins and 100 cupcakes 40 brownies, 60 muffins and 100 cupcakes

38 Sweet Treats Bakery has done a detailed review of its products, costs and processes.

Which TWO of the following statements will improve the throughput accounting ratio?

The café customer wants to negotiate a loyalty discount. A bulk discount on flour and sugar is available from suppliers. There is additional demand for the cupcakes in the market. The rent of the premises has been reduced for next year.

39 On Friday, due to a local food festival at the weekend, Sweet Treats Bakery is considering increasing its production of cupcakes. These cupcakes can be sold at the festival at the existing selling price.

The company has unlimited capacity for weighing and mixing on Friday but its existing three ovens are already fully utilised, therefore in order to supply cupcakes to the festival, Sweet Treats Bakery will need to hire another identical oven at a cost of $45 for the day.

How much will profit increase by if the company hires the new oven and produces as many cupcakes as possible?

$31.00 $55.00 $95.00 $140.00

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40 In a previous week, the weighing process was the bottleneck and the resulting throughput ratio (TPAR) for the bakery was 1.45.

State which of the following statements about the TPAR for the previous week are true and which are false.

True False

The bakery’s operating costs exceeded the total throughput contribution generated from the three products.

Less idle time in the mixing department would have improved the TPAR

Improved efficiency during the weighing process would have improved the TPAR.

Environmental accounting 41 Which of the following statements about environmental cost accounting is/are true?

True False

The majority of environmental costs are already captured within a typical organisation’s accounting system. The difficulty lies in identifying them.

Input/output analysis divides material flows within an organisation into three categories: material flows, system flows, and delivery and disposal flows.

Input/output analysis enables classification of output as finished production, scrap and waste.

Environmental life cycle costing enables analysis of clean-up and disposal activities relating to a product.

42 The following are types of management accounting techniques:

I Flow cost accounting II Input/output analysis III Life-cycle costing IV Absorption costing

Which of the above techniques could be used by a company to account for its environmental costs?

I only II and III only I, II and III only All of the above

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43 Different management accounting techniques can be used to account for environmental costs.

One of these techniques involves analysing costs under three distinct categories: material, system, and delivery and disposal.

What is this technique known as?

Activity-based costing Life-cycle costing Input-output analysis Flow cost accounting

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ACC A F5 Q uest i on Ba nk Rev i s ion q u es t io n s: 2 : D ec is io n -ma ki n g t ec hn i q ue s 153


Relevant cost analysis 1 Which of the following statements about relevant costing is/are true?

True False Decisions should always be based on future incremental accounting profits.

When a required resource is in scarce supply, the opportunity cost of the next best alternative use needs to be considered.

Sunk costs are irrelevant to decision making as the expenditure has already been incurred.

Depreciation may be a relevant cost if it is incremental to the project being considered.

2 A company has received a special order which needs 1,000 metres of material Z. It has 800 metres of material Z in inventory, which it purchased for $5 per metre. If the inventory is not used for this order, it would be sold for $3.75 per metre. The current price of material Z is $4.50 per metre.

What is the total relevant cost of material B for the special order?

$

3 The Fruit Company (F Co) currently grows fruit which customers pick themselves from the fields before paying. F Co is concerned that a large number of customers are eating some of the fruit whilst picking it and are therefore not paying for all of it. As a result, it has to decide whether to hire staff to pick and package the fruit instead.

Which of the following values and costs are relevant to the decision?

Relevant Not relevant The total sales value of the fruit currently picked and paid for by customers

The cost of growing the fruit The cost of hiring staff to pick and package the fruit The total sales value of the fruit if it is picked and packaged by staff instead

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154 Rev i s io n q u es t io n s: 2 : D ec is ion -ma ki n g t ec hn i q ue s ACC A F5 Q uest i on Ba nk

LOSMETIC CO The following scenario relates to questions 4-8. Each question is worth 2 marks.

Losmetic Co is a company producing a variety of cosmetic creams and lotions. The company has just been asked by one of its biggest customers, a chain of stores, to produce a one-off order of creams for a special promotion that the stores are running. The order needs to be completed within three weeks. The following cost estimate has been prepared:

Materials $ Silk powder 15,000 grams at $2.20 per gram 33,000 Silk amino acids 5,000 grams at $0.80 per gram 4,000 Aloe vera 20,000 grams at $1.40 per gram 28,000 Labour Skilled 500 hours at $12 per hour 6,000 Unskilled 250 hours at $8 per hour 2,000 Factory overheads 750 hours at $4 per hour 3,000 Total production cost 76,000 General fixed overheads 15% of total production cost 11,400 Total cost 87,400

As the order is a one-off order, Losmetic Co will be quoting on a relevant cost basis, so that it can offer as competitive a price as possible.

4 Losmetic Co has sufficient inventory of all materials currently to fulfil the order. The current replacement costs from the company’s normal supplier are silk powder $2.50 per gram, silk amino acids $1 per gram, aloe vera $1.70 per gram.

The silk amino acids are not needed currently for any other purposes. Both the silk powder and aloe vera are in regular use. However, owing to temporary problems with the normal supplier, 15,000 grams of aloe vera will have to be purchased from another supplier at $2 per gram, in order to fulfil other orders if the one-off order is accepted.

Calculate the cost of materials that should be included in the quotation.

$

5 The skilled labour force is paid a guaranteed annual salary based on a 40-hour week at a rate of $12 per hour. There is no spare capacity for the next three weeks. Overtime is paid at time and a half. Skilled labour could be brought in from outside at a rate of $16 per hour.

There are two spare members of staff who are unskilled labour. They must be paid a minimum of $8 per hour for a 30-hour week. Additional hours are paid at the hourly rate, but they will be paid time and a half for the next three weeks for every hour that exceeds what they would have worked if they worked an average 40-hour week each week.

Calculate the cost of labour that should be included in the quotation.

$

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6 Of the factory overheads, $1.60 relates to the electricity costs connected with running the machinery. The other $2.40 is the cost of the supervisor’s salary. The supervisor is paid an annual salary that is the equivalent of $40 per hour. He receives a premium of 25% on this rate for overtime, which he is paid on an hourly basis. He is expected to work 15 hours’ overtime if Losmetic Co accepts this order.

Calculate the cost that should be included in the quotation for factory overheads.

$

7 How should the general fixed overheads be treated when preparing the quotation?

The overheads should be included because they are production costs. The overheads should be excluded because they are not opportunity costs. The overheads should be excluded because they are not incremental costs. The overheads should be included to ensure Losmetic Co makes a profit from the order.

8 Which of the following statements about relevant costing is/are true?

True False

All cash expenses are relevant costs, all non-cash expenses are non-relevant costs.

Notional costs are never relevant costs.

Fixed costs are never relevant costs.

Not all future costs are relevant costs.

Cost volume profit analysis 9 The following statements have been made about CVP analysis:

Which of the following statements about CVP analysis is/are true?

True False

CVP can help a company assess how sensitive its profits might be to below budget performance.

CVP analysis uses a total absorption costing approach.

CVP analysis is flexible enough to deal with changes in both variable and fixed costs at different levels of activity.

Break-even analysis can only be used for a single product or for multiple products which are sold in a constant mix.


Fixed costs are $18,000 per month.

The contribution/sales ratio is 60%. Sales revenue is $43,500.

What is the margin of safety in units?

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11 P Co makes two products – P1 and P2 – budgeted details of which are as follows:

P1 P2 $ $ Selling price 10·00 8·00 Cost per unit: Direct materials 3·50 4·00 Direct labour 1·50 1·00 Variable overhead 0·60 0·40 Fixed overhead 1·20 1·00 Profit per unit 3·20 1·60

Budgeted production and sales for the year ended 30 November 2015 are: Product P1 10,000 units Product P2 12,500 units The fixed overhead costs included in P1 relate to apportionment of general overhead costs only. However, P2 also includes specific fixed overheads totalling $2,500. If only product P1 were to be made, how many units (to the nearest unit) would need to be sold in order to achieve a profit of $60,000 each year? 25,625 units 19,205 units 18,636 units 26,406 units

12 Which of the following are required in order to calculate the break-even sales revenue for a manufacturing company which produces multiple products?

Required Not required Product mix ratio Contribution to sales ratio for each product General fixed costs Method of apportioning general fixed costs

13 Christine Co makes two products, the sara and the cristina. Production and sales of the sara are three times that of the cristina. Each unit of the sara makes a contribution of $12, each unit of the cristina makes a contribution of $7. Fixed costs are $269,000. How many units of both products taken together must be made and sold to achieve a profit of $75,000?

14 A company makes and sells product X and product Y. Twice as many units of product Y are made and sold as that of product X. Each unit of product X makes a contribution of $10 and each unit of product Y makes a contribution of $4. Fixed costs are $90,000.

What is the total number of units which must be made and sold to make a profit of $45,000?

7,500 22,500 15,000 16,875

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HARE EVENTS (SECTION B, DECEMBER 2016) The following scenario relates to questions 15-19. Each question is worth 2 marks.

Hare Events is a company which specialises in organising sporting events in major cities across Teeland. It has approached the local council of Edglas, a large city in the north of Teeland, to request permission to host a running festival which will include both a full marathon and a half marathon race.

Based on the prices it charges for entry to similar events in other locations, Hare Events has decided on an entry fee of $55 for the full marathon and $30 for the half marathon. It expects that the maximum entries will be 20,000 for the full marathon and 14,000 for the half marathon.

Hare Events has done a full assessment of the likely costs involved. Each runner will receive a race pack on completion of the race which will include a medal, t-shirt, water and chocolate. Water stations will need to be available at every five kilometre (km) point along the race route, stocked with sufficient supplies of water, sports drinks and gels. These costs are considered to be variable as they depend on the number of race entries.

Hare Events will also incur the following fixed costs. It will need to pay a fixed fee to the Edglas council for permits, road closures and support from the local police and medical services. A full risk assessment needs to be undertaken for insurance purposes. A marketing campaign is planned via advertising on running websites, in fitness magazines and at other events Hare Events is organising in Teeland, and the company which Hare Events usually employs to do the race photography has been approached.

The details of these costs are shown below:

Full marathon Half marathon $ $ Race packs 15.80 10.80 Water stations 2.40 1.20 $ Council fees 300,000 Risk assessment and insurance 50,000 Marketing 30,000 Photography 5,000

15 If Hare Events decides to host only the full marathon race, what is the margin of safety?

35.0% 47.7% 52.3% 65.0%

16 Assuming that the race entries are sold in a constant sales mix, based on the expected race entry numbers, what is the sales revenue that Hare Events needs to achieve in order to break even (to the nearest $000)

$385,000 $575,000 $592,000 $597,000

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17 Hare Events wishes to achieve a minimum total profit of $500,000 from the running festival.

What are the number of entries Hare Events will have to sell for each race in order to achieve this level of profit, assuming a constant sales mix based on the expected race entry numbers applies? Work to the nearest whole number.

Full marathon: 17,915 entries Half marathon: 12,540 entries Full marathon: 14,562 entries Half marathon: 18,688 entries Full marathon: 20,000 entries Half marathon: 8,278 entries Full marathon: 9,500 entries Half marathon: 6,650 entries

18 Hare Events is also considering including a 10 km race during the running festival. It expects the race will have an entry fee of $20 per competitor and variable costs of $8 per competitor. Fixed costs associated with this race will be $48,000.

If the selling price per competitor, the variable cost per competitor and total fixed costs for this 10 km race all increase by 10%, which of the following statements will be true?

Break-even volume will increase by 10% and break-even revenue will increase by 10%. Break-even volume will remain unchanged but break-even revenue will increase by 10%. Break-even volume will decrease by 10% but break-even revenue will remain unchanged. Break-even volume and break-even revenue will both remain the same.

19 Which of the following statements relating to cost volume profit analysis are true?

(i) Production levels and sales levels are assumed to be the same so there is no inventory movement.

(ii) The contribution to sales (C/S ratio) can be used to indicate the relative profitability of different products.

(iii) CVP analysis assumes that fixed costs will change if output either falls or increases significantly.

(iv) Sales prices are recognised to vary at different levels of activity especially if higher volume of sales is needed

(i), (ii) and (iii) (ii), (iii) and (iv) (i) and (ii) (iii) and (iv)

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Limiting factors 20 A company uses the linear programming model to find the optimal production plan for its two

products X and Y. The model considers ‘x’ to be number of units of product X and ‘y’ to be the number of units of product Y.

It has identified the following equations:

Objective function = Maximise 8x + 12y

Subject to the following constraints:

Material 2x + y ≤ 2,000

Unskilled labour: x + y ≤ 1,500

and x ≥ 400

What is the optimal solution for the output of X and Y?

X

Y

21 Taylor Co manufactures two products, A and B, and any quantities produced can be sold for $30 per unit and $25 per unit respectively.

Variable costs per unit of the two products are as follows:

Product A Product B $ $ Materials (at $2 per kg) 8 6 Labour (at $5 per hour) 10 5 Other variable costs 7 3 Total 25 14

Next month, only 3,200 kg of material and 2,000 labour hours will be available. The company aims to maximise its profits each month and wants to use the linear programming model to establish an optimum production plan.

The model considers ‘x’ to be number of units of Product A and ‘y’ to be the number of units of Product B.

Which of the following statements of objective function and constraints is correct?

Objective function Material constraint Labour constraint 30x + 25y 4x +3y ≤ 3,200 2x + y ≤ 2,000 5x + 11y 4x + 3y ≥ 3,200 2x + y ≥ 2,000 5x + 11y 4x + 3y ≤ 3,200 2x + y ≤ 2,000 30x + 25y 4x + 3y ≥ 3,200 2x + y ≥ 2,000

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22 A linear programming model has been formulated for two products, X and Y. The objective function is depicted by the formula C = 5X + 6Y, where C = contribution, X = the number of product X to be produced and Y = the number of product Y to be produced.

Each unit of X uses 2 kg of material Z and each unit of Y uses 3 kg of material Z. The standard cost of material Z is $2 per kg.

The shadow price for material Z has been worked out and found to be $2·80 per kg.

If an extra 20 kg of material Z becomes available at $2 per kg, what will the maximum increase in contribution be?

Increase of $96 Increase of $56 Increase of $16 No change

23 A company manufactures three products using different amounts of the same grade of labour, which is in short supply.

The following budgeted data relates to the products:

Per unit: P1 P2 P3 $ $ $ Selling price 120 140 95 Materials ($2 per kg) (40) (32) (22) Labour ($10 per hour (10) (20) (11) Variable overheads (20) (28) (24) Fixed overheads (6) (9) (12) Profit per unit 44 51 26

Rank the products 1,2,3 in the order they should be manufactured, assuming that the company wants to maximise profits.

Ranking

P1

P2

P3

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24 A jewellery company makes rings (R) and necklaces (N).

The resources available to the company have been analysed and two constraints have been identified:

Labour time 3R + 2N ≤ 2,400 hours Machine time 0·5R + 0·4N ≤ 410 hours

The management accountant has used linear programming to determine that R = 500 and N = 400.

Which of the following is/are slack resources?

1 Labour time available

2 Machine time available

1 only 2 only Both 1 and 2 Neither 1 nor 2

HIGGINS CO The following scenario relates to questions 25-29. Each question is worth 2 marks.

Higgins Co (HC) manufactures and sells pool cues and snooker cues. The cues both use the same type of good quality wood (ash), which can be difficult to source in sufficient quantity. The supply of ash is restricted to 5,400 kg per period. Ash costs $43.20 per kg.

The cues are made by skilled craftsmen who are well known for their workmanship. HC’s craftsmen are generally only able to work for 12,000 hours in a period. The craftsmen are paid $18 per hour.

HC sells the cues to a large market. Demand for the cues is strong and the company has estimated that up to 15,000 pool cues and 12,000 snooker cues can be sold in any period. The selling price for pool cues is $41 and the selling price for snooker cues is $69.

Manufacturing details for the two products are as follows. Pool cues Snooker cues Craftsmen time per cue 0.5 hours 0.75 hours Ash per cue 250 g 250 g Other variable costs per cue $1.20 $4.70

HC does not keep inventory.

25 Calculate the maximum contribution that HC could earn if ash and labour were not constraints.

$

26 Calculate the number of pool and snooker cues HC would manufacture if demand for both types of cue was not a constraint and assuming HC continues to manufacture both types of cue.

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27 If the amount of ash available was increased to 7,000 kg and the amount of skilled labour available was increased to 16,000 hours, which of the following statements would be true, assuming maximum demand for pool cues was 15,000 and maximum demand for snooker cues was 12,000?

Labour would remain a constraint but ash would no longer be a constraint. Ash would remain a constraint but labour would no longer be a constraint. Both labour and ash would still be constraints. Neither labour nor ash would be constraints.

28 Assume that the constraints that limit HC are the constraints on labour available and the demand for snooker cues. Under these constraints 6,000 pool cues are made. The contribution for snooker cues has recently increased to $45 per cue and for pool cues to $25 per cue.

Some of the craftsmen have offered to work overtime, provided that they are paid double time for the extra hours over the contracted 12,000 hours. HC has estimated that up to 1,200 hours per period could be gained in this way.

Calculate the shadow price of labour.

$

29 Which of the following statements relating to limited factor analysis or linear programming is/are true?

True False

The objective function is the function relating to the limitation of the scarce resource.

The constraints in graphical linear programming analysis are drawn as straight lines.

The shadow price is only significant for constraints that are binding.

There will be slack if less than the maximum amount available of a limited resource is needed.

Pricing decisions 30 Which of the following statements about price elasticity of demand is/are true?

True False

If PED < 1, total revenue will rise if the selling price of the product is increased.

If PED >1, the demand is said to be inelastic.

PED may be at different levels at different points on the demand curve.

If a downward demand curve changes to become steeper, demand is becoming more elastic.

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31 A company’s demand curve is P = 34 – 0.05Q. It experiences some cost discounts if it produces 200 units or more, so its cost function is as follows:

TC = 1,500 + 3Q (up to Q = 199) TC = 1,900 + 2.8Q (if Q = 200 or more)

What is the optimum selling quantity and price, to the nearest $0.01?

Quantity Price $

32 A company wishes to enter two different new markets.

In market A, it has estimated that demand will be relatively elastic. In market B, demand is likely to be relatively inelastic initially.

Which price strategy is most appropriate for the company to use in each market?


Penetration pricing

Market skimming

A

B

33 Which of the following statements about pricing is/are true?

True False

Target costing results in a market driven selling price.

Cost-plus pricing only works if the % mark-up is applied to total absorption costing.

A cost-plus pricing policy will always result in a profit for the company.

Penetration pricing aims to recover the high initial costs of product development.

34 Which TWO of the following circumstances that may arise in relation to the launch of a new product favour a penetration pricing policy?

Demand is relatively inelastic. There are significant economies of scale. The firm wishes to discourage new entrants to the market. The product life cycle is particularly short.

35 Which of the following statements regarding market penetration as a pricing strategy is/are correct?

1 It is useful if significant economies of scale can be achieved 2 It is useful if demand for a product is highly elastic


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ALG CO The following scenario relates to questions 36-40. Each question is worth 2 marks.

ALG Co is launching two new, innovative, products onto the market and is trying to decide on the right launch price for them.

The first product’s expected life is three years. Given the high level of costs which have been incurred in developing the product, ALG Co wants to ensure that it sets its price at the right level and has therefore consulted a market research company to help it do this. The research, which relates to similar but not identical products launched by other companies, has revealed that at a price of $60, annual demand would be expected to be 250,000 units.

However, for every $2 increase in selling price, demand would be expected to fall by 2,000 units and for every $2 decrease in selling price, demand would be expected to increase by 2,000 units.

A forecast of the annual production costs which would be incurred by ALG Co in relation to the new product are as follows:

Annual production (units) 200,000 250,000 300,000 350,000 $ $ $ $ Direct material 2,400,000 3,000,000 3,600,000 4,200,000 Direct labour 1,200,000 1,500,000 1,800,000 2,100,000 Overheads 1,400,000 1,550,000 1,700,000 1,850,000

36 Calculate the total fixed overheads for this product, using the high-low method.

$

37 Given the data above, which of the following is the correct formulation of the demand function?

P = 190 – 0·001x P = 250 – 0·001x P = 250 – 0·0005x P = 310 – 0·001x

38 The second product’s variable costs have been identified as $20 per unit and its demand function has been formulated as 240 – 0.001x.

Calculate the expected revenue for the product.

$

39 ALG Co plans to adopt a policy of market skimming for the two new products.

In which TWO of the following situations is market skimming an appropriate policy?

Customers are prepared to pay high prices to obtain a new product. Products have a long life cycle. Barriers to entry deter competitors. There are significant economies of scale connected with output.

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40 One of the directors has read about the market penetration pricing policy and wishes to have an idea of what the differences are between market penetration and market skimming policies.

In which of the following situations would a market skimming policy be more likely to be used, and in which situations would a market penetration policy be more likely to be used?

Skimming Penetration

The level of demand is unknown.

Demand is expected to be elastic.

ALG Co can discourage competitors from entering the market.

ALG has excess production capacity.

Make-or-buy and other short-term decisions 41 A business makes two components which it uses to produce one of its products. Details are:

Component A Component B Per unit information: $ $ Buy in price 14 17

Material 2 5 Labour 4 6 Variable overheads 6 7 General fixed overheads 4 3 Total absorption cost 16 21

The business wishes to maximise contribution and is considering whether to continue making the components internally or buy in from outside.

Which components should the company buy in from outside in order to maximise its contribution?

A only B only Both A and B Neither A nor B

THREE DEPARTMENTS The following scenario relates to questions 42-46. Each question is worth 2 marks.

The following are performance figures for three retail departments operated by a shop.

Café Bedding Furniture Total $ $ $ $ Sales 10,000 25,000 50,000 85,000 Variable costs 7,000 13,000 29,000 49,000 Share of fixed shop overheads 5,000 6,000 8,000 19,000 Profit/loss (2,000) 6,000 13,000 17,000

The furniture department is located on the ground floor of the shop, and the bedding department and café are located on the fifth floor.

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42 The following statements have been made about the café:

1 The café should be closed down as it is loss making.

2 Without the café, the shop’s total profit would be higher.



43 You have been informed that if the café is shut down, fixed shop overheads of $3,500 would be saved, but the bedding department is likely to lose 10% of its revenues.

If the café is closed, what will the new profit figure be?

$

44 Which of the following is the most likely explanation of why the bedding department will lose 10% of its revenues?

Customers often visit the café after they have been in the bedding department. Customers have to go through the bedding department to get to the café. Customers often visit the furniture department and the café department together. The bedding department and café are complementary.

45 If the café is shut, what measure can the shop take that is most likely to prevent the bedding department losing 10% of its revenues?

Let the bedding department also occupy the area formerly occupied by the café Relocate the bedding department next to the furniture department on the ground floor Adopt a policy of product line pricing on beds Adopt a policy of relevant cost pricing on beds

46 One of the directors has argued that one argument for keeping the café is that it increases the overall level of customer satisfaction with the store. Which of the following is the most helpful measure of the customer satisfaction generated by the café?

New items added to the café’s menu Length of queues in the café % occupancy of the tables in the café Profits made by the café

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CHEMCO The following scenario relates to questions 47-51. Each question is worth 2 marks.

Chemco imports different grades of fertiliser which it sells in bulk to farmers. All products currently make a profit. Chemco has now decided to consider refining the fertilisers by further processing, in order to sell it to individuals for domestic use.

The quantities and associated costs are as follows: Fertiliser

Basic

Medium grade

Premium

Current monthly sales quantity 100 kg 40 kg 60 kg Current sales price per kg (farmers) $5 $7 $10 After further processing: Sales price per kg (individual customers) $5.5 $8 $13 Further processing cost per kg $0.60 $0.80 $2

47 The following statements have been made about the fertilisers:

1 The basic fertiliser should only ever be sold in bulk to farmers.

2 If Chemco can obtain additional supplies, medium grade fertiliser should be sold to both farmers and to individuals for domestic use.



48 Assume the available quantity of fertiliser that Chemco can obtain is limited each month by import quotas, but that there are no restrictions on sales demand.

To which type or types of customer should each fertiliser be sold, in order to maximise profits?

Basic Medium grade Premium Farmers Individual customers

49 Chemco has just gained a new contract. The fertiliser it has agreed to supply needs a chemical added as part of the refining process. The chemical is in stock but is in short supply and is also needed by the company on an existing contract. Since the chemical is relatively unstable, any excess inventory has to be disposed of after six months.

What is the total relevant cost of the chemical required for the new contract?

The replacement cost of the chemical The price at which the chemical could be sold in the outside market The contribution (excluding chemical cost) foregone from using the chemical in the

existing contract The disposal cost of the chemical

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50 Another fertiliser that Chemco sells requires two chemicals as part of the refining process. To produce 100 kg of the fertiliser, a standard input mix of 6 litres of Chemical A and 14 litres of Chemical B is required.

Chemical A has a standard cost of $30 per litre and Chemical B has a standard cost of $40 per litre. During last month, the actual results showed that 5,000 kg of the fertiliser X were produced, using a total input of 31,000 litres of Chemical A and 72,500 litres of Chemical B (103,500 litres in total).

The actual costs of Chemicals A and B were at the standard cost of $20 and $25 per litre respectively. Calculate the materials mix variance.

Adverse Favourable

$...................

51 In which of the following circumstances would it NOT be reasonable to calculate a materials mix variance?

Proportions in the mix are changeable. Proportions in the mix can be controlled. The chemicals used in the mix are discrete. The usage variance of individual chemicals is of limited value.

Dealing with risk and uncertainty in decision-making 52 Which of the following statements about uncertainty in decision-making is/are true?

True False

Mystery shopping may be used to reduce the uncertainty associated with making changes to an existing product or launching a new one.

Sensitivity involves identifying a number of possible outcomes that may arise if the project goes ahead.

Focus groups are used to provide qualitative data about new products.

Pay-off tables record all possible outcomes.

53 Tree Co is considering employing a sales manager. Market research has shown that a good sales manager can increase profit by 30%, an average one by 20% and a poor one by 10%. Experience has shown that the company has attracted a good sales manager 35% of the time, an average one 45% of the time and a poor one 20% of the time.

The company’s normal profits are $180,000 per annum and the sales manager’s salary would be $40,000 per annum.

Based on the expected value criterion, which of the following represents the correct advice which Tree Co should be given?

Do not employ a sales manager as profits would be expected to fall by $1,300 Employ a sales manager as profits will increase by $38,700 Employ a sales manager as profits are expected to increase by $100 Do not employ a sales manager as profits are expected to fall by $39,900

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54 The Mobile Sandwich Co prepares sandwiches which it delivers and sells to employees at local businesses each day. Demand varies between 325 and 400 sandwiches each day. As the day progresses, the price of the sandwiches is reduced and, at the end of the day, any sandwiches not sold are thrown away. The company has prepared a regret table to show the amount of profit which would be foregone each day at each supply level, given the varying daily levels of demand.

Regret table Daily supply of sandwiches (units) 325 350 375 400

325 $0 $21 $82 $120 Daily demand 350 $36 $0 $44 $78 for sandwiches (units) 375 $82 $40 $0 $34 400 $142 $90 $52 $0

Applying the decision criterion of minimax regret, how many sandwiches should the company decide to supply each day?

325 350 375 400

55 Which THREE of the following statements about the use of Expected values (EV) are correct?

They are useful because they take account of the spread of possible returns They can be used for one-off investment decisions The average value generated may not actually represent a possible outcome They allow different possible outcomes to be built into a decision They represent a long-run average if an event is repeated many times The probabilities of different possible outcomes are usually easy to estimate

THREE PRODUCTS The following scenario relates to questions 56-60. Each question is worth 2 marks.

The matrix below shows the various contribution outcomes for three products, X, Y, and Z, depending on whether the product price is $10 or the product price is $15.

Profit Product P = $10 P = $15 X 60 80 Y -28 160 Z 50 90

56 Using expected values, which product should be chosen?

Project X Project Y Project Z It is impossible to say

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57 If the two product prices are equally likely to occur, which product or products should be chosen?

Product X Product Y Product Z Either Project X or Project Z

58 If the variable cost of Product X is $7, calculate the fall in the number of units sold if the Product price is $15 compared with if it is $10.

units

59 If the quantity sold of Product Z was 10 when the price was $10 and 9 when the price was $15, what would be the demand function for Product Z?

5 – 0.2Q 50 – 0.2Q 50 – 5Q 60 – 5Q

60 Which of the following is/are disadvantages of using marginal cost plus pricing?

Disadvantage Not disadvantage

It ignores fixed costs.

The mark-up % cannot be varied.

Budgeted output volume needs to be established.

The basis it uses for absorption of fixed overheads is arbitrary.

SANDRUNNER The following scenario relates to questions 61-65. Each question is worth 2 marks.

Sandrunner golf club is setting its annual membership fee, which will affect the number of members. The forecast annual cash inflows from membership fees are shown below.

Membership fees Membership fee Low Average High

$000 $000 $000 $300 180 210 270 $400 200 220 240 $450 180 205 245 $500 160 190 210

61 If the maximax decision-making technique is applied the fee set would be:

$300 $400 $450 $500

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62 Which TWO of the following are criticisms of using the maximax technique?

It presupposes an attitude of risk aversion. It ignores the probabilities of different outcomes. It ignores outcomes that are less than the best possible. It assumes there are opportunity losses.

63 If the minimax regret decision making technique is applied the fee set would be:

$300 $400 $450 $500

64 The committee has now decided to set the fee at $300 or $400 for the next year. For both outcomes the probabilities are Low 0.5 Average 0.3 High 0.2. A golf club member who is a marketing consultant has offered to carry out a survey of possible members to determine with certainty what the outcome will be.

Calculate the maximum amount that the marketing consultant should be paid for his work.

$

65 Over the longer-term, the committee are concerned with the increased costs of running the golf club. It believes that it may be able to maximise cash flow from members by introducing differential membership fees, so that the fees members pay will depend to some extent on how frequently they use facilities offered by the club.

Which TWO of the following is the committee MOST likely to take into account when considering whether to introduce differential membership fees?

The subscriptions charged by other golf clubs in the area The profits made by the club shop The amount of usage of the course at weekends (the busiest time of the week) The number of members using the club’s restaurant facilities

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MYLO (SECTION B, SEPTEMBER 2016) The following scenario relates to Questions 66 – 70. Each question is worth 2 marks.

Mylo runs a cafeteria situated on the ground floor of a large corporate office block. Each of the five floors of the building are occupied and there are in total 1,240 employees.

Mylo sells lunches and snacks in the cafeteria. The lunch menu is freshly prepared each morning and Mylo has to decide how many meals to make each day. As the office block is located in the city centre, there are several other places situated around the building where staff can buy their lunch, so the level of demand for lunches in the cafeteria is uncertain.

Mylo has analysed daily sales over the previous six months and established four possible demand levels and their associated probabilities. He has produced the following payoff table to show the daily profits which could be earned from the lunch sales in the cafeteria:

Demand level Probability Supply level 450 620 775 960

$ $ $ $ 450 0·15 1,170 980 810 740 620 0·30 1,170 1,612 1,395 1,290 775 0·40 1,170 1,612 2,015 1,785 960 0·15 1,170 1,612 2,015 2,496

66 If Mylo adopts a maximin approach to decision-making, which daily supply level will he choose?

450 lunches 620 lunches 775 lunches 960 lunches

67 If Mylo adopts a minimax regret approach to decision-making, which daily supply level will he choose? 450 lunches 620 lunches 775 lunches 960 lunches

68 Which of the following statements is/are true if Mylo chooses to use expected values to assist in his decision-making regarding the number of lunches to be provided?

1 Mylo would be considered to be taking a defensive and conservative approach to his decision

2 Expected values will ignore any variability which could occur across the range of possible outcomes

3 Expected values will not take into account the likelihood of the different outcomes occurring

4 Expected values can be applied by Mylo as he is evaluating a decision which occurs many times over

1, 2 and 3 2 and 4 1 and 3 4 only

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69 The human resources department has offered to undertake some research to help Mylo to predict the number of employees who will require lunch in the cafeteria each day. This information will allow Mylo to prepare an accurate number of lunches each day.

What is the maximum amount which Mylo would be willing to pay for this information (to the nearest whole $)?

$191 $359 $478 $175

70 Mylo is now considering investing in a speciality coffee machine. He has estimated the following daily results for the new machine:

$ Sales (650 units) 1,300 Variable costs (845) Contribution 455 Incremental fixed costs (70) Profit 385

Which of the following statements are true regarding the sensitivity of this investment?

1 The investment is more sensitive to a change in sales volume than sales price

2 If variable costs increase by 44% the investment will make a loss

3 The investment’s sensitivity to incremental fixed costs is 550%

4 The margin of safety is 84·6%

1, 2 and 3 2 and 4 1, 3 and 4 3 and 4

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174 Rev i s io n q u es t io n s: 3 : Bu d ge t i n g a n d co nt ro l ACC A F5 Q uest i on Ba nk


Budgetary systems and type of budget 1 Which of the following statements about budgeting is/are true?

True False

A rolling budget is a budget that starts at nil every period and requires managers to justify every item of expenditure.

A cash flow budget is a good example of feed-forward control.

An incremental budget is a budget which, having been established at the beginning of a period is then constantly amended and extended on account of developing circumstances.

An advantage of activity-based budgets is that they enable more efficient improvement programmes to be implemented.

2 Match the following examples of information to the category of information to which they relate.

Internal historic

External historic

Internal anticipated

External anticipated

Government inflation statistics

Purchases made by customers

Cash flow forecast for the next five years

Inventory movement records

3 Match the following descriptions of standards to the standards which they describe

Attainable Basic Ideal Current

Kept unchanged over a period of time

Makes no allowance for normal losses, waste and machine downtime

Assumes an efficient level of operation, but includes allowances for normal loss, waste and machine downtime

Based on working conditions and prices that apply now

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ACC A F5 Q uest i on Ba nk Rev i s ion q u es t io n s: 3 : Bu d ge t i n g a n d co nt ro l 175

4 Which of the following statements about changing budgetary systems is/are true?

True False

The costs of implementation may outweigh the benefits.

Employees will always welcome any new system which improves planning and control within the organisation.

The time and cost involved in the system transition may initially lead to control being worse not better.

Employees will adapt easily to the new system and this will increase their motivation.

5 Which of the following statements about the master budget is/are true?

True False

It sets out the timetable for budget preparation.

It is usually prepared before the functional budgets.

It includes a budgeted statement of profit or loss, statement of financial position and cash budget.

It is always prepared on a top-down basis.

6 Which of the following statements about zero based budgeting is/are true?

True False

It makes it easier for employees to artificially inflate budgets.

It facilitates improvements in processes.

Employees will focus on eliminating wasteful expenditure.

Short-term benefits could be emphasised over long-term benefits.

7 Which FOUR of the following are purposes of budgeting?

Co-ordination Communication Quantification Motivation Quality control Authorisation

8 Jen Co operates in a dynamic environment.

Which budgeting approach is most likely to be suitable for Jen Co?

Fixed budgets Incremental budgeting Bottom-up budgeting Zero-based budgeting

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9 RS has recently introduced an activity based budgeting system. RS manufactures two products, details of which are given below:

Product R Product S Budgeted production per annum (units) 80,000 60,000 Batch size (units) 100 50 Machine set-ups per batch 3 3 Processing time per unit (minutes) 3 5

The budgeted annual costs for two activities are as follows:

Machine set-up $180,000 Processing $108,000

What is the budgeted processing cost per unit of Product R, to the nearest $0.01?

$

10 Which TWO of the following are advantages of flexible budgeting?

It is useful for decision-making purposes. It is quicker to carry out than fixed budgeting. It provides appropriate benchmarks for cost control. It encourages the organisation to review the value of all its activities.

KENNETH CO The following scenario relates to questions 11-15. Each question is worth 2 marks.

Kenneth Co makes many products, one of which is Product Z. Kenneth Co is considering making various changes to the way it approaches the budgeting process, including adopting an activity-based costing approach in place of the current practice of absorbing overheads using direct labour hours. The main budget categories and cost driver details for October are set out below, excluding direct material costs:

Budget category $ Cost driver details Direct labour 128,000 8,000 direct labour hours Set-up costs 22,000 88 set-ups each month Quality testing costs* 34,000 40 tests each month Other overhead costs 32,000 absorbed by direct labour hours

* A quality test is performed after every 75 units produced

The following data for Product Z is also provided:

Direct materials: budgeted cost of $21·50 per unit Direct labour: budgeted at 0·3 hours per unit Batch size: 30 units Set-ups: 2 set-ups per batch

Budgeted volume for October: 150 units

11 Calculate, to the nearest $0.01, the budgeted unit cost of Product Z for October using a direct labour-based absorption method for all overheads.

$

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12 Calculate, to the nearest $0.01, the budgeted unit cost of Product Z for October using an activity-based costing approach for all overheads.

$

13 Kenneth Co is currently using an incremental approach to budgeting, but its Finance Director wishes to switch to a zero-based approach.

Which of the following are advantages of the incremental approach to budgeting?

Advantage Not advantage

It encourages managers to spend up to the maximum allowed in the budget.

It is a straightforward approach for inexperienced managers to apply.

It is suitable for organisations where historic costs are a good guide to future costs.

It forces employees to avoid wasteful expenditure.

14 Which of the following describes a zero-based budgeting approach?

Updating the budget regularly and controlling performance with the use of variance analysis that analyses variances into planning and operational variances

Using the current year’s results as a starting point and updating the budget for changes in activity or inflation

Analysing the cost of each activity, identifying alternative ways of performing the activity and assessing the consequences of performing the activity at different levels or not at all

Using an adaptive management process to prepare budgets that are focused on cash flows rather than cost control

15 Which TWO of the following are disadvantages of the zero-based approach to budgeting?

Zero-based budgeting does not respond to changes in the economic environment. It is difficult to rank activities that have qualitative rather than quantitative benefits. It restricts management from changing plans once the budget has been approved. Operational managers will become less motivated if zero-based budgeting is introduced,

as they will not be involved in the budgeting process.

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Quantitative analysis in budgeting 16 The total costs for a factory’s first four month’s production are as follows:

Month Output (units)

Total cost ($)

January 11,000 12,000 February 15,000 17,500

March 10,000 12,500 April 13,000 16,000

If a = total fixed costs and b = variable cost per unit, the values of a and b determined by the high-low method are as follows:

a $

b $

17 A worker takes 2 hours to produce the first unit of a product, but gets faster so that after a total of 11.664 hours, 8 units have been completed in total.

What is the learning rate, to the nearest 0.1%?

%

18 A company’s production process involves a learning effect but the Production Manager has indicated this will cease after 200 units have been made for the following reasons:

I Restrictions on availability of other resources e.g. machine time II Staff working at maximum physical capacity III Lack of incentives to encourage further improvement

Which of the above are valid reasons for reaching a steady state or production?

I only I and II only II and III only All of the above

19 A learning curve would be expected to apply in the production of items which exhibit which of the following features?

Apply Not apply

Simple to make

Made largely by labour efforts

Mass-produced

New product

Continuous production

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20 The following table shows the number of clients who attended a particular accountancy practice over the last four weeks and the total costs incurred during each of the weeks: Week Number of clients Total cost $ 1 400 36,880 2 440 39,840 3 420 36,800 4 460 40,000

Applying the high low method to the above information, which of the following could be used to forecast total cost ($) from the number of clients expected to attend (where x = the expected number of clients)?

7,280 + 74x 16,080 + 52x 3,200 + 80x 40,000/x

21 Tech World is a company which manufactures mobile phone handsets. From its past experiences, Tech World has realised that whenever a new design engineer is employed, there is a learning curve with a 75% learning rate which exists for the first 15 jobs.

A new design engineer has just completed his first job in five hours.

Note: At the learning rate of 75%, the learning factor (b) is equal to –0·415.

How long would it take the design engineer to complete the sixth job?

2·377 hours 1·442 hours 2·564 hours 5 hours

COMFYNAP CO The following scenario relates to questions 22-26. Each question is worth 2 marks.

Comfynap Co manufactures beds and other types of recliners.

The company has been developing a new bed, designed to give extra comfort. The estimated time for the first bed is 15 hours but the Production Director expected a learning curve of 80% to apply to the first 32 units produced, meaning that the cumulative total time for 32 units is expected to be 157.25 hours.

The cost of labour is $60 per hour.

22 Calculate the expected labour cost of the 32nd unit to the nearest $.

$

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23 32 units of the bed have now been produced. The first bed actually took 25 hours to make and the total time for the first 32 beds was 110 hours, at which point the learning effect came to an end.

Calculate the actual rate of learning that occurred, to the nearest 0.1%.

%

24 Comfynap Co has also been developing a lounge recliner. The Production Director had assumed that a learning rate of 75% would apply to the manufacture of the recliner. However, after initial production had been completed, it was found that a learning rate of 83% had applied.

Which TWO of the following statements could explain the difference between the expected learning rate and the actual learning rate?

Assembly of the recliner was labour-intensive and repetitive. There was high staff turnover during the initial phase of production. There were a number of delays in the production process. The design of the recliner was changed once the initial phase of production was over.

25 Comfynap Co is also developing a garden recliner. The Production and Sales Directors are trying to formulate a budget for this product. The Production Director has guaranteed that production will be matched to demand, but demand is uncertain.

The directors have identified the following as possible outcomes.

Demand (units)

Probability

Worst possible outcome 15,000 0.2 Most likely outcome 28,000 0.7 Best possible outcome 50,000 0.1

The selling price will be $100. The variable cost is $40 for any production level up to 20,000 units. If production is higher than 20,000 units, then the variable cost per unit will fall to $35. The $35 variable cost will be expected to apply to all units at that level.

Expected fixed costs are $200,000.

Using probabilistic budgeting, calculate the expected budgeted contribution of the product.

$

26 The Head Office of Comfynap Co is concerned about the number of problems that have occurred with the budgets that managers have prepared using spreadsheets.

Which of the following is/are significant disadvantages with using spreadsheets for budgeting?


It can be difficult to manipulate information on spreadsheets.

It can be difficult to identify errors in formulae used in spreadsheets.

Spreadsheets only take account of qualitative information.

It is very difficult to set common standards for the use of spreadsheets for budgeting by managers.

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Standard costing 27 Which of the following statements about different types of standards in standard costing

systems is/are true?

True False Basic standards provide the best basis for budgeting because they represent an achievable level of productivity.

Ideal standards are short-term targets and useful for day-to-day control purposes.

An attainable standard is always based on current efficiency levels and costs.

Current standards are particularly useful when inflation is high.

CORFE CO (SECTION B, SEPTEMBER 2016) The following scenario relates to Questions 28 – 32. Each question is worth 2 marks.

Corfe Co is a business which manufactures computer laptop batteries and it has developed a new battery which has a longer usage time than batteries currently available in laptops. The selling price of the battery is forecast to be $45.

The maximum production capacity of Corfe Co is 262,500 units. The company’s management accountant is currently preparing an annual flexible budget and has collected the following information so far:

Production (units) 185,000 200,000 225,000 $ $ $ Material costs 740,000 800,000 900,000 Labour costs 1,017,500 1,100,000 1,237,500 Fixed costs 750,000 750,000 750,000

In addition to the above costs, the management accountant estimates that for each increment of 50,000 units produced, one supervisor will need to be employed. A supervisor’s annual salary is $35,000.

The production manager does not understand why the flexible budgets have been produced as he has always used a fixed budget previously.

28 Assuming the budgeted figures are correct, what would the flexed total production cost be if production is 80% of maximum capacity?

$2,735,000 $2,770,000 $2,885,000 $2,920,000

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29 The management accountant has said that a machine maintenance cost was not included in the flexible budget but needs to be taken into account.

The new battery will be manufactured on a machine currently owned by Corfe Co which was previously used for a product which has now been discontinued. The management accountant estimates that every 1,000 units will take 14 hours to produce. The annual machine hours and maintenance costs for the machine for the last four years have been as follows:

Machine time

Maintenance costs

(hours) ($’000) Year 1 5,000 850 Year 2 4,400 735 Year 3 4,850 815 Year 4 1,800 450

What is the estimated maintenance cost if production of the battery is 80% of maximum capacity (to the nearest $’000)?

$575,000 $593,000 $500,000 $735,000

30 In the first month of production of the new battery, actual sales were 18,000 units and the sales revenue achieved was $702,000. The budgeted sales units were 17,300.

Based on this information, which of the following statements is true?

When the budget is flexed, the sales variance will include both the sales volume and sales price variances

When the budget is flexed, the sales variance will only include the sales volume variance When the budget is flexed, the sales variance will only include the sales price variance When the budget is flexed, the sales variance will include the sales mix and quantity

variances and the sales price variance

31 Which of the following statements relating to the preparation of a flexible budget for the new battery are true?

1 The budget could be time-consuming to produce as splitting out semi-variable costs may not be straightforward

2 The range of output over which assumptions about how costs will behave could be difficult to determine

3 The flexible budget will give managers more opportunity to include budgetary slack than a fixed budget

4 The budget will encourage all activities and their value to the organisation to be reviewed and assessed

1 and 2 1, 2 and 3 1 and 4 2, 3 and 4

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32 The management accountant intends to use a spreadsheet for the flexible budget in order to analyse performance of the new battery.

Which of the following statements are benefits regarding the use of spreadsheets for budgeting?

1 The user can change input variables and a new version of the budget can be quickly produced

2 Errors in a formula can be easily traced and data can be difficult to corrupt in a spreadsheet

3 A spreadsheet can take account of qualitative factors to allow decisions to be fully evaluated

4 Managers can carry out sensitivity analysis more easily on a budget model which is held in a spreadsheet

1, 3 and 4 1, 2 and 4 1 and 4 2 and 3

Material mix and yield variances 33 Which of the following statements about materials variances is/are true?

True False

Mix and yield variances are most appropriate where a product requires a set amount of different types of material.

The materials yield variance assesses whether the finished output was greater or less than expected, given the amount of material that was input.

Mix and yield variances are most appropriate where the input proportions of the materials used in a product can be varied without substantially changing the nature of the output.

The materials mix variance assesses the impact of varying the proportions of the different materials used in a product.

34 To produce 19 litres of product X, a standard input mix of 8 litres of chemical A and 12 litres of chemical B is required.

Chemical A has a standard cost of $20 per litre and chemical B has a standard cost of $25 per litre.

During September, the actual results showed that 1,850 litres of product X were produced, using a total input of 900 litres of chemical A and 1,100 litres of chemical B (2,000 litres in total).

The actual costs of chemicals A and B were at the standard cost of $20 and $25 per litre respectively.

It was expected that an actual input of 2,000 litres would yield an output of 1,900 litres (95%). The actual yield for September was only 1,850 litres, which was 50 litres less than expected.

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For the total materials mix variance and total materials yield variance, was there a favourable or adverse result in September?

The total mix variance was adverse and the total yield variance was favourable. The total mix variance was favourable and the total yield variance was adverse. Both variances were adverse. Both variances were favourable.

35 Isaacs Co has a process in which the standard mix for producing 1 unit of output is as follows:

$ 5 litres of R at $8 per litre 40.00 3 litres of S at $10 per litre 30.00 4 litres of T at $2 per litre 8.00

During November 2,000 units were produced and usage was:

9,700 litres of R 6,300 litres of S 7,400 litres of T

What was the materials yield variance for November?

Adverse Favourable

$...................

36 Product GX consists of a mix of three materials, J, K and L. The standard material cost of a unit of GX is as follows:

$ Material J 5 kg at $4 per kg 20 Material K 2 kg at $12 per kg 24 Material L 3 kg at $8 per kg 24

During March, 3,000 units of GX were produced, and actual usage was:

Material J 13,200 kg Material K 6,500 kg Material L 9,300 kg

What was the materials yield variance for March?

$6,800 favourable $6,800 adverse $1,000 favourable $1,000 adverse

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ROMEO CO (SECTION B, DECEMBER 2016) The following scenario relates to questions 37 – 41. Each question is worth 2 marks.

Romeo Co is a business which makes and sells fresh pizza from a number of mobile food vans based at several key locations in the city centre. It offers a variety of toppings and dough bases for the pizzas and has a good reputation for providing a speedy service combined with hot, fresh and tasty food to customers.

Each van employs a chef who is responsible for making the pizzas to Romeo Co's recipes and two sales staff who serve the customers. All purchasing is done centrally to enable Romeo Co to negotiate bulk discounts and build relationships with suppliers.

Romeo Co operates a standard costing and variances system and the standard cost card for Romeo Co's basic tomato pizza is as follows:

Ingredient Weight Price kg $ per kg Dough 0.20 7.60 Tomato sauce 0.08 2.50 Cheese 0.12 20.00 Herbs 0.02 8.40 0.42

In Month 3, Romeo Co produced and sold 90 basic tomato pizzas and actual results were as follows:

Ingredient

Kgs brought and used

Actual cost per kg

Dough 18.9 6.50 Tomato sauce 6.6 2.45 Cheese 14.5 21.00 Herbs 2.0 8.10 42

37 What was the total favourable material price variance for Month 3 (to 2 decimal places)?

$

38 What was the total adverse materials mix variance for Month 3?

$38.14 $41.92 $42.88 $81.02

39 In Month 4, Romeo Co produced and sold 110 basic tomato pizzas. Actual results were as follows:

Ingredient

Kgs brought and used

Actual cost per kg

Dough 21.3 6.60 Tomato sauce 7.5 2.45 Cheese 14.2 20.00 Herbs 2.0 8.50 45

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What was the total materials yield variance for Month 4? (Calculate all workings to 2 decimal places).

$11.63 favourable $12.21 favourable $9.75 adverse $21.95 adverse

40 In Month 5, Romeo Co reported a favourable materials mix variance for the basic tomato pizza.

Which of the following statements would explain why this variance has occurred?

The proportion of the relatively expensive ingredients used in production was less than the standard.

The prices paid for the ingredients used in the mix were lower than the standard prices. Each pizza used less of all the ingredients in actual production than expected. More pizzas were produced than expected given the level of ingredients input.

41 In Month 6, 100 basic tomato pizzas were made using a total of 42 kg of ingredients. A new chef at Romeo Co used the expected amount of dough and herbs but used less cheese and more tomato sauce per pizza than the standard. It was noticed that the sales of the basic tomato pizza had declined in the second half of the month.

Based on the above information, which TWO of the following statements are correct?

The actual cost per pizza in Month 6 was lower than the standard cost per pizza. The sales staff should lose their Month 6 bonus because of the reduced sales. The value of the ingredients usage variance and the mix variance are the same. The new chef will be responsible for the material price, mix and yield variances.

Sales mix and quantity variances 42 Which of the following statements about materials and sales mix variances is/are true?

True False

Sales mix and quantity variances are only meaningful when the company’s products are independent of each other.

The sales mix variance considers how the profit has been affected by selling products in a different ratio than initially expected.

The materials mix variance can be calculated by taking the difference between the actual quantity in the standard mix and the actual quantity in the actual mix, then multiplying it by the actual cost per kg.

The materials mix variance arises because there is a difference between what the input should have been for the output achieved and the actual output.

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43 If a budget for a single product is flexed, which of the following variances will be the sales variance?

Price variance Quantity variance Mix variance Yield variance

CUT CO The following scenario relates to questions 44-48. Each question is worth 2 marks.

Cut Co produces and sells disposable razors and non-disposable razors with replaceable blades.

Its monthly budget is as follows:

Non-disposable razors

Pack of blades

Disposable razors

Sales volume (units) 1,000 2,000 500 Selling price/unit ($) 15 8 5 Variable cost/unit ($) 8 3 2

Actual results for July are: Non-disposable

razors Pack of blades

Disposable razors

Sales volume (units) 900 2,600 700 Selling price/unit ($) 16 8 4.50 Variable cost/unit ($) 8 3 2

44 The following statements have been made about July:

1 As Cut Co sold 100 more non-disposable razors at $1 more per item and 200 more disposable razors at $0.50 less per item, there is no overall price variance.

2 The total sales volume variance was favourable.

Which of the above statements are true?


45 What was the total sales mix variance in July?

Adverse Favourable

$...................

46 What was the total sales quantity variance in July?

Adverse Favourable

$...................

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47 Which of the following is/are possible causes of the sales mix variance?

Possible cause Not possible cause

The size of the market for non-disposable razors increased.

The production costs were as budgeted.

Price-conscious customers switched to cheaper disposable razors.

A close competitor withdrew its non-disposable razor after safety concerns.

48 Which of the following statements about pricing strategies is/are true:

True False

If product prices are set based on standard costs, then a business will be unable to pass the cost of production inefficiencies on to the customer.

The prices of complementary products cannot be set independently.

If a company is using target costing, the price set will be determined by the target cost.

Price discrimination can be achieved by setting different prices for different versions of the same product.

Planning and operational variances 49 Conrad Co budgeted that it would sell 10,000 units based on an expected total market of

200,000 units. However, after producing the budget there was a 10% increase in industry demand due to better economic forecasts.

Which of the following is this most likely to give rise to?

A favourable sales price variance A favourable sales mix variance A favourable market share variance A favourable market size variance

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50 Which of the following statements about variances is/are true?

True False

The use of planning and operational variances splits responsibility for performance between managers in charge of day-to-day activities and decisions and those in charge of budgeting.

The revision of budgets for operational difficulties that have been experienced is likely to lead to more meaningful variance analysis.

Splitting variances into planning and operational variances will always make operational managers more receptive to variance analysis.

Those in charge of budgeting are not always responsible for planning variances.

51 The following data relate to Product Z and its raw material content for September.

Budget

Output 11,000 units of Z

Standard materials content 3 kg per unit at $4.00 per kg

Actual output 10,000 units of Z

Materials purchased and used 32,000 kg at $4.80 per kg

It has now been agreed that the standard price for the raw material purchased in September should have been $5 per kg.

What were the following variances for September?

Materials planning price variance

Adverse Favourable

...................

Materials operational usage variance

Adverse Favourable

...................

52 PlasBas Co uses recycled plastic to manufacture shopping baskets for local retailers. The standard price of the recycled plastic is $0·50 per kg and standard usage of recycled plastic is 0·2 kg for each basket. The budgeted production was 80,000 baskets.

Due to recent government incentives to encourage recycling, the standard price of recycled plastic was expected to reduce to $0·40 per kg. The actual price paid by the company was $0·42 per kg and 100,000 baskets were manufactured using 20,000 kg of recycled plastic.

What is the materials operational price variance?

$2,000 favourable $1,600 favourable $400 adverse $320 adverse

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FEDIA CO The following scenario relates to questions 53-57. Each question is worth 2 marks.

Fedia Co makes a specialist chemical product. The original prime costs for each canister, based on budgeted production of 12,000 canisters, are as follows:

$ Materials 2.5kg @ $30 per kg 75 Labour 3hrs @ $20 per hour 60 Prime cost 135

Before the period started, Fedia’s supplier announced that it was closing down. Fedia Co was forced to find a new supplier and purchased better quality replacement material at a price of $80 for each canister. Fedia produced 11,000 canisters of the product and spent $809,600 on 25,300 kg of material.

53 The following statements have been made about the total material variances:

1 The total material price variance is $50,600 adverse. 2 The total material usage variance is $70,400 favourable.



54 Calculate the material price planning variance. You should calculate this using the actual quantity purchased.

Adverse Favourable

$...................

55 Calculate the material usage variance. You should calculate this using the original standard cost per kg.

Adverse Favourable

$...................

56 Assuming there are no changes to budgeted costs and revenues other than material costs, which of the following variances is likely to be favourably affected by use of better quality materials?

Labour rate Sales yield Variable overhead expenditure Fixed overhead volume

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57 Which of the following is/are advantages of having a system of planning and operational variances in place?

Advantage Not an advantage The system will highlight non-controllable operational variances.

Managers can justify variances as being due to bad planning.

Planning variances can highlight out-of-date standards.

The system will be based on realistic standards that are easy to establish.

Performance analysis 58 Which of the following statements about both standard costing and total quality management

is/are true?

True False

They focus on assigning responsibility solely to senior managers.

They work well in rapidly changing environments.

The philosophy of continuous improvement behind TQM is incompatible with predetermined standards.

Standard costs may allow for a predetermined level of scrap, whereas TQM aims for no scrap.

59 A profit centre manager claims that the poor performance of her division is entirely due to factors outside her control. She has submitted the following table along with notes from a market expert, which she believes explains the cause of the poor performance:

Category

Budget Actual Actual this year this year last year Market expert notes

Sales volume (units) 500 300 400 The entire market has decreased by 25% compared to last year. The product will be obsolete in four years

Sales revenue $50,000 $28,500 $40,000 Rivalry in the market saw selling prices fall by 10%

Total material cost $10,000 $6,500 $8,000 As demand for the raw materials is decreasing, suppliers lowered their prices by 5%

After adjusting for the external factors outside the manager’s control, in which category/categories is there evidence of poor performance?

Material cost only Sales volume and sales price Sales price and material cost Sales price only

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192 Rev i s io n q u es t io n s: 4 : Pe r forma nc e m ea su r eme n t a n d co nt ro l ACC A F5 Q uest i on Ba nk


Performance management information systems 1 Match the descriptions of how the system is used to the system being described.

Transaction processing

system

Executive information

system

Enterprise resource planning

system Captures all the day-to-day routine transactions within a business

Integrated system overseen centrally

Provides summary information for strategic decisions

Includes data analysis and modelling tools

2 Which of the following statements about Management information systems is/are true?

True False

They are designed to provide information for internal and external use.

They provide information for planning, control and decision making.

They are designed to report on existing operations.

They are designed to integrate an organisation’s processes to provide a single system for the whole organisation.

3 The following statements have been made about planning and control as described in the three tiers of Robert Anthony’s decision-making hierarchy:

1 Strategic planning is concerned with making decisions about the efficient and effective use of existing resources.

2 Operational control is about ensuring that specific tasks are carried out efficiently and effectively.



4 A manufacturer and retailer of kitchens introduces an enterprise resource planning system.

Which of the following is NOT likely to be a potential benefit of introducing this system?

Schedules of labour are prepared for manufacturing Inventory records are updated automatically Sales are recorded into the financial ledgers Critical strategic information can be summarised

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ACC A F5 Q uest i on Ba nk Rev i s ion q u es t io n s: 4 : Pe r forma nc e m ea su r eme n t a n d co nt ro l 193

Sources of management information 5 Scowen Co decided to employ a researcher on a part-time contract to undertake a telephone

survey into the preferences of consumers for a variety of different packaging.

Which TWO of the following costs that Scowen Co has incurred are costs of data collection?

Cost of telephone calls Cost of researcher Cost of time spent analysing results of survey Costs of disseminating results to managers and staff

6 Which of the following is/are internal sources of management accounting information and which are external sources?

Internal External

Value of sales, analysed for each customer

Value of purchases, analysed for each supplier

Prices of similar products, analysed for each competitor company

Hours worked, analysed for each employee

Management reports 7 Which of the following control(s) help to ensure the security of highly confidential information?

Ensure security

Don’t ensure security

Logical access controls

Database controls

Hierarchical passwords

Range checks

8 XYZ Co creates archive copies of its database regularly.

What is the purpose of this type of control?

Ensure the accuracy of the data Preserve data confidentiality Prevent unauthorised access to the data Minimise the risk of data loss

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9 A government department generates information which should not be disclosed to anyone who works outside of the department. There are many other government departments working within the same building.

Which of the following would NOT be an effective control procedure for the generation and distribution of the information within the government department?

If working from home, departmental employees must use a memory stick to transfer data, as laptop computers are not allowed to leave the department

All departmental employees must enter non-disclosed and regularly updated passwords to access their computers

All authorised employees must swipe an officially issued, personal identity card at the entrance to the department before they can gain access

All hard copies of confidential information must be shredded at the end of each day or locked overnight in a safe if needed again

Performance analysis in private sector organisations 10 The following statements have been made about short-termism:

1 A focus solely on non-financial performance measures is likely to encourage short-termism

2 Investing in R&D is an example of a decision which is intended to improve long-term profitability



11 Which of the following statements about performance frameworks is/are true?

True False

In the balanced scorecard the set of indicators which measure whether value is being added to the shareholders is known as the innovation and learning perspective.

The balanced scorecard looks at both internal and external matters concerning the organisation.

The Building Blocks model focuses solely on non-financial measures.

The Building Blocks model considers competitiveness, resource utilisation and flexibility as dimensions of performance.

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12 A company has had some problems with staff motivation and retention and has decided to introduce some targets.

Which target is it likely to face the biggest potential difficulty setting?

Staff turnover rate Level of absenteeism Number of working hours Level of staff satisfaction

13 A company’s sales and cost of sales figures have remained unchanged for the last two years. The following information has been noted:

Year ended 31 May 2015 31 May 2014 Inventory turnover period 45 days 38 days Payables payment period 40 days 35 days Receivables payment period 60 days 68 days Current ratio 1·1 1·3 Quick ratio 1·3 1·4

The following statements have been made about the company’s performance for the most recent year:

1 Customers are taking longer to pay and this may have contributed to the decline in the company’s current ratio.

2 Inventory levels have increased and this may have contributed to the decline in the company’s quick ratio.



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BUS CO The following scenario relates to questions 14-18. Each question is worth 2 marks.

Bus Co is a large bus operator, operating long-distance bus services across the country. There are three other national operators in the country. Last month, an independent survey of 40,000 passengers was carried out, the results of which are shown in the table below:

Table: Bus passenger satisfaction % by national operator

Operator

Value for money

Punctuality

Journey time

Bus 68 80 82 Prime 58 80 83 Express 67 76 85 Transit 62 78 86

Based on feedback that it has had from a recent survey it has undertaken of its own customers, Bus Co has calculated a rating for overall customer satisfaction, based on a weighted average which, it asserts, reflects the importance customers surveyed placed on each of the three criteria above. The weightings used were as follows:

Value for money 40% Punctuality 32% Journey time 28%

The managing director (MD) of Bus Co made a public statement saying that: ‘Independent research has shown that our customers are the most satisfied of any national bus operator. Independent research confirms that we lead our competitors on what matters most to customers. We are ahead of them on value for money and punctuality. We are also striving to lower our environmental footprint. ’

In order to improve customer satisfaction, the MD has proposed that Bus Co should introduce an greater variety of tickets. Currently all four operators offer standard daily single or return, or weekly tickets, on particular routes. The MD has proposed that Bus Co should introduce Rover tickets, allowing unlimited daily or weekly travel on all routes in certain areas, and off-peak fares, which would apply to certain routes outside the rush hours. He has also proposed the introduction of Smartcard tickets on the busiest routes, allowing customers to swipe their tickets on electronic readers as they enter and leave the bus.

14 Using the customer satisfaction criteria calculated by Bus Co, rank the four bus operators, with the operator with the highest customer satisfaction ranked first.

Bus Prime Express Transit

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15 State which of the following assertions made by the managing director are true and which are false.

True False

Independent research has shown that Bus Co’s passengers are the most satisfied of any national bus operators.

Independent research confirms that Bus Co leads its competitors on what matters most to customers.

Independent research confirms that Bus Co is ahead of its competitors on value for money.

Independent research confirms that Bus Co is ahead of its competitors on punctuality.

16 Match the following measures to the value for money criteria of Economy, Efficiency and Effectiveness.


Occupancy rate of buses

Utilisation rate for drivers

Percentage of customers satisfied with cleanliness of buses

Percentage of carbon emissions relative to target set

17 Which of the following is least likely to improve punctuality on Bus Co’s routes?

No longer accepting cash on buses and only accepting prepaid tickets Amending the timetable to allow for longer journey times on certain routes during busy

periods Introducing a greater range of tickets on some routes Allowing customers to use Smartcard tickets on busiest routes

18 Which of the following Building Block dimensions proposed by Fitzgerald and Moon is the introduction of off-peak fares least likely to address?

Competitiveness Quality Resource utilisation Flexibility

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JAMAIR CO The following scenario relates to questions 19-23. Each question is worth 2 marks.

Jamair was founded in September 20X1 and is one of a growing number of airlines in the country of Shania. Jamair’s strategy is to operate as a low-cost, high efficiency airline.

The airline was given an ‘on time arrival’ ranking of seventh best by Shania’s aviation authority, who rank all 50 of the country’s airlines based on the number of flights which arrive on time at their destinations. 48 Jamair flights were cancelled in 20X7 compared to 35 in 20X6. This increase was due to an increase in the staff absentee rate at Jamair from 3 days per staff member per year to 4·5 days.

The average ‘ground turnaround time’ for airlines in Shania is 50 minutes, meaning that, on average, planes are on the ground for cleaning, refuelling, etc for 50 minutes before departing again. Jamair has increased the number of cleaners and also the number of spot checks of cleaners’ work

The number of passengers carried by the airline has grown from 300,000 passengers on a total of 3,428 flights in 20X1 to 920,000 passengers on 7,650 flights in 20X7.

Media reports suggest that other aircraft companies may be interested in bidding for Jamair Co.

19 Which TWO of the following strategies are likely to aid Jamair Co’s objective of operating as a low-cost, high efficiency airline?

Operating mostly in capital cities to reduce landing costs Using only one type of aircraft Having Premium, Business and Economy seat classes Focusing on e-commerce with customers booking tickets and checking in for flights online

20 Match the following objectives of Jamair Co to the perspective of the balanced scorecard to which they relate.

Financial Customer Internal Learning

Ensuring flights are on time

Using fewer planes to transport customers

Improving turnaround times

Improving cleanliness of planes by spot checks

21 Match the following performance measures used by Jamair Co to the perspective of the balanced scorecard to which they relate.


Absentee rates of employees

Planes’ lease costs per customer

Revenue per passenger mile

Number of flights cancelled

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22 Which FOUR of the following are disadvantages with using the balanced scorecard?

It steers Jamair away from solely focusing on financial measures. It cannot resolve conflicts between short-term and long-term objectives. An improvement in one perspective of the balanced scorecard can be made without

affecting the other three perspectives. It can be difficult to gain an overall impression of the results provided. There is no direct link between the overall results of the scorecard and the creation of

shareholder value. The balanced scorecard will be of limited effectiveness if Jamair’s strategy is unclear.

23 The following statistics are available about Jamair and two of its principal competitors.

Jamair Competitor 1

Competitor 2

Profit attributable to shareholders ($ million) 371 546 286

Share price at year-end ($) 9.0 6.0 4.5

Shares in issue at year-end (million) 520 1,100 600

Fleet size (number of aircraft) 17 29 25

Kilometres flown (million) 56 92 65

Are the following statement relating to the data above true or false?

True False

Jamair Co has a higher P/E ratio than its competitors, which may reflect the rumours about a takeover

Competitor 2 appears to do a greater proportion of long-haul flights than Jamair or Competitor 1.

Divisional performance and transfer pricing 24 Which of the following statements about transfer pricing is/are true?

True False

Cost-based transfer prices are most appropriate where there is an intermediate market for the product.

When the producing division is operating at full capacity, an opportunity cost based approach should be used for the transfer price.

The maximum transfer price is the sum of the supplying division’s marginal cost and opportunity cost of the item transferred.

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25 Which of the following statements about divisional performance measures is/are true?

True False

Residual income is better for comparing divisions of different sizes.

Return on investment may cause a manager to reject a project that exceeds the head office target, if the project will earn less than the division’s existing Return on investment.

A disadvantage of Residual income is that it requires an estimate of cost of capital.

A disadvantage of both Return on investment and Residual income is that they may appear to improve as a division’s assets get older.

26 On the last day of the financial year a division has net assets with a total carrying amount of $720,000. The return on investment for the division is 15%. The division manager is considering selling a non-current asset immediately prior to the year end. The non-current asset has a carrying amount of $36,000 and will sell for a profit of $14,000.

What would be the division’s return on investment (ROI) immediately after the sale of the asset at the end of the year, to the nearest 0.1%?

%

27 A division is considering investing in capital equipment costing $2·7m. The useful economic life of the equipment is expected to be 50 years, with no resale value at the end of the period. The forecast return on the initial investment is 15% per annum before depreciation. The division’s cost of capital is 7%. What is the expected annual residual income of the initial investment?

$

28 Tom has been questioned about the performance of his division, which has been worse than his Chief Executive expected. Tom has submitted the following comments on the performance of his division:

Category Budget this year

Actual last year

Actual this year

Sales volume (units) 6,000 5,000 4,200 There has been a 20% decrease in the market compared with last year.

Sales revenue $600,000 $450,000 $317,000 Market selling prices have fallen by 15% compared with last year.

Material cost $113,400 $105,000 $81,600 Suppliers have increased their prices by 5% compared with last year.

Material usage (kgs) 16,200 15,000 11,500 Changes in production have meant that each unit produced used 10% less material than last year.

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After taking account of the factors that are not under Tom’s control, in which categories did his division perform poorly (defined as performing below budget AND performing below what would have been expected, based on Tom’s comments)?

Poor performance

Not poor performance

Sales volume

Sales price

Material cost

Material usage

29 At the end of 20X1, an investment centre has net assets of $1m and annual operating profits of $190,000. However, the bookkeeper forgot to account for the following:

A machine with a net book value of $40,000 was sold at the start of the year for $50,000 and replaced with a machine costing $250,000. Both the purchase and sale are cash transactions. No depreciation is charged in the year of purchase or disposal. The investment centre calculates return on investment (ROI) based on closing net assets.

Assuming no other changes to profit or net assets, what is the return on investment (ROI) for the year?

18·8% 19·8% 15·1% 15·9%

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CARDALE CO The following scenario relates to questions 30-34. Each question is worth 2 marks.

Cardale Industrial Metal Co (CIM Co) is a large supplier of industrial metals, that is split into a number of divisions. Each division operates separately as an investment centre, with each one having full control over its non-current and current assets. Head Office imposes common accounting policies including monthy rates of depreciation.

Each divisional manager is paid a salary of $120,000 per annum plus an annual performance-related bonus, based on the return on investment (ROI) achieved by their division for the year. Each divisional manager is expected to achieve a minimum ROI for their division of 10% per annum. If a manager only meets the 10% target, they are not awarded a bonus. However, for each whole percentage point above 10% which the division achieves for the year, a bonus equivalent to 2% of annual salary is paid, subject to a maximum bonus equivalent to 40% of annual salary.

The following figures relate to Division N for the year ended 31 August 20X5: Division N $’000 Sales 8,700 Net profit 1,286 Non-current assets 14,980 Inventory, cash and trade receivables 3,260 Trade payables 1,400

Net profit is stated after deducting $684,000 apportioned Head Office costs.

Division N’s manager is concerned that his bonus may be lower in comparison with the manager of Division F, a smaller division than Division N. He has found out that the manager of Division F has achieved a return on investment of 28.5% for the year ended 31 August 20X5, which Division N’s manager regards as very high.

Division F’s manager has stated that his figures are good because he runs his department very efficiently and is always looking to improve the decision-making process. To that end he invested in a strategic executive information system just before 31 August 20X5.

Division N’s manager believes that it would be better if Cardale Co switched to basing its bonus system on the size of residual income generated by each Division, based on a cost of capital of 10%.

30 Calculate, to the nearest 0.1%, the return on investment for Division N for the year ended 31 August 20X5.

%

31 Calculate the bonus that the manager of Division F will be paid for the year ended 31 August 20X5.

$

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32 Which of the following is/are possible reasons why the manager of Division F has achieved a high ROI for the year ended 31 August 20X5?

Possible reason

Not possible reason

Division F’s manager has kept cash balances high. The accumulated depreciation on Division F’s non-current assets is low.

Division F’s manager invested in the strategic management information system just before the year-end.

33 For which TWO of the following reasons might Division F’s manager be concerned about the fairness of basing bonus on RI in the way proposed by Division N’s manager?

Division F is smaller than Division N. It reduces the incentive for Division F to undertake investments where the benefits may

be marginal. Division F has a lower risk profile than Division N. Division F’s manager is more likely to be penalised for taking decisions that are in the

best interests of Cardale Co.

34 For which of the following reasons is the manager of Division F most likely to have invested in a strategic executive information system?

The system lists in detail all the accounting information relating to his department. The system allows easier access to external sources of information. The system will help integrate information needs across Cardale Co. The system provides expert knowledge and assistance in decision-making in areas where

the manager lacks expertise.

ANDOVER AND WINCHESTER The following scenario relates to questions 35-39. Each question is worth 2 marks.

Andover and Winchester are divisions within Petersfield Co, a large diversified business. The Andover division was only created last year. The following performance statements are available for the year:

Andover Winchester $000 $000 Revenue 200 450 Variable costs (60) (200) Contribution 140 250 Fixed costs (25) (70) Divisional profit before central costs 115 180 Apportioned central costs (60) (120) Divisional net profit 55 60

Divisional net assets (@NBV) 375 200

The overall cost of financing for the company is 10%. The managers have full discretion over incurring fixed costs.

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35 What is the correct RI (in $000) for appraising the managers of the two divisions?

Andover

$ 000

Winchester

$ 000

Andover Winchester $77.5 $160 $102.5 $230 $17.5 $40 $23 $46

36 The following statements have been made:

1 Andover division’s ROI is less than half that of Winchester division

2 One reason Winchester division appears to be performing better could be due to the fact that it is significantly older than Andover division



37 Which of the following options shows the words that correctly fill in the gaps in the sentence?

The managers of Andover and Winchester divisions should be assessed on costs, revenue and investments that are ............... their division. To promote goal-congruent behaviour by the two divisions, .............. should be used to compare them. Efficiency variances ............... be used to assess the managers of the two centres.

controllable by/RI/can incurred by/RI/cannot controllable by/ROI/can incurred by/ROI/cannot

38 One of the non-executive directors at Petersfield Co has queried the means for rewarding the managers of its divisions. He wonders whether managers can increase their rewards by trying to manipulate the short-term results of their divisions.

Which of the following measures would be MOST effective in addressing the possible problems of short-term manipulation of results?

Rewarding managers for the performance of their division only Linking manager rewards to the overall performance of the company and not divisional

results Rewarding managers if they fulfil a number of financial and non-financial targets Only rewarding managers by means of a basic salary and not providing any rewards for

short-term performance

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39 The board has agreed that the performance of each division should be partly judged by customer satisfaction.

Which of the following measures is MOST likely to be an indication of how satisfied customers are?

The number of items rejected by internal quality control processes The level of staff turnover The number of new products launched by the division The % of on-time deliveries

Performance analysis in not-for-profit organisations and the public sector 40 Which of the following is LEAST suitable as a method of evaluating the performance of a public

sector organisation?

Assessing Value-for-money Measuring actual performance in relation to financial targets Appointment of a regulator to undertake monitoring Conducting a survey of the users of the service

41 A government is trying to assess schools by using a range of financial and non-financial factors. One of the chosen methods is the percentage of students passing five exams or more.

Which of the three Es in the value for money framework is being measured here?

Economy Efficiency Effectiveness Expertise

SEATOWN COUNCIL The following scenario relates to questions 42-46. Each question is worth 2 marks.

Seatown is located on the coast. The town’s main industry is tourism, with an emphasis on family holidays. Consequently, the cleanliness of the town’s beaches is a major factor in the town’s success.

The town council has a cleaning department that is responsible for keeping the beaches clean and tidy. Early every morning the beaches are swept using equipment that is towed behind tractors. Most litter takes the form of paper and plastic packaging, but it can include glass bottles and aluminium cans.

To try to prevent litter being left on the beach the town council also places bins on the beaches above the high water mark. Litter bins need to be emptied regularly, otherwise holidaymakers pile their rubbish beside the bins. This leads to litter being spread by the wind or by seabirds scavenging for food scraps.

The cost of cleaning the beaches is a major expense for the town council. The management team of the town council has asked the internal audit department to investigate whether the town is getting good “value for money” from this expenditure.

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42 Which TWO of the following could be used as performance measures of the efficiency of the beach cleaning operations?

Tractor running costs How much time is spent sweeping the sands Amount of litter collected How frequently bins are being emptied

43 Which THREE of the following could be used as performance measures of the effectiveness of the beach cleaning operations?

Spot checks on litter bins by council officers The number of litter bins used Time spent by employees on each area of the beaches Ratings of beaches by external agencies Complaints by visitors Amount of vehicle miles covered by tractors

44 To help with its analysis, the council wishes to estimate the number of visitors to Seatown annually.

Which of the following is likely to be the least reliable indicator of the number of visitors to Seatown during the year?

Number of people on beaches ascertained by regular spot counts Number of hotel rooms in Seatown Number of users of car parks Number of visitors to tourist information centres

45 Which of the following would be a difficulty/difficulties in analysing the effectiveness of beach and litter bin cleaning activities compared with each other and over the year?

Difficulty Not a difficulty

Some refreshment kiosks will only be open at certain times of the year.

The number of visitors will be less in winter.

Certain areas of Seatown’s beaches are more difficult to sweep.

Sweeping should pick up litter that poses a threat to beach user safety.

46 Seatown Council is considering using Fitzgerald and Moon’s Building Block model as well as Value for Money analysis.

Which of the following completes this paragraph?

The variation in frequency of sweeping beaches during the year is a measure of _____, whereas the number of visitors compared with other resorts is a measure of ______.

resource usage/service quality flexibility/service quality resource usage/competitiveness flexibility/competitiveness

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External considerations and behavioural aspects 47 The performance of an organisation can be influenced by internal and external factors. Which of

the following are internal factors and which are external factors?

Internal External

Growth in the economy

Director leaves to join a competitor

Market shortage of labour

New health and safety regulations

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ACC A F5 Q uest i on Ba nk Rev i s ion q u es t io n s: 2 : D ec is ion -ma ki n g t ec hn i q ue s 209

P A R T 2 R E V I S I O N Q U E S T I O N S : L o n g f o r m



1 THE TELEPHONE CO (Q1, DECEMBER 2011) The Telephone Co (T Co) is a company specialising in the provision of telephone systems for commercial clients. There are two parts to the business:

Installing telephone systems in businesses, either first time installations or replacement installations;

Supporting the telephone systems with annually renewable maintenance contracts.

T Co has been approached by a potential customer, Push Co, who wants to install a telephone system in new offices it is opening. While the job is not a particularly large one, T Co is hopeful of future business in the form of replacement systems and support contracts for Push Co. T Co is therefore keen to quote a competitive price for the job. The following information should be considered:

(1) One of the company’s salesmen has already been to visit Push Co, to give them a demonstration of the new system, together with a complimentary lunch, the costs of which totalled $400.

(2) The installation is expected to take one week to complete and would require three engineers, each of whom is paid a monthly salary of $4,000. The engineers have just had their annually renewable contract renewed with T Co. One of the three engineers has spare capacity to complete the work, but the other two would have to be moved from contract X in order to complete this one. Contract X generates a contribution of $5 per engineer hour. There are no other engineers available to continue with Contract X if these two engineers are taken off the job. It would mean that T Co would miss its contractual completion deadline on Contract X by one week. As a result, T Co would have to pay a one-off penalty of $500. Since there is no other work scheduled for their engineers in one week’s time, it will not be a problem for them to complete Contract X at this point.

(3) T Co’s technical advisor would also need to dedicate eight hours of his time to the job. He is working at full capacity, so he would have to work overtime in order to do this. He is paid an hourly rate of $40 and is paid for all overtime at a premium of 50% above his usual hourly rate.

(4) Two visits would need to be made by the site inspector to approve the completed work. He is an independent contractor who is not employed by T Co, and charges Push Co directly for the work. His cost is $200 for each visit made.

(5) T Co’s system trainer would need to spend one day at Push Co delivering training. He is paid a monthly salary of $1,500 but also receives commission of $125 for each day spent delivering training at a client’s site.

(6) 120 telephone handsets would need to be supplied to Push Co. The current cost of these is $18.20 each, although T Co already has 80 handsets in inventory. These were bought at a price of $16.80 each. The handsets are the most popular model on the market and frequently requested by T Co’s customers.

(7) Push Co would also need a computerised control system called ‘Swipe 2’. The current market price of Swipe 2 is $10,800, although T Co has an older version of the system, ‘Swipe 1’, in inventory, which could be modified at a cost of $4,600. T Co paid $5,400 for Swipe 1 when it ordered it in error two months ago and has no other use for it. The current market price of

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Swipe 1 is $5,450, although if T Co tried to sell the one they have, it would be deemed to be ‘used’ and therefore only worth $3,000.

(8) 1,000 metres of cable would be required to wire up the system. The cable is used frequently by T Co and it has 200 metres in inventory, which cost $1.20 per metre. The current market price for the cable is $1·30 per metre.

(9) You should assume that there are four weeks in each month and that the standard working week is 40 hours long.

Required:

(a) Prepare a cost statement, using relevant costing principles, showing the minimum cost that T Co should charge for the contract. Make DETAILED notes showing how each cost has been arrived at and EXPLAINING why each of the costs above has been included or excluded from your cost statement. (14 marks)

(b) Explain the relevant costing principles used in part (a) and explain the implications of the minimum price that has been calculated in relation to the final price agreed with Push Co. (6 marks)

(20 marks)

Cost volume analysis

2 HAIR CO (Q1, DECEMBER 2012 AMENDED) Hair Co manufactures three types of electrical goods for hair: curlers (C), straightening irons (S) and dryers (D.) The budgeted sales prices and volumes for the next year are as follows.

C S D Selling price $110 $160 $120 Units 20,000 22,000 26,000

Each product is made using a different mix of the same materials and labour. Product S also uses new revolutionary technology for which the company obtained a ten-year patent two years ago. The budgeted sales volumes for all the products have been calculated by adding 10% to last year’s sales.

The standard cost card for each product is shown below. C S D

$ $ $ Material 1 12 28 16 Material 2 8 22 26 Skilled labour 16 34 22 Unskilled labour 14 20 28

Both skilled and unskilled labour costs are variable.

The general fixed overheads are expected to be $640,000 for the next year.

Required:

(a) Calculate the weighted average contribution to sales ratio for Hair Co.

Note: round all workings to TWO decimal places. (6 marks)

(b) Calculate the total break-even sales revenue for the next year for Hair Co.

Note: round all workings to TWO decimal places. (2 marks)

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(c) Rank the products according to their C/S ratios. Calculate the revenue and profit for each product, and the cumulative revenues and profits on the basis that the product with the highest C/S ratio is sold first. (5 marks)

(d) Briefly comment on your findings in (c). (4 marks)

(e) Explain how a multi-product profit-volume (PV) chart may assist a business in its decision-making. (3 marks)

(20 marks)

Limiting factors

3 CSC CO (Q32, SEPTEMBER 2016) CSC Co is a health food company producing and selling three types of high-energy products: cakes, shakes and cookies, to gyms and health food shops. Shakes are the newest of the three products and were first launched three months ago. Each of the three products has two special ingredients, sourced from a remote part the world. The first of these, Singa, is a super-energising rare type of caffeine. The second, Betta, is derived from an unusual plant believed to have miraculous health benefits.

CSC Co’s projected manufacture costs and selling prices for the three products are as follows:

Cakes Cookies Shakes Per unit $ $ $ Selling price 5·40 4·90 6·00 Costs: Ingredients: Singa ($1·20 per gram) 0·30 0·60 1·20 Ingredients: Betta ($1·50 per gram) 0·75 0·30 1·50 Other ingredients 0·25 0·45 0·90 Labour ($10 per hour) 1·00 1·20 0·80 Variable overheads 0·50 0·60 0·40 Contribution 2·60 1·75 1·20

For each of the three products, the expected demand for the next month is 11,200 cakes, 9,800 cookies and 2,500 shakes.

The total fixed costs for the next month are $3,000.

CSC Co has just found out that the supply of Betta is going to be limited to 12,000 grams next month. Prior to this, CSC Co had signed a contract with a leading chain of gyms, Encompass Health, to supply it with 5,000 shakes each month, at a discounted price of $5·80 per shake, starting immediately. The order for the 5,000 shakes is not included in the expected demand levels above.

Required:

(a) Assuming that CSC Co keeps to its agreement with Encompass Health, calculate the shortage of Betta, the resulting optimum production plan and the total profit for next month. (6 marks)

One month later, the supply of Betta is still limited and CSC Co is considering whether it should breach its contract with Encompass Health so that it can optimise its profits.

Required:

(b) Discuss whether CSC Co should breach the agreement with Encompass Health.

Note: No further calculations are required. (4 marks)

Several months later, the demand for both cakes and cookies has increased significantly to 20,000 and 15,000 units per month respectively. However, CSC Co has lost the contract with Encompass Health

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and, after suffering from further shortages of supply of Betta, Singa and of its labour force, CSC Co has decided to stop making shakes at all. CSC Co now needs to use linear programming to work out the optimum production plan for cakes and cookies for the coming month. The variable ‘x’ is being used to represent cakes and the variable ‘y’ to represent cookies.

The following constraints have been formulated and a graph representing the new production problem has been drawn:

Singa: 0·25x + 0·5y ≤ 12,000 Betta: 0·5x + 0·2y ≤ 12,500 Labour: 0·1x + 0·12y ≤ 3,000

x ≤ 20,000 y ≤ 15,000 x, y ≥ 0

Required:

(c) (i) Explain what the line labelled ‘C = 2·6x + 1·75y’ on the graph is and what the area

represented by the points 0ABCD means. (4 marks)

(ii) Explain how the optimum production plan will be found using the line labelled ‘C = 2·6x + 1·75y’ and identify Explain what the line labelled ‘C = 2·6x + 1·75y’ on the graph is and what the area represented by the points 0ABCD means.the optimum point from the graph. (2 marks)

(iii) Explain what a slack value is and identify, from the graph, where slack will occur as a result of the optimum production plan. (4 marks)

Note: No calculations are needed for part (c).

(20 marks)

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Pricing decisions

4 HEAT CO (Q2, JUNE 2011) Heat Co specialises in the production of a range of air conditioning appliances for industrial premises. It is about to launch a new product, the ‘Energy Buster’, a unique air conditioning unit which is capable of providing unprecedented levels of air conditioning using a minimal amount of electricity. The technology used in the Energy Buster is unique so Heat Co has patented it so that no competitors can enter the market for two years. The company’s development costs have been high and it is expected that the product will only have a five-year life cycle.

Heat Co is now trying to ascertain the best pricing policy that they should adopt for the Energy Buster’s launch onto the market. Demand is very responsive to price changes and research has established that, for every $15 increase in price, demand would be expected to fall by 1,000 units. If the company set the price at $735, only 1,000 units would be demanded.

The costs of producing each air conditioning unit are as follows.

$ Direct materials 42 Labour 12 (1.5 hours at $8 per hour. See note below) Fixed overheads 6 (Based on producing 50,000 units per annum) Total cost 60

Note

The first air conditioning unit took 1.5 hours to make and labour cost $8 per hour. A 95% learning curve exists, in relation to production of the unit, although the learning curve is expected to finish after making 100 units. Heat Co’s management have said that any pricing decisions about the Energy Buster should be based on the time it takes to make the 100th unit of the product. You have been told that the learning co-efficient, b = -0.0740005.

All other costs are expected to remain the same up to the maximum demand levels.

Required:

(a) (i) Establish the demand function (equation) for air conditioning units; (3 marks)

(ii) Calculate the marginal cost for each air conditioning unit after adjusting the labour cost as required by the note above; (6 marks)

(iii) Equate marginal cost and marginal revenue in order to calculate the optimum price and quantity, (3 marks)

(b) Explain what is meant by a ‘penetration pricing’ strategy and a ‘market skimming’ strategy and discuss whether either strategy might be suitable for Heat Co when launching the Energy Buster. (8 marks)

(20 marks)

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5 ROBBER CO (Q1, JUNE 2012) Robber Co manufactures control panels for burglar alarms, a very profitable product. Every product comes with a one-year warranty offering free repairs if any faults arise in this period.

It currently produces and sells 80,000 units per annum, with production of them being restricted by the short supply of labour. Each control panel includes two main components – one keypad and one display screen. At present, Robber Co manufactures both of these components in-house. However, the company is currently considering outsourcing the production of keypads and/or display screens. A newly established company based in Burgistan is keen to secure a place in the market, and has offered to supply the keypads for the equivalent of $4.10 per unit and the display screens for the equivalent of $4.30 per unit. This price has been guaranteed for two years.

The current total annual costs of producing the keypads and the display screens are as follows.

Keypads

Display screens

Production 80,000 units 80,000 units $000 $000 Direct materials 160 116 Direct labour 40 60 Heat and power costs 64 88 Machine costs 26 30 Depreciation and insurance costs 84 96 Total annual production costs 374 390

Notes:

(1) Materials costs for keypads are expected to increase by 5% in six months’ time; materials costs for display screens are only expected to increase by 2%, but with immediate effect.

(2) Direct labour costs are purely variable and not expected to change over the next year.

(3) Heat and power costs include an apportionment of the general factory overhead for heat and power as well as the costs of heat and power directly used for the production of keypads and display screens. The general apportionment included is calculated using 50% of the direct labour cost for each component and would be incurred irrespective of whether the components are manufactured in-house or not.

(4) Machine costs are semi-variable; the variable element relates to set up costs, which are based upon the number of batches made. The keypads’ machine has fixed costs of $4,000 per annum and the display screens’ machine has fixed costs of $6,000 per annum. Whilst both components are currently made in batches of 500, this would need to change, with immediate effect, to batches of 400.

(5) 60% of depreciation and insurance costs relate to an apportionment of the general factory depreciation and insurance costs; the remaining 40% is specific to the manufacture of keypads and display screens.

Required:

(a) Advise Robber Co whether it should continue to manufacture the keypads and display screens in-house or whether it should outsource their manufacture to the supplier in Burgistan, assuming it continues to adopt a policy to limit manufacture and sales to 80,000 control panels in the coming year. (8 marks)

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(b) Robber Co takes 0.5 labour hours to produce a keypad and 0.75 labour hours to produce a display screen. Labour hours are restricted to 100,000 hours and labour is paid at $1 per hour. Robber Co wishes to increase its supply to 100,000 control panels (i.e. 100,000 each of keypads and display screens).

Advise Robber Co as to how many units of keypads and display panels they should either manufacture and/or outsource in order to minimise their costs. (7 marks)

(c) Discuss the non-financial factors that Robber Co should consider when making a decision about outsourcing the manufacture of keypads and display screens. (5 marks)

(20 marks)

Risk and uncertainty in decision making

6 CEMENT CO (Q1, JUNE 2011) Cement Co is a company specialising in the manufacture of cement, a product used in the building industry. The company has found that when weather conditions are good, the demand for cement increases since more building work is able to take place. Last year, the weather was so good, and the demand for cement was so great, that Cement Co was unable to meet demand. Cement Co is now trying to work out the level of cement production for the coming year in order to maximise profits. The company doesn’t want to miss out on the opportunity to earn large profits by running out of cement again. However, it doesn’t want to be left with large quantities of the product unsold at the end of the year, since it deteriorates quickly and then has to be disposed of. The company has received the following estimates about the probable weather conditions and corresponding demand levels for the coming year:

Weather Probability Demand Good 25% 350,000 bags Average 45% 280,000 bags Poor 30% 200,000 bags

Each bag of cement sells for $9 and costs $4 to make. If cement is unsold at the end of the year, it has to be disposed of at a cost of $0.50 per bag.

Cement Co has decided to produce at one of the three levels of production to match forecast demand. It now has to decide which level of cement production to select.

Required:

(a) Construct a pay-off table to show all the possible profit outcomes. (8 marks)

(b) Decide the level of cement production the company should choose, based on the following decision rules:

(i) Maximin (1 mark) (ii) Maximax (1 mark) (iii) Expected value (4 marks)

You must justify your decision under each rule, showing all necessary calculations.

(c) Describe the ‘maximin’ and ‘expected value’ decision rules, explaining when they might be used and the attitudes of the decision makers who might use them. (6 marks)

(20 marks)

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1 NEWTOWN SCHOOL (Q5, JUNE 2013) Newtown School’s head teacher has prepared the budget for the year ending 31 May 2014. The government pays the school $1,050 for each child registered at the beginning of the school year, which is June 1, and $900 for any child joining the school part-way through the year. The school does not have to refund the money to the government if a child leaves the school part-way through the year. The number of pupils registered at the school on 1 June 2013 is 690, which is 10% lower than the previous year. Based on past experience, the probabilities for the number of pupils starting the school part-way through the year are as follows.

Probability No. of pupils joining late 0.2 50 0.3 20 0.5 26

The head teacher admits to being ‘poor with numbers’ and does not understand probabilities so, when calculating budgeted revenue, he just calculates a simple average for the number of pupils expected to join late. His budgeted revenue for the year ending 31 May 2014 is therefore as follows:

Pupils

Rate per pupil

Total income

$ $ Pupils registered at beginning of school year 690 1,050 724,500 Average expected number of new joiners 32 900 28,800 753,300

The head teacher uses incremental budgeting to budget for his expenditure, taking actual expenditure for the previous year as a starting point and simply adjusting it for inflation, as shown below.

Actual cost for Inflationary Budgeted cost for Note y/e 31 May 2013 adjustment y/e 31 May 2014

$ $ Repairs and maintenance 1 44,000 +3% 45,320 Salaries 2 620,000 +2% 632,400 Capital expenditure 3 65,000 +6% 68,900 Total budgeted expenditure 746,620

Budget surplus 6,680

Notes

(1) $30,000 of the costs for the year ended 31 May 2013 related to standard maintenance checks and repairs that have to be carried out by the school every year in order to comply with government health and safety standards. These are expected to increase by 3% in the coming year. In the year ended 31 May 2013, $14,000 was also spent on redecorating some of the classrooms. No redecorating is planned for the coming year.

(2) One teacher earning a salary of $26,000 left the school on 31 May 2013 and there are no plans to replace her. However, a 2% pay rise will be given to all staff with effect from 1 December 2013.

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(3) The full $65,000 actual costs for the year ended 31 May 2013 related to improvements made to the school gym. This year, the canteen is going to be substantially improved, although the extent of the improvements and level of service to be offered to pupils is still under discussion. There is a 0·7 probability that the cost will be $145,000 and a 0·3 probability that it will be $80,000. These costs must be paid in full before the end of the year ending 31 May 2014.

The school’s board of governors, who review the budget, are concerned that the budget surplus has been calculated incorrectly. They believe that it should have been calculated using expected income, based on the probabilities provided, and using expected expenditure, based on the information provided in notes 1 to 3. They believe that incremental budgeting is not proving a reliable tool for budget setting in the school since, for the last three years, there have been shortfalls of cash despite a budget surplus being predicted. Since the school has no other source of funding available to it, these shortfalls have had serious consequences, such as the closure of the school kitchen for a considerable period in the last school year, meaning that no hot meals were available to pupils. This is thought to have been the cause of the 10% fall in the number of pupils registered at the school on 1 June 2013.

Required:

(a) Considering the views of the board of governors, recalculate the budget surplus/deficit for the year ending 31 May 2014. (6 marks)

(b) Discuss the advantages and disadvantages of using incremental budgeting. (4 marks)

(c) Briefly outline the three main steps involved in preparing a zero-based budget. (6 marks)

(d) Discuss the extent to which zero-based budgeting could be used by Newtown School to improve the budgeting process. (4 marks)

(20 marks)

Quantitative analysis

2 MIC CO (Q3, DECEMBER 2013) Mic Co produces microphones for mobile phones and operates a standard costing system. Before production commenced, the standard labour time per batch for its latest microphone was estimated to be 200 hours. The standard labour cost per hour is $12 and resource allocation and cost data were therefore initially prepared on this basis.

Production of the microphone started in July and the number of batches assembled and sold each month was as follows:

Month No of batches assembled and sold July 1 August 1 September 2 October 4 November 8

The first batch took 200 hours to make, as anticipated, but, during the first four months of production, a learning effect of 88% was observed, although this finished at the end of October. The learning formula is shown on the formula sheet and at the 88% learning rate the value of b is – 0·1844245.

Mic Co uses ‘cost plus’ pricing to establish selling prices for all its products. Sales of its new microphone in the first five months have been disappointing. The sales manager has blamed the production department for getting the labour cost so wrong, as this, in turn, caused the price to be too high. The production manager has disclaimed all responsibility, saying that, ‘as usual, the managing

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director prepared the budgets alone and didn’t consult me and, had he bothered to do so, I would have told him that a learning curve was expected.’

Required:

(a) Calculate the actual total monthly labour costs for producing the microphones for each of the five months from July to November. (9 marks)

(b) Discuss the implications of the learning effect coming to an end for Mic Co, with regard to costing, budgeting and production. (4 marks)

(c) Discuss the potential advantages and disadvantages of involving senior staff at Mic Co in the budget setting process, rather than the managing director simply imposing the budgets on them. (7 marks)

(20 marks)

Standard costing

3 NOBLE (Q3, JUNE 2011) Noble is a restaurant that is only open in the evenings, on SIX days of the week. It has eight restaurant and kitchen staff, each paid a wage of $8 per hour on the basis of hours actually worked. It also has a restaurant manager and a head chef, each of whom is paid a monthly salary of $4,300. Noble’s budget and actual figures for the month of May was as follows.

Budget Actual Number of meals 1,200 1,560 $ $ $ $ Revenue: Food 48,000 60,840 Drinks 12,000 11,700 60,000 72,540 Variable costs: Staff wages (9,216) (13,248) Food costs (6,000) (7,180) Drink costs (2,400) (5,280) Energy costs (3,387) (3,500) (21,003) (29,208) Contribution 38,997 43,332 Fixed costs: Manager’s and chef’s pay (8,600) (8,600) Rent, rates and depreciation (4,500) (13,100) (4,500) (13,100) Operating profit 25,897 30,232

The budget above is based on the following assumptions.

(1) The restaurant is only open six days a week and there are four weeks in a month. The average number of orders each day is 50 and demand is evenly spread across all the days in the month.

(2) The restaurant offers two meals: Meal A, which costs $35 per meal and Meal B, which costs $45 per meal. In addition to this, irrespective of which meal the customer orders, the average customer consumes four drinks each at $2.50 per drink. Therefore, the average spend per customer is either $45 or $55 including drinks, depending on the type of meal selected. The May budget is based on 50% of customers ordering Meal A and 50% of customers ordering Meal B.

(3) Food costs represent 12.5% of revenue from food sales.

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(4) Drink costs represent 20% of revenue from drinks sales.

(5) When the number of orders per day does not exceed 50, each member of hourly paid staff is required to work exactly six hours per day. For every incremental increase of five in the average number of orders per day, each member of staff has to work 0.5 hours of overtime for which they are paid at the increased rate of $12 per hour.

You should assume that all costs for hourly paid staff are treated wholly as variable costs.

(6) Energy costs are deemed to be related to the total number of hours worked by each of the hourly paid staff, and are absorbed at the rate of $2.94 per hour worked by each of the eight staff.

Required:

(a) Prepare a flexed budget for the month of May, assuming that the standard mix of customers remains the same as budgeted. (12 marks)

(b) After preparation of the flexed budget, you are informed that the following variances have arisen in relation to total food and drink sales:

Sales mix contribution variance $1,014 Adverse

Sales quantity contribution variance $11,700 Favourable

Required:

BRIEFLY describe the sales mix contribution variance and the sales quantity contribution variance. Identify why each of them has arisen in Noble’s case. (4 marks)

(c) Noble’s owner told the restaurant manager to run a half-price drinks promotion at Noble for the month of May on all drinks. Actual results showed that customers ordered an average of six drinks each instead of the usual four but, because of the promotion, they only paid half of the usual cost for each drink. You have calculated the sales margin price variance for drink sales alone and found it to be a worrying $11,700 adverse. The restaurant manager is worried and concerned that this makes his performance for drink sales look very bad.

Required:

BRIEFLY discuss TWO other variances that could be calculated for drinks sales or food sales in order to ensure that the assessment of the restaurant manager’s performance is fair. These should be variances that COULD be calculated from the information provided above although no further calculations are required here. (4 marks)

(20 marks)

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4 BLOCK CO (Q4, JUNE 2013) Block Co operates an absorption costing system and sells three types of product – Commodity 1, Commodity 2 and Commodity 3. Like other competitors operating in the same market, Block Co is struggling to maintain revenues and profits in face of the economic recession which has engulfed the country over the last two years. Sales prices fluctuate in the market in which Block Co operates. Consequently, at the beginning of each quarter, a market specialist, who works on a consultancy basis for Block Co, sets a budgeted sales price for each product for the quarter, based on his expectations of the market. This then becomes the ‘standard selling price’ for the quarter. The sales department itself is run by the company’s sales manager, who negotiates the actual sales prices with customers. The following budgeted figures are available for the quarter ended 31 May 2013.

Budgeted production Standard selling price Standard variable Product and sales units per unit production costs per unit Commodity 1 30,000 $30 $18 Commodity 2 28,000 $35 $28.40 Commodity 3 26,000 $41.60 $26.40

Block Co uses absorption costing. Fixed production overheads are absorbed on the basis of direct machine hours and the budgeted cost of these for the quarter ended 31 May 2013 was $174,400. Commodity 1, 2 and 3 use 0.2 hours, 0.6 hours and 0.8 hours of machine time respectively.

The following data shows the actual sales prices and volumes achieved for each product by Block Co for the quarter ended 31 May 2013 and the average market prices per unit.

Actual production and Actual selling price Average market price Product sales units per unit per unit Commodity 1 29,800 $31 $32·20 Commodity 2 30,400 $34 $33·15 Commodity 3 25,600 $40·40 $39·10

The following variances have already been correctly calculated for Commodities 1 and 2:

Sales price operational variances

Commodity 1: $35,760 Adverse Commodity 2: $25,840 Favourable

Sales price planning variances

Commodity 1: $65,560 Favourable Commodity 2: $56,240 Adverse

Required:

(a) Calculate, for Commodity 3 only, the sales price operational variance and the sales price planning variance. (4 marks)

(b) Using the data provided for Commodities 1, 2 and 3, calculate the total sales mix variance and the total sales quantity variance. (11 marks)

(c) Briefly discuss the performance of the business and, in particular, that of the sales manager for the quarter ended 31 May 2013. (5 marks)

(20 marks)

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5 TRUFFLE CO (Q2, DECEMBER 2012) Truffle Co makes high quality, handmade chocolate truffles which it sells to a local retailer. All chocolates are made in batches of 16, to fit the standard boxes supplied by the retailer. The standard cost of labour for each batch is $6.00 and the standard labour time for each batch is half an hour. In November, Truffle Co had budgeted production of 24,000 batches; actual production was only 20,500 batches. 12,000 labour hours were used to complete the work and there was no idle time. All workers were paid for their actual hours worked. The actual total labour cost for November was $136,800. The Production Manager at Truffle Co has no input into the budgeting process.

At the end of October, the Managing Director decided to hold a meeting and offer staff the choice of either accepting a 5% pay cut or facing a certain number of redundancies. All staff subsequently agreed to accept the 5% pay cut with immediate effect.

At the same time, the retailer requested that the truffles be made slightly softer. This change was implemented immediately and made the chocolates more difficult to shape. When recipe changes such as these are made, it takes time before the workers become used to working with the new ingredient mix, making the process 20% slower for at least the first month of the new operation.

The standard costing system is only updated once a year in June and no changes are ever made to the system outside of this.

Required:

(a) Calculate the total labour rate and total labour efficiency variances for November, based on the standard cost provided above. (4 marks)

(b) Analyse the total labour rate and total labour efficiency variances into component parts for planning and operational variances in as much detail as the information allows. (8 marks)

(c) Assess the performance of the production manager for the month of November. (8 marks)

(20 marks)


6 STICKY WICKET (Q2, JUNE 2010) Sticky Wicket (SW) manufactures cricket bats using high quality wood and skilled labour using mainly traditional manual techniques. The manufacturing department is a cost centre within the business and operates a standard costing system based on marginal costs.

At the beginning of April 2010 the production director attempted to reduce the cost of the bats by sourcing wood from a new supplier and de-skilling the process a little by using lower grade staff on parts of the production process. The standards were not adjusted to reflect these changes.

The variance report for April 2010 is shown below (extract).

Variances Adverse Favourable $ $ Material price 5,100 Material usage 7,500 Labour rate 43,600 Labour efficiency 48,800 Labour idle time 5,400

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The Production Director pointed out in his April 2010 board report that the new grade of labour required significant training in April and this meant that productive time was lower than usual. He accepted that the workers were a little slow at the moment but expected that an improvement would be seen in May 2010. He also mentioned that the new wood being used was proving difficult to cut cleanly, resulting in increased waste levels.

Sales for April 2010 were down 10% on budget and returns of faulty bats were up 20% on the previous month. The sales director resigned after the board meeting stating that SW had always produced quality products but the new strategy was bound to upset customers and damage the brand of the business.

Required:

(a) Assess the performance of the Production Director using all the information above, taking into account both the decision to use a new supplier and the decision to de-skill the process. (7 marks)

In May 2010 the budgeted sales were 19,000 bats and the standard cost card is as follows.

Std cost Std cost $ $ Materials (2kg at $5/kg) 10 Labour (3hrs at $12/hr) 36 Marginal cost 46 Selling price 68 Contribution 22

In May 2010 the following results were achieved.

40,000kg of wood were bought at a cost of $196,000, this produced 19,200 cricket bats. No inventory of raw materials is held. The labour was paid for 62,000 hours and the total cost was $694,000. Labour worked for 61,500 hours.

The sales price was reduced to protect the sales levels. However, only 18,000 cricket bats were sold at an average price of $65.

Required:

(b) Calculate the materials, labour and sales variances for May 2010 in as much detail as the information allows. You are not required to comment on the performance of the business. (13 marks)

(20 marks)

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1 SQUARIZE (Q2, JUNE 2013) Squarize is a large company which, for many years, operated solely as a pay-tv broadcaster. However, five years ago, it started product bundling, offering broadband and telephone services to its pay-tv customers. Customers taking up the offer were then known in the business as ‘bundle customers’ and they had to take up both the broadband and telephone services together with the pay-tv service. Other customers were still able to subscribe to pay-tv alone but not to broadband and telephone services without the pay-tv service.

All contracts to customers of Squarize are for a minimum three-month period. The pay-tv box is sold to the customer at the beginning of the contract; however, the broadband and telephone equipment is only rented to them.

In the first few years after product bundling was introduced, the company saw a steady increase in profits. Then, Squarize saw its revenues and operating profits fall. Consequently, staff bonuses were not paid, and staff became dissatisfied. Several reasons were identified for the deterioration of results:

(1) In the economy as a whole, discretionary spending had been severely hit by rising unemployment and inflation. In a bid to save cash, many pay-tv customers were cancelling their contracts after the minimum three-month period as they were then able to still keep the pay-tv box. The box comes with a number of free channels, which the customer can still continue to receive free of charge, even after the cancellation of their contract.

(2) The company’s customer service call centre, which is situated in another country, had been the cause of lots of complaints from customers about poor service, and, in particular, the number of calls it sometimes took to resolve an issue.

(3) Some bundle customers found that the broadband service that they had subscribed to did not work. As a result, they were immediately cancelling their contracts for all services within the 14-day cancellation period permitted under the contracts.

In a response to the above problems and in an attempt to increase revenues and profits, Squarize made the following changes to the business:

(1) It made a strategic decision to withdraw the pay-tv–broadband–telephone package from the market and, instead, offer each service as a standalone product.

(2) It guaranteed not to increase prices for a 12-month period for each of its three services.

(3) It transferred its call centre back to its home country and increased the level of staff training given for call centre workers.

(4) It investigated and resolved the problem with customers’ broadband service.

It is now one year since the changes were made and the Finance Director wants to use a balanced scorecard to assess the extent to which the changes have been successful in improving the performance of the business.

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224 Rev i s ion q u es t io n s: 4 : Pe r forma nc e m ea su r eme n t a n d co nt ro l ACC A F5 Q uest i on Ba nk

Required:

(a) For each perspective of the balanced scorecard, identify two goals (objectives) together with a corresponding performance measure for each goal which could be used by the company to assess whether the changes have been successful. Justify the use of each of the performance measures that you choose. (16 marks)

(b) Discuss how the company could reduce the problem of customers terminating their pay-tv service after only three months. (4 marks)

(20 marks)

2 JUNGLE CO (Q31, SEPTEMBER 2016) Jungle Co is a very successful multinational retail company. It has been selling a large range of household and electronic goods for some years. One year ago, it began using new suppliers from the country of Slabak, where labour is very cheap, for many of its household goods. In 20X4, Jungle Co also became a major provider of ‘cloud computing’ services, investing heavily in cloud technology. These services provide customers with a way of storing and accessing data and programs over the internet rather than on their computers’ hard drives.

All Jungle Co customers have the option to sign up for the company’s ‘Gold’ membership service, which provides next day delivery on all orders, in return for an annual service fee of $40. In September 20X5, Jungle Co formed its own logistics company and took over the delivery of all of its parcels, instead of using the services of international delivery companies.

Over the last year, there has been worldwide growth in the electronic goods market of 20%. Average growth rates and gross profit margins for cloud computing service providers have been 50% and 80% respectively in the last year. Jungle Co’s prices have remained stable year on year for all sectors of its business, with price competitiveness being crucial to its continuing success as the leading global electronic retailer.

The following information is available for Jungle Co for the last two financial years:

Notes 31 August 20X6 31 August 20X5 $’000 $’000 Revenue 1 94,660 82,320 Cost of sales 2 (54,531) (51,708)

Gross profit 40,129 30,612 Administration expenses 3 (2,760) (1,720) Distribution expenses (13,420) (13,180) Other operating expenses (140) (110) Net profit 23,809 15,602

Notes

(1) Breakdown of revenue 31 August 20X6 31 August 20X5 $’000 $’000 Household goods 38,990 41,160 Electronic goods 41,870 32,640 Cloud computing services 12,400 6,520 Gold membership fees 1,400 2,000 94,660 82,320

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(2) Breakdown of cost of sales 31 August 20X6 31 August 20X5 $’000 $’000 Household goods 23,394 28,812 Electronic goods 26,797 21,216 Cloud computing services 4,240 1,580 Gold membership fees 100 100 54,531 51,708

(3) Administration expenses

Included in these costs are the costs of running the customer service department ($860,000 in 20X5; $1,900,000 in 20X6.) This department deals with customer complaints.

(4) Non-financial data

31 August 20X6 31 August 20X5 Percentage of orders delivered on time 74% 92% No. of customer complaints 1,400,000 320,000 No. of customers 7,100,000 6,500,000 Percentage of late ‘Gold’ member deliveries 14·00% 2·00%

Required:

Discuss the financial and non-financial performance of Jungle Co for the year ending 31 August 20X6.

Note: There are 7 marks available for calculations and 13 marks available for discussion.

(20 marks)


3 PROTECT AGAINST FIRE CO (Q4, DECEMBER 2013) Protect Against Fire Co (PAF Co) manufactures and sells fire safety equipment and also provides fire risk assessments and fire safety courses to businesses. It has been trading for many years in the country of Calana, where it is the market leader.

Five years ago, the directors of PAF Co established a similar operation in its neighbouring country, Sista, renting business premises at various locations across the country. The fire safety market in Sista has always been dominated by two other companies, and when PAF Co opened the Sista division, its plan was to become market leader there within five years. Both the Calana division (Division C) and the Sista division (Division S) usually restrict themselves to a marketing budget of $0.5 million per annum but in 2013, Division S launched a $2m advertising campaign in a final push to increase market share. It also left its prices for products and services unchanged in 2013 rather than increasing them in line with its competitors.

Although the populations of both countries are similar, geographically, the country of Sista is twice as large as Calana and its customers are equally spread across the country. The products and services offered by the two divisions to their customers require skilled staff, demand for which is particularly high in Sista. Following the appointment of a new government in Sista at the end of 2012, stricter fire safety regulations were immediately introduced for all companies. At the same time, the government introduced a substantial tax on business property rents which landlords passed on to their tenants.

International shortages of fuel have led to a 20% increase in fuel prices in both countries in the last year.

Summary statements of profit or loss for the two divisions for the two years ended 30 November 2012 and 30 November 2013 are shown below.

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Division S 2013

Division S 2012

Division C 2013

Division C 2012

$000 $000 $000 $000 Revenue 38,845 26,937 44,065 40,359 Material costs (3,509) (2,580) (4,221) (3,385) Payroll costs (10,260) (6,030) (8,820) (7,700) Property costs (3,200) (1,800) (2,450) (2,320) Gross profit 21,876 16,527 28,574 26,954 Distribution and marketing costs (10,522) (7,602) (7,098) (5,998) Administrative overheads (7,024) (6,598) (12,012) (11,974) Operating profit 4,330 2,327 9,464 8,982 Employee numbers 380 241 420 385 Market share 30% 25% 55% 52%

Required:

Using all the information above, assess the financial performance of Division S in the year ended 30 November 2013. State clearly where further information might be required in order to make more reasoned conclusions about the division’s performance.

Note: Up to 7 marks are available for calculations.

(20 marks)

4 BISCUITS AND CAKES (Q5, JUNE 2012) The Biscuits division (Division B) and the Cakes division (Division C) are two divisions of a large, manufacturing company. While both divisions operate in almost identical markets, each division operates separately as an investment centre. Each month, operating statements must be prepared by each division and these are used as a basis for performance measurement for the divisions.

Last month, senior management decided to recharge head office costs to the divisions. Consequently, each division is now going to be required to deduct a share of head office costs in its operating statement before arriving at ‘net profit’, which is then used to calculate return on investment (ROI). Prior to this, ROI has been calculated using controllable profit only. The company’s target ROI, however, remains unchanged at 20% per annum. For each of the last three months, Divisions B and C have maintained ROIs of 22% per annum and 23% per annum respectively, resulting in healthy bonuses being awarded to staff. The company has a cost of capital of 10%.

The budgeted operating statement for the month of July is shown below. B C

$000 $000 Sales revenue 1,300 1,500 Less variable costs (700) (800) Contribution 600 700 Less controllable fixed costs (134) (228) Controllable profit 466 472 Less apportionment of head office costs (155) (180) Net profit 311 292

Divisional net assets $23.2m $22.6m

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Required:

(a) Calculate the expected annualised Return on Investment (ROI) using the new method as preferred by senior management, based on the above budgeted operating statements, for each of the divisions. (2 marks)

(b) The divisional Managing Directors are unhappy about the results produced by your calculations in (a) and have heard that a performance measure called ‘residual income’ may provide more information.

Calculate the annualised residual income (RI) for each of the divisions, based on the net profit figures for the month of July. (3 marks)

(c) Discuss the expected performance of each of the two divisions, using both ROI and RI, and making any additional calculations deemed necessary. Conclude as to whether, in your opinion, the two divisions have performed well. (6 marks)

(d) Division B has now been offered an immediate opportunity to invest in new machinery at a cost of $2.12 million.

The machinery is expected to have a useful economic life of four years, after which it could be sold for $200,000. Division B’s policy is to depreciate all of its machinery on a straight-line basis over the life of the asset. The machinery would be expected to expand Division B’s production capacity, resulting in a 10% increase in contribution per month.

Recalculate Division B’s expected annualised ROI and annualised RI, based on July’s budgeted operating statement after adjusting for the investment. State whether the Managing Director will be making a decision that is in the best interests of the company as a whole if ROI is used as the basis of the decision. (5 marks)

(e) Explain any behavioural problems that will result if the company’s senior management insist on using solely ROI, based on net profit rather than controllable profit, to assess divisional performance and reward staff. (4 marks)

(20 marks)

5 MAN CO (Q4 MARCH/JUNE 2016 AMENDED) A manufacturing company, Man Co, has two divisions: Division L and Division M. Both divisions make a single standardised product. Division L makes component L, which is supplied to both Division M and external customers. Division M makes product M using one unit of component L and other materials. It then sells the completed product M to external customers. To date, Division M has always bought component L from Division L.

The following information is available: Component L Product M

$ $ Selling price 40 96 Direct materials: Component L (40) Other (12) (17) Direct labour (6) (9) Variable overheads (2) (3) Selling and distribution costs (4) (1) Contribution per unit before fixed costs 16 26

Annual fixed costs $500,000 $200,000 Annual external demand (units) 160,000 120,000 Capacity of plant 300,000 130,000

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Division L charges the same price for component L to both Division M and external customers. However, it does not incur the selling and distribution costs when transferring internally.

Division M has just been approached by a new supplier who has offered to supply it with component L for $37 per unit. Prior to this offer, the cheapest price which Division M could have bought component L for from outside the group was $42 per unit.

It is head office policy to let the divisions operate autonomously without interference at all.

Required:

(a) Calculate the incremental profit/(loss) per component for the group if Division M accepts the new supplier’s offer and recommend how many components Division L should sell to Division M if group profits are to be maximised. (3 marks)

(b) Using the quantities calculated in (a) and the current transfer price, calculate the total annual profits of each division and the group as a whole. (6 marks)

(c) Discuss the problems which will arise if the transfer price remains unchanged and advise the divisions on a suitable alternative transfer price for component L. (6 marks)

The Finance Director of Man Co is about to introduce balanced scorecard reporting to Division L and Division M. As there have been queries from the divisions about how the balanced scorecard will work, in particular the three non-financial perspectives, he will need to provide more guidance before the approach can be implemented.

Required:

(d) Explain the significance of the three non-financial perspectives in the balanced scorecard approach to performance measurement. (5 marks)

(20 marks)

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ACC A F5 Quest ion Ba nk Revision answers: 1: Specialist cost and management accounting techniques 229

P A R T 2 R E V I S I O N A N S W E R S : O b j e c t i v e t e s t a n d S c e n a r i o


Activity based costing

1

True False

ABC can only be used within a manufacturing environment.

ABC assumes that most overhead costs are incurred at the product level.

A cost driver is a factor which causes a change in the cost of an activity.

Traditional absorption costing tends to under-estimate overhead costs for high volume products.

ABC can be used for manufacturing and service businesses. Traditional absorption costing assumes that most overhead costs are incurred at the product level and overestimates costs for high value items. ABC considers more of the overheads relate to batch and product sustaining activities.

2 $

Set-up costs per production run = $140,000/28 = $5,000 Cost per inspection = $80,000/8 = $10,000 Other overhead costs per labour hour = $96,000/48,000 = $2

Overheads costs of product D: $ Set-up costs (15 × $5,000) 75,000 Inspection costs (3 × $10,000) 30,000 Other overheads (40,000 × $2) 80,000

185,000

Overhead cost per unit = 185,000/4,000 = $46·25

3 $

Total material budget = (5,000 × $20) + (4,000 × $25) = $200,000

Fixed overheads related to materials = $150,000

OAR = $150,000/$200,000 = $0.75 per $ of material

Lou material fixed overhead = $0.75 × $20 = $15

Total labour budget = (5,000 × $40) + (4,000 × $60) = $440,000

General fixed overheads = $374,000

OAR = $374,000/$440,000 = $0.85 per $ of labour

Lou general fixed overhead = $0.85 × $40 = $34

Total fixed overhead cost per unit of Lou = $15 + $34 = $49

46.25

49.00

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230 Revision answers: 1: Specialist cost and management accounting techniques ACC A F5 Quest ion Ba nk

4 $120

Total material budget ((1,000 units × $10) + (2,000 units × $20)) = $50,000 Fixed costs related to material handling = $100,000 OAR = $2/$ of material Product B = $2 x $20 = $40

Total labour budget ((1,000 units × $5) + (2,000 units x $20) = $45,000 General fixed costs = $180,000 OAR = $4/$ of labour Product B = $4 × $20 = $80

Total fixed overhead cost per unit of Product B ($40 + $80) = $120

WASH CO

5 $

Total overhead costs = $877,620

Total machine hours = (3,200 × 2) + (5,450 × 1) = 11,850

Overhead absorption rate = $877,620/11,850 = $74.06

Overhead cost for S = 2 × $74.06 = $148.12

Product S $ Materials cost 117.00 Labour cost (at $12 per hour) 6.00 Overhead costs 148.12

Total cost 271.12 10% mark-up 27.11

Transfer price using machine hours 298.23

6 $

Machine set up costs: driver = number of production runs

30 + 12 = 42

Therefore, cost per set up = $306,435/42 = $7,296.07

Machine maintenance costs: driver = machine hours: 11,850 as above

$415,105/11,850 = $35.03 Product S Per unit

$ Machine set-up costs ($7,296.07 × 30/3,200) 218,882 68.40 Machine maintenance costs ($35.03 × 3,200 × 2/3,200) 224,192 70.06

Total overheads absorbed 443,074 138.46

298

138

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7 $

Ordering costs: driver = number of purchase orders

82 + 64 = 146

Therefore, cost per order = $11,680/146 = $80

Delivery costs: driver = number of deliveries.

64 + 80 = 144

Therefore, cost per delivery = $144,400/144 = $1,002.78 Product R Per unit

$ Ordering costs ($80 × 64/5,450) 5,120 0.94 Delivery costs ($1,002.78 × 80/5,450) 80,222 14.72

Total overheads absorbed 85,342 15.66

8

True False

Environmental ABC will be concerned with prevention activities as well as detection and correction activities.

Environmental ABC helps identify environment-driven costs, which may be hidden within general overheads.

Volume of emissions may be a cost driver in environmental ABC.

Environmental ABC can measure cost savings resulting from measures to reduce environmental impact.

All the statements are true.

9 Input/output analysis aims to identify residual or waste.

Environment-related costs are connected with activities for which costs can be directly traced.

Flow cost accounting has a third category – System – that relates to in-house handling of materials.

Environmental life cycle costing also considers costs of clean-up and decommissioning after production has ceased.

16

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Target costing

10

True False

Target costing is a market driven approach to pricing.

Using target costing to set selling prices guarantees that a company will make a profit on its products.

Unlike traditional costing methods, in ABC production overheads are not absorbed across product units.

An organisation which switches to ABC may find that some of its existing products, which require minimal labour hours, no longer appear profitable.

Using target costing to set selling prices will only result in a profit if the company ensures that it can actually produce the product for less than the selling price.

ABC, like traditional costing methods, attempts to absorb production overheads across product units. However, this is done in a different way, using cost drivers, rather than labour or machine hours, to establish an overhead absorption rate. This can result in quite different product costs.

11 $

Profit required = 40% × $200 = $80. Hence target cost = $120

Product cost = $55 + $75 + $15 = $145

So cost gap = $25

12

Characteristic Not characteristic

Homogenity

Intangibility

Perishability

Spontaneity

Typically, the services provided will differ according to the customer so heterogeneity/variability rather than homogeneity is normally a characteristic of a service industry.

13 Use a lower grade of labour

Reduce the time spent in terms of labour hours

In most service industries the majority of the cost is likely to be related to labour.

14 Substitute current raw materials with cheaper versions

25

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15 $

Return: $500,000 × 30% = $150,000

Total sales revenue: $550 × 800 = $440,000

Therefore, total cost = $440,000 – $150,000 = $290,000

Unit cost = $290,000/800 = $362.50

16 Variance analysis

Variance analysis is not relevant to target costing as it is a technique used for cost control at the production phase of the product life cycle. It is a feedback control tool by nature and target costing is feedforward.

Value analysis can be used to identify where small cost reductions can be applied to close a cost gap once production commences.

Functional analysis can be used at the product design stage. It ensures that a cost gap is reached or to ensure that the product design is one which includes only features which customers want.

Activity analysis identifies and describes activities in an organisation and evaluates their impact on operations to assess where improvements can be made.

HELOT CO

17 2 and 4

Target costing does encourage looking at customer requirements early on so that features valued by customers are included, so Statement 2 is correct. It will also force the company to closely assess the design and is likely to be successful if costs are designed out at this stage rather than later once production has started, so Statement 4 is correct.

Statement 1 explains a benefit of flow cost accounting. Statement 3 explains the concept of throughput accounting.

18 $2.05

Target price is $45 and the profit margin is 35% which results in a target cost of $29·25. The current estimated cost is $31·20 which results in a cost gap of $2·05.

19 2 and 4

EXAM SMART

The word ‘appropriate’ in the requirement is important here – the methods chosen should not impact on the target selling price.

Using more standardised components and using its own websites for marketing will reduce processing and marketing costs.

Using cheaper materials and trainee designers will reduce costs but could impact the quality and customer perception of the product which would impact the target price.

362.50

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20 The target cost will remain the same and the cost gap will increase.

The change in the learning rate will increase the current estimated cost which will increase the cost gap.

The target cost will be unaffected as this is based on the target selling price and profit margin; neither of which are changing.

21 Labour resource usage is high in services relative to material requirements.

Services do use more labour relative to materials.

The other three statements are incorrect as uniformity is not a characteristic of services, there is no transfer of ownership and although it is difficult to standardise a service due to the human influence, target costing can still be used.

Life cycle costing

22 A disadvantage of life cycle costing is that it may be difficult, at the start of a product’s life, to arrive at a realistic estimate of the product’s costs over a number of years.

Life cycle costing is particularly suitable for innovative organisations which incur high costs during the early stages of a product's life cycle.

Life cycle costing is better for organisations that develop products with short lives. Life cycle costing is concerned with product costs over a number of periods, and is not concerned with the split of costs between each year.

23 Target costing

24

True False

It focuses on the short-term by identifying costs at the beginning of a product’s life cycle.

It identifies all costs which arise in relation to the product each year and then calculates the product’s profitability on an annual basis.

It accumulates a product’s costs over its whole life time and works out the overall profitability of a product.

It allocates costs to each stage of a product’s life cycle and writes them off at the end of each stage.

Life cycle costing goes beyond the short-term by looking at a product’s whole life cycle and looks at costs for the entire period, not on an annual basis and not writing costs off at the end of each stage.

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25 $27.40

OAR for fixed production overheads ($72 million/96 million hours) = $0·75 per hour

Total manufacturing costs (300,000 units × $20) = $6,000,000

Total design, depreciation and decommissioning costs = $1,320,000

Total fixed production overheads (300,000 units × 4 hours × $0·75) = $900,000 Total life-cycle costs = $8,220,000

Life-cycle cost per unit ($8,220,000/300,000 units) = $27·40

FIT CO

26

Included Not included

Research and development costs

Product design costs

Marketing costs

Distribution costs

Selling costs

Administration costs

All the costs listed are part of the life cycle cost calculation.

27 It gives a good indication of the success of research and development and design activities.

It matches initial costs to the revenues that the product finally earns.

Life cycle costing is not primarily concerned with splitting costs into periods, but a single set of costs over a product’s whole lifetime.

It cannot normally prevent a product entering a decline stage as most products will reach that point at some stage.

28 Products with a short life

Products being launched in a competitive environment where time to market is very important

Life cycle costing is particularly useful where products have a short life, since costs and revenues can be estimated fairly accurately upfront. Life cycle costing also means that launch costs incurred to speed up the launch are accounted for fairly.

Life cycle costing is less useful where the spread of costs is even, because it addresses the problems of the mismatching of costs and revenues over time. It is also of limited use if products are simple, since upfront costs are unlikely to be significant.

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29 $ 000

Total labour time for first 100 units = 35.56 hours

Time for 99th unit y = 0.5 × 99–0·074 = 0.3559 hours per unit. Therefore total hours for 99 units = 35.23 hours.

Therefore, time for 100th unit = 35.56 hours – 35.23 hours = 0.33 hours

Total labour cost over life of product

Year 2 100 units 36 hours 99,900 at 0.33 hours per unit 32,967 hours

Total hours 33,003 hours

at $24 per hour $792,072

30 $ 000

Total revenue = 300,000 × $85 = $25,500,000

Total desired costs = $25,500,000 × 80% = $20,400,000

Reduction in manufacturing costs = $12,600,000 × 25% = $3,150,000

Total costs before extra R and D/design costs = $23,000,000 – $3,150,000 = $19,850,000

Maximum R and D/design costs = $20,400,000 – $19,850,000 = $550,000

Throughput accounting

31

True False

Throughput accounting is based on the concept that there is a finite capacity at certain critical points in an organisation’s production schedule.

Throughput accounting treats labour as a fixed cost in the short-term.

Throughput accounting focusses on improving efficiency by using all production facilities to their maximum capacity.

The aim of throughput accounting is to increase the speed with which products move through an organisation in order to maximise profit.

Only the bottleneck resources will be used to maximum capacity.

790

550

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32

A 2

B 3

C 1

A B C $ $ $ Selling price 200 150 150 Direct materials 41 20 30

Throughput contribution 159 130 120 Throughput/Limiting factor 159/12 130/10 120/7 13.25 13 17.14 Ranking 2

nd 3

rd 1st

33 1.33

Return per factory hour = ($130 – $50)/4 hours = $20

Factory costs per hour = $20 + $40/4 = $15

TAR = $20/$15 = 1·33

34

True False

Inventory levels should be kept to a minimum.

All machines within a factory should be 100% efficient, with no idle time.

The distinction between direct and indirect costs is not useful.

Labour should be treated as a fixed cost that is part of total factory cost.

Throughput accounting discourages production for inventory purposes and is often used in a just in time environment.

In throughput accounting it is the bottleneck resource which should be 100% efficient which actually may mean unused capacity and idle time elsewhere.

35 Increasing the efficiency of the maintenance routine for Process 2

Throughput is determined by the bottleneck resource. Process 2 is the bottleneck as it has insufficient time to meet demand.

The only option to improve Process 2 is to improve the efficiency of the maintenance routine. All the other three options either increase the time available on non-bottleneck resources or increase demand for an increase in supply which cannot be achieved.

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SWEET TREATS BAKERY

36 Mixing

Process Available

minutes Brownies Muffins Cupcakes

Total minutes required

Weighing 240 60 45 100 205 Mixing 180 80 48 60 188 Baking 1,440 480 330 600 1,410

The bottleneck is the mixing process as 188 minutes are required to meet maximum demand but there are only 180 minutes available.

Note: Four batches of brownies need to be made in order to have sufficient cakes to meet maximum demand as the cakes must be made in their batch sizes.

37 80 brownies, 30 muffins, 100 cupcakes

Brownies Muffins Cupcakes

Throughput contribution ($) 50 37.5 35

Mixing minutes 20 16 12

Throughput per mixing minute ($) 2.50 2.34 2.91

Ranking 2 3 1

Optimal production plan

Fulfil customer order Number of

cakes Mixing

minutes

1 batch of cupcakes 20 12

1 batch of brownies 40 20

1 batch of muffins 30 16

General production (based on ranking)

4 batches of cupcakes 80 48

1 batch of brownies 40 20

Therefore the bakery should produce 80 brownies, 30 muffins and 100 cupcakes.

38 A bulk discount on flour and sugar is available from suppliers.

The rent of the premises has been reduced for the next year.

Reduction in rent and discounts on materials will reduce costs and will improve the TPAR.

Giving a customer a loyalty discount will reduce sales revenue and as a result the TPAR. Demand for cupcakes can increase but it will not impact the TPAR as demand is not the restriction.

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39 $95.00

Each oven has a capacity of eight hours and each cupcake batch takes two hours so four extra batches can be made.

Extra throughput = four batches x $35 = $140

Less the hire costs will result in an additional profit of $95.

40

True False

The bakery’s operating costs exceeded the total throughput contribution generated from the three products.

Less idle time in the mixing department would have improved the TPAR

Improved efficiency during the weighing process would have improved the TPAR.

As the TPAR exceeds 1 then the throughput contribution exceeds operating costs so Statement 1 is false.

Less idle time on a non-bottleneck process would not improve the TPAR, so Statement 2 is false.

Improving efficiency during the weighing process would improve the TPAR, as any actions to improve throughput on a bottleneck will improve the TPAR so Statement 3 is true.

Environmental accounting

41

True False

The majority of environmental costs are already captured within a typical organisation’s accounting system. The difficulty lies in identifying them.

Input/output analysis divides material flows within an organisation into three categories: material flows, system flows. and delivery and disposal flows.

Input/output analysis enables classification of output as finished production, scrap and waste.

Environmental life cycle costing enables analysis of clean-up and disposal activities relating to a product.

Flow cost accounting enables analysis into material flows, system flows and delivery and disposal flows.

42 I, II, and III only

As specified by the United Nations Division for Sustainable Development (2003).

43 Flow cost accounting

Under a system of flow cost accounting material flows are divided into three categories – material, system, and delivery and disposal.

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240 Rev i s ion a nsw er s : 2 : D ec is ion - mak i ng t ec hn i qu e s ACC A F5 Quest ion Ba nk



1

True False

Decisions should always be based on future incremental accounting profits.


Sunk costs are irrelevant to decision making as the expenditure has already been incurred.

Depreciation may be a relevant cost if it is incremental to the project being considered.

Decisions should always be based on future incremental cash flows which are more objective than accounting profits.

Depreciation is never relevant as it is not a cash flow.

2 $

Cost of the quantity to be bought = 200 × $4.50 = $900

Opportunity cost of quantity in hand = 800 × $3.75 = $3,000

Total relevant cost = $3,900

3

Relevant Not relevant

The total sales value of the fruit currently picked and paid for by customers

The cost of growing the fruit

The cost of hiring staff to pick and package the fruit

The total sales value of the fruit if it is picked and packaged by staff instead

The cost of growing the fruit is not relevant since it is a common cost.

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ACC A F5 Quest ion Ba nk Rev i s ion a nsw er s : 2 : D ec is ion- mak i ng t ec hn i qu e s 241

LOSMETIC CO

4 $

Silk powder: (15,000 × $2.50) + Aloe vera: (15,000 × $2) + (5,000 × $1.70) = $76,000

5 $

Skilled labour – overtime will required for employees at $12 × 150% = $18, therefore better to bring in workers from outside, 500 hours × $16 = $8,000

Unskilled labour – 250 hours required. If they worked a 40 hour week for the next three weeks, total hours would be 40 × 3 × 2 = 240 hours. They are guaranteed payment for 30 × 3 × 2 = 180 hours. Therefore cost = (8 × 1.5 × (250 – 240)) + (8 × (240 – 180)) = $600

Total labour cost = $8,000 + $600 = $8,600

6 $

(750 × $1.60) + (15 × $40 × 125%) = $1,950

The salary element is excluded but the full overtime payment is included.

7 The overheads should be excluded because they are not incremental costs.

The overheads are excluded as they do not arise specifically as a result of the order. Not all relevant costs are opportunity costs. The fact that the costs are production costs is not a factor, and we’re told that the pricing is based on relevant costs, not all costs.

8

True False

All cash expenses are relevant costs, all non-cash expenses are non-relevant costs.

Notional costs are never relevant costs.

Fixed costs are never relevant costs.

Not all future costs are relevant costs.

Non-cash expenses are non-relevant costs, but some cash expenses (for example past expenses) are not relevant. Notional costs are not cash flows, so are not relevant. Fixed costs may relate specifically to the decision, so may be relevant. Some future costs may be incurred whatever decision is taken, so are not relevant.

76000

8600

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Cost volume profit analysis

9

True False

CVP can help a company assess how sensitive its profits might be to below budget performance.

CVP analysis uses a total absorption costing approach.

CVP analysis is flexible enough to deal with changes in both variable and fixed costs at different levels of activity.

Break-even analysis can only be used for a single product or for multiple products which are sold in a constant mix.

CVP focuses on contribution which is a marginal costing approach.

A limitation of CVP analysis is that it assumes constant variable costs per unit and a constant fixed cost.

10

Current sales volume = $43,500/$3 = 14,500 units

Contribution per unit = 60% × $3 = $1.80

Break-even = $18,000/$1.80 = 10,000 units

Hence margin of safety = 14,5000 – 10,000 = 4,500 units

11 18,636 units

Number of units required to make target profit = fixed costs + target profit/contribution per unit of P1.

Fixed costs = ($1·2 × 10,000) + ($1 × 12,500) – $2,500 = $22,000

Contribution per unit of P = $3·20 + $1·20 = $4·40

($22,000 + $60,000)/$4·40 = 18,636 units

12

Required Not required

Product mix ratio

Contribution to sales ratio for each product

General fixed costs

Method of apportioning general fixed costs

The method of apportioning general fixed costs is not required to calculate the break-even sales revenue.

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13

Contribution per each ‘package’ of 4 units (3 sara 1 cristina) = (3 × $12) + $7 = $43

Contribution required for $75,000 profit = $269,000 + $75,000 = $344,000

Number of ‘packages’ required = $344,000/$43 = 8,000

Number of units required = 8,000 × 4 = 32,000

14 22,500

Two units of Y and one unit of X would give total contribution of $18.

Weighted average contribution per unit = $18/3 units = $6

Sales units to achieve target profit = ($90,000 + $45,000)/$6 = 22,500

HARE EVENTS

15 47.7%

Total fixed costs = $385,000

Contribution per marathon entry ($55 – $18.20) = $36.80

BEP = 10,462

Margin of safety (20,000 - 10,462)/20,000 = 47.7%

16 $592,000

Weighted average C/S ratio = ((2 x $36.80) + (1.4 x $18.00))/((2 x $55) + (1.4 x $30)) = $98.80/$152 = 65%

BER = $385,000/65% = $592,308

17 Full marathon: 17,915 entries Half marathon: 12,540 entries

Weighted average C/S ratio = 65%

Revenue to achieve target profit = $885,000/65% = $1,361,538

Marathon revenue = ($110/$152) x $1,361,538 = $985,324

Number of entries = $985,324/$55 = 17,915 entries

Half marathon revenue ($42/$152) x $1,361,538 = $376,214

Number of entries = $376,214/$30 = 12,540 entries

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18 Break-even volume will remain unchanged but break-even revenue will increase by 10%.

Current contribution = $12

Current BEV = $48,000/$12 = 4,000 entries

Current BER = $48,000/($12/$20) = $80,000

Revised contribution = (($20 x1.1) + ($8 x 1.1)) = $13.20

Revised fixed costs = $48,000 x 1.1 = $52,800

Revised BEV = $52,800/$13.20 = 4,000 entries

Revised BER = $52,800/($13.20/$22) = $88,000

The BEV hasn't changed but the BER has increased by 10%.

19 Statements (i) and (ii)

CVP analysis assumes no movement in inventory and the C/S ratio can be used to indicate the relative profitability of different products so Statements (i) and (ii) are correct.

Limiting factors

EXAM SMART

Although you won’t have to draw a graph for linear programming questions in the exam, sketching a graph in questions like this can help you see what’s happening.

20

X 400

Y 1100

Constraints are:

Material 2x + y ≤ 2,000

Unskilled labour: x + y ≤ 1,500

and x ≥ 400

For material:

Point where x is maximum possible, y is minimum is x = 1,000 y = 0

Point where x is minimum possible (ie 400), y is maximum possible is x = 400 y = 1,200

For unskilled labour:

Point where x is maximum possible, y is minimum is x = 1,500 y = 0

Point where x is minimum possible, y is maximum possible is x = 400 y = 1,100

Feasible points per these constraints are: x = 1,000 y = 0, x = 400 y = 1,100

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Other boundaries of feasible region are:

x = 400, y = 0, which can be ignored as lower than x = 1,000 y = 0

x = 500, y = 1,000, point that solves material and labour simultaneous equations

Applying objective function 8x + 12y

x = 1,000 y = 0: (8 × 1,000) = 8,000

x = 400 y = 1,100: (8 × 400) + (12 × 1,100) = 16,400

x = 500 y = 1,000: (8 × 500) + (12 × 1,000) = 16,000

21

Objective function Material constraint Labour constraint

5x + 11y 4x + 3y ≤ 3,200 2x + y ≤ 2,000

Contribution per unit: A = $30-$25 = $5 and B = $25-$14 = $11

As resources are limited, the constraints are of the “less than or equal” variety.

22 Increase of $56

By definition, a shadow price is the amount by which contribution will increase if an extra kg of material becomes available. 20 × $2·80 = $56.

500 1,000 1,500

500

1,000

1,500

2,000

y

x Objective function

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23

P1 1

P2 3

P3 2

P1 P2 P3 Labour hours per unit 1 2 1.1 $ $ $ Profit per unit 44 51 26 Add back fixed costs 6 9 12 Contribution per unit 50 60 38 Contribution per labour hour 50 30 34.55 Ranking 1

st 3

rd 2

nd

24 1 only

If the values for R and N are substituted into the constraints:

Labour required = (3 × 500) + (2 × 400) = 2,300 hours which is less than what is available so there is slack.

Machine time required = (0·5 × 500) + (0·4 × 400) = 410 hours which is exactly what is available and so there is no slack.

HIGGINS CO

25 $

Contribution per cue

Pool cue Snooker

cue $ $ Selling price 41.00 69.00 Material cost at $43.20/kg (10.80) (10.80) Craftsmen cost at $18/hr (9.00) (13.50) Other variable cost (1.20) (4.70)

Contribution per cue 20.00 40.00

Total contribution = (15,000 × 20) + (12,000 × 40) = $780,000

26

0.5P + 0.75S =12,000 (1)

0.25P + 0.25S = 5,400 (2)

0.5P + 0.5S = 10,800 (2) × 2 = (3)

0.25S = 1,200 (1) – (3)

S = 4,800

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Substituting in (2)

0.25P + (0.25 × 4,800) = 5,400

0.25P = 4,200

P = 16,800

Total number of cues = 4,800 + 16,800 = 21,600

27 Labour would remain a constraint but ash would no longer be a constraint.

Ash required = (0.25 × 15,000) + (0.25 × 12,000) = 6,750, less than the 7,000 kg available, so ash is no longer a constraint.

Labour required = (0.5 × 15,000) + (0.75 × 12,000) = 16,500, more than the 16,000 hours available so labour remains a constraint.

28 $

Maximum demand S = 12,000 (1)

Labour 0.5P + 0.75S = 12,001 (2)

Substituting S = 12,000 in equation (2)

0.5P + (0.75 × 12,000) = 12,001

0.5P + 9,000 = 12,001

0.5P = 3,001

P = 6,002

Number of extra cues = 6,002 – 6,000 = 2

Increase in contribution = 2 × $25 = $50

29

True False

The objective function is the function relating to the limitation of the scarce resource.

The constraints in graphical linear programming analysis are drawn as straight lines.

The shadow price is only significant for constraints that are binding.

There will be slack if less than the maximum amount available of a limited resource is needed.

The objective function relates to the solution to the problem, it is formulated in terms of maximising or minimising.

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Pricing decisions

30

True False

If PED < 1, total revenue will rise if the selling price of the product is increased.

If PED >1, the demand is said to be inelastic.

PED may be at different levels at different points on the demand curve.

If a downward demand curve changes to become steeper, demand is becoming more elastic.

If PED >1, the demand is said to be elastic. If the curve becomes steeper, demand is becoming more inelastic.

31

Quantity 312

Price $ 18.40

P = 34 – 0.05Q so MR = 34 – 0.1Q

Up to Q = 199, MC = 3

Let MR = MC: 34 – 0.1Q = 3

31 = 0.1Q, so Q = 310

At this volume, cost discounts apply so MC becomes 2.8

34-0.1Q = 2.8

31.2 = 0.1Q

Q = 312 and P = 34 – 0.05(312) = $18.40

32


Penetration pricing

Market skimming

A

B

Demand will be much more price sensitive in market A than market B.

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33

True False

Target costing results in a market driven selling price.

Cost-plus pricing only works if the % mark-up is applied to total absorption costing.

A cost-plus pricing policy will always result in a profit for the company.

Penetration pricing aims to recover the high initial costs of product development.

In cost-plus pricing the % mark-up can be applied to a number of different costs.

A cost-plus pricing policy will only result in a profit for the company if demand at the chosen price is enough to cover total costs.

Price skimming aims to recover the high initial costs of product development.

34 There are significant economies of scale. The firm wishes to discourage new entrants to the market.

Penetration pricing will be the preferred policy if demand is elastic and the product life cycle is long.

35 Both 1 and 2

Penetration pricing involves setting a low price when a product is first launched in order to obtain strong demand.

It is particularly useful if significant economies of scale can be achieved from a high volume of output and if demand is highly elastic and so would respond well to low prices.

ALG CO

36 $

Variable overhead cost using high-low method: ($1,850,000 – $1,400,000)/(350,000 – 200,000) = $3 per unit.

Fixed costs = $1,400,000 – (200,000 × $3) = $800,000

37 P = 310 – 0·001x

Demand function is P = a – bx, where P = price and x = quantity, therefore find a value for a and b firstly.

B = ΔP/ΔQ = 2/2,000 = 0·001 (ignore the minus sign as it is already reflected in the formula P = a – bx)

Therefore P = a – 0·001x

Find value for ‘a’ by substituting in the known price and demand relationship from the question, matching ‘p’ and ‘x’ accordingly.

60 = a – (0·001 × 250,000) 60 = a – 250 310 = a

P = 310 – 0·001x

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38 $

Identify MC

MC = $20

State MR

MR = 240 – 0·002x

Equate MC and MR to find Q

20 = 240 – 0·002x

0·002x = 220

x = 110,000

Substitute x into demand function to find P

P = 240 – (0·001 × 110,000)

P = $130

Sales revenue = 110,000 × $130 = $14,300,000

39 Customers are prepared to pay high prices to obtain a new product.

Barriers to entry deter competitors.

Market skimming is charging a high price initially, which a company is more likely to do if there is high initial demand and lack of competitive pressure. It is more likely to be associated with products with a short life cycle, in order to maximise returns quickly. Economies of scale will drive down costs, which may drive down price as well.

40

Skimming Penetration

The level of demand is unknown.

Demand is expected to be elastic.

ALG Co can discourage competitors from entering the market.

ALG has excess production capacity.

High prices (skimming) are more likely to be charged if there is uncertainty about the demand.

Low Prices (penetration) are more likely to be charged if demand is elastic and sensitive to prices levels. Low prices and hence low profits may deter competitors. Low prices can ensure that a substantial market share is gained quickly, using spare production capacity to cope with the demand.

Make-or-buy and other short-term decisions

41 B only

The marginal cost of making A is $12 per unit and of making B is $18 per unit. It is the marginal cost which is the relevant cost for the make or buy decision since the fixed costs will be incurred anyway. Therefore, it is cheaper to make A ($12 marginal cost CF $14 buy in cost) but it is cheaper to buy in B ($17 buy in cost CF $18 make cost).

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THREE DEPARTMENTS

42 Neither 1 nor 2

Assuming the fixed overheads will be incurred anyway, the café makes a $3,000 contribution to fixed costs and therefore profit without the café would be lower, not higher.

43 $

Without the café: Bedding Furniture Total $ $ $ Sales (10% of bedding lost) 22,500 50,000 72,500 Variable costs 11,700 29,000 40,700 Contribution 10,800 21,000 31,800 Fixed shop overheads ($3,500 saved)

15,500

Profit 16,300

44 Customers have to go through the bedding department to get to the café.

Shutting the café would reduce the footfall through the bedding department. The bedding and café products are not linked strongly, so cannot be said to be complementary.

45 Relocate the bedding department next to the furniture department

Customers looking for new furniture may also be considering buying a new bed and this will make it easier for them to view both together. A product line pricing policy relates to offering for sale several related products, which would probably not apply to the bedding department. A relevant cost pricing strategy is a minimum pricing strategy that is unlikely to help here.

46 % occupancy of the tables in the cafe

% occupancy should be a reliable measure if taken over time. New items added to the menu won’t show customer satisfaction unless customers actually buy them. Length of queues in the café may show how popular the café is, but may ultimately be self-defeating as customers get fed up with waiting in queues. Profits made by the café will depend on the pricing policy as well as the number of customers.

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CHEMCO

47 Both 1 and 2

Basic fertiliser is not worth processing further, as the additional costs exceed the additional income.

Medium grade fertiliser is worth processing further. If there are limited quantities it should be sold in the individual market as the contribution is increased, but if there are unlimited supplies, both markets are profitable.

Fertiliser Basic Medium grade Premium Current Sales price per kg (farmers) $5 $7 $10 After further processing: Additional sales price per kg $0.50 $1.00 $3 Further processing cost per kg $0.60 $0.80 $2 Net additional contribution $(0.10) $0.20 $1

48

Basic Medium grade Premium

Farmers

Individual customers

49 The contribution foregone from using the chemical in the existing contract


50

Adverse Favourable

$500

6/20 14/20 A B Total

Should 31,050 72,450 103,500 Did 31,000 72,500 103,500

50 F 50 A

$30 $40

$1,500 F $2,000 A $500 A

SM: A = 0.3 and B = 0.7 AQ = 31,000 + 72,500 = 103,500 AQSM: A = 0.3 × 103,500 = 31,050 litres; B = 0.7 × 103,500 = 72,450 litres The Mix Variance is given by: T2 – T1 = $500 Adverse

51 The chemicals used in the mix are discrete.

This means the amounts used of each chemical are independent of each other and it is not relevant to think in terms of controlling the proportion of each.

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Dealing with risk and uncertainty in decision-making

52

True False

Mystery shopping may be used to reduce the uncertainty associated with making changes to an existing product or launching a new one.

Sensitivity involves identifying a number of possible outcomes that may arise if the project goes ahead.

Focus groups are used to provide qualitative data about new products.

Pay-off tables record all possible outcomes.

Simulation involves identifying a number of possible outcomes that may arise if the project goes ahead.

Sensitivity involves seeing how much the estimates used to make the original decision can change before the decision becomes incorrect.

53 Do not employ a sales manager as profits would be expected to fall by $1,300

New profit figures before salary paid:

Good manager: $180,000 × 1·3 = $234,000

Average manager: $180,000 × 1·2 = $216,000

Poor: $180,000 × 1·1 = $198,000

EV of profits = (0·35 × $234,000) + (0·45 × $216,000) + (0·2 × $198,000) = $81,900 + $97,200 + $39,600 = $218,700

Deduct salary cost and EV with manager = $178,700

Therefore do not employ manager as profits will fall by $1,300.

54 375

EXAMINER’S COMMENT

Candidates often struggle with minimax regret questions as the concept can be a little difficult to understand. Taking each corresponding level of supply and demand, it is necessary to work out the regret from choosing one supply level rather than another, taking into account the actual demand level. This is why, when the supply and demand levels are the same, there is always a value of $0 as there is no regret because exactly the correct level of supply was anticipated. In order to decide on the optimum supply level using minimax regret as the decision criterion, the business should firstly identify what the highest regret is for each level of supply. Then, it should choose the minimum of those maximum regrets in order to decide the appropriate level of supply. So, in this question, the maximum regret at each supply level is as follows:

At 325: $142

At 350: $90

At 375: $82

At 400: $120

The minimum of these is $82 at 375, therefore the answer is C.

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The maximum regret at each supply level is as follows:

At 325: $142

At 350: $90

At 375: $82

At 400: $120

The minimum of these is $82 at 375.

55 The average value generated may not actually represent a possible outcome

They allow different outcomes to be built into a decision

They represent a long-run average if an event is repeated many times

Risk and uncertainty

THREE PRODUCTS

56 It is impossible to say

Without the probabilities to assign, it is impossible to calculate the expected value of each project.

57 Either Product X or Product Z

If the prices are equally likely then EV of Product X = $70 ,Y = $66 and Z = $70

58 units

Q1 is quantity sold at $60 profit

60 = Q1 (10 – 7) Q1 = 20 Q2 is quantity sold at $60 profit 80 = Q2 (15 – 7) Q2 = 10 Q1 – Q2 = 10 units

59 60 – 5Q

P = a – bQ and when P = 10, Q = 10, so 10 = a – 10b

b = change in price/change in quantity = 5/1 = 5

10 = a – (5 ×10)

10 = a – 50, so a = 60

10

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60


It ignores fixed costs.

The mark-up % cannot be varied.

Budgeted output volume needs to be established.

The basis it uses for absorption of fixed overheads is arbitrary.

The mark-up % can be varied with marginal costing. Marginal cost plus pricing does not need to budgeted volume of output to be established. Absorption does not take place when marginal costing is used.

SANDRUNNER

61 $300

The best possible outcome is a cash inflow of $270,000 when a fee of $300 is set.

62 It ignores the probabilities of different outcomes.

It ignores outcomes that are less than the best possible.

Maximax presupposes an attitude of risk seeking, not risk aversion.

Opportunity losses are to do with the minimax regret technique.

63 $300

Regret matrix is constructed based on the fact that the best fee for each membership level will have a regret of zero:

Membership fees Membership fee Low Average High Maximum regret

$000 $000 $000 $300 20 10 0 20 $400 0 0 30 30 $450 20 15 25 25 $500 40 30 60 60

To minimise maximum regret, set fee at $300.

64 $

Expected value of $300 = (180 × 0.5) + (210 × 0.3) + (270 × 0.2) = $207,000

Expected value of $400 = (200 × 0.5) + (220 × 0.3) + (240 × 0.2) = $214,000

Therefore choose $400 on EV basis.

With perfect information Expected value = (200 × 0.5) + (220 × 0.3) + (270 × 0.2) = $220,000

Value of perfect information = $220,000 – $214,000 = $6,000

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65 The subscriptions charged by other golf clubs in the area

The amount of usage of the course at weekends (the busiest time of the week)

The committee will have to consider the possibility that members could go to other clubs if they do not like the fee package being offered. One means of differentiation would be to charge a lower fee to members who only use the course at quieter times (during the week). The profits made by the club shop may affect the level of subscriptions, but not how subscriptions are differentiated. Members are most likely to be charged separately for the food and drink they consume in the restaurant facilities – it is not likely to affect their level of subscriptions.

MYLO

66 450 lunches

The maximin rule selects the maximum of the minimum outcomes for each supply level. For Mylo the minimum outcomes are:

450 lunches – $1,170 620 lunches – $980 775 lunches – $810 960 lunches – $740

The maximum of these is at a supply level of 450 lunches.

67 960 lunches

The minimax regret rule selects the minimum of the maximum regrets.

Demand level Supply level 450 620 775 960

$ $ $ $ 450 – 190 360 430 620 442 – 217 322 775 845 403 – 230 960 1,326 884 481 – Max regret 1,326 884 481 430

The minimum of the maximum regrets is $430, so suggests a supply level of 960 lunches.

EXAM SMART

Note that probabilities affect the expected value calculation, but the result of the expected value calculation does not tell you the range of possible outcomes or the probability of undesirable results.

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68 2 and 4

Expected values do not take into account the variability which could occur across a range of outcomes; a standard deviation would need to be calculated to assess that, so Statement 2 is correct.

Expected values are particularly useful for repeated decisions where the expected value will be the long-run average, so Statement 4 is correct.

Expected values are associated with risk-neutral decision-makers. A defensive or conservative decision-maker is risk averse, so Statement 1 is incorrect.

Expected values will take into account the likelihood of different outcomes occurring as this is part of the calculation, so Statement 3 is incorrect.

EXAM SMART

Remember that the expected value with perfect information assumes that you pick the supply level that will maximise profits whatever the demand level.

69 $191

This requires the calculation of the value of perfect information (VOPI).

Expected value with perfect information = (0·15 × $1,170) + (0·30 × $1,612) + (0·40 × $2,015) + (0·15 x $2,496) = $1,839·50

Expected value without perfect information would be the highest of the expected values for the supply levels = $1,648·25 (at a supply level of 775 lunches).

The value of perfect information is the difference between the expected value with perfect information and the expected value without perfect information = $1,839·50 – $1,648·25 = $191·25, therefore $191 to nearest whole $.

70 3 and 4

The investment’s sensitivity to fixed costs is 550% ((385/70) × 100), so Statement 3 is correct.

The margin of safety is 84·6%. Budgeted sales are 650 units and BEP sales are 100 units (70/0·7), therefore the margin of safety is 550 units which equates to 84·6% of the budgeted sales, so Statement 4 is therefore correct.

The investment is more sensitive to a change in sales price of 29·6%, so Statement 1 is incorrect.

If variable costs increased by 44%, it would still make a very small profit, so Statement 2 is incorrect.

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258 Rev i s ion a nsw er s : 3 : B ud g et in g an d co n tro l ACC A F5 Quest ion Ba nk


Budgetary systems and type of budget

1

True False

A rolling budget is a budget that starts at nil every period and requires managers to justify every item of expenditure.

A cash flow budget is a good example of feed-forward control.

An incremental budget is a budget which, having been established at the beginning of a period is then constantly amended and extended on account of developing circumstances.

An advantage of activity-based budgets is that they enable more efficient improvement programmes to be implemented.

A zero-based budget is a budget that starts at nil every period and requires managers to justify every item of expenditure.

A rolling budget is a budget which, having been established at the beginning of a period is then constantly amended and extended on account of developing circumstances.

An incremental budget is a budget that is based on the existing budget adjusted for changes in factors such as inflation.

2

Internal historic

External historic

Internal anticipated

External anticipated

Government inflation statistics

Purchases made by customers

Cash flow forecast for the next five years

Inventory movement records

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ACC A F5 Quest ion Ba nk Rev i s ion a nsw er s : 3 : B ud g et in g an d co n tro l 259

3

Attainable Basic Ideal Current

Kept unchanged over a period of time

Makes no allowance for normal losses, waste and machine downtime

Assumes an efficient level of operation, but includes allowances for normal loss, waste and machine downtime

Based on working conditions and prices that apply now

4

True False

The costs of implementation may outweigh the benefits.

Employees will always welcome any new system which improves planning and control within the organisation.

The time and cost involved in the system transition may initially lead to control being worse not better.

Employees will adapt easily to the new system and this will increase their motivation.

Employees may take time to adapt to change and may need training/persuasion to overcome any resistance to new methods.

5

True False

It sets out the timetable for budget preparation.

It is usually prepared before the functional budgets.

It includes a budgeted statement of profit or loss, statement of financial position and cash budget.

It is always prepared on a top-down basis.

The budget manual sets out the timetable for the preparation of the budget. The master budget is usually prepared after the functional budgets and may be prepared on a bottom-up basis.

6

True False

It makes it easier for employees to artificially inflate budgets.

It facilitates improvements in processes.

Employees will focus on eliminating wasteful expenditure.

Short-term benefits could be emphasised over long-term benefits.

A zero-based budget is more likely to detect an inflated budget.

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7 Co-ordination

Communication

Motivation

Authorisation

Quantification is part of budgeting but not why budgeting is undertaken. Quality control is generally separate from budgeting.

8 Zero-based budgeting

Budgets will need to be flexible and reflect the current environment.

9 $

Product R Product S Total Budgeted production per annum (units) 80,000 60,000 140,000

Number of batches 800 1,200 2,000

Number of machine set-ups 2,400 3,600 6,000

Total processing time (minutes) 240,000 300,000 540,000

Cost driver rate = $108,000 / 540,000 = $0.20

Total processing costs = $0.20 × 240,000 = $48,000

Processing costs per unit = $48,000 / 80,000 = $0.60

10 It is useful for decision-making purposes.

It provides appropriate benchmarks for cost control.

Flexible budgeting is likely to take longer than fixed budgeting because of the need to analyse fixed and variable costs separately. Encouraging the organisation to review the value of all its activities is an advantage of zero-based budgeting.

KENNETH CO

11 $

Total overhead cost ($22,000 + $34,000 + $32,000) $88,000 Direct labour hours 8,000 Direct labour cost per hour ($128,000/8,000) $16 Absorption rate $11 per direct labour hour

Budgeted unit cost for product Z for October is: $ Direct materials 21.50 Direct labour (0.3 × $16) 4.80 Overhead costs (0.3 × $11) 3.30

Total unit cost 29.60

0.60

29.60

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12 $

Cost driver rates are needed:

Set-ups ($22,000/88) $250 per set-up Quality tests ($34,000/40) $850 per test Other overheads ($32,000/8,000) $4 per direct labour hour (note this is not a true cost driver)

$ Direct materials 21.50 Direct labour (0.3 × $16) 4.80 Set-up costs (2 × $250/30) 16.67 Quality tests ($850/75) 11.33 Other overhead costs (0.3 × $4) 1.20

Activity-based cost for October 55.50

13

Advantage Not advantage

It encourages managers to spend up to the maximum allowed in the budget.

It is a straightforward approach for inexperienced managers to apply.

It is suitable for organisations where historic costs are a good guide to future costs.

It forces employees to avoid wasteful expenditure.

Encouraging managers to spend up to the maximum allowed is a disadvantage of incremental budgeting. Forcing employees to avoid wasteful expenditure is an advantage of zero-based budgeting. If wasteful expenditure has been built into the budget, incremental budgeting can ensure it is perpetuated.

14 Analysing the cost of each activity, identifying alternative ways of performing the activity and assessing the consequences of performing the activity at different levels or not at all.

Zero-based budgeting is more than updating; it requires a reassessment of what should be incurred every time it is undertaken. This complex process should mean that planning variances are not a regular feature of analysis.

Using the current year’s results as a starting point and updating the budget for changes in activity or inflation is a description of incremental budgeting.

Using an adaptive management process to prepare budgets that are focused on cash flows rather than cost control is a description of Beyond Budgeting.

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15 It is difficult to rank activities that have qualitative rather than quantitative benefits.

It restricts management from changing plans once the budget has been approved.

Zero-based budgeting involves ranking activities by their benefits, and if these benefits are qualitative they may be difficult to assess. Zero-based budgeting is a complex process, so can only be undertaken periodically. As such, it is less flexible when there are subsequent changes in circumstances that affect the benefits produced by different activities.

Zero-based budgeting encourages managers to take account of changes in the economic environment. Because of their knowledge, operational managers must be involved in the zero-based budgeting process, so lack of participation is not a demotivating factor. (They may not like however the pressure that zero-based budgeting puts on them.)

Quantitative analysis in budgeting

16

a $ 2500

b $ 1

Highest output is 15,000 units in Feb, costing $7,500.

Lowest output is 10,000 units in March, costing $12,500

(NB we take highest and lowest output and their associated cost, not the highest and lowest cost ─ here the lowest cost is actually $12,000).

Using the high-low method to establish values for a and b:

Variable cost per unit = $(17,500−12,500)

(15,000−10,000) =

$5,000

5,000 𝑢𝑛𝑖𝑡𝑠 = $1 per unit = b

Fixed costs can be calculated by reference to the total costs when output is 15,000 units in February and total cost is $17,500.

Total cost = $17,500 = Fixed cost + (15,000 units × $1)

Fixed cost = $17,500 - $15,000 = $2,500 = a = 2,500

17 %

Units Total time Ave time/unit

1 2hrs 2 hrs

2 2 × L

4 2 × 𝐿2

8 11.664 hrs 1.458 hrs

1.458 = 2 × 𝐿3, so 𝐿3 = 1.458/2 = 0.729

Learning rate = 0.9

18 All of the above

90.0

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19

Apply Not apply

Simple to make

Made largely by labour efforts

Mass-produced

New product

Continuous production

20 16,080 + 52x

460 – 400 = 60 clients $40,000 – $36,880 = $3,120 VC per unit = $3,120/60 = $52 Therefore FC = $40,000 – (460 × $52) = $16,080

EXAM SMART

You could get the same answer for fixed costs by using the data for the low level of clients, as follows:

FC = 36,880 – (400 × $52) = $16,080

21 1.442 hours

Y = axb

Average time for six jobs: 5 × 6–0·415 = 2.377 hours

Total time required for six jobs = 6 × 2.377 hours = 14.262 hours

Average time for five jobs: 5 x 5–0·415 = 2.564 hours

Total time required for five jobs = 5 × 2.564 hours = 12.820 hours

Time required to perform the 6th job = Total time required for six jobs – total time required for five jobs.

Therefore, time required to perform the 6th job = 14.262 hours – 12.820 hours = 1.442 hours

COMFYNAP CO

22 $

Learning curve formula y = axb

b = log 0.8/log 2 = - 0.322

Cumulative total time for 32 units = 157.25 hours

Cumulative average time for 31 units = 15 × 31-0.322 = 4.9645 hours

Cumulative total time for 31 units = 31 × 4.9645 hours = 153.90 hours

Incremental time for 32 units = 157.25 hours – 153.90 hours = 3.35 hours

Total labour cost for 32nd unit = 3.35 × $60 = $201.00

201

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23 %

Cumulative number of beds produced

Cumulative total hours

Cumulative average hours

per unit 1 25 25 2 4

8

16

32 110 3.4375

1-32 is five doublings.

25LR5 = 3.4375 LR5 = 0.1375 LR = 0.672 or 67.2%

24 There was high staff turnover during the initial phase of production. There were a number of delays in the production process.

New staff not being used to the process and delays meaning production is non-continuous will both mean that production takes longer and learning is reduced. The fact the production is labour-intensive and repetitive should lead to a greater learning effect. Changes in design during the initial phase would explain slower learning, not changes once the initial phase had been completed.

25 $

Demand (units)

Contribution per unit

Total contribution

Probability

Expected contribution

$ $ $ 15,000 60 900,000 0.2 180,000 28,000 65 1,820,000 0.7 1,274,000 50,000 65 3,250,000 0.1 325,000 1,779,000

26


It can be difficult to manipulate information on spreadsheets.

It can be difficult to identify errors in formulae used in spreadsheets.

Spreadsheets only take account of qualitative information.

It is very difficult to set common standards for the use of spreadsheets for budgeting by managers.

Errors in formulae may result in answers that are not obviously wrong and may only be found by inspecting the spreadsheet in detail and comparing the formulae with other information.

The ease of manipulating information on spreadsheets is one of the main advantages of using them. Spreadsheets only take account of quantitative, not qualitative information. Head office should easily be able to specify the formats and level of detail that budgets use.

67.2

1779000

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Standard costing

27

True False

Basic standards provide the best basis for budgeting because they represent an achievable level of productivity.

Ideal standards are short-term targets and useful for day-to-day control purposes.

An attainable standard is always based on current efficiency levels and costs.

Current standards are particularly useful when inflation is high.

Basic standards are unlikely to be the best basis because they remain unchanged over the years. Ideal standards are long-term targets and are not useful for day-to-day control. An attainable standard may be higher than the standard currently being achieved.

CORFE CO

28 $2,920,000

An 80% activity level is 210,000 units.

Material and labour costs are both variable. Material is $4 per unit and labour is $5·50 per unit. Total variable costs = $9·50 × 210,000 units = $1,995,000

Fixed costs = $750,000

Supervision = $175,000 as five supervisors will be required for a production level of 210,000 units. Total annual budgeted cost allowance = $1,995,000 + $750,000 + $175,000 = $2,920,000

29 $593,000

Variable cost per hour ($850,000 – $450,000)/(5,000 hours – 1,800 hours) = $125 per hour

Fixed cost ($850,000 – (5,000 hours × $125)) = $225,000

Number of machine hours required for production = 210 batches × 14 hours = 2,940 hours

Total cost ($225,000 + (2,940 hours × $125)) = $592,500, therefore $593,000 to the nearest $’000.

30 When the budget is flexed, the sales variance will only include the sales price variance.

If the budget is flexed, then the effect on sales revenue of the difference between budgeted and actual sales volumes is removed and the variance which is left is the sales price variance.

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31 1 and 2

Flexible budgeting can be time-consuming to produce as splitting out semi-variable costs could be problematic, so Statement 1 is correct.

Estimating how costs behave over different levels of activity can be difficult to predict, so Statement 2 is correct. A flexible budget will not encourage slack compared to a fixed budget, so Statement 3 is incorrect.

It is a zero-based budget, not a flexible budget, which assesses all activities for their value to the organisation, so Statement 4 is incorrect.

32 1 and 4

Spreadsheets can be used to change input variables and new versions of the budgets can be more quickly produced, so Statement 1 is correct.

Sensitivity analysis is also easier to do as variables are more easily changed and manipulated to assess their impact, so Statement 4 is correct.

A common problem of spreadsheets is that it is difficult to trace errors in a spreadsheet and data can be easily corrupted if a cell is changed or data is input in the wrong place, so Statement 2 is incorrect.

Spreadsheets do not show qualitative factors; they show predominantly quantitative data, so Statement 3 is incorrect.

Material mix and yield variances

33

True False

Mix and yield variances are most appropriate where a product requires a set amount of different types of material.

The materials yield variance assesses whether the finished output was greater or less than expected, given the amount of material that was input.

Mix and yield variances are most appropriate where the input proportions of the materials used in a product can be varied without substantially changing the nature of the output.

The materials mix variance assesses the impact of varying the proportions of the different materials used in a product.

Separate price and usage variances are most appropriate where a product requires a set amount of different types of material.

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34 The total mix variance was favourable and the total yield variance was adverse.

AM (w1) AQSM (w2) SQSM Materials AQ SP AQ SP SQ SP A 900 18,000 800 16,000 779 15,580 B 1,100 27,500 1,200 30,000 1,168 29,200 Total T1 = 45,500 T2 = 46,000 T3 = 44,780

SM: A = 0.4 and B = 0.6

(w1) AQSM: A = 0.4 × 2,000 = 800 litres; B = 0.6 × 2,000 = 1,200 litres (w2) SQSM: A = 0.4 × 1,947 = 779 litres; B = 0.6 × 1,947 = 1,168 litres

Actual production of 1,850 litres requires an input of 1,947 litres (1,850 × 0.95) in total of A and B. Therefore, the SQ = 1,947 litres.

The Mix Variance is given by: T2 – T1 = $500 Favourable The Yield Variance is given by: T3 – T2 = $1,220 Adverse

35

Adverse Favourable

$3900

Standard cost per unit = $40 + $30 + $8= $78

Number of litres used = 9,700 + 6,300 + 7,400 = 23,400

Units Actual yield 2,000 Standard yield 23,400 /12 1,950 VARIANCE in units 50 (F) Valued at the standard cost per unit $78 VARIANCE in $ 3,900 (F)

36 $6,800 favourable

3,000 units should use 10 kg each (3,000 × 10) = 30,000 kg 3,000 units did use = 29,000 kg

Difference = 1,000 kg favourable

Valued at $6·80 per kg ($68/10 kg)

Variance = $6,800 favourable

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ROMEO CO

37 $

Dough 18.9 kg × ($7.60 – $6.50) = $20.79 favourable

Tomato sauce 6.6 kg × ($2.50 – $2.45) = $0.33 favourable

Cheese 14.5 kg × ($20.00 – $21.00) = $14.50 adverse

Herbs 2 kg × ($8.40 – $8.10) = $0.60 favourable

Total material price variance = $7.22 favourable

38 $38.14

AQSM

kg AQAM

kg Difference

kg Std Cost

$ Variance

$ Dough 20 18.9 1.1F 7.60 8.36F Sauce 8 6.6 1.4F 2.50 3.50F Cheese 12 14.5 2.5A 20.00 50.00A Herbs 2 2 - 8.40 - 42 42 38.14A

39 $12.21 favourable

SQSM

kg AQSM

kg Difference

kg Std Cost

$ Variance

$ Dough 22 21.43 0.57F 7.60 4.33F Sauce 8.8 8.57 0.23F 2.50 0.58F Cheese 13.2 12.86 0.34F 20.00 6.80F Herbs 2.2 2.14 0.06F 8.40 0.50F 46.2 45 12.21F

40 The proportion of the relatively expensive ingredients used in production was less than the standard.

A favourable mix variance indicates that a higher proportion of cheaper ingredients were used in production compared to the standard mix.

41 The actual cost per pizza in Month 6 was lower than the standard cost per pizza. The value of the ingredients usage variance and the mix variance are the same.

The actual cost per pizza will be lower than the standard cost per pizza because expensive cheese has been replaced with cheaper tomato sauce.

The usage variance equals the mix and yield variances combined. The yield variance is zero as 100 pizzas used 42 kg so the mix and usage variances will be the same.

Sales staff should not automatically lose their bonus as the reduced sales could be a result of the change in mix affecting the quality of the pizza. The new chef will only be responsible for the mix and yield variances as they have no control over the purchase costs of ingredients.

7.22

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42

True False

Sales mix and quantity variances are only meaningful when the company’s products are independent of each other.

The sales mix variance considers how the profit has been affected by selling products in a different ratio than initially expected.

The materials mix variance can be calculated by taking the difference between the actual quantity in the standard mix and the actual quantity in the actual mix, then multiplying it by the actual cost per kg.

The materials mix variance arises because there is a difference between what the input should have been for the output achieved and the actual output.

Sales mix and quantity variances are only meaningful when the company’s products are interdependent or linked in some way.

The difference between actual quantity in standard mix and the actual quantity in the actual mix is valued at the standard cost per kg, not the actual cost.

The difference between what the input should have been for the output achieved and the actual output is the definition of the yield variance.

43 Price variance

The budget will be flexed for sales quantity, so quantity variance will not apply. Mix and yield variances will only apply if more than one product is produced.

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CUT CO

The following workings apply to the next three answers.

Sales price R B D Total

Actual sales 900 2,600 700 4,200 Actual selling price 16 8 4.50 Budgeted selling price 15 8 5 Unit difference 1(F) nil 0.50 (A) VARIANCE in $ 900 (F) Nil 350 (A) 550(F)

Sales volume R B D Total

Actual sales 900 2,600 700 4,200 Budget sales 1,000 2,000 500 3,500 VARIANCE in units 100 (A) 600 (F) 200 (F) Valued at the standard contribution 7 5 3 VARIANCE in $ 700 (A) 3,000 (F) 600 (F) 2,900 (F)

Sales mix R B D Total

Actual sales @ std mix 1,200 2,400 600 4,200 Actual sales @ actual mix 900 2,600 700 4,200 VARIANCE in units 300(A) 200(F) 100(F) NIL Valued at the standard contribution 7 5 3 VARIANCE in $ 2,100(A) 1,000(F) 300(F) 800(A)

44 2 only

The price variance is calculated based on the actual quantity sold, not the change in quantity. (See workings above)

45

Adverse Favourable

$800

46

Adverse Favourable

$3700

Weighted average budget contribution per unit = (1,000 × $7) + (2,000 × $5) + (500 × $3)/3,500 = $5.29 per unit

Variance in units = 4,200 – 3,500 = 700 favourable

Variance in $ = 700 × $5.29 = $3,700 favourable

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47

Possible cause Not possible cause

The size of the market for non-disposable razors increased.

The production costs were as budgeted.

Price-conscious customers switched to cheaper disposable razors.

A close competitor withdrew its non-disposable razor after safety concerns.

The size of the market increasing and a competitor withdrawing its razor would affect sales volume. The production costs being as budgeted would not impact on sales.

48

True False

If product prices are set based on standard costs, then a business will be unable to pass the cost of production inefficiencies on to the customer.

The prices of complementary products cannot be set independently.

If a company is using target costing, the price set will be determined by the target cost.

Price discrimination can be achieved by setting different prices for different versions of the same product.

Inefficiencies will be reflected in actual costs, not standard costs, so prices based on standard costs won’t reflect production inefficiencies.

Complementary products are linked products whose demand is not independent, so a price rise for one will affect demand for both products.

With target costing, the target cost is determined by the price that the market will tolerate, not the other way round.

Price discrimination by versions of product can be achieved if there is a basic model with a variety of optional add on features.


49 A favourable market size variance

The market size has increased.

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50

True False

The use of planning and operational variances splits responsibility for performance between managers in charge of day-to-day activities and decisions and those in charge of budgeting.

The revision of budgets for operational difficulties that have been experienced is likely to lead to more meaningful variance analysis.

Splitting variances into planning and operational variances will always make operational managers more receptive to variance analysis.

Those in charge of budgeting are not always responsible for planning variances.

Budgets should only be revised for known planning issues otherwise the operational managers will not be allocated responsibility for the results of their operational decisions. Operational managers may resist variance analysis whatever form it takes.

Some planning variances may be outside the control of the organisation, for example changes in external conditions.

51 Materials planning price variance

Adverse Favourable

$32000

32,000 × ($4·00 – $5·00) = $32,000 adverse

Materials operational usage variance

Adverse Favourable

$8000

[30,000 – 32,000] × $4·00 = $8,000 adverse

52 $400 adverse

An operational variance compares revised price to actual price.

20,000 kg should cost $0·40 per kg at the revised price (20,000 kg × $0·40) = $8,000

20,000 kg did cost $0·42 per kg (20,000 kg × $0·42) = $8,400

Variance = $400 adverse

FEDIA CO

53 1 only

Material price variance = $809,600 – (25,300kg @$30) = $50,600 adverse

Materials usage variance = 25,300kg – (11,[email protected]) = 2,200kg favourable @ $30 = $66,000 favourable

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54

Adverse Favourable

$50600

Price per kg = $80/2.5 = $32 Variance = 25,300 × ($32 – $30) = $50,600 adverse

This approach uses the Examiner’s preferred method of calculating the variance. The variance could be calculated using the revised quantity according to the flexed budget, rather than the actual quantity purchased.

55

Adverse Favourable

$66000

kg Revised usage (11,000 × 2.5) 27,500 Did use 25,300 Variance in kg 2,200(F) Valued at STANDARD COST $30 VARIANCE IN $ 66,000 (F)

This approach uses the Examiner’s preferred method of calculating the variance. The variance could be calculated using the revised price rather than the original standard price.

56 Fixed overhead volume

Use of better quality materials should lead to greater efficiency. The fixed overhead volume variance is the only variance that has an efficiency element.

57

Advantage Not an advantage

The system will highlight non-controllable operational variances.

Managers can justify variances as being due to bad planning.

Planning variances can highlight out-of-date standards.

The system will be based on realistic standards that are easy to establish.

Planning and operational variances will highlight non-controllable planning variances. Managers justifying variances as being due to bad planning can be a weakness, as they could be hiding operational failures. Realistic standards may not necessarily be easy to establish – they may involve subjective estimates.

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Performance analysis

58

True False

They focus on assigning responsibility solely to senior managers.

They work well in rapidly changing environments.

The philosophy of continuous improvement behind TQM is incompatible with predetermined standards.

Standard costs may allow for a predetermined level of scrap, whereas TQM aims for no scrap.

Staff generally have responsibility under both systems. Standard costing works best in a stable environment.

59 Material cost only

The material price when flexed is higher than budget whilst the external environment shows that prices are reducing. This indicates that although suppliers lowered their prices, the manager has still overspent which indicates poor performance.

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ACC A F5 Quest ion Ba nk Rev i s ion a nsw er s : 4 : P erfo rma nce m ea su re me n t a n d cont ro l 275


Performance management information systems

1

Transaction processing

system

Executive information

system

Enterprise resource planning

system

Captures all the day-to-day routine transactions within a business

Integrated system overseen centrally

Provides summary information for strategic decisions

Includes data analysis and modelling tools

2

True False

They are designed to provide information for internal and external use.

They provide information for planning, control and decision making.

They are designed to report on existing operations.

They are designed to integrate an organisation’s processes to provide a single system for the whole organisation.

MIS are designed to provide information for internal use by management. Not all MIS provide a single system for the whole organisation, this is a feature specifically of enterprise resource planning systems.

3 2 only

4 Critical strategic information can be summarised

The tracking and summarising of critical strategic information is done by an Executive Information System (EIS).

The other three options are all likely to be potential benefits which would result from the introduction of an ERPS.

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276 Rev i s ion a nsw er s : 4 : P erfo rma nce m ea su re me n t a n d cont ro l ACC A F5 Quest ion Ba nk

Sources of management information

5 Cost of telephone calls

Cost of researcher

Analysis and dissemination costs are management costs.

6

Internal External

Value of sales, analysed for each customer

Value of purchases, analysed for each supplier

Prices of similar products, analysed for each competitor company

Hours worked, analysed for each employee

Management reports

7

Ensure security Don’t ensure security

Logical access controls

Database controls

Hierarchical passwords

Range checks

8 Minimise the risk of data loss

9 If working from home, departmental employees must use a memory stick to transfer data, as laptop computers are not allowed to leave the department

A memory stick is much more likely to get mislaid and compromise security than a password protected laptop. It is likely that memory sticks could get lost or that information is left on home computers.

In the context of the scenario all the other options are good practice.


10 2 only

A focus solely on financial performance measures is likely to encourage short-termism.

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11

True False

In the balanced scorecard the set of indicators which measure whether value is being added to the shareholders is known as the innovation and learning perspective.

The balanced scorecard looks at both internal and external matters concerning the organisation.

The Building Blocks model focuses solely on non-financial measures.

The Building Blocks model considers competitiveness, resource utilisation and flexibility as dimensions of performance.

In the balanced scorecard the set of indicators which measure whether value is being added to the shareholders is known as the Financial perspective.

The Building Block model of appraising performance takes account of financial and non-financial performance measures.

12 Level of staff satisfaction

This is much more subjective.

13 Neither 1 nor 2

The first statement is wrong because customers are actually paying more quickly. The second statement is wrong because the quick ratio excludes inventory.


It would have been easy to make a mistake on this question as firstly, if customers were taking longer to pay, it would contribute to the decline in the current ratio. Remember: question every aspect of what the statements are telling you. Similarly, as regards statement 2, although the quick ratio has declined inventory is excluded from the quick ratio, so this makes the statement false. Again, it would have been easy to slip up by not questioning every aspect of the statement.

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BUS CO

14

Bus 1

Prime 4

Express 2

Transit 3

Bus: (40% × 68) + (32% × 80) + (0.28 × 82) = 75.76%

Prime: (40% × 58) + (32% × 80) + (0.28 × 83) = 72.04%

Express: (40% × 67) + (32% × 76) + (0.28 × 85) = 74.92%

Transit: (40% × 62) + (32% × 78) + (0.28 × 86) = 73.84%

15

True False

Independent research has shown that Bus Co’s passengers are the most satisfied of any national bus operators.

Independent research confirms that Bus Co leads its competitors on what matters most to customers.

Independent research confirms that Bus Co is ahead of its competitors on value for money.

Independent research confirms that Bus Co is ahead of its competitors on punctuality.

Independent research does not provide any overall ranking of customer satisfaction. Only if Bus Co was ahead of all its competitors in all categories (which it isn’t) could it make this claim. Similarly there is no independent evidence of which criteria matter most to customers. Bus Co is ahead of all its competitors on value for money, but has the same rating as Prime for punctualiy, so is not ahead on that criteria.

16


Occupancy rate of buses

Utilisation rate for drivers

Percentage of customers satisfied with cleanliness of buses

Percentage of carbon emissions relative to target set

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17 Introducing a greater range of tickets on some routes

A greater range of tickets is likely to result in more passenger queries when they buy tickets, delaying the departure of buses. No longer allowing cash and allowing Smartcards will eliminate passenger time spent buying tickets when they get on buses. Amending the timetable is a method that has worked for some transport companies, although it is likely to mean a fall in the journey time measure of satisfaction.

18 Quality

The ticket options available are not linked to the quality of service. Bus Co will aim to score over its competitors by providing more flexible ticket arrangements. Introducing cheaper fares for off-peak services should mean that more passengers use buses at times where there are more spare seats.

JAMAIR CO

19 Using only one type of aircraft

Focusing on e-commerce with customers both booking tickets and checking in for flights online

Using only one type of aircraft should reduce maintenance and operational costs. Focusing on e-commerce should mean a reduction in time spent dealing with bookings and check-ins.

Landing costs are likely to be higher in capital cities than in other cities. Having more than one class of seat may lead to booking problems, more queries and increased complications because of providing different services for different passengers during flights.

20


Ensuring flights are on time

Using fewer planes to transport customers

Improving turnaround times

Improving cleanliness of planes by spot checks

21


Absentee rates of employees

Planes’ lease costs per customer

Revenue per passenger mile

Number of flights cancelled

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22 It cannot resolve conflicts between short-term and long-term objectives.

It can be difficult to gain an overall impression of the results provided.

There is no direct link between the overall results of the scorecard and the creation of shareholder value.

The balanced scorecard will be of limited effectiveness if Jamair’s strategy is unclear.

One of the balanced scorecard’s advantages is that it should steer Jamair the business away from solely focusing on financial measures. The balanced scorecard emphasises links between the different perspectives.

23

True False

Jamair Co has a higher P/E ratio than its competitors, which may reflect the rumours about a takeover.

Competitor 2 appears to do a greater proportion of long-haul flights than Jamair or Competitor 1.

P/E ratios

Jamair (520 × 9)/371 = 12.61

Competitor 1 (1,100 × 6)/546 = 12.09

Competitor 2 (600 × 4.5)/286 = 9.44

Thus Jamair Co has a higher P/E ratio than its competitors, and an explanation could be the takeover rumours.

Average kilometres (million) per plane

Jamair 56/17 = 3.29

Competitor 1 92/29 = 3.17

Competitor 2 65/25 = 2.60

Competitor 2 has a lower number of kilometres per plane, suggesting that it specialises more in short-haul flights.


24

True False

Cost-based transfer prices are most appropriate where there is an intermediate market for the product.

When the producing division is operating at full capacity, an opportunity cost based approach should be used for the transfer price.

The maximum transfer price is the sum of the supplying division’s marginal cost and opportunity cost of the item transferred.

Cost-based transfer prices are most appropriate where there is NO intermediate market for the product. The sum of the supplying division’s marginal cost and opportunity cost of the item transferred is the minimum transfer price, not the maximum.

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25

True False

Residual income is better for comparing divisions of different sizes.

Return on investment may cause a manager to reject a project that exceeds the head office target, if the project will earn less than the division’s existing Return on investment.

A disadvantage of Residual income is that it requires an estimate of cost of capital.

A disadvantage of both Return on investment and Residual income is that they may appear to improve as a division’s assets get older.

Residual income is not good for comparing divisions of different sizes as inevitably a bigger division will have a bigger RI figure.

26 %

$ Original profits $720,000 × 15% 108,000 Profit on sale 14,000 Revised profit 122,000

$ Original net asset value 720,000 Less carrying amount of asset sold (36,000) Plus cash received from sale of asset 50,000 734,000

Revised ROCE after sale of asset = ($122,000/$734,000) × 100% = 16.6%

27 $

Divisional profit before depreciation = $2·7m × 15% = $405,000 per annum.

Less depreciation = $2·7m × 1/50 = $54,000 per annum.

Divisional profit after depreciation = $351,000

Imputed interest = $2·7m × 7% = $189,000

Residual income = $162,000

16.6

162000

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28

Poor performance

Not poor performance

Sales volume

Sales price

Material cost

Material usage

Sales volume

Sales are less than the (optimistic) budgeted figure of 6,000. Expected sales volume based on last year’s figures = 5,000 × 0.8 = 4,000. 4,200 sold is better than this.

Sales price

Budgeted figure = $600,000/6,000 = $100 per unit

15% reduction on last year = ($450,000/5,000) × 0.85 = $76.50 per unit

Average sale price achieved = $317,000/4,200 = $75.48 per unit, below both figures

Material cost

Both budgeted figure and cost last year = $7 per kg ($113,400/16,200 and $105,000/15,000)

Expected cost this year = 11,500 × $7 × 1.05 = $84,525. Actual cost = $81,600, better than expected

Material usage

Material usage last year = 15,000/5,000 = 3 kg per unit

Expected figure based on last year and taking account of production changes = 3 kg × 0.9 = 2.7 kg. This is the same as the budgeted figure (16,200 kg/6,000)

Actual usage = 11,500 kg/4,200 = 2.74 kg, higher than expected.


Firstly, a machine with NBV of $40k was sold for $50k. This will reduce non-current assets by $40k and, as we are told this was a cash transaction, increase cash by $50k – increasing net assets by $10k. As a profit has been made on disposal, it will also increase profits by $10k.

Secondly, another machine was purchased for $250k. This will increase non-current assets by $250k, but as this was also a cash transaction, decrease cash by $250k, so no net effect. As no depreciation is charged on either machine there is no further effect.

The net effect is therefore +10k to both profit and net assets, so the ROI is ($200k/$1,010k) × 100%=19.8%. Therefore answer B.

18.8% was obtained by omitting the profit on disposal from profits – ($190k/$1,010k) =18.8%.

15.1% was obtained by omitting the profit on disposal and increasing net assets by the $250k machine purchase but not subtracting the cash – ($190/$1,260k) =15.1%.

15.9% was obtained with the correct profit figure but the incorrect net assets of $1,260k – ($200/$1,260) =15.9%.

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29 19.8%

Revised annual profit = $190,000 + $10,000 profit on the sale of the asset = $200,000

Revised net assets = $1,000,000 – $40,000 NBV + $50,000 cash – $250,000 cash + $250,000 asset = $1,010,000

ROI = ($200,000/$1,010,000) x 100 = 19·8%

CARDALE CO

30 %

Controllable profit = $1,970k

Total assets less trade payables = $14,980k + $3,260k – $1,400k = $16,840k

ROI = 11·7%

31 $

Bonus to be paid for each percentage point = $120,000 × 2% = $2,400 Maximum bonus = $120,000 × 0·4 = $48,000

Division F: ROI = 28·5% = 18 whole percentage points above minimum ROI of 10%.

18 × $2,400 = $43,200 This is below the maximum and so Division F’s manager will be paid this amount.

32

Possible reason

Not possible reason

Division F’s manager has kept cash balances high.

The accumulated depreciation on Division F’s non-current assets is low.

Division F’s manager invested in the strategic management information system just before the year-end.

High cash balances will mean current assets are higher and return on investment is lower. A low accumulated depreciation figure will mean that non-current assets are high, depressing the ROI. Using surplus cash at the year-end to buy a new information system will be exchanging one asset (cash) for another (strategic management information system). The depreciation of the newly-acquired asset is unlikely to be significant as it is being charged monthly.

33 Division F is smaller than Division N. Division F has a lower risk profile than Division N.

If Division F is smaller, its profits and hence its residual income are likely to be lower. If it has a lower risk profile, it should be allowed to use a lower cost of capital than Division N.

Marginal investments may have a positive RI, but be rejected on the grounds that they run the risk of lowering ROI. Similarly, the use of RI and an appropriate cost of capital should provide incentives to undertake any investments with a positive RI, which would be in the interest of Cardale Co.

11.7

43200

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34 The system allows easier access to external sources of information.

The system described should have an external focus and allow the manager of Division F to integrate internal and external sources of information.

The manager will want a summary of the detailed information that relates to his department, not to have to wade through the information himself.

As the manager appears to be taking the investment decision himself, integration with other departments is unlikely to be most important – a decision about a system that integrates information across Cardale Co is likely to be made centrally.

Expert assistance may help the manager make a limited number of decisions but it appears that he invested in something that would help him generally.

ANDOVER AND WINCHESTER

35 Andover

$ 000

Winchester

$ 000

Division manager assessment should be based on controllable profits:

Andover 115 – (10% × 375) = 77.5 Winchester 180 – (10% × 200) = 160

36 Both 1 and 2

Divisional ROI is based on divisional net profit:

Andover = 55/375 = 14.7% and Whitchurch = 60/200 = 30%

Andover was set up recently, so its assets will be less depreciated than those of Whitchurch, which will reduce its ROI.

37 controllable by/RI/can

The managers of Andover and Winchester divisions should be assessed on costs, revenue and investments that are controllable by their division. To promote goal-congruent behaviour by the two divisions, RI should be used to compare them. Efficiency variances can be used to assess the managers of the two centres.

38 Rewarding managers if they fulfil a number of financial and non-financial targets

Both sorts of target can be short-term and long-term, and often non-financial targets link well to longer-term performance. Managers need to have some incentive to improve their performance - paying a basic salary or linking to company-wide performance which they may not be able to influence much won’t provide enough incentive. Only rewarding managers for the performance of their division is at the heart of the problem that’s been identified.

77.5

160

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39 The % of on-time deliveries

Customers can clearly see performance here and it will influence their views. What matters to customers on quality is not what happens before they see the products, but the poor quality products that they see (internal quality control may pick up a number of faulty products, but may equally miss others). Customers may be influenced by the level of staff turnover, but only if it clearly links to poor performance. The number of new products is a good measure of innovation, but customers may not buy them.


40 Measuring actual performance in relation to financial targets

Non-financial targets are more likely to be appropriate.

41 Effectiveness

Exam success will be a given objective of a school, so it is a measure of effectiveness.

SEATOWN COUNCIL

42 How much time is spent sweeping the sands

How frequently bins are being emptied

Tractor running costs are likely to be used in measuring economy. The amount of litter collected will not itself indicate efficiency, as the council will be concerned with the resources used to collect the litter.

43 Spot checks on litter bins by council officers Ratings of beaches by external agencies Complaints by visitors

Agency ratings and complaints provide external indications of the effectiveness of operations. Spot checks on litter bins will show whether rubbish is piling up beside bins.

The number of litter bins, the time spent by employees and the amount of vehicle miles are all measures of usage of resources, not whether resources used have produced results.

44 Number of hotel rooms in Seatown

The number of hotel rooms is not an indication by itself of the number of visitors – the council would need to know occupancy rates. Also perhaps a large number of visitors would not stay in hotels.

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45 Certain areas of Seatown’s beaches are more difficult to sweep.

Difficulty Not a difficulty

Some refreshment kiosks will only be open at certain times of the year.

The number of visitors will be less in winter.

Certain areas of Seatown’s beaches are more difficult to sweep.

Sweeping should pick up litter that poses a threat to beach user safety.

Records of time spent on sweeping different areas should mean that this is taken into account when considering efficiency, but ultimately all litter has to be picked up from these areas throughout the year.

Refreshment kiosks only being open at certain times and fewer visitors coming in winter will be seasonal variations in litter generated, which it might be difficult to estimate for analysis over the year. Finding hazardous litter on the beach is a qualitative aspect of the effectiveness of sweeping that may be difficult to measure, but is relevant to the council’s ultimate responsibilities for the beaches – the council cannot just rely on the public disposing of hazardous waste in the litter bins.

46 flexibility/competitiveness

The variation in frequency of sweeping beaches during the year is a measure of flexibility, whereas the number of visitors compared with other resorts is a measure of competitiveness.

Analysis of variations will show whether the council is able to commit more resources at busier times of the year when more litter is being generated. It will not show whether resources are being used fully.

Comparison of number of visitors is a measure of how popular the resort is compared with other resorts, so is a measure of competitiveness that will concern the council. It may be partly determined by service quality, but there will be other issues influencing visitor numbers as well.

External considerations and behavioural aspects

47

Internal External

Growth in the economy

Director leaves to join a competitor

Market shortage of labour

New health and safety regulations

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P A R T 2 R E V I S I O N A N S W E R S : L o n g f o r m



1 THE TELEPHONE CO


This was a nice, straightforward relevant costing question, which should have been well-answered by most people. This was definitely not the case, however, and it proved to be one of the most poorly answered questions on the paper.

Part (a) asked candidates to prepare a cost statement using relevant costing principles, showing the minimum cost that a company should charge for a contract. The requirement also asked for detailed notes to explain the numbers being used. It is very easy in this type of question to focus purely on the numbers, without giving adequate weight to the words. This would have been a mistake, because the words were actually worth eight marks compared to the six marks for the numbers. Some candidates definitely fell into this trap. However, the biggest problem with this question was that many candidates clearly don’t understand relevant costing, so they simply couldn’t get either the numbers or the words right anyway. Out of all the scripts that I personally looked at, and this was a lot, I only saw two candidates score full marks on part (a).

Common errors included:

Erroneously including the lost contribution from Contract X when calculating the three engineers’ costs. The only relevant cost here was the $500 fine for delayed completion of Contract X. The contribution from this contract was never going to be lost as the contract was only delayed and not lost altogether.

Including the 120 telephone handsets that were held in inventory at their historical cost of $16.80 each, rather than the replacement cost of $18.20. Historical costs are never relevant because they are sunk. This was a really basic error.

Erroneously including the site inspector’s costs of $400. The note stated that the site inspector charged the client directly for the work rather than invoicing the company in question. This error was down to poor reading.

Few candidates managed to work out the cost of the computerised control system. It was simply a question of comparing the total lost sale proceeds and modification cost of Swipe 1 to the cost of buying the new Swipe 2, and selecting the cheapest option for the company.

Apart from these common errors, another problem was that the notes given by candidates didn’t explain the figures being used well enough. Many candidates just wrote down that a cost was included because it was ‘relevant’ but didn’t say why. This is not an explanation and didn’t score marks.

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EXAM SMART

It is really important to take heed of the Examiner’s warnings here. If more of the marks are going for why have you included or excluded a cost then the marker will expect to see a good explanation. The question requirement quite clearly asked for detailed notes and explanations, so there was no excuse for not giving them.

For example:

Site visits – This is not a cash outflow for T Co but for its customer Push Co. Therefore, it is not a relevant cash flow for Push Co and is ignored in the costing statement.

Handsets – The required handsets are in regular use by T Co. The 80 handsets in inventory, if used, will have to be replaced at the prevailing market price to fulfil future contracts with other customers. The balance of 40 handsets will have to be purchased on the open market. This will cause a relevant cost of: (40 + 80) × $18.20 = $2,184 because undertaking the Push Co contract causes T Co to incur an incremental cash outflow.

The words ‘because’ and ‘therefore’ (as well as words like ‘so’, ‘since’, ‘means that’, ‘results in’, ‘causing’ etc), force you to try to explain yourself and add value.

In the exam, think what was it that made me think that the cost was relevant or not relevant. Then write it down!

EXAM SMART

If you struggle with deciding how to utilise the numbers, think about the actual cash flows that will happen if:

The project is accepted The project is rejected

For example:

Control system

Cash flow if project is accepted:

Swipe 1 modification cost ($4,600)

Cash Flow if project is rejected:

Swipe 1 sales proceeds $3,000

Net difference (future incremental cash flow) ($7,600)

(a) Cost statement $ Note Lunch 0 1 Engineers’ costs 500 2 Technical advisor 480 3 Site visits 0 4 Training costs 125 5 Handsets 2,184 6 Control system 7,600 7 Cable 1,300 8

12,189

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Notes

Note 1: Lunch

This past cost is a ‘sunk cost’ and should therefore be excluded from the cost statement. It has already arisen and is therefore not incremental.

Note 2: Engineers’ costs

Since one of the engineers has spare capacity, the relevant cost of his hours is Nil. This is because relevant costs must arise as a future consequence of the decision, and since his wage will be paid regardless of whether he now works on the contract for Push Co, it is not an incremental cost.

EXAM SMART

Read the whole question first! If you just look at note 2 and do your calculations before you read note 9 – you will miss key information. One idea is to annotate the question paper as you read through with rough workings. You can always change your mind before writing up your final answer. Otherwise, in this scenario, you may make some complicated assumptions and calculations about working hours before you stumble across note 9!

The situation for the other two engineers is slightly different. Their time is currently fully utilised and earning a contribution of $5 per hour each. This is after deducting their hourly cost which, given a salary of $4,000 per month each, is $25 per hour ($4,000/4 × 40). However, in one week’s time – when they would otherwise be idle – they can complete Contract X and earn the contribution anyway. Therefore, the only relevant cost is the penalty of $500 that will be payable for the delay on Contract X.

Note 3: Technical advisor

Since the advisor would have to work overtime on this contract, the relevant cost is the overtime rate of $60 ($40 × 1.5) per hour. This would total $480 for the whole job.

Note 4: Site visits

This is a cost paid directly by Push Co to a third party. Since it is not a relevant cost for T Co, it has been excluded.

Note 5: Training costs

Since the trainer is paid a monthly salary irrespective of what work he does, this element of his cost is not relevant to the contract, since it is not incremental. However, the commission of $125 will arise directly as a consequence of the decision and must therefore be included.

Note 6: Handsets

Although T Co has 80 of the 120 handsets required already in inventory, they are clearly in regular use in the business. Therefore, if the 80 are used on this contract, they will simply need to be replaced again. Consequently, the relevant cost for both the 40 that need to be bought and the 80 already in inventory is the current purchase price of $18.20 each. 120 × $18.20 = $2,184.

Note 7: Control system

The historic cost of Swipe 1, $5,400, is a ‘sunk’ cost and not relevant to this decision. However, since the company could sell it for $3,000 if it did not use it for this contract, the $3,000 is an opportunity cost here. The current market price for Swipe 1 of $5,450 is totally irrelevant to the decision as T Co has no intention of replacing Swipe 1, since it was bought in error. In addition to the $3,000, there is a modification cost of $4,600, bringing the total cost of converting Swipe

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1 to $7,600. This is still a cheaper option than buying Swipe 2 for $10,800, therefore the company would choose to do the modification to Swipe 1. The cost of $10,800 of a new Swipe 2 system is therefore irrelevant now.

Note 8: Cable

The cable is in regular use by T Co, therefore all 1,000 metres should be valued at the current market price of $1.30 per metre. The $1·20 per metre is a sunk cost and not relevant.


Part (b) asked for an explanation of the costing principles used in (a) and of the implications of the minimum price that had been calculated. Answers to both parts of this requirement were poor. All that candidates had to do for the first part was explain that a relevant cost is a ‘future incremental cash flow’, saying what each one of those three words meant. Then, as regards the implications of the minimum price, the question just required the candidate to identify that this price didn’t include a profit element and a mark-up needed potentially to be added. Also, it could have been stated that the customer might expect this low price in the future etc. Again, out of all the scripts I saw, few candidates scored full marks here.

(b) Relevant costing principles

Relevant costs are those costs that change as a result of making a particular decision. In simple terms, a relevant cost is a future cash flow arising as a direct consequence of a decision. In order for a cost to be relevant to a decision, it must therefore meet all three of these criteria.

Future – any costs which have already been incurred are regarded as ‘sunk’ costs and will prevent a cost from being considered relevant.

Cash flow – the cost must be a cash flow and not just an accounting adjustment, such as a provision for a debt or depreciation. Also, cash flows that are the same for all alternatives are not relevant.

Direct consequence – this criterion means that the cash flow must be incremental. For example, if a cost has already been committed to, then it will arise irrespective of whether the decision goes ahead. It will not therefore meet the ‘direct consequence’ criterion.

Opportunity cost – this is the value of the best alternative that is foregone as a result of making a decision. In the case of the telephone system that Push Co needs for the contract, the foregone sales proceeds of $3,000 are an example of an opportunity cost since, by using the system for this contract, Push Co foregoes these sales proceeds.

[Examiner’s note: candidates would not be required to write all of this for the available marks.]

Significance of minimum price calculated

The cost calculated in part (a) is a starting point only, showing the minimum cost that could be charged to the customer. If T Co charged this price, it would be no better or worse off than if it did not carry out the work, i.e. it would make no profit or loss. This means that T Co would not be rewarded for the risk that it takes in completing the work, unless some kind of a mark-up is also incorporated.

Also, other costs – such as the lunch of $400 – while not incremental to the decision now, have been incurred. Ideally, therefore, T Co should seek to recover them.

It could also be that, for example, in one week’s time, when the engineers are busy completing the delayed contract X, another opportunity comes up that the company has to reject because the engineers are busy on Contract X. Therefore, with hindsight, it would be seen that there was an opportunity cost associated with using the engineers on this work and delaying Contract X.

Furthermore, none of the business’s overheads have been considered in the cost statement and, in the long term, these would need to be covered.

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It is clear, therefore, that the relevant cost calculated in part (a) is only a starting point for T Co to use when deciding how to price the contract. The purpose of accepting contracts is to make profit and increase shareholder wealth. This will only be done if a price higher than the relevant cost of the contract is charged. In setting this price, however, T Co also needs to give consideration to the fact that it hopes to attract future work from Push Co. The price needs to be attractive enough for the customer to return in the future.

EXAM SMART

Pay careful attention to the marking guide for part (b). For six marks in total there are eleven points in the Examiner’s marking guide. The question is also split between:

Relevant costing principles and Pricing implications.

Therefore, aim to make at least six good points spread across these two sub-requirements. Even if you can think of four relevant costing principle issues and only two pricing implications, the marking guide has been adjusted to allow for this!

The Examiner has been very flexible in the marking guide. You could have scored a maximum of four marks on either part of the sub answer with the overall maximum marks available being six.

Marking guide Marks

(a) Costing statement Lunch Engineer costs Technical advisor Site visits Training costs Handsets Control system Cable

1 3 1 1 2 2 3 1

14 (b) Explanation

Relevant costing Future cost / sunk cost Cash flow not accounting adjustment Incremental Committed cost Opportunity cost

1 1 1 1 1

Max 4 Price to be charged Doesn’t incorporate profit Doesn’t cover all costs Ignores fixed costs Contract X – engineer’s time Starting point only Need to make a profit Need to attract future work

1 1 1 1 1 1 1

Maximum for price Max 4

Maximum for (b) overall 6


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Cost volume analysis

2 HAIR CO


Part (a) of this question required candidates to calculate the weighted average contribution to sales ratio for Hair Co. Using the most simple approach for this, firstly then, it was necessary to calculate the individual contribution for each of the products. From this, the total contribution could be calculated by applying the sales volumes to the unit contributions. Then, the total sales figure could be calculated, finishing with the calculation of the ratio by dividing the first figure by the second.

The majority of candidates were able to calculate the unit contributions, which is obviously a very basic F2 skill.

However, many students seemed unclear where to go from here. The most common error was that candidates then simply added together the three unit contributions, added together the three unit selling prices, and divided the former by the latter, giving a contribution to sales ratio of 36.9%. The problem with this calculation is that it does not take into account the relative sales volume of each product and it is not therefore a weighted average contribution to sales ratio but rather just an average contribution to sales ratio.

EXAM SMART

In part (a) you assume that the budgeted sales volumes of the three products represent the standard sales mix. This provides the ‘weightings’ for the contribution to sales ratio.

(a) Weighted average contribution to sales ratio (WA C/S ratio) = total contribution/total sales revenue.

Per unit: C S D $ $ $ Selling price 110 160 120 Material 1 (12) (28) (16) Material 2 (8) (22) (26) Skilled labour (16) (34) (22) Unskilled labour (14) (20) (28)

Contribution 60 56 28

Sales units 20,000 22,000 26,000 Total sales revenue $2,200,000 $3,520,000 $3,120,000 Total contribution $1,200,000 $1,232,000 $728,000

WA C/S ratio = ($1,200,000 + $1,232,000 + $728,000)/($2,200,000 + $3,520,000 + $3,120,000)

= $3,160,000/$8,840,000 = 35.75%

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Part (b) asked candidates to calculate the break-even sales ratio for the company. This is a very simple calculation and was answered correctly by about half of candidates. Follow-on marks were given for using the ratio calculated in part a, even if this ratio was incorrect. All that needed to be done to calculate the break-even sales revenue was for the fixed costs of $640,000 to be divided by the ratio.

EXAM SMART

The importance of keeping going in an exam is evident here. Even if you got stuck on part (a), then marks can still be achieved here using your calculations in part (a) even if it is wrong.

(b) Breakeven sales revenue = fixed costs/C/S ratio

Therefore, breakeven sales revenue = $640,000/35.75% = $1,790,209.70

EXAM SMART

Once the products have been ranked according to their C/S ratios you will need workings for.

Cumulative revenue (starting from NIL). Cumulative profit (starting from a loss equal to the fixed costs ($640k) since if you sell

nothing you will make a loss equal to your fixed costs).

(c) Calculate the individual C/S ratio for each product then rank them according to the highest one first.

Per unit C S D $ $ $ Contribution 60 56 28 Selling price 110 160 120 C/S ratio 0.55 0.35 0.23 Ranking 1 2 3

Product Revenue Cumulative revenue Profit Cumulative profit

$ $ $ $

0 0 0 (640,000) (640,000) Make C 2,200,000 2,200,000 1,200,000 560,000 Make S 3,520,000 5,720,000 1,232,000 1,792,000 Make D 3,120,000 8,840,000 728,000 2,520,000


Answers to this were weak. The main point to identify was the fact that the company would break even earlier if it sold products in order of their CS ratios first. The reality is, however, that the company would neither sell the products in a constant mix or in order of their profitability, therefore the true break-even point would really lie somewhere in the middle of the two.

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(d) If the products are sold in order of the highest ranking first, breakeven can be worked out by taking the fixed costs of $640,000 and dividing them by Product C’s C/S ratio of 0.55, i.e. the exact BEP is $1,163,636. This is substantially earlier than the breakeven point which occurs if the products are all sold in a constant mix, which is $1,790,209, as calculated in (b) above.

The reason for this is obviously because the more profitable product, C, contributes more per unit to fixed costs when being sold on its own, than when a mix of products C, S and D are sold. The weighted average C/S ratio of all three products is only 35.75%, compared to C’s C/S ratio of 55%. Obviously, then, breakeven will occur earlier if C is sold in priority.

In reality, however, the mix of sales will vary throughout the year and Hair Co can neither assume that the products are sold in a constant mix, nor that the most profitable can be sold first.

(e) A multi-product P/V chart shows clearly the minimum the business has to do to breakeven, on the assumption that it sells first the products with the highest C/S ratio.

By highlighting the products with the highest C/S ratios and plotting what each product contributes to profit, the P/V chart can help the business decide which products’ production can be expanded and which products may be discontinued.

The P/V chart can be used for comparison purposes. It can show the impact of different levels of selling price and sales volume on the business’s breakeven point.

Marking guide Marks

(a) Weighted average C/S ratio

Individual contributions 3

Total sales revenue 1

Total contribution 1

Ratio 1

6

(b) Breakeven revenue 2 2

(c) Individual CS ratios 1½

Ranking 1½

Profit and revenue workings 2

5

(d) Discussion

General comments re assumptions (max 2 marks) 1

Each valid point re BEP 1

Max 4

(e) Each valid point re multi-product profit-volume (PV) chart 1 Max 3


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Limiting factors

3 CSC CO


The first part of the question was a typical single limiting factor question, requiring candidates to formulate an optimal production plan and calculate maximum profit. Responses to this question were surprisingly poor given the fairly straightforward nature of the question. The most common errors were firstly ignoring the fact that the company had entered into a contract, and therefore these requirements should be produced first. Secondly there was a requirement to calculate the shortage of material – this was often omitted. Thirdly, many candidates used the dollar value of the limiting material to calculate their production plan, rather than the quantities.

These errors didn’t seem to come from a lack of understanding, more a lack of care. It’s possible that candidates were running short of time by this point, meaning that the requirements and scenarios weren’t read properly. This highlights the importance of good time management during the exam – ensuring that some of the more straightforward marks can be obtained.

EXAM SMART

Markers often see students running out of time on the last question of an exam, and the examiner’s comments here highlight how rushing a question like this can affect performance. You need for (a) to take a little time to plan out the stages of your calculation. There are three questions to answer:

Is there a shortage and how big is it? If there is a shortage, in what order should we be producing the products? How many of each product should be produced?

(a) (Step 1) Calculate the shortage of Betta for the year

Total requirements in grams:

Cakes: grams used per cake 0·5 Expected demand 11,200

Total required: 5,600

Cookies: grams used per cookie 0·20 Expected demand 9,800


Shakes: grams used per shake 1 Expected demand 7,500


Overall total required: 15,060 Less available: 12,000

Shortage: 3,060

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(Step 2) Contribution per gram of Betta and ranking

Cakes

Cookies

Shakes Shakes

(contract) $ $ $ $ Contribution per unit 2·60 1·75 1·20 1·00 Grams of Betta per unit 0·5 0·2 1 1 $ $ $ $ Contribution per gram 5·20 8·75 1·20 1·00 Rank 2 1 3 4

(Step 3) Optimum production plan

Number Total Contri- Total Product To be Grams Grams Cumulative bution Contri- produced per unit per unit grams Per unit bution Shakes (contract) 5,000 1 5,000 5,000 1·00 5,000 Cookies 9,800 0·20 1,960 6,960 1·75 17,150 Cakes 10,080 0·5 5,040 12,000 2·60 26,208

Total contribution 48,358 Less fixed costs (3,000)

Profit 45,358


The second part of this question was a discussion about whether the business should breach the contract they have to supply another business. In general responses were disappointing – candidates focussed purely on the financial factors. Easy marks could be picked up here for realising that breaching a contract will have legal, reputational and ethical issues. Many also wasted their own time by ignoring the note in the requirement – “No further calculations are required.”

EXAM SMART

This part highlights very clearly that you sometimes need to think beyond the numbers and financial factors in F5.

(b) Breach of contract with Encompass Health (EH)

It would be bad for business if CSC Co becomes known as a supplier who cannot be relied on to stick to the terms of its agreements. This could make future potential customers reticent to deal with them.

Even more seriously, there could be legal consequences involved in breaching the contract with EH. This would be costly and also very damaging to CSC Co’s reputation.

If CSC Co lets EH down and breaches the contract, EH may refuse to buy from them anymore and future sales revenue would therefore be lost. Just as importantly, these sales to EH are currently helping to increase the marketability of CSC Co’s shakes. This will be lost if these sales are no longer made.

Therefore, taking these factors into account, it would not be advisable to breach the contract.

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EXAMINER’S COMMENTS: PART (C)

The final part of the question moved on to linear programming with multiple limiting factors. This is generally a popular topic and this was overall well answered. Many candidates attempted this part of the question before any other part of Section C – good examination technique especially when under time pressure.

What this question demonstrated well was that most candidates are comfortable with the steps involved in linear programming; however there is a lack of in depth understanding of how it works. For example, virtually all candidates could identify the iso-contribution line and feasible region when given on a graph, but few could explain what they meant. Many explained what they were for (finding the optimum point), but not that the iso-contribution line shows all points giving the same contribution, or that the feasible region shows all possible production plans that meet all of the constraints. Similarly, most could define slack in the context of scarce resources, but found it harder to identify slack variables from a completed graph.

EXAM SMART

The examiner’s comments for (c) highlight the need for revision if you struggled here, also what you need to revise.

(c) (i) This line is what is called the ‘iso-contribution line’ and it is plotted by finding two

corresponding x and y values for the ‘objective function’. At any point along this line, the mix of cakes and cookies will provide the same total contribution, ‘C’.

Since each cake provides a contribution of $2·60 and each cookie provides a contribution of $1·75, the objective function has been defined as ‘C = 2·6x + 1·75y’. This means that the total contribution will be however many cakes are made (represented by ‘x’) at $2·60 each plus however many cookies are made (represented by ‘y’) at $1·75 each.

The area 0ABCD is called the ‘feasible region’. Any point within this region could be selected and would show a feasible mix of production of cakes and cookies. However, in order to maximise profit, the optimum production mix will be at a point on the edge of the feasible region, not within it.

(ii) The further the iso-contribution line is moved away from the origin, 0, the greater the contribution generated will be. Therefore, a ruler will be laid along the line, making sure it stays at exactly the same angle as the line, and the ruler will then be moved outwards to the furthest vertex (intersection between two constraints) on the feasible region, as represented by either point A, B, C or D. In this case, the optimum point is ‘C’, the intersection of the ‘labour’ constraint and the ‘demand for cakes’ constraint.

(iii) A ‘slack’ value could arise either in relation to a resource or in relation to production of a product. It means that a resource is not being fully utilised or that there is unfulfilled demand of a product. Since the optimum point is the intersection of the labour and the demand for cakes lines, this means that there will be three slack values. First, there will be a slack value for cookies. This means that there will be unsatisfied demand for cookies since the optimum point does not reach as far as the ‘demand for cookies’ line on the graph. Also, there will be slack values for Betta and Singa, which means that both of these materials are not actually the binding constraints, such that there will be more material available than is needed.

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Marking guide Marks

(a) Calculating shortage of Betta Contribution per gram of Betta Ranking Optimum production plan Profit

1-5 1

0-5 2 1

6

(b) Each valid point 1 4

(c) (i) Identification and explanation of the iso-contribution line Identification and explanation of the feasible region

2 2

4

(ii) Explaining how to use line for identification of optimum point Identification of optimum point

1-5 0-5

2

(iii) Explaining what slack values are Identifying Betta as slack Identifying Singa as slack Identifying slack demand for cookies

1 1 1 1

4


Pricing decisions

4 HEAT CO


The requirement to calculate the optimum price and quantity in part (a) was new to the syllabus in June 2011 and about half of candidates seemed not to have revised it and could not attempt it. Many candidates managed to score one or two marks for establishing the demand function. It was really pleasing to see some good attempts at part (a) (ii) which tested the ability to adjust the labour cost for the learning effect. Quite a few answers were perfect.

Probably the most common mistake was including the fixed cost in the cost of the air conditioning unit when it was the marginal cost which was being tested.

At this level it is expected that candidates will have a good understanding of what ‘marginal’ means.

EXAM SMART

Clear assumptions are given credit. The stated omission of fixed overheads from marginal cost is something that the examiner is looking for!

Notice how a methodical approach is not only efficient, but also likely to lead to good marks.

For example in (a) (iii), a clear step-by-step approach is taken – the logic being clearly stated as the answer is built up.

Step 1: Establish the MR function. This will have twice the gradient of whatever price function has been derived in (a)(i). If P = a – bQ then MR = a – 2bQ (given on the formula sheet).

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Step 2: Establish the marginal cost – this will be whatever answer you have derived in (a) (ii).

Step 3: Equate the MR and MC together in order to establish Q Step 4: Whatever Q you derive – substitute into whatever demand function you have

arrived at in (a)(i). This will give your answer for P.

Full marks are given even when your previous answers may be erroneous. It is the method that the markers are looking at.

(a) Profit

In order to ascertain the optimum price, you must use the formula P = a─ bQ

Where P = price; Q = quantity; a = intersection (price at which quantity demanded will be nil); b = gradient of the demand curve.

The approach is as follows.

(i) Establish the demand function

b = change in price/change in quantity = $15/1,000 = 0.015

We know that if price = $735, quantity = 1,000 units

Establish ‘a’ by substituting these values for P, Q and b into our demand function:

735 = a - 0.015Q

15 + 735 = a

Therefore, a = 750.

Demand function is therefore P = 750 – 0.015Q

(ii) Establish marginal cost

The labour cost of the 100th unit needs to be calculated as follows.

Formula: y = axb.

a = 1.5

Therefore, if x = 100 and b= -0.0740005, then y = 1.5 × 100–0·0740005 = 1.0668178

Therefore, cost per unit = 1.0668178 × $8 = $8.5345

Total cost for 100 units = $853.45.

EXAM SMART

You can also do all your workings in hours and then convert to cost at the end of the question.

Remember that in the formula y = axb, ‘y’ represents the AVERAGE time per unit, so to get a total time you then need to multiply by the number of units. The total time for 99 units then needs to be deducted from the total for 100 in order to get the time for the 100th unit.

Time for 100th unit = Total for 100 units – Total for 99 units Time for 100th unit = (1.0668178 × 100) – (1.0676115 × 99) = 0.9882 hrs Labour cost for the 100th unit = 0.9882 × $8 = $7.91 (rounding)

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If x = 99, y = 1.5 × 99–0.0740005 = 1.0676115

Therefore, cost per unit = $8.5408

Total cost for 99 = $845.55

Therefore, cost of 100th unit = $853.45 ─ $845.55 = $7.90

Therefore, total marginal cost = $42 + $7.90 = $49.90

Fixed overheads have been ignored as they are not part of the marginal cost.

(iii) Find profit

(1) Establish the marginal revenue function

MR = a ─ 2bQ MR = 750 ─ 0.03Q

(2) Equate MC and MR

49.90 = 750 – 0.03Q 0.03Q = 700.1 Q = 23,337

(3) Find optimum price

P = 750 – (0.015 × 23,337) = $399.95


Part (b) was really well-answered, with most candidates being able to describe both pricing strategies and suggest a suitable one.

A good, logical approach was adopted by most: explain market skimming, explain penetration pricing and then explain which one would be most appropriate for Heat Co.

(b) (i) Penetration pricing

With penetration pricing, a low price would initially be charged for the Energy Buster. The idea behind this is that the price will make the product accessible to a larger number of buyers and therefore the high sales volumes will compensate for the lower prices being charged. A large market share would be gained and possibly, the Energy Buster might become accepted as the only industrial air conditioning unit worth buying.

The circumstances that would favour a penetration pricing policy are:

Highly elastic demand for the Energy Buster i.e. the lower the price, the higher the demand. The preliminary research does suggest that demand is elastic.

If significant economies of scale could be achieved by Heat Co, then higher sales volumes would result in sizeable reductions in costs. This is not the case here, since learning ceases at 100 units.

If Heat Co was actively trying to discourage new entrants into the market. In this case, new entrants cannot enter the market anyway, because of the patent.

If Heat Co wished to shorten the initial period of the Energy Buster’s life cycle so as to enter the growth and maturity stages quickly. We have no evidence that this is the case for Heat Co, although it could be.

From the above, it can be seen that this could be a suitable strategy in some respects but it is not necessarily the best one.

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(ii) Market skimming

With market skimming, high prices would initially be charged for the Energy Buster rather than low prices. This would enable Heat Co to take advantage of the unique nature of the product, thus maximising sales from those customers who like to have the latest technology as early as possible. The most suitable conditions for this strategy are:

The product is new and different. This is indeed the case with the Energy Buster.

The product has a short life cycle and high development costs that need to be recovered quickly. The life cycle is fairly short and high development costs have been incurred.

Since high prices attract competitors, there needs to be barriers to entry in order to deter competitors. In Heat Co’s case, there is a barrier, since it has obtained a patent for the Energy Buster.

The strength and sensitivity of demand are unknown. Again, this is not the case here.

Once again, the Energy Buster meets only some of the conditions which would suggest that although this strategy may be suitable the answer is not clear cut. The fact that high development costs have been incurred and the life cycle is fairly short are fairly good reasons to adopt this strategy. While we have demand curve data, we do not really know just how reliable this data really is, in which case a skimming strategy may be a safer option.

Marking guide Marks

(a) Profit using demand-based approach

(i) Establish demand function:

Find b 1

Find a 1

Write out demand function 1

3

(ii) Find MC:

Average cost of 100 1

Total cost of 100 1

Average cost of 99 1

Total cost of 99 1

Difference 1

Correct total MC excluding fixed cost 1

6

(iii) Establish MR function 1

Equate MC and MR to find Q 1

Find optimum price 1

3

(b) Market based strategies

Penetration pricing Each valid point 1

Max 4

Market skimming Each valid point 1

Max 4

Max 8


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5 ROBBER CO


This question tested relevant costing within a ‘make or buy’ context. Part (a) asked candidates to advise whether the company in question should manufacture its own components for its burglar alarms or whether it should outsource their supply to Burgistan.

It was quite pleasing to see many candidates making a decent attempt at it.

In the suggested solution, the $4k and $6k machine costs are treated as specific fixed costs and are therefore included in the relevant cost of manufacturing in-house, together with the depreciation. However, is acceptable to assume these costs to be general fixed costs and therefore excluded them for their manufacture cost together with the depreciation.

EXAM SMART

Watch out for the following when working out the relevant costs of making the components.

For keypads the price rise in materials is due to happen half way through the year so half the units produced would be at the old price and half at the new price.

Be careful with heat and power to make sure that you strip out the apportionment of general factory overhead as this can be assumed to going to be incurred regardless of any decision to purchase externally.

For the variable element of the machine costs, firstly calculate what the variable cost per set up is and then scale this for the fact that there will now be more set ups overall (since batch size is being reduced more batches will be needed). Previously 160 set ups (80,000/500) were required and now 200 set ups (80,000/400) will be needed. You therefore need to scale by a factor of 200/160 (or 500/400 as the examiner has shown as it amounts to exactly the same thing)

Make sensible assumptions about the general factory depreciation and insurance.

(a)

Keypads

Display screens

Variable costs $ $ Materials ($160k × 6/12) + ($160k × 1.05 × 6/12) 164,000 ($116k × 1.02) 118,320 Direct labour 40,000 60,000 Machine set-up costs ($26k – $4k) × 500/400 27,500 ($30k – $6k) × 500/400 30,000

231,500 208,320 Attributable fixed costs Heat and power ($64k – $20k)/($88k – $30k) 44,000 58,000 Fixed machine costs 4,000 6,000 Depreciation and insurance ($84/$96k × 40%) 33,600 38,400

81,600 102,400

Total incremental costs of making in-house 313,100 310,720

Cost of buying (80,000 × $4.10/$4.30) 328,000 344,000

Total saving from making 14,900 33,280

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Robber Co should therefore make all of the keypads and display screens in-house

(Note: It has been assumed that the fixed set-up costs only arise if production takes place.)

Alternative method

Keypads Display screens

Relevant costs $ $ Direct materials ($160,000/2) + $160,000/2 × 1.05 164,000 $116,000 × 1.02 118,320 Direct labour 40,000 60,000 Heat and power $64,000 – (50% × $40,000) 44,000 $88,000 – (50% × $60,000) 58,000 Machine set up costs: Avoidable fixed costs 4,000 6,000 Activity related costs (W1) 27,500 30,000 Avoidable depreciation and insurance costs: 40% × $84,000/$96,000 33,600 38,400 Total relevant manufacturing costs 313,100 310,720 Relevant cost per unit: 3.91375 3.884 Cost per unit of buying in 4.1 4.3 Incremental cost of buying in 0.18625 0.416

As each of the components is cheaper to make in-house than to buy in, the company should continue to manufacture keypads and display screens in-house.

Working 1

Current no. of batches produced: 80,000/500 = 160 New no. of batches produced: 80,000/400 = 200 Current cost per batch for keypads: ($26,000 - $4,000)/160 = $137.5 Therefore new activity related batch cost: 200 × $137.5 = $27,500 Current cost per batch for display screens: ($30,000 - $6,000)/160 = $150 Therefore, new activity related batch cost: 200 × $150 = $30,000


Part (b) was more challenging and required candidates to work out the incremental saving per unit from making the two components and then, using key factor analysis, calculate how many of which product should be bought in rather than made in order to increase production.

It produced weaker answers but many candidates were at least able to work out the shortage of hours and the number of units that needed to bought in (without going through the process of ranking the two components), for which they could earn nearly half of the total marks available.

(b) The attributable fixed costs remain unaltered irrespective of the level of production of keypads and display screens, because as soon as one unit of either is made, the costs rise. We know that we will make at least one unit of each component as both are cheaper to make than buy. Therefore they are an irrelevant common cost.

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Keypads

Display screens

$ $ Buy 4.1 4.3 Variable cost of making ($231,500/80,000) 2.89

($208,320/80,000) 2.6

Saving from making per unit 1.21 1.7

Labour hour per unit 0.5 0.75

Saving from making per unit of limiting factor 2.42 2.27

Priority of making 1 2

Total labour hours available = 100,000.

Make maximum keypads i.e. 100,000, using 50,000 labour hours (100,000 x 0.5 hours)

Make 50,000/0.75 display screens, i.e. 66,666 display screens.

Therefore, buy in 33,334 display screens (100,000 – 66,666).

EXAM SMART

In the answer to part (b) above it is not unreasonable to have assumed that the heat & power costs that were not an apportionment of general factory overhead were also part of the variable cost. Including these as part of the variable cost of making would have the following results compared to the Examiner’s answer.

Keypads, VC of making = 2.89 + 0.55 = $3.44, where the $0.55 heat and power per unit is calculated as the total cost per unit of $0.8 less $0.25 (being 50% of the labour direct cost per unit).

Display screens, VC of making = 2.6 + 0.73 = $3.33, where the $0.73 is calculated as the total cost per unit of $1.1 less $0.375 (being 50% of the direct labour cost per unit).

Keypads

Display screens

$ $ Buy 4.1 4.3 Variable cost of making (per above) 3.44 3.33

Saving from making per unit 0.66 0.97

Labour hour per unit 0.5 0.75

Saving from making per unit of limiting factor 1.32 1.29

Priority of making 1 2

As you can see the order of priority is unaffected and so the rest of the solution remains as per the Examiner’s answer.


Part (c) was a straightforward knowledge requirement about the non-financial factors to be considered when outsourcing. The majority of candidates answered very well scoring full marks here although a significant number of candidates brought in financial factors into their answers despite the requirement asking for non- financial factors.

Good points that were raised included consideration of the following:

Reliability and skills of the suppliers - can they sustain quality standards? What if there are any future changes / models, would the suppliers be able to cope?

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Ability of the suppliers to deliver on time; if late, how will this affect customer relations and goodwill?

Will the suppliers maintain confidentiality? The designs are IPR - Intellectual Property Rights, which, if copied, will affect Robber Company's market share.

What about government pressure / power / policies? The decision to outsource could result in a number of redundancies which might make the government bring sanctions against Robber Company.

Loss of the rationale of Robber's existence - if they outsource is this the start of the decline of the manufacturing business?

Exchange rate risks and losses for Robber Co.

EXAM SMART

It is so important to follow the clues given by an Examiner. Non-financial factors requires you to think of issues that, although they may ultimately have a financial impact, in themselves are not measured purely in $!

As usual, it is important not just to state the factor but to add value and clarity. You might want to think of the ‘so what?’ factor. I have stated a fact – so what? Why is it important?

For example:

Robber needs any new supplier to be flexible and able to meet Robber’s needs (fact). If the new supplier were not able to cope with sudden increased demand by Robber for keypads and display screens, then Robber’s production could be delayed causing lost goodwill with its own customers (so what / value added).

(c) Non-financial factors

The company offering to supply the keypads and display screens is a new company. This would make it extremely risky to rely on it for continuity of supplies. Many new businesses go out of business within the first year of being in business and, without these two crucial components, Robber Co would be unable to meet demand for sales of control panels.

Robber Co would need to consider whether there are any other potential suppliers of the components. This would be useful as both a price comparison now and also to establish the level of dependency that would be committed to if this new supplier is used. If the supplier goes out of business, will any other company be able to step in? If so, at what cost?

The supplier has only agreed to these prices for the first two years. After this, it could put up its prices dramatically. By this stage, Robber Co would probably be unable to begin easily making its components in house again, as it would probably have sold off its machinery and committed to larger sales of control panels.

The quality of the components could not be guaranteed. If they turn out to be poor quality, this will give rise to problems in the control panels, leading to future loss of sales and high repair costs under warranties for Robber Co. The fact that the supplier is based overseas increases the risk of quality and continuity of supply, since it has even less control of these than it would if it was a UK supplier.

Robber Co would need to establish how reliable the supplier is with meeting promises for delivery times. This kind of information may be difficult to establish because of the fact that the supplier is a new company. Late delivery could have a serious impact on Robber Co’s production and delivery schedule.

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Marking guide Marks

(a) Incremental cost of buying in

Direct materials ½

Direct labour ½

Heat and light ½

Set-up costs 3

Depreciation and insurance 1

Total cost of making ½

Total cost of buying ½

Saving ½

Conclusion 1

8

Or alternative method

Direct materials ½

Direct labour ½

Heat and power ½

Avoidable fixed costs ½

Activity related costs (W1) 3

Avoidable depreciation and insurance ½

Total relevant manufacturing costs ½

Relevant cost per unit ½

Incremental cost of buying in ½

Conclusion 1

8

(b) If 100,000 control panels made

Variable cost of making per unit 1

Saving from making 1

Saving per labour hour 1

Ranking 1

Make 100,000 keypads 1

Make 66,666 display screens 1

Buy 33,334 display screens 1

7

(c) Non-financial factors

Per factor 1 or 2

Max 5


Risk and uncertainty

6 CEMENT CO


Part (a) should have been easy but only about 5% of candidates got this completely correct. A vast number of candidates applied the probabilities to the profit figures before including the amounts in the table. Many tables were not clearly labelled and few candidates grasped the fact that any unsold bag of cement produces a loss of $4.50 in total ($4 buy-in cost and $0.50 disposal cost).

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EXAM SMART

Pay-off tables have to be carefully constructed.

You must calculate the expected returns at each level of supply and each possible demand level. This will involve nine separate calculations. Remember that if you supply, say, 350,000 bags yet demand is only poor (200,000 bags) then some 150,000 will go unsold, losing $4.50 per bag.

It is very frustrating for markers where elementary mistakes are made. Therefore, question practice is key!

(a) Pay-off table

SUPPLY (no. of bags)

DEM

AN

D

Prob.* 350,000 280,000 200,000 Weather $000 $000 $000

Good 350k 0.25 1,750 (1) 1,400 1,000 Average 280k 0.45 1,085 (2) 1,400 1,000 Poor 200k 0.30 325 640 1,000

* [Tutorial note: The probability column is only shown so as to help in part (b) (iii)’s calculations.]

Profit per bag sold in coming year = $9 - $4 = $5

Loss per bag disposed of = $4 + $0.50 = $4.50

(1) 350,000 × $5 = $1,750,000 (2) [280,000 × $5] - [70,000 × $(4.50)] = $1,085,000 etc

EXAM SMART

For completeness the remaining workings are shown below.

Supply Demand $000 350,000 200,000 (200,000 × $5) – (150,000 × $4.50) 325 280,000 350,000 (280,000 × $5) 1,400 280,000 280,000 (280,000 × $5) 1,400 280,000 200,000 (200,000 × $5) – (80,000 × $4.50) 640 200,000 350,000 (200,000 × $5) 1,000 200,000 280,000 (200,000 × $5) 1,000 200,000 200,000 (200,000 × $5) 1,000

In the exam you don’t need to show workings for all nine outcomes but show enough that the marker can clearly see that you know what you are doing.

EXAMINER’S COMMENTS: PARTS (b) (i), (ii)

Parts (b) (i) and (ii) were fairly well attempted (identifying the level of production using maximin and maximax) but even then, most correct answers were not justified as requested and only therefore scored half marks. It didn’t matter whether justification had been given by either words or numbers ─ but usually, there was neither.

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EXAM SMART

For the maximin and maximax parts of the question, clearly demonstrate why you have made a choice. If, for example, you made a mistake in part (a), you can still get full credit if you correctly use and demonstrate your decision here in part (b). Notice how the Examiner has shown the key numbers and workings for each decision as a clear basis for the answer.

The expected value part of the question is fully explained by clear workings. ‘Think on paper!’

Avoid fundamental mistakes too. You have to work out each possible outcome in part (a) for the three possible supply levels. It is only the supply levels that Cement Co can control – the probabilities relate to the uncertain demand at the various levels

(b) (i) Maximin – identify the worst outcome for each level of supply and choose the highest of

these worst outcomes.

SUPPLY (no. of bags) 350,000 280,000 200,000 $000 $000 $000 Worst 325 640 1,000

The highest of these is $1,000,000 therefore choose to supply only 200,000 bags to meet poor conditions.

(ii) Maximax – identify the best outcome for each level of supply and choose the highest of these best outcomes.

SUPPLY (no. of bags) 350,000 280,000 200,000 $000 $000 $000 Best 1,750 1,400 1,000

The highest of these is $1,750,000, therefore choose to supply 350,000 bags to meet good conditions.

EXAMINER’S COMMENTS: PART (b) (iii)

The requirement to calculate the expected value in part (b) (iii) was worth the most marks and it was really surprising to see that 90% of candidates could not do this.

They seemed to think that the expected value could be calculated by working out the expected demand level (by applying the probabilities to the three demand levels) and then applying this to an expected profit figure. They were confusing the scenario given, where a decision has to be about how much of a product to supply given three alternative levels of supply, to a scenario where there is only supply level available (e.g. a one off event) but there are two sets of uncertainties (e.g. different demand levels and different profit levels.)

In the latter situation, the expected value can be calculated by working out the expected demand and the expected profit, but where there are three potential supply levels, there will be three expected values to calculate, with the highest then being selected.

Candidates are clearly confused in this area and need to study it further.

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(iii) Expected value – use the probabilities provided in order to calculate the expected value of each of the supply levels.

Good (0.25 × $1,750,000) + (0.45 × $1,085,000) + (0.30 × $325,000) = $1,023,250 Average (0.7 × $1,400,000) + (0.3 × $640,000) = $1,172,000 Poor 1 × $1,000,000 = $1,000,000

The expected value of producing 280,000 bags when conditions are average is the highest at $1,172,000, therefore this supply level should be chosen.


The discursive part of this question was answered well in relation to maximin and poorly in relation to expected value, again because of the fundamental misunderstanding described above.

(c) Maximin and expected value decision rules

The ‘maximin’ decision rule looks at the worst possible outcome at each supply level and then selects the highest one of these.

It is used when the outcome cannot be assessed with any level of certainty. The decision maker therefore chooses the outcome which is guaranteed to minimise his losses. In the process, he loses out on the opportunity of making big profits. It is often seen as the pessimistic approach to decision making (assuming that the worst outcome will occur) and is used by decision makers who are risk averse. It can be used for one-off or repeated decisions.

The ‘expected value’ rule calculates the average return that will be made if a decision is repeated again and again. It does this by weighting each of the possible outcomes with their relative probability of occurring. It is the weighted arithmetic mean of the possible outcomes.

Since the expected value shows the long run average outcome of a decision which is repeated time and time again, it is a useful decision rule for a risk neutral decision maker. This is because a risk neutral person neither seeks risk nor avoids it; they are happy to accept an average outcome. The problem often is, however, that this rule is often used for decisions that only occur once. In this situation, the actual outcome is unlikely to be close to the long run average. For example, with Cement Co, the closest actual outcome to the expected value of $1,172,000 is the outcome of $1,085,000. This is not too far away from the expected value but many of the others are really different.

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Marking guide Marks

(a) Pay-off table

Calculation of profit 1

Calculation of loss 1

‘Demand’ label ½

‘Supply’ label ½

Weather column ½

Supply column – 350,000 1½



8

(b) Decision criterion

(i) Maximin

Selecting highest of the low 1

1

(ii) Maximax

Selecting highest of the high 1

1

(iii) Expected value

Calculating EV when good 1

Calculating EV average 1

Calculating EV when poor 1

Selecting highest 1

4

(c) Maximin and EV

Describe maximin 1

Used when outcome cannot be assessed with any certainty 1

Risk averse / pessimistic 1

One-off / repeated decisions 1

Describe EV 2

Risk neutral 1

Repeated decisions 1

Max 6


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1 NEWTOWN SCHOOL


The last question on the paper covered budgeting. It was a mix of calculations and discussion but with the majority of the marks being available for the latter. On the whole, it was well answered.

In part (a) candidates had to recalculate the budget deficit for the year making several adjustments to the figures provided. The calculations were quite straightforward and most candidates scored decent marks on this part of the question. The main error that arose was in relation to the salaries’ cost. Many candidates were unable to split the year into two halves, deduct one staff member’s cost and then apply the pay rise to only half of the year.

But, even if they had managed to do that, many candidates then went on to erroneously inflate the resultant cost of $599,940 by the rate given in the question, even though the pay rise was the relevant increment not the inflation.

EXAM SMART

This should have provided students with many opportunities to score high marks as it tests areas that have been tested in a similar way before and covers basic theoretical knowledge as well.

(a) Budget deficit/surplus

Budgeted income:

Income from pupils registered on 1 June 2013: $724,500 (given in question) Expected number of new joiners: (0.2 × 50) + (0.3 × 20) + (0.5 × 26) = 29 Expected income from new joiners at $900 each = $26,100 Total expected income = $750,600.

Budgeted expenditure:

Repairs and maintenance: $30,000 × 1.03 = $30,900. Salaries: [($620,000 – $26,000)/2] + [($620,000 – $26,000 × 1.02)/2] = $297,000 + $302,940 = $599,940. Expected capital expenditure = (0.7 × $145,000) + (0.3 × $80,000) = $125,500. Total expected expenditure = $756,340.

Budget deficit = $5,740.

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Part (b) was a simple knowledge requirement asking for the advantages and disadvantages of using incremental budgeting. This resulted in a lot of answers scoring full marks.

(b) Discussion of estimates

Advantages

Incremental budgeting is very easy to perform. This makes it possible for a person without any accounting training to build a budget.

Incremental budgeting is also very quick compared to other budgeting methods.

The information required to complete it is also usually readily available.

Disadvantages

On the other hand, incremental budgeting encourages inefficiency because it does not question the preceding year’s figures on which it is based. No-one asks how those figures could be reduced.

Similarly, in some organisations, it encourages slack because departmental managers may attempt to use their entire budget up for one year, even if they do not need to, just to ensure that that cash is available again the next year.

Errors from one year are carried to the next, since the previous year’s figures are not questioned.


Part (c) was again simple knowledge asking for the main steps involved in preparing zero-based budgets. This was again really well answered with lots of answers worth full or nearly full marks.

(c) Zero-based budgeting (ZBB)

The three main steps involved in preparing a zero-based budget are as follows:

(1) Activities are identified by managers. Managers are then forced to consider different ways of performing the activities. These activities are then described in what is called a ‘decision package’, which:

Analyses the cost of the activity; States its purpose; Identifies alternative methods of achieving the same purpose; Establishes performance measures for the activity; Assesses the consequence of not performing the activity at all or of performing it

at different levels.

As regards this last point, the decision package may be prepared at the base level, representing the minimum level of service or support needed to achieve the organisation’s objectives. Further incremental packages may then be prepared to reflect a higher level of service or support.

(2) Management will then rank all the packages in the order of decreasing benefits to the organisation. This will help management decide what to spend and where to spend it. This ranking of the decision packages happens at numerous levels of the organisation.

(3) The resources are then allocated, based on order of priority up to the spending level.

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Finally, part (d) was where the higher level marks were in this question. Candidates had to discuss the extent to which zero-based budgeting could be used by Newtown School to improve the budgeting process. Answers here were weaker but there were still some decent attempts. The main issues arose because candidates didn’t answer the question and instead just wrote about the advantages of the school using ZBB.

(d) Use of ZBB at Newtown School

There is definitely a place for ZBB at Newtown School. At the moment, incremental budgeting is responsible for recurring unexpected cash shortages, which is deterring new pupils from joining the school. Had a deficit been predicted for the year ended 31 May 2013, perhaps $65,000 would not have been spent on improving the school gym, and then it would not have been necessary to close the school kitchen. ZBB would be good to establish the way cash is spent on those activities that are, to a certain extent, discretionary.

For example, although there is a need for pupils to have somewhere to eat lunch, it is not essential for children to have a cooked meal every day. It is essential that children do have somewhere to eat though and, as a bare minimum, they would need an area where they could eat their sandwiches and have access to fresh water. ZBB could be used to put together decision packages which reflect the different levels of service available to the children. For example, the most basic level of service could be the provision of an area for the children to eat a lunch brought from home. The next level would be the provision of some cold and maybe hot food for the children, but on a self-service basis. Finally, the highest level of service would be a restaurant for the children where they get served hot meals at tables. At Newtown School the catering manager could prepare the decision packages and they would then be decided upon by the head teacher, who would rank them accordingly.

Similarly, although some level of sports education is needed, the extent of the different activities offered is discretionary. ZBB could be used to create decision packages for each of these services in order to prioritise them better than they are currently being prioritised.

ZBB takes a long time to implement and would not be appropriate to all categories of expenditure at the school. Much of the budgeting is very straightforward. Incremental budgeting could still be used as a starting point for essential expenditure such as salary costs, provided that changes in staff numbers are also taken into account. There is an element of essential, recurring expenditure in relation to repairs and maintenance too, since the costs of the checks and repairs needed to comply with health and safety standards seem to largely stay the same each year, with an inflationary increase.

Marking guide Marks

(a) Budgeted income Repairs and maintenance Teachers’ salaries Capital expenditure Deficit

2 1

1½ 1 ½

6 (b) Advantages and Disadvantages Two advantages Two disadvantages

2 2

4

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Marking guide Marks

(c) Zero-based budgeting Step 1 Step 2 Step 3

2 2 2

6 (d) Use of ZBB to Newtown School Each point made

1

4


Quantitative analysis

2 MIC CO

(a) Monthly costs

Month

Cumulative number of

batches

Cumulative average

hours per batch

Cumulative total hours

Incremental

number of batches

Incremental total hours

Actual labour

cost per month $

July 1 200 200 1 200 2,400 August (W1) 2 176 352 1 152 1,824 September 4 154.88 619.52 2 267.52 3,210.24 October 8 136.294 1,090.352 4 470.832 5,649.60 November (W2) 16 124.4 1,990.36 8 900.008 10,800.096

Working 1: Calculations for August

Cumulative average hours per batch: 200 × 0·88 = 176 hours

Cumulative total hours = 2 × 176 = 352 hours

Incremental number of batches = cumulative no. of 2 batches for August less cumulative number of 1 batch for July = 1 batch

Incremental total hours = cumulative total hours of 352 for August – 200 for July = 152 hours

Actual labour cost = incremental total hours of 152 × $12 per hour = $1,824

Working 2

Time for 7th batch:

Y = axb = 200 × 7 – 0·1844245

= 139.693 hours

Total time for 7 batches = 136·693 × 7 = 977.851 hours

Total time for 8 batches = 1,090.352 hours.

Therefore, 8th batch took 112·501 hours (1,090.352 – 977.851)

Time for batches 8 – 16 = 112·501 × 8 = 900·008 hours

Therefore, cumulative average time for batches 0 – 16 = 1,090.352 + 900.008 = 1,990.36 hours

Cumulative average time for 16 batches = 1,990·36/16 = 124.4 hours per batch.

Note: The labour costs for November could be arrived at quickly simply by taking the 112.501 hours for the 8th batch, multiplying it by 8 batches and applying this number to the $12 per hour labour cost. This quick calculation is totally sufficient to earn full marks.

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EXAM SMART

This requirement takes you back to the basic principles of learning curves and as the Examiner points out, there are a few ways of arriving at the correct answer. A tabular approach (as above) works well here as we have to find information for consecutive months when output is doubling on a cumulative basis each month. If you are quick at applying the formula for learning curves then it may be faster to use it but either way this should have proven to be a popular requirement.

(b) Implications of end of learning period

The learning period ended at the end of October. This means that from November onwards the time taken to produce each batch of microphones is constant. Therefore, in future, when Mic Co makes decisions about allocating its resources and costing the microphones, it should base these decisions on the time taken to produce the 8th batch. The resource allocations and cost data prepared for the last six months will have been inaccurate since they were based on a standard time per batch of 200 hours.

Mic Co could try to improve its production process so that the learning period could be extended. It may be able to do this by increasing the level of staff training provided. Alternatively, it could try and motivate staff to work harder through payment of bonuses, although the quality of production needs to be maintained.

(c) Involving senior staff at Mic Co in the budget-setting process

EXAM SMART

A good opportunity to show your learnt knowledge of the pro’s and con’s of a top down (imposed) style of budgeting. There are no excuses for not being able to score well in this requirement.

Advantages

Since they are based on information from staff who are most familiar with the department, they are more likely to improve the accuracy of the budget. In Mic Co’s case, the selling price could have been set more accurately and sales may have been higher if the Production Manager had been consulted.

Staff are more likely to be motivated to achieve any targets as it is ‘their’ budget and they therefore have a sense of ownership and commitment. The Production Manager at Mic Co seems resigned to the fact that he is not consulted on budgetary matters.

Morale amongst staff is likely to improve as they feel that their experience and opinions are valued.

Knowledge from a spread of several levels of management is pooled.

Co-ordination is improved due to the number of departments involved in the budget setting process.

Disadvantages

The whole budgeting process is more time consuming and therefore costly.

The budgeting process may have to be started earlier than a non-participative budget would need to start because of the length of time it takes to complete the process.

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Managers may try to introduce budgetary slack, i.e. making the budget easy to achieve so that they receive any budget-based incentives.

Disagreements may occur between the staff involved, which may cause delays and dissatisfaction. In Mic Co’s case, however, the fact that the Production Manager was not consulted has led to disagreement after the event.

Can support ‘empire building’ by subordinates.

Marking guide Marks

(a) Monthly costs Per monthly cost: July–October November

1½

3

Max 9

(b) End of learning period

Each point discussed – maximum

2

Max 4

(c) Advantages and disadvantages Each advantage – maximum Each disadvantage – maximum

2 2

Max 7


Standard costing

3 NOBLE


Many candidates answered this well and easily scored nine out of the 12 marks available, tripping up only on the staff wages and energy costs calculations. There were some candidates who had no idea what a flexed budget was but these were definitely in the minority.

When you prepare a flexed budget, its format should replicate the original budget that it relates to. So, for example, if the original budget totals up variable costs, so should the flexed budget. This makes it easier to compare like with like. Some candidates did not do this but again, they were in the minority and on the whole, the answers were good.

EXAM SMART

Each exam is bound to give some unusual aspects to a question that you will never have seen before. When this happens, take your time to carefully work your way through the requirement. A good example is the staff wages:

Core wages of $9,216 will be paid to staff provided the number of orders does not exceed 50. For every extra five customers over this level – half an hour of overtime has to be

worked by each staff member. In this scenario the average number of orders is 65, some 15 more orders than the 50. His means that 15 ÷ 5 = 3 extra ½ hour shifts have to be worked by all the staff.

The extra cost of this will be 8 staff × 1½ hours × 6 days × 4 weeks × $12/hour = $3,456. The total cost for wages becomes $9,216 + $3,456 -= $12,672

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(a) Flexed budget

Number of meals 1,560 $ $ Food sales (1) 62,400 Drink sales (1) 15,600

Total revenue 78,000 Variable costs: Staff wages (2) (12,672) Food costs (3) (7, 800)

Drink costs (4) (3,120) Energy costs (5) (4,234)

(27,826)

Contribution 50,174 Fixed costs:

Manager’s and chef’s pay (8,600) Rent, rates and depreciation (4,500)

(13,100)

Operating profit 37,074

(1) Food revenue

Food revenue = 1,560 × $40 = $62,400 Drinks revenue = 1,560 × ($2.50 × 4) = $15,600.

(2) Staff wages

Average number of orders per day = 1,560/(6 days × 4 weeks) = 65 per day

Therefore, extra orders = 15 per day

8 staff × 1.5 hours × 6 days × 4 weeks = 288 extra hours

At $12 per hour = $3,456 extra wages.

Total flexed wages = $9,216 + $3,456 = $12,672

(3) Food costs

Food costs = 12.5% × $62,400 = $7,800

(4) Drink costs

Drinks costs = $15,600 × 20% = $3,120

(5) Energy costs

Standard total hours worked = (8 × 6) × 6 days × 4 weeks = 1,152 hours

Extra hours worked = 288 (working 2)

Total hours = 1,152 + 288 = 1,440

At $2.94 per hour = $4,234

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In part (b) candidates were provided with the sales mix contribution variance and the sales quantity contribution variance and asked to describe each of them and identify why they had arisen. Many candidates confused the sales mix with the materials mix and talked about the latter. Also many candidates could not describe the quantity variance or identify why it had arisen.

There is clearly a lack of understanding about variances, with candidates perhaps learning formulae in order to churn out calculations but not really understanding what variances mean to a business. This area needs more work by the majority of students.

(b) The sales mix contribution variance measures the effect on profit of changing the mix of actual sales from the standard mix.

The sales quantity contribution variance measures the effect on profit of selling a different total quantity from the budgeted total quantity.

The mix variance is adverse here. Since meal B generates a higher contribution than meal A, the adverse variance shows that more of meal A must have been sold, relative to B, than budgeted. Since the quantity variance is favourable, this means that the total quantity of meals sold (in the standard mix) was higher than expected, as evidenced by the number of meals sold being 1,560 rather than the budgeted 1,200.


Part (c) was the higher skills marks on the paper. Only a few candidates were able to show that planning and operational variances needed to be calculated, so that the manager would only be assessed on results that were within his control.

EXAM SMART

The examiners often set differentiating requirements in the last part of any question. The key here is to have a go! In part (b) you are told about sales mix and sales quantity variances. Think about what other two sales variances you may know (sales volume, sales price and then potentially analysing these into planning and operational variances).

Sales margin price variances could be subdivided into planning and operational elements. We are told that Noble’s owner told the restaurant manager to run the half-price promotion. It is likely that most of the adverse sales margin price variance can be attributed to a planning variance in that it was outside the control of the restaurant manager.

Similarly the sales margin volume variance for drinks could be calculated and split also into planning and operational elements. Possibly a sales margin mix variance might identify whether the restaurant manager had been able to sell more of the higher margin drinks – even at the half-price discount.

(c) Two other variances

Drink sales

As well as the price variance for drinks sales, the sales margin volume variance could be calculated. This will examine the difference between the standard volume of sales that would ordinarily be expected for this number of customers (1,560 × 4 drinks) compared to the actual

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volume of drinks sold because of the drinks promotion (1,560 × 6 drinks). Since the variance is calculated by applying the increase in volume to the standard margin, this variance will be favourable.

In addition, the total sales margin price variance for drinks sales could be split into an operational and a planning variance.

The manager is only responsible for any operational variance and any part of the sales margin variance that relates to a planning error (i.e. the last minute decision by the owner to run the drinks promotion) should be separated out. This way, the manager will not be held accountable for matters outside of his control.

Food sales

By running the half price drinks offer promotion, more customers have been attracted to the restaurant. Drinks have been treated as a ‘loss leader’ i.e. sold at a low price in order to entice customers. It would therefore be relevant to calculate some variances in relation to food sales in order to show how the drinks promotion has increased food sales. The most obvious one to calculate would be the sales margin volume variance for food sales.

[Examiner’s note: Candidates only needed to mention two variances.]

Marking guide Marks

(a) Flexed budget

Food sales 1

Drink sales 1

Total revenue 1

Staff wages 1½

Food costs 1

Drinks costs 1

Energy costs 1½

Variable costs total 1

Contribution 1

Manager’s and chef’s pay ½

Rent & Rates ½

Operating profit 1

12

(b) Explanation of variances 2

Suggestions of reason for variances 2

4

(c) Variance discussions

Each variance 2

Max 4


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4 BLOCK CO


This was a variance question which included some of the trickier variances for sales quantity and sales mix.

Part (a) asked for calculations of the sales price operational and sales price planning variances. This was really well answered with the majority of candidates scoring the full four marks.

(a) Sales price operational variance: (actual price – market price) × actual quantity

Commodity 3: ($40.40 – $39.10) × 25,600 = $33,280 F

Sales price planning variance: (standard price – market price) × actual quantity

Commodity 3: ($41.60 – $39.10) × 25,600 = $(64,000) A

An alternative approach to the variance calculations for Commodity 3 would be as follows.

Sales price operational variance Commodity 3

Should now $39.10 Did $40.40

Difference $1.30 F Actual sales quantity 25,600 Variance $33,280 F

EXAM SMART

You may be more familiar with the following layout for your variances (sales price variance here shown for illustration. The answer is exactly the same as the Examiner’s:

Sales price operational variance 25,600 units sold Commodity 3 Should now (@$39.10) 1,000,960 Did ($40.40) 1,034,240

Variance ($) 33,280 F

Sales price planning variance Commodity 3

Should now $39·10 Should $41·60

Difference $2·50 A Actual sales quantity 25,600 Variance $64,000 A

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Part (b) tested the sales mix and sales quantity variances. This was well answered by some candidates, with about one third of them scoring full or nearly full marks. The main error that did arise, however, was the failure to realise that the company was using absorption costing, which meant that the variances should have been based on the profit margins of each product rather than the contribution margins. Where candidates made this error, however, they only stood to lose two marks so they could still gain high marks on the question.

In the model answers, profit margins are based on the standard selling prices of each product. However, it was equally acceptable to have based calculations on revised profit margins using the revised selling prices, so full credit was given for using this latter approach.

Apart from using contribution rather than profit to work out the variances, quite a few candidates had calculated their variances using selling prices rather than profit margins.

Finally, another common error was to calculate the sales volume variance rather than the sales quantity variance.

This is an error in understanding, since the sales volume variance is the total variance which breaks down into its two component parts of sales mix and sales quantity.

EXAM SMART

An alternative layout for the mix and quantity variances is shown for illustration purposes as follows:

Sales mix

The budget shows total sales of 84,000 units (30,000+28,000+26,000) and as such the standard mix is in the proportions 30/84:28/84:26/84 for the commodities 1, 2 and 3 respectively. Calculations of the standard profit per unit are as per the examiners workings below.

Comm1 Comm2 Comm3 Total 85,800 actual units sold At the standard mix (30/84:28/84:26/84) 30,643 28,600 26,557 85,800 At the actual mix (i.e. given in question) 29,800 30,400 25,600 85,800

Variance (units) 843 (A) 1,800 (F) 957 (A) 0

Variance ($) @ std profit/unit ($11.2:$4.2:$12)

$9,442 (A) $7,560 (F) $11,484 (A) $13,366 (A)

Sales quantity Comm1 Comm2 Comm3 Total

Actual sales at the standard mix (30/84:28/84:26/84)

30,643

28,600

26,557

85,800

Budget sales (i.e. given in question) 30,000 28,000 26,000 84,000

Variance (units) 643 (F) 600 (F) 557 (F) 1,800

Variance ($) @ std profit/unit ($11.2:$4.2:$12)

$7,202 (F) $2,520 (F) $6,684 (F) $16,406 (F)

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(b) Sales mix variance:

(Actual sales quantity in actual mix at standard margin) – (actual sales quantity in standard mix at standard margin) = $768,640 (w1 & 2) – $782,006 (w3) = $13,366 adverse.

Working 1: Standard margins per unit:

Budgeted machine hours = (30,000 × 0.2) + (28,000 × 0.6) + (26,000 × 0.8) = 43,600. Overhead absorption rate = $174,400/43,600 = $4 per hour.

Product Commodity 1 Commodity 2 Commodity 3 $ $ $ Standard selling price 30 35 41.60 Variable production costs (18) (28.40) (26.40) Fixed production overheads (0.8) (2.4) (3.2)

Standard profit margin 11.20 4.20 12

Working 2: Actual sales quantity in actual mix at standard profit margin:

Product

Actual quantity in actual mix

Standard profit

$ $ Commodity 1 29,800 11.20 333,760 Commodity 2 30,400 4.20 127,680 Commodity 3 25,600 12 307,200

85,800 768,640

Working 3: Actual sales quantity in standard mix at standard profit margin:

Product

Actual quantity in standard mix

Standard profit

$ $ Commodity 1 85,800 × 30/84 = 30,643 11.20 343,202 Commodity 2 85,800 × 28/84 = 28,600 4.20 120,120 Commodity 3 85,800 × 26/84 = 26,557 12 318,684

85,800 782,006

The sales quantity variance = (actual sales quantity in standard mix at standard margin) – (budgeted sales quantity in standard mix at standard profit margin) = $782,006 (w3 above) – $765,600 (w4) = $16,406 favourable.

Working 4: Budgeted sales quantity in standard mix at standard profit margin:

Product

Quantity

Standard profit

$ $ Commodity 1 30,000 11.20 336,000 Commodity 2 28,000 4.20 117,600 Commodity 3 26,000 12 312,000

84,000 765,600

(c) The calculations above have shown that, as regards the sales price, there is a $23,360 favourable operational variance and a $54,680 adverse planning variance. In total, these net off to a sales price variance of $31,320 adverse. The sales manager can only be responsible for a variance to the extent that he controls it. Since the standard selling prices are set by a consultant, rather than the sales manager, the sales manager can only be held responsible for the operational variance. Given that this was a favourable variance of $23,360, it appears that he has performed well, achieving sales prices which, on average, were higher than the market prices at the time. The consultant’s predictions, however, were rather inaccurate, and it is these that have caused an adverse variance to occur overall in relation to sales price.

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As regards sales volumes, the mix variance is $13,366 adverse and the quantity variance is $16,406 favourable, meaning that the total volume variance is $3,040 favourable. This is because total sales volumes were higher than expected, although it is apparent that the increased sales related to the lower margin Commodity 2, with sales of Commodity 1 and Commodity 3 actually being lower than budget.

The total variance relating to sales is $28,280 adverse. This looks poor but, as identified above, it is due to the inaccuracy of the sales price forecasts made by the consultant. We know that Block Co is facing tough market conditions because of the economic recession and therefore it is not that surprising that market prices were actually a bit lower than originally anticipated. This could be due to the recession hitting even harder in this quarter than in previous ones.

Marking guide Marks

(a) Planning and operational variances Operational variance Planning variance

2 2

4 (b) Mix and quantity variances Standard profit per unit Mix variance Quantity variance

4 4 3

11 (c) Discussion Each valid comment

1

5



5 TRUFFLE CO


This was a straight forward variance question. It should have been well-answered but it wasn’t, apart from part (a). In part (a), the requirement asked for calculations of the total labour rate and total efficiency variances. These were very simple calculations on which about half of candidates scored full marks. The most common error that occurred was that candidates used a standard cost of $6 an hour rather than the correct standard cost of $12 per hour. The $6 given in the question was the standard cost of labour for each batch, but given that a batch only takes half an hour, it was necessary to identify that this figure needed to be doubled to arrive at the standard cost per hour rather than per batch. It is really important to read the question carefully when picking up key information.

(a) Basic variances

Standard cost of labour per hour = $6/0.5 = $12 per hour.

Labour rate variance = (actual hours paid × actual rate) – (actual hours paid × std rate)

Actual hours paid × std rate = $136,800/0.95 = $144,000

Therefore, rate variance = $144,000 – $136,800 = $7,200 F

Labour efficiency variance = (actual production in std hours – actual hours worked) × std rate

[(20,500 × 0.5) – 12,000] × $12 = $21,000 A

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EXAM SMART

These variances could alternatively be presented as follows.

Labour rate variance $ 12,000hrs paid Should cost ($12/hr) 144,000 Did cost 136,800

Variance 7,200 (F)

Labour efficiency variance hrs 20,500 batches produced Should take (0.5hrs) 10,250 Did take 12,000 Variance 1,750 @ std cost/hr $12

$21,000 (A)


Part (b) was more difficult, with a requirement to analyse each of the variances from part (a) into component parts for planning and operational variances. There were some poor attempts here, with a substantial number of candidates writing about planning and operational variances rather than performing the calculations. This was surprising, given that the requirement was very clear as to what was expected. Only a very small minority of candidates attempted to produce a total planning variance and a total operational variance, without splitting it between rate and efficiency as the question required.

(b) Planning and operational variances

Labour rate planning variance

(Revised rate – std rate) × actual hours paid = [$12 – ($12 × 0.95)] × 12,000 = $7,200 F

Labour rate operational variance

There is no labour rate operational variance.

(Revised rate – actual rate) × actual hours paid = $11.40 ─ $11.40 × 12,000 = 0

Labour efficiency planning variance

(Standard hours for actual production ─ revised hours for actual production) × std rate

(10,250 ─ (20,500 × 0.5 × 1.2)) × $12 = $24,600 A

Labour efficiency operational variance

(Revised hours for actual production – actual hours for actual production) × std rate

(12,300 ─ 12,000) × $12 = $3,600 F

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EXAM SMART: PART (c)

A range of points that are well discussed should score well. If a point made is factual but brief, it will not generally score as well as a point that is developed and expanded. It is not just a matter of quantity of your answer, but quality too.

Compare the following two possible answers:

The Production Manager should only be assessed on operational variances which are controllable.

with The Production Manager should only be assessed on operational variances which are

controllable. Therefore, he cannot claim credit for the favourable labour rate variance ($7,200) since the pay cut was decided centrally and was outside the Manager’s control.

The second point is longer but adds value and elaborates/develops the first point made.

(c) Discussion

When looking at the total variances alone, it looks like the Production Manager has been extremely poor at controlling his staff’s efficiency, since the labour efficiency variance is $21,000 adverse. It also looks, at a glance, like he has managed to secure labour at a lower rate.

In order to assess the Production Manager’s performance fairly, however, only the operational variances should be taken into account. This is because planning variances reflect differences that arise because of factors that are outside the control of the production manager. The operational variance for the labour rate was $0, which means that the labour force were paid exactly what was agreed at the end of October: their reduced rate of $11.40 per hour. The manager clearly did not have to pay anyone for overtime, for example, which would have been expected to push this rate up. The rate reduction was secured by the company and was not within the control of the Production Manager, so he cannot take credit for the favourable rate planning variance of $7,200. The company is the source of this improvement.

As regards labour efficiency, the planning and operational variances give us more information about the total efficiency variance of $21,000 (A). When this is broken down into its two parts, it becomes clear that the operational variance, for which the Manager does have control, is actually $3,600 favourable. This is because, when the recipe is changed as it has been in November, the chocolates usually take 20% longer to make in the first month while the workers are getting used to handling the new ingredient mix. When this is taken into account, it can therefore be seen that workers took less than the 20% extra time that they were expected to take, hence the positive operational variance. The planning variance, on the other hand, is $24,600 adverse. This is because the standard labour time per batch was not updated in November to reflect the fact that it would take longer to produce the truffles. The Manager cannot be held responsible for this.

Overall, then, the Manager has performed well, given the change in the recipe.

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Marking guide Marks

(a) Rate and efficiency variances

Rate variance 2

Efficiency variance 2

4

(b) Planning and operational variances

Labour rate planning variance 2

Labour rate operational variance 2

Labour efficiency planning variance 2

Labour efficiency operational variance 2

8

(c) Discussion

Only operational variances controllable 1

No labour rate operating variance 1

Planning variance down to company, not Manager 2

Labour efficiency total variance looks bad 2

Manager has performed well as regards efficiency 2

Standard for labour time was to blame 2

Conclusion 2

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6 STICKY WICKET


It was good to see an improvement in the variance analysis discussion that was performed in part (a) of the question this time round, compared to December 2009’s variance analysis question. Fewer candidates made meaningless comments such as “the material price variance is favourable, which is good.”

Good comments tended to be along the lines of “whilst there has been a favourable material price variance, this is because cheaper, lower quality materials were used, which, in turn, has led to an adverse material usage variance” (although admittedly, few answers were quite as succinctly constructed as this, but the understanding was there!)

EXAM SMART

Questions where you have to assess performance of an individual require you to focus on the individual and what they have control or influence over. Here the Production Director has decided to use lower-quality material and labour. There are bound to be knock-on effects on a multitude of variances.

For example, the use of inferior material will lead obviously to a favourable material price variance. However, the material usage variance is likely to have been affected by the increased wastage that is likely. Possibly the labour efficiency variance will be influenced by the increased difficulty in working the lower-quality wood.

You will not know for certain if your answer is right but you need to hypothesise. Try to push the point.

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Using words in your written answer such as:

because means that could cause so that therefore resulting in …

…usually force you to think about why something has happened and what the consequences can be.

If you just write a narrative about the variances and fail to focus on the individual manager then you will not score well even if your points are factually sound.

(a) The performance of the Production Director could be looked at considering each decision in turn.

The new wood supplier:

The wood was certainly cheaper than the standard saving $5,100 on the standard the concern though might be poor quality. The usage variance shows that the waste levels of wood are worse than standard. It is possible that the lower grade labour could have contributed to the waste level but since both decisions rest with the same person the performance consequences are the same. The overall effect of this is an adverse variance of $2,400, so taking the two variances together it looks like a poor decision. As the new labour is trained it could be that the wood usage improves and so we will have to wait to be sure.

The impact that the new wood might have had on sales cannot be ignored. No one department within a business can be viewed in isolation to another. Sales are down and returns are up. This could easily be due to poor quality wood inputs. If SW operates at the high quality end of the market then sourcing cheaper wood is risky if the quality reduces as a result.

The lower grade of labour used:

SW uses traditional manual techniques and this would normally require skilled labour. The labour was certainly paid less, saving the company $43,600 in wages. However, with adverse efficiency and idle time of a total of $54,200 they actually cost the business money overall in the first month. The efficiency variance tells us that it took longer to produce the bats than expected. The new labour was being trained in April 2010 and so it is possible that the situation will improve next month. The learning curve principle would probably apply here and so we could expect the average time per bat to be less in May 2010 than it was in April 2010.


Part of the skill in part (b) was in identifying the variances that needed to be calculated. It was good to see that most candidates were able to do this, although a few missed the labour idle time variance.

The calculations were performed with a reasonable degree of accuracy as well, showing that candidates were far better prepared than in previous sitting.

(b) Variance for May 2010:

Material price variance ($196,000/40,000 ─5) × 40,000 = $4,000 Fav Material usage variance (40,000 ─ (19,200 × 2)) × $5/kg = $8,000 Adv Labour rate variance ($694,000/62,000 - 12) × 62,000 = 50,000 Fav Labour efficiency variance (61,500 ─ 57,600) × 12 = 46,800 Adv Labour idle time variance 500 × 12 = 6,000 Adv Sales price variance (68 ─ 65) × 18,000 = 54,000 Adv Sales volume contribution variance (18,000 ─ 19,000) × 22 = 22,000 Adv

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EXAM SMART

Variances could be presented as:

Material price variance $ 40,000kg purchased Should cost ($5/kg) 200,000 Did cost 196,000

Variance 4,000 (F)

Material usage variance kg 19,200 bats produced Should use (2kg) 38,400 Did use 40,000 Variance 1,600 @ std cost/kg $5

$8,000 (A)

Labour rate variance $ 62,000hrs paid Should cost ($12/hr) 744,000 Did cost 694,000

Variance 50,000 (F)

Labour efficiency variance hrs 19,200 bats produced Should take (3hrs) 57,600 Did take 61,500 Variance 3,900 @ std cost/hr $12

$46,800 (A)

Labour idle time variance hrs Hours paid 62,000 Hours worked 61,500 Variance 500 @ std cost/hr $12

$6,000 (A)

Sales price variance $ 18,000 bats sold Should sell for ($68) 1,224,000 Did sell for ($65) 1,170,000

Variance 54,000 (A)

Sales volume variance Budget sales 19,000 Actual sales 18,000 Variance (units) 1,000 Std contribution $22

Variance ($) $22,000 (A)

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Marking guide Marks

(a) Assessment of wood decision 2½

Assessment of labour decision 2½

Sales consequences 2

7

(b) MPV 2

MUV 2

LRV 2

LEV 2

LIT 1

SPV 2

SVCV 2

13


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1 SQUARIZE


The scenario was about a company which sold broadband, telephone and pay-tv services. It had made the decision to stop selling its three products together in a bundle and instead to start selling them separately. In part (a) of the requirements, candidates were asked to identify two goals and two performance measures for each perspective of the balanced scorecard that would help the company assess whether the changes had been successful. The requirement also read ‘justify the use of each performance measure that you choose.’ The reason that this last bit of the requirement was put in was so that candidates would not simply write generic performance measures such as ‘compare net profit margin’ without actually thinking about what was relevant for this company.

There were three main problems with answers. Firstly, by far the biggest issue was that candidates simply made no attempt to answer the requirement given. They didn’t write any objectives or performance measures at all, they simply wrote pages and pages of words about the company, discussing how it was performing and the issues it faced. This was really disappointing. When candidates did answer the requirement, they often did a really good job of it. Many of them laid out their answers using each perspective as a heading and then in columns, showing a goal in the left hand column and a performance measure in the right. Then, underneath each pair they would state their reason for choosing the performance measure. This was a great format as it made sure that answers were focused and covered each part of the requirement. This question gave candidates an opportunity to use the techniques referred to an article on how to answer written questions in F5 which you can find on the ACCA website: always break down a requirement and underline the instruction and the content. Here, there were three pieces of content required: goal, measure and reason. If this approach had been used, answers could have been better.

This brings me on to the second issue. Many candidates who had made a proper attempt at answering the actual requirement simply did not read the requirement carefully enough and therefore did not bother to give their reasons for selecting their performance measure. This meant that they could only score about two thirds of the marks available for this requirement.

The third issue was that a number of candidates simply wrote everything that they knew about the balanced scorecard. Since this was an application not a knowledge requirement, such candidates scored very low marks.

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(a) Goals and measures

Goals Performance Measures Reason

Financial perspective

Increase revenue Percentage increase in total revenue

The changes have been implemented partly in an attempt to increase revenues, so it is sensible to measure the extent to which revenues have actually increased.

Increase operating profit margin

Percentage increase in operating profit

The changes have been implemented partly in an attempt to increase operating profit, so it is sensible to measure the extent to which operating profit has actually increased.

Customer perspective

Increase customer acquisition

Total sales to new customers The fourth change (to standalone products) was made in an attempt to attract new customers. This measure will help to assess whether the change has been successful.

Reduce loss of customers Customer churn rate The first three of the four changes made were made in an attempt to retain customers. This performance measure will help to assess whether the changes have been successful.

Internal business perspective

Reduce number of broadband contracts cancelled

Number of broadband contracts cancelled

This performance measure will enable Squarize to assess whether the improved broadband service has resulted in a reduction of the number of contracts cancelled.

Increase after sales service quality

Percentage of customer requests that are handled with a single call

Squarize transferred its call centre back to its home country. This measure will assess whether that has improved the service quality to customers as a result.

Learning and growth perspective

Increase call centre workers’ skill levels

Number of training hours per employee

This measure will improve the likelihood of customers receiving an improved service. A better public image should result, leading to increased revenues as new customers are attracted to the business.

Increase employees’ satisfaction

Percentage decrease in staff turnover

This measure will also help to improve customer service, thereby improving company image, attracting new customers and increasing revenues in the long term.

[Other reasonable suggestions will be equally acceptable.]

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Part (b) asked for a discussion of how the company could reduce the problem of customers terminating the pay-tv service after only three months. The question was really looking for candidates to identify the fact that firstly, the length of the contract period should be increased and secondly, the equipment should be rented to customers like the broadband and telephone equipment, rather than sold outright to them. Some candidates identified these points straight away whilst others seemed to miss them altogether.

(b) Pay-tv customers currently own the boxes, meaning that a certain number of customers appear

to cancel their contract after the first three months and just keep the set-top box with its free channels. Squarize may want to consider loaning the boxes rather than selling them to the customers at the beginning of the contract.

The company only has a minimum contract period of three months. This seems very short and perhaps the company could consider increasing it to 12 months. Unnecessary administration costs must be arising because it takes time, and therefore money, to set up new customers. If these customers then leave three months later, the company has not had much opportunity to earn profits from the customers generating these costs.

Marking guide Marks

(a) Balanced scorecard Identifying the four perspectives Each goal Each performance measure Each reason

2 ½ ½ 1

16 (b) Customer retention issue Each point discussed – 2 marks

4


2 JUNGLE CO


Question 31 was a ‘traditional’ performance assessment question requiring candidates to discuss the financial and non-financial performance of a business. The scenario gave information about the business, along with any key changes or decisions made by the business over the period. Financial information was given, along with pertinent non-financial statistics.

The key with these questions is to -. Marks will be awarded for explaining WHY something has changed, along with how it might affect other aspects of the business.

Marks are split between calculation and discussion on these questions – the split is usually given in the requirement, and weighted towards the discussion. However, in order to make a meaningful point, calculations are essential. Many candidates were able to pick up a high percentage of the calculation marks available through knowledge of performance measures such as gross and net profit margin. In a question of this type, percentage change is a key measure of performance.

It is worth noting that percentage change will be awarded marks, absolute change will not. The reason for this is that the statement “Revenue has increased by $10m” doesn’t tell me anything about the business’ performance. Is $10m a large change, or insignificant? If last year’s revenue was $50m, a $10m increase (20%) would seem significant. If the prior year revenue was $1,000m, this change is not nearly so impressive (1%).

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When it comes to the discussion, use the calculations to guide you to the key areas to focus on. If administrative expenses have increased by 0.2%, don’t waste any time worrying about why – it’s not significant. Use the scenario and any non-financial information you might have to help explain the performance. If, for example, revenue has increased by 10%, see why that might be. Does the scenario mention average industry growth? If this was 20% then a 10% growth in revenue actually represents a poor performance and a loss in market share. Making these points will add value (and marks!) to your answer. A large reduction in staff training costs (for example) will boost profit margins, but you may find that non-financial performance may suffer (customer complaints, time to provide service).

The most common mistake made by candidates was not applying the above. Most candidates were comfortable calculating percentage movement, but added no value to their calculations. Points such as “Cost of sales has decreased by 18%. This is a good performance.” were common, but apart from the calculation scored no marks. Answers which looked into why cost of sales might have decreased, or what impact that might have had, scored many more marks. In this case, the decrease in cost of sales could partly be put down to a fall in revenue, but the main point is that the scenario explains how the company changed to a cheaper supplier – this would have a direct effect on their cost of sales. Even better answers would discuss how the rise in customer complaints may have been caused by the poor quality of these supplies.

Another common error was to offer the business advice. The requirement clearly stated “discuss the performance,” and marks could not be given for advice. It is really important to read the requirement carefully and answer the question being asked.

Having said all of this, many candidates scored highly by backing up their calculations with sensible commentary, and using the information in the scenario to add weight to their discussion.

EXAM SMART

Key points in the examiner’s comments are highlighted above. The calculations should highlight which areas you spend most time discussing.

The most important skill in the discussion is using all the information in the scenario effectively, to explain the changes in the figures. You also need to see what other areas the changes in figures may affect – eg cost of sales falling because of cheaper materials being used, resulting in a rise in complaints and a fall in demand.

Sales volumes

Since prices have remained stable year on year, it can be assumed that changes to revenue are as a result of increases or decreases in sales volumes. Overall, revenue has increased by 15%, which is a substantial increase. In order to understand what has happened in the business, it is necessary to consider sales by looking at each of the different categories.

Household goods

Although this was the largest category of sales for Jungle Co last year, this year it has decreased by 5% and has now been overtaken by electronic goods. The company changed suppliers for many of its household goods during the year, buying them instead from a country where labour was cheap. It may be that this has affected the quality of the goods, thus leading to decreased demand.

Electronic goods

Unlike household goods, demand for electronic goods from Jungle Co has increased dramatically by 28%. This is now Jungle Co’s leading revenue generator. This is partly due to the fact that the electronic goods market has grown by 20% worldwide. However, Jungle Co has even outperformed this, meaning that it has secured a larger segment of the market.

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Cloud computing service

This area of Jungle Co’s business is growing rapidly, with the company seeing a 90% increase in this revenue stream in the last year. Once again, the company has outperformed the market, where the average growth rate is only 50%, suggesting that the investment in the cloud technology was worthwhile.

Gold membership fees

This area of the business is relatively small but has shrunk further, with a decrease in revenue of 30%. This may be because customers are dissatisfied with the service that they are receiving. The number of late deliveries for Gold members has increased from 2% to 14% since Jungle Co began using its own logistics company. This has probably been at least partly responsible for the massive increase in the number of customer complaints.

Gross profit margins

Overall, the company’s gross profit margin (GPM) has increased from 37% to 42%. Whilst the GPM for electronic goods has only increased by 1 percentage point, the margin for household goods has increased by 10 percentage points. This is therefore largely responsible for the increase in overall GPM. This has presumably occurred because Jungle Co is now sourcing these products from new, cheaper suppliers.

Gold membership fees constitute only a small part of Jungle Co’s income, so their 2 percentage point fall in GPM has had little impact on the overall increase in GPM. Cloud computing services, on the other hand, now make up over $12m of Jungle Co’s sales revenue. For some reason, the GPM on these sales has fallen from 76% to 66%. This is now 14 percentage points less than the market average gross profit margin of 80%. More information is needed to establish why this has happened. It has prevented the overall increase in GPM being higher than it otherwise would have been.

Administration expenses/customer complaints

These have increased by 60% from $1·72m to $2·76m. This is a substantial increase. The costs of the customer service department are in here. Given the number of late deliveries increase from 2% to 14%, and the corresponding increase in customer complaints from 5% to 20%, it is not surprising that the administration costs have increased. As well as being concerned about the impact on profit of this increase of over $1m, Jungle Co should be extremely worried about the effect on its reputation. Bad publicity about reliable delivery could affect future business.

Distribution costs

Despite an increase in sales volumes of 15%, distribution expenses have increased by less than 2 percentage points. They have gone down from $0·16 to $0·14 per $ of revenue. Although this means that Jungle Co has been successful in terms of saving costs, as discussed above, the damage which late deliveries are doing to the business cannot be ignored. The company needs to urgently address the issue of late deliveries.

Net profit margin

This has increased from 19% to 25%. This means that, all in all, Jungle Co has had a successful year, with net profit having increased from $15·6m to $23·8m. However, the business must address its delivery issues if its success is to continue.

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Gross profit margins 31 August 20X6 31 August 20X5 Household goods 40·00% 30·00% Electronic goods 36·00% 35·00% Cloud computing services 65·81% 75·77% Gold membership fees 92·86% 95·00% Overall Net profit margin

42·39% 25·15%

37·19% 18·95%

Increase/decrease in revenue Household goods Electronic goods Cloud computing services Gold membership fees Total revenue increase

–5·27% 28·28% 90·18%

–30·00% 14·99%

Increase/decrease in cost of sales Household goods

–18·80%

Electronic goods Cloud computing services Gold membership fees Total cost of sales increase

26·31% 168·35%

0·00% 5·46%

Increase in administration expenses Increase in distribution expenses Increase in other operating expenses Increase in costs of customer service department ([$1,900,000 – $860,000]/$860,000)

60·47% 1·82%

27·27% 120·93%

31 August 20X6 31 August 20X5 Customer complaints as % customers 19·72% 4·92% Delivery cost per $ of revenue $0·14 $0·16

Marking guide Marks

Sales volumes (up to 2 marks per revenue stream) 8

COS and gross margins 5

Administration expenses/customer complaints 3

Distribution costs/late deliveries 2

Net profit margin 2


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3 PROTECT AGAINST FIRE CO

Ratio analysis Division S

Year on year Division C

Year on year Increase in revenue 44% 9% Increase in material costs 36% 25% Increase in payroll costs 70% 15% Increase in property costs 78% 6% GPM in 2013 56% 65% GPM in 2012 61% 67% Increase in D & M costs 38% 18% Increase in admin costs 6% 0% NPM in 2013 11% 21% NPM in 2012 9% 22% Revenue per employee in 2013 $102,224 $104,917 Revenue per employee in 2012 $111,772 $104,828 Payroll cost per employee in 2013 $27,000 $21,000 Payroll cost per employee in 2012 $25,020 $20,000 Total market size ($ revenue) in 2013 (w.1) $129.48m $80.12m Total market size ($ revenue) in 2012 (w.1) $107.75m $77.61m

Working 1 for market size

Division S 2013: $38,845m/30% = $129.48m Division C 2013: $44,065m/55% = $80.12m

Division S 2012: $26,937/25% = $107.75m Division C 2012: $40,359m/52% = $77.61m

Note: Percentages have been calculated to the nearest 1%.

EXAM SMART

You would not be expected to perform all the calculations above for seven marks. It would be sensible to try and do calculations that allow you to discuss a range of different areas rather than be too narrow.

Remember that when discussing the figures you should try to add some value by considering why the results might have arisen as well as what the implications might be.

Give your answer some structure by making sure you use sensible sub headings and keep your paragraphs nice and short (3-4 lines).

Commentary

General overview

Overall, Division S has performed well in 2013, although it has not managed to meet its objective of becoming market leader despite its $2m advertising campaign. Since it has 30% of the market in 2013 and there are only two competitors holding 70% of the market between them, at least one of those competitors must hold 35% or more of the market.

Revenue and market share

This has increased by a huge 44% in the last year. This compares to an increase of only 9% in Division C. However, part of the reason that this has been achieved is because the changes in fire

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safety laws introduced by the government at the end of 2012 have caused the market for fire products and services to increase from $107.75m to $129.48m. Part of Division S’s success is therefore down to increased opportunity. However, Division S has also increased its market share by a further five percentage points compared to 2012. Division C has only managed a three percentage point increase in its market share, so this is a good result by Division S. One can assume that this is at least partly as a result of the advertising campaign carried out by Division S. However, this did cost a large amount, $2m, and it did not quite enable the Division to achieve its aim of becoming market leader.

Materials costs

The increase in materials costs is 36%, compared to an increase in revenue of 44%. It is difficult to say whether this is good or bad since the increase in revenue includes revenue from services, for which no materials costs would be expected to arise. Further information is needed on the split of revenue between products and services.

Payroll costs, revenue per employee and cost per employee

Payroll costs have increased by a massive 70% and far more than Division C’s 15% increase. This is largely due to the fact that Division S’s employee numbers increased from 241 in 2012 to 380 in 2013. This is a really big increase in employee numbers and has been accompanied by a fall in revenue per employee from $111,772 in 2012 to $102,224 in 2013. It is possible that Division S over-recruited as it hoped to secure a greater level of business than it did through its advertising campaign. Division S’s payroll cost per employee also increased from $25,020 in 2012 to $27,000 in 2013. Presumably, this is because of the fact that there is high demand for staff skilled in this area and Division S has probably had to increase pay in order to attract the calibre of staff which it needs.

Increase in property costs

In percentage terms, the biggest increase in costs which Division S has suffered is in relation to its property costs. They have increased by 78%, compared to Division C’s 6% increase. It would appear that this increase is due to the increased rent charged by Division S’s landlords on its business premises. However, it is not possible to quantify this precisely without further information on rent increases.

Gross profit margin

This has actually fallen from 61% to 56%. Division C has also seen a fall in its GPM, but only a two percentage point fall as opposed to Division S’s 5 percentage point fall. The reasons for Division S’s lower GPM are the higher material, payroll and property costs. Also, Division S did not try to pass on any of its increased costs to its customers in the form of higher prices.

Distribution and marketing costs

These have increased by 38% compared to Division C’s 18%. However, when you take out the advertising costs in both years’ figures and work out the cost increase without them ($8.522m – $7.102m/$7.102m), it leaves an increase of only 20%. This increase would be expected given the 20% increase in world fuel prices which occurred. Division S has to deliver to a wider geographical spread of customers than Division C, so it would be expected to feel the full brunt of fuel price increases.

Administrative costs

These have increased by 6% compared to Division C’s less than 1% increase (0% when rounded down to the nearest percent). Further information is needed about the items included in these cost figures to explain why this increase has arisen.

Net profit margin

Despite challenging cost increases in all categories, Division S has still managed to increase its NPM from 9% to 11%. However, this is substantially lower than the NPM in Division C, which has fallen slightly but is still 21%, almost twice that in Division S. As we have seen, Division S’s GPM is lower than

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Division C’s anyway and, on top of that, Division C has not suffered a big increase in advertising costs like Division S; nor have administrative costs risen inexplicably.

Head Office

There is no information given about Head Office. If the Calana Division is also the Head Office, there could be Head Office costs included in Calana’s figures, which would affect the comparisons being made. Further information is required here.

Marking guide Marks

½ mark per calculation

Per comment – maximum

7

2


4 BISCUITS AND CAKES


This was a straightforward performance measurement question in a divisional context. This type of question is just as core as, for example, the traditional performance measurement question (A T Co) in December 2010’s paper, or the transfer pricing question (Bath Co) in December 2011’s paper. ROI and RI came up in June 2011’s paper too and so this should not have posed problems.

The question required candidates to calculate ‘annualised’ return on investment and residual income for two divisions. The annualisation caused a problem for many candidates. All candidates had to do in order to annualise the ROI and RI was multiply the monthly net profit figure by 12, to reflect the fact that there are twelve months in a year. Many candidates didn’t do this, but they still managed to score the majority of marks available, since a candidate is only ever penalised once for an error.

(a) ROI and RI

Return on investment = net profit/net assets

Division B

$311,000 × 12/$23,200,000 = 16.09%

Division C

$292,000 × 12/$22,600,000 = 15.5%

(b) Residual income B C

$000 $000 Net profit 3,732 3,504 Less: imputed interest charge $22.6 × 10% (2,260) $23.2m × 10% (2,320)

Residual income 1,412 1,244

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In part (c), stronger candidates realised that, in order to discuss the performance of the divisions well, they needed to recalculate the ROI and/or RI using controllable profit. Where candidates did this, they generally accompanied it with some good discussion and scored full marks.

Weaker answers performed other calculations on the two divisions and gave some general commentary, even though the question asked for a discussion ‘using both ROI and RI’.

(c) Performance of the two divisions

ROI

Divisions B and C have ROIs of 16.09% and 15.5% respectively, compared to the target of 20%. This suggests that the divisions have not performed well, but the reason for this is that now, uncontrollable head office costs are being taken into effect before calculating the ROI. The target ROI has not been reduced to reflect the change in the method being used to calculate it. Using the old method, ROI would have been as follows.

B: ($311,000 + $155,000) × 12/$23.2m = 24.1% C: ($292,000 + $180,000) × 12/$22.6m = 25.06%

From this it can be seen that both divisions have actually improved their performance, rather than it having become worse.

RI

From the residual income figures, it can clearly be seen that both Division B and C have performed well, with healthy RI figures of $1.4m and $1.2m respectively, even when using net profit rather than controllable profit as bases for the calculations. The cost of capital of the company is significantly lower than the target return on investment that the company seeks, making the residual income figure show a more positive position.

EXAM SMART

Much of this paper is about signalling and behaviour. Think with this sort of requirement as to how an individual is likely to react to the performance indicators that they are assessed on. If managers are incentivised to attain certain targets (here the ROI levels) then if those incentives are generous enough, the managers will act in a way to protect that position.

This may not be goal congruent but is human nature. If a manager suspects that their bonus is under threat from taking on the new investment, then they will not take on that investment!

Here for example, you could, in theory, just calculate the ROI of the project and see that if it is lower than the existing ROI, the new project will always be rejected. The manager’s and staff bonus could be reduced in the future. However you were required to calculate the total annual(ised) ROI including the new investment – therefore follow the examiner’s instructions.

This requirement again highlights the potential problems of using ROI as a divisional performance tool.

(d) Division B’s ROI with investment

Depreciation = 2,120,000 ─ 200,000/48 months = $40,000 per month.

Net profit for July = 311k + ($600k × 10%) - $40k = $331k

Annualised net profit: $331k × 12 = $3,972k

Opening net assets after investment = $23,200k + $2,120k = $25,320k.

ROI = $3,972k/25,320k = 15.69%

Therefore, Division B will not proceed with the investment, since it will cause a decrease in its ROI.

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If RI is calculated with the investment, the result is as follows.

B $000 Annualised Net Profit 3,972 Less: imputed interest charge $25.32m at 10% (2,532) Residual income 1,440

This calculation shows that, if the investment is undertaken, RI is actually higher than without the investment. The suggestion is, therefore, that the investment should have been proceeded with. So, use of ROI has resulted in behaviour by Division B’s manager that is not good for the company as a whole.

EXAMINER’S COMMENTS: PART (e)

In part (e) candidates were supposed to identify the fact that changing the basis for calculating ROI and using this for performance measurement without changing the target ROI would cause managers to be demotivated.

Many candidates answered this well, although some simply discussed the general problems encountered when using ROI, which were relevant to a degree ─ but shouldn’t have been the sole answer.

(e) Behavioural issues

The staff in both divisions have been used to meeting targets and getting rewarded appropriately. Suddenly, they will find that even though in reality divisional performance has improved, neither division is meeting its ROI target. This will purely be as a result of the inclusion of the head office costs. The whole basis of being assessed on uncontrollable apportioned costs is questionable in the first place. However, if it is going to be done this way, at the least the target ROI must be revised.

Staff are likely to become frustrated with a new system which is inherently unfair. This could give rise to staff organising themselves together in order to oppose the system. At the least, they are likely to become quickly demotivated, working slower than possible and perhaps withdrawing things like voluntary overtime. The cost to the company as a whole is likely to be high and the situation needs to be resolved as quickly as possible.

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Marking guide Marks

(a) ROI/RI calculations

ROI for B 1

ROI for C 1

2

(b) ROI/RI discussion

RI for B 1½

RI for C 1½

3

(c) Discussion

ROI discussion 2

RI discussion 2

Extra ROI calculation under old method 1

Valid conclusion drawn 1

6

(d) ROI/RI after investment

ROI calculation 2

RI calculation 1

Comments and conclusion 2

5

(e) Behavioural issues

ROI of investment Per valid point 1

Max 4


5 MAN CO


In part (a) candidates had to calculate the incremental loss per component for the group if the buying division bought from the external supplier in future. It was a really simple calculation: external buying cost less internal production cost, but most candidates got this wrong. Perhaps it was because they expected it to be more difficult than it was. They also had to work out how many components the supplying division should sell to the buying division if group profits were to be maximised. Again, the answer was simple: all of them. Many candidates got this part correct. It’s worth noting that if a requirement is only worth 3 marks, like this one, the calculations required will be quite short. Some candidates wrote several pages of complex calculations here but should have realised that they were doing something wrong given that the question was only worth 3 marks.

EXAM SMART

The tip from the examiner that the number of marks indicates how complex the calculation will be is worth remembering. It’s possible to waste quite a lot of time on a calculation that’s much complex than the examiner requires.

(a) Maximising group profit

Division L has enough capacity to supply both Division M and its external customers with component L.

Therefore, incremental cost of Division M buying externally is as follows:

Cost per unit of component L when bought from external supplier: $37 Cost per unit for Division L of making component L: $20.

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Therefore incremental cost to group of each unit of component L being bought in by Division M rather than transferred internally: $17 ($37 – 20).

From the group’s point of view, the most profitable course of action is therefore that all 120,000 units of component L should be transferred internally.


Part (b) involved some profit calculations for the divisions and the group, most candidates made a decent attempt at this.

(b) Calculating total group profit

Total group profits will be as follows:

Division L:

Contribution earned per transferred component = $40 – $20 = $20 Profit earned per component sold externally = $40 – $24 = $16

$ 120,000 x $20 2,400,000 160,000 x $16 2,560,000

4,960,000 Less fixed costs (500,000)

Profit 4,460,000

Division M:

Profit earned per component sold externally = $27 – $1 = $26 $ 120,000 x $26 3,120,000 Less fixed costs (200,000)

Profit 2,920,000

Total profit 7,380,000


Part (c) involved some discussion of the problems arising if the transfer price wasn’t changed. Candidates were supposed to identify the fact that, if the transfer price wasn’t changed, the buying division would buy from the external supplier as the divisions had autonomy. However, some candidates failed to notice this point and discussed how demotivating it would be for the buying division instead.

EXAM SMART

The situation where the buying division can buy the component from an external supplier for less than the transfer price is quite common in transfer pricing questions, with the dysfunctional consequences discussed in the answer. Here taking account of internal costs of transfer being lower solves the problem. If you do P5, you may come across situations where the solution to this situation is less easy.

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(c) Problems with current transfer price and suggested alternative

The problem is that the current transfer price of $40 per unit is now too high. Whilst this has not been a problem before since external suppliers were charging $42 per unit, it is a problem now that Division M has been offered component L for $37 per unit. If Division M now acts in its own interests rather than the interests of the group as a whole, it will buy component L from the external supplier rather than from Division L. This will mean that the profits of the group will fall substantially and Division L will have significant unused capacity.

Consequently, Division L needs to reduce its price. The current price does not reflect the fact that there are no selling and distribution costs associated with transferring internally, i.e. the cost of selling internally is $4 less for Division L than selling externally. So, it could reduce the price to $36 and still make the same profit on these sales as on its external sales. This would therefore be the suggested transfer price so that Division M is still saving $1 per unit compared to the external price. A transfer price of $37 would also presumably be acceptable to Division M since this is the same as the external supplier is offering.


Part (d) was a purely written requirement asking candidates to describe the balanced scorecard approach to performance management. Although it was asked in the context of a company, the question was really generic in nature.

There were some really good answers to this, although the structure of answers could have been better. It is really hard to mark a question like this where candidates’ answers are just a ‘sea of words’ i.e. one or two sides of tightly written text with no headings and often not even any paragraphs.

It was appropriate to give a short introduction and then say a little bit about each perspective under its heading. By this stage, candidates need to start writing more professionally, otherwise they are going to be ill-prepared for the Professional level papers, where marks will be specifically allocated for professional writing and well-formatted answers.

Whilst professional marks are not available at this level, candidates should realise that it’s far easier to earn more marks where the candidate clearly separates out the points he or she is making.

EXAM SMART

Think of the markers!

Moving on from the Examiner’s commentary, think of the marker facing two answers from two candidates. One candidate has gone for the seas of words or the wall-of-writing approach. The marker sees a piece of paper filled up from top to bottom and side to side with writing. The only choice the marker has is to wade through the mass of text looking for the relevant points to mark. This takes time and can potentially annoy the marker….not a good move!

The other script has taken time to set out each element of the balanced scorecard under a heading. It will have spaced each section with a blank line between each paragraph. The marker will find this script a lot easier to mark!

You can’t get away here with just listing out the three non-financial perspectives of the scorecard. You need to explain why the four perspectives are relevant as well as the principles behind the scorecard design.

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(d) Customer perspective

The customer perspective considers how Man Co appears to customers. Man Co should ask itself: ‘to achieve our vision, how should we appear to our customers?’.

The customer perspective should identify the customer and market segments in which the divisions will compete. There is a strong link between the customer perspective and the revenue objectives in the financial perspective. If customer objectives are achieved, revenue objectives should be too.

Internal perspective

The internal perspective requires Man Co to ask itself the question – ‘what must we excel at to achieve our financial and customer objectives? It must identify the internal business processes that are critical to the implementation of its strategy.

Learning and growth perspective

The learning and growth perspective requires Man Co to ask itself whether it can continue to improve and create value.

If it is to continue having loyal, satisfied customers and make good use of its resources, it must keep learning and developing. It is critical that it invests in its infrastructure – i.e. people, systems and organisational procedures – in order to provide the capabilities that will help the other three perspectives to be accomplished.

Marking guide Marks

(a) Maximising group profits

Calculating incremental cost per unit 2

Recommendations 1

3

(b) Profit

Profit of L 3

Profit of M 2

Total profit 1

6

(c) Discussion

Transfer price is too high 2

Division M will not buy 1

Profits for group will fall 1

S/D costs should mean lower TP anyway 2

Suggested transfer price 1

6

(d) Customer perspective 2

Internal perspective 2

Learning and growth perspective 2

Max 5


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345

Practice Exam

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346 ACC A F5 Q uest i on Ba nk

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347

ACCA Practice Examination (2016 Specimen)

Paper F5 Performance Management

ON THE FOLLOWING PAGES YOU WILL FIND THE PAPER BASED VERSION OF THE ACCA 2016 SPECIMEN EXAM. IF YOU ARE TAKING THE COMPUTER BASED EXAM, YOU WILL FIND THE LATEST COMPUTER BASED VERSION OF THIS SPECIMEN ON THE ACCA WEBSITE:


You will also find some additional constructed response questions to work through on the ACCA website.

IF YOU ARE TAKING THE COMPUTER BASED EXAM, IT IS VITAL THAT YOU WORK THROUGH THE COMPUTER BASED VERSION OF THE SPECIMEN.

Time allowed: 3 hours 15 minutes

This paper is divided into three sections:

Section A – ALL FIFTEEN questions are compulsory and MUST be attempted. Section B – ALL FIFTEEN questions are compulsory and MUST be attempted. Section C – BOTH questions are compulsory and MUST be attempted.



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348 P ract ic e ex am q ue st io ns ( 2016 S p ec i me n pa p er) ACC A F5 Q uest i on Ba nk

S e c t i o n A ALL 15 questions are compulsory and MUST be attempted.

1 A company manufactures two products, C and D, for which the following information is available:

Product C Product D Total Budgeted production (units) 1,000 4,000 5,000 Labour hours per unit/in total 8 10 48,000 Number of production runs required 13 15 28 Number of inspections during production 5 3 8 Total production set up costs $140,000 Total inspection costs $80,000 Other overhead costs $96,000

Other overhead costs are absorbed on a labour hour basis.

Using activity-based costing, what is the budgeted overhead cost per unit of Product D?

A $43·84 B $46·25 C $131·00 D $140·64 (2 marks)

2 The selling price of Product X is set at $550 for each unit and sales for the coming year are expected to be 800 units.


What is the target cost for each unit of Product X?

A $385·00 B $165·00 C $187·50 D $362·50 (2 marks)

3 P Co makes two products, P1 and P2. The budgeted details for each product are as follows:

P1 P2 $ $

Selling price 10·00 8·00 Cost per unit: Direct materials 3·50 4·00 Direct labour 1·50 1·00 Variable overhead 0·60 0·40 Fixed overhead 1·20 1·00 Profit per unit 3·20 1·60

Budgeted production and sales for the year ended 30 November 20X5 are:

Product P1 10,000 units Product P2 12,500 units

The fixed overhead costs included in P1 relate to apportionment of general overhead costs only. However, P2 also included specific fixed overheads totalling $2,500.

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ACC A F5 Q uest i on Ba nk P ract ic e ex am q ue st io ns ( 2016 S p ec i me n pa p er) 349

If only product P1 were to be made, how many units (to the nearest whole unit) would need to be sold in order to achieve a profit of $60,000 each year?

A 25,625 units B 19,205 units C 18,636 units D 26,406 units (2 marks)

4 Which of the following statements regarding environmental cost accounting are true?

1 The majority of environmental costs are already captured within a typical organisation’s accounting system. The difficulty lies in identifying them

2 Input/output analysis divides material flows within an organisation into three categories: material flows; system flows; and delivery and disposal flows

3 One of the cost categories used in environmental activity-based costing is environment-driven costs which is used for costs which can be directly traced to a cost centre

4 Environmental life-cycle costing enables environmental costs from the design stage of the product right through to decommissioning at the end of its life to be considered

A 1, 2 and 4 B 1 and 4 only C 2, 3 and 4 D 2 and 3 only (2 marks)

5 To produce 19 litres of Product X, a standard input mix of 8 litres of chemical A and 12 litres of chemical B is required.

Chemical A has a standard cost of $20 per litre and chemical B has a standard cost of $25 per litre.

During September, the actual results showed that 1,850 litres of Product X were produced, using a total input of 900 litres of chemical A and 1,100 litres of chemical B.

The actual costs of chemicals A and B were at the standard cost of $20 and $25 per litre respectively.

Based on the above information, which of the following statements is true?

A Both variances were adverse B Both variances were favourable C The total mix variance was adverse and the total yield variance was favourable D The total mix variance was favourable and the total yield variance was adverse (2 marks)

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6 A budget is a quantified plan of action for a forthcoming period. Budgets can be prepared using a variety of different approaches.

Which of the following statements regarding approaches to budgeting are correct? 1 Incremental budgeting builds previous inefficiencies into the budget whereas zero-based

budgeting encourages employees to avoid wasteful expenditure

2 Beyond budgeting uses adaptive management processes and plans on a rolling basis 3 Activity-based budgeting ensures that the budget is continually updated by adding a new

budget period once the most recent budget period has ended 4 Flexible budgeting recognises different cost behaviour patterns and so takes into account

the organisation’s overall strategy during the budget process A 1 and 2 only B 1, 2 and 4 C 3 and 4 D 1 and 3 (2 marks)

7 A leisure company owns a number of large health and fitness resorts, but one is suffering from declining sales and is predicted to make a loss in the next year. As a result management have identified a number of possible actions:

1 Shut down the resort and sell off the assets 2 Undertake a major upgrade to facilities costing $4·5m 3 Undertake a minor upgrade to facilities costing $2m

The upgrades are predicted to have variable results and the probability of good results after a major upgrade is 0·8, whereas the probability of good results after a minor upgrade is 0·7.

The company is risk neutral and has prepared the following decision tree.

Which decision should the company make?

A Shutdown and sell B Undertake the major upgrade C Undertake the minor upgrade D Undertake the major upgrade if results are good (2 marks)

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8 A company has the following production planned for the next four weeks. The figures reflect the full capacity level of operations. Planned output is equal to the maximum demand per product.

Product A B C D $ per unit $ per unit $ per unit $ per unit

Selling price 160 214 100 140 Raw material cost 24 56 22 40 Direct labour cost 66 88 33 22 Variable overhead cost 24 18 24 18 Fixed overhead cost 16 10 8 12 Profit 30 42 13 48

Planned output 300 125 240 400 Direct labour hours per unit 6 8 3 2

It has now been identified that labour hours available in the next four weeks will be limited to 4,000 hours.

In what order should the products be manufactured, assuming that the company wants to maximise profits in the next four weeks?

A D, A, C, B B D, B, A, C C B, A, D, C D D, C, A, B (2 marks)

9 Def Co provides accounting services to government departments. On average, each staff member works six chargeable hours per day, with the rest of their working day being spent on non-chargeable administrative work. One of the company’s main objectives is to produce a high level of quality and customer satisfaction.

Def Co has set its targets for the next year as follows:

1 Cutting departmental expenditure by 5%

2 Increasing the number of chargeable hours handled by advisers to 6·2 per day

3 Obtaining a score of 4·7 or above on customer satisfaction surveys

Which of the following options allocates the above targets to the correct value for money performance category?

Economy Efficiency Effectiveness A 1 3 2 B 2 1 3 C 3 2 1 D 1 2 3

(2 marks)

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10 Different types of information systems provide the information which organisations need for strategic planning, management and operational control.

Which of the following statements are correct?

1 Management information systems (MIS) summarise internal data into periodic reports

2 Transaction processing systems (TPS) facilitate the immediate processing of data

3 Executive information systems (EIS) utilise dashboard facilities and interactive graphics

4 Enterprise resource planning systems (ERPS) can be set up with extranet links to suppliers and customers

A 1, 2 and 3 only B 1 and 3 only C 2 and 4 only D 1, 2, 3 and 4 (2 marks)

11 The following are all types of costs associated with management information:

1 Use of bar coding and scanners

2 Payroll department’s processing of personnel costs

3 Completion of timesheets by employees

4 Input of data into the production system

Which of the above are examples of direct data capture costs?

A 1 and 3 only B 1, 3 and 4 C 2 and 3 D 1 and 4 only (2 marks)

12 Which of the following statements regarding life-cycle costing are correct?

1 It can be applied not only to products but also to an organisation’s customers

2 It includes any opportunity costs associated with production

3 The maturity phase is characterised by a rapid build-up in demand

4 Often between 70% to 90% of costs are determined early in the product life cycle

A 1, 2 and 4 B 3 and 4 C 1 and 4 only D 2 and 3 (2 marks)

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13 A company manufactures a product which requires four hours per unit of machine time. Machine time is a bottleneck resource as there are only ten machines which are available for 12 hours per day, five days per week. The product has a selling price of $130 per unit, direct material costs of $50 per unit, labour costs of $40 per unit and factory overhead costs of $20 per unit. These costs are based on weekly production and sales of 150 units.

What is the throughput accounting ratio?

A 1·33 B 2·00 C 0·75 D 0·31 (2 marks)

14 Ox Co has two divisions, A and B. Division A makes a component for air conditioning units which it can only sell to Division B. It has no other outlet for sales.

Current information relating to Division A is as follows:

Marginal cost per unit $100 Transfer price of the component $165 Total production and sales of the component each year 2,200 units Specific fixed costs of Division A per year $10,000

Cold Co has offered to sell the component to Division B for $140 per unit. If Division B accepts this offer, Division A will be closed.

If Division B accepts Cold Co’s offer, what will be the impact on profits per year for the group as a whole?

A Increase of $65,000 B Decrease of $78,000 C Decrease of $88,000 D Increase of $55,000 (2 marks)

15 Which of the following statements regarding Fitzgerald and Moon’s Building Blocks model are correct?

1 The determinants of performance are quality, innovation, resource utilisation and competitiveness

2 Standards are targets for performance and should be fair, achievable and controllable

3 Rewards encourage staff to work towards the standards and should be clear, motivating and controllable

4 It is a performance measurement framework particularly suitable for service organisations

A 1, 2 and 3 B 2 and 3 only C 3 and 4 D 1, 2 and 4 (2 marks)

(30 marks)

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S e c t i o n B ALL 15 questions are compulsory and MUST be attempted.

GLAM CO The following scenario relates to questions 16–20.

Glam Co is a hairdressing salon which provides both ‘cuts’ and ‘treatments’ to clients. All cuts and treatments at the salon are carried out by one of the salon’s three senior stylists. The salon also has two salon assistants and two junior stylists.

Every customer attending the salon is first seen by a salon assistant, who washes their hair; next, by a senior stylist, who cuts or treats the hair depending on which service the customer wants; then finally, a junior stylist who dries their hair.

The average length of time spent with each member of staff is as follows:

Cut Hours Treatment Hours Assistant 0·1 0·3 Senior stylist 1·0 1·5 Junior stylist 0·6 0·5

The salon is open for eight hours each day for six days per week. It is only closed for two weeks each year. Staff salaries are $40,000 each year for each senior stylist, $28,000 each year for each junior stylist and $12,000 each year for each of the assistants. The cost of cleaning products applied when washing the hair is $1·50 per client. The cost of all additional products applied during a ‘treatment’ is $7·40 per client. Other salon costs (excluding labour and raw materials) amount to $106,400 each year.

Glam Co charges $60 for each cut and $110 for each treatment.

The senior stylists’ time has been correctly identified as the bottleneck activity.

16 What is the annual capacity of the bottleneck activity?

Cuts Treatments

A 2,400 1,600

B 4,800 4,800

C 7,200 4,800

D 9,600 9,600

17 The salon has calculated the cost per hour to be $42·56.

What is the throughput accounting ratio (TPAR) for both services?

Cuts Treatments

A 1·37 1·58

B 1·41 2·38

C 1·37 1·61

D 1·41 2·41

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18 Which of the following activities could the salon use to improve the TPAR?

1 Increase the time spent by the bottleneck activity on each service

2 Identify ways to reduce the material costs for the services

3 Increase the level of inventory to prevent stock-outs

4 Increase the productivity of the stage prior to the bottleneck

5 Improve the control of the salon’s total operating expenses

6 Apply an increase to the selling price of the services

A 1, 2 and 4 B 2, 3 and 5 C 2, 5 and 6 D 1, 4 and 6

19 What would be the effect on the bottleneck if the salon employed another senior stylist?

A The senior stylists’ time will be a bottleneck for cuts only B The senior stylists’ time will be a bottleneck for treatments only C The senior stylists’ time will remain the bottleneck for both cuts and treatments D There will no longer be a bottleneck

20 Which of the following statements regarding the theory of constraints are correct?

1 It focuses on identifying stages of congestion in a process when production arrives more quickly than the next stage can handle

2 It is based on the concept that organisations manage three key factors – throughput, operating expenses and inventory

3 It uses a sequence of focusing steps to overcome a single bottleneck, at which point the improvement process is complete

4 It can be applied to the management of all limiting factors, both internal and external, which can affect an organisation

A 1 and 2 only B 1, 2 and 3 C 2, 3 and 4 D 1, 3 and 4

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CHAIR CO The following scenario relates to questions 21–25.

Chair Co has in development several new products. One of them is a new type of luxury car seat. The estimated labour time for the first unit is 12 hours but a learning curve of 75% is expected to apply for the first eight units produced. The cost of labour is $15 per hour.

The cost of materials and other variable overheads is expected to total $230 per unit. Chair Co plans on pricing the seat by adding a 50% mark-up to the total variable cost per seat, with the labour cost being based on the incremental time taken to produce the 8th unit.

21 What is the labour cost of the 8th unit?

A $45·65 B $75·94 C $4·32 D $3·04

22 The first phase of production has now been completed for the new car seat. The first unit actually took 12·5 hours to make and the total time for the first eight units was 34·3 hours, at which point the learning effect came to an end.

Chair Co are planning on adjusting the price to reflect the actual time it took to complete the 8th unit.

What was the actual rate of learning which occurred?

A 65·7% B 58·6% C 70·0% D 76·5%

23 Another product which Chair Co has in development is a new design of high chair for feeding young children. Based on previous experience of producing similar products, Chair Co had assumed that a learning rate of 85% would apply to the manufacture of this new design but after the first phase of production had been completed, management realised that a learning rate of 80% had been achieved.

Which of the following statements could explain why the actual rate of learning differed from the rate which was expected?

1 Staffing levels were stable during the first manufacturing phase

2 There were machine breakdowns during production

3 Assembly of the chairs was manual and very repetitive

4 There was high staff turnover during this period

5 There were minimal stoppages in the production process 6 The design of the chair was changed several times at this early phase

A 2, 3 and 4 B 1, 3 and 5 C 1, 5 and 6 D 2, 4 and 6

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24 Chair Co uses cost-plus pricing.

Which of the following statements regarding cost-plus pricing strategies are correct?

1 Marginal cost-plus pricing is easier where there is a readily identifiable variable cost

2 Full cost-plus pricing requires the budgeted level of output to be determined at the outset

3 Cost-plus pricing is a strategically focused approach as it accounts for external factors

4 Cost-plus pricing requires that the profit mark-up applied by an organisation is fixed

A 1, 2 and 4 B 1 and 2 only C 3 and 4 D 1 and 3

25 Chair Co has also developed a new type of office chair and management is trying to formulate a budget for this product. They have decided to match the production level to demand, however, demand for this chair is uncertain.

Management have collected the following information: Demand Probability

(units) Worst possible outcome 10,000 0·3 Most likely outcome 22,000 0·5 Best possible outcome 35,000 0·2

The selling price per unit is $25. The variable cost per unit is $8 for any production level up to 25,000 units. If the production level is higher than 25,000 units, then the variable cost per unit will decrease by 10% and this reduction will apply to all the units produced at that level.

Total fixed costs are estimated to be $75,000.

Using probabilistic budgeting, what is the expected budgeted contribution of the product?

A $282,000 B $357,000 C $287,600 D $362,600

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HI LIFE CO The following scenario relates to questions 26–30.

The Hi Life Co (HL Co) makes sofas. It has recently received a request from a customer to provide a one-off order of sofas, in excess of normal budgeted production. The order would need to be completed within two weeks. The following cost estimate has already been prepared:

$ Direct materials: Fabric 200 m2 at $17 per m2 3,400 Wood 50 m2 at $8·20 per m2 410 Direct labour: Skilled 200 hours at $16 per hour 3,200 Semi-skilled 300 hours at $12 per hour 3,600 Factory overheads 500 hours at $3 per hour 1,500 Total production cost 12,110 General fixed overheads as 10% of total production cost 1,211 Total cost 13,321

A quotation now needs to be prepared on a relevant cost basis so that HL Co can offer as competitive a price as possible for the order.

26 The fabric is regularly used by HL Co. There are currently 300 m2 in inventory, which cost $17 per m2. The current purchase price of the fabric is $17·50 per m2.

The wood is regularly used by HL Co and usually costs $8·20 per m2. However, the company’s current supplier’s earliest delivery time for the wood is in three weeks’ time. An alternative supplier could deliver immediately but they would charge $8·50 per m2. HL Co already has 500 m2 in inventory but 480 m2 of this is needed to complete other existing orders in the next two weeks. The remaining 20 m2 is not going to be needed until four weeks’ time.

What is the cost of the fabric and the wood which should be included in the quotation?

Fabric Wood A $3,500 $419 B $3,400 $419 C $3,500 $255 D $0 $255

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27 The skilled labour force is employed under permanent contracts of employment under which they must be paid for 40 hours per week’s labour, even if their time is idle due to absence of orders. Their rate of pay is $16 per hour, although any overtime is paid at time and a half. In the next two weeks, there is spare capacity of 150 labour hours. There is no spare capacity for semi-skilled workers. They are currently paid $12 per hour or time and a half for overtime. However, a local agency can provide additional semi-skilled workers for $14 per hour. What cost should be included in the quotation for skilled labour and semi-skilled labour?

Skilled Semi-skilled A $3,600 $4,200 B $1,200 $4,200 C $3,600 $5,400 D $1,200 $5,400

28 Of the $3 per hour factory overheads costs, $1·50 per hour reflects the electricity costs of running the cutting machine which will be used to cut the fabric and wood for the sofas. The other $1·50 per hour reflects the cost of the factory supervisor’s salary. The supervisor is paid an annual salary and is also paid $15 per hour for any overtime he works.

He will need to work 20 hours’ overtime if this order is accepted.

What is the cost which should be included in the quotation for factory overheads? A $1,050 B $1,800 C $750 D $300

29 Which statement correctly describes the treatment of the general fixed overheads when preparing the quotation?

A The overheads should be excluded because they are a sunk cost B The overheads should be excluded because they are not incremental costs C The overheads should be included because they relate to production costs D The overheads should be included because all expenses should be recovered

30 Which of the following statements about relevant costing are TRUE? 1 An opportunity cost will always be a relevant cost even if it is a past cost 2 Fixed costs are always general in nature and are therefore never relevant 3 Committed costs are never considered to be relevant costs 4 An opportunity cost represents the cost of the best alternative forgone 5 Notional costs are always relevant as they make the estimate more realistic 6 Avoidable costs would be saved if an activity did not happen and so are relevant 7 Common costs are only relevant if the viability of the whole process is being assessed 8 Differential costs in a make or buy decision are not considered to be relevant

A 2, 3, 4 and 6 B 1, 2, 5 and 7 C 3, 4, 6 and 7 D 1, 5, 6 and 8

(30 marks)

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S e c t i o n C BOTH questions are compulsory and MUST be attempted

31 CARAD CO Carad Co is an electronics company which makes two types of television – plasma screen TVs and LCD TVs. It operates within a highly competitive market and is constantly under pressure to reduce prices. Carad Co operates a standard costing system and performs a detailed variance analysis of both products on a monthly basis. Extracts from the management information for the month of November are shown below:

Note Total number of units made and sold 1,400 1 Material price variance $28,000 A 2 Total labour variance $6,050 A 3

Notes

(1) The budgeted total sales volume for TVs was 1,180 units, consisting of an equal mix of plasma screen TVs and LCD screen TVs. Actual sales volume was 750 plasma TVs and 650 LCD TVs. Standard sales prices are $350 per unit for the plasma TVs and $300 per unit for the LCD TVs. The actual sales prices achieved during November were $330 per unit for plasma TVs and $290 per unit for LCD TVs. The standard contributions for plasma TVs and LCD TVs are $190 and $180 per unit respectively.

(2) The sole reason for this variance was an increase in the purchase price of one of its key components, X. Each plasma TV made and each LCD TV made requires one unit of component X, for which Carad Co’s standard cost is $60 per unit. Due to a shortage of components in the market place, the market price for November went up to $85 per unit for X. Carad Co actually paid $80 per unit for it.

(3) Each plasma TV uses 2 standard hours of labour and each LCD TV uses 1·5 standard hours of labour. The standard cost for labour is $14 per hour and this also reflects the actual cost per labour hour for the company’s permanent staff in November. However, because of the increase in sales and production volumes in November, the company also had to use additional temporary labour at the higher cost of $18 per hour. The total capacity of Carad’s permanent workforce is 2,200 hours production per month, assuming full efficiency. In the month of November, the permanent workforce were wholly efficient, taking exactly 2 hours to complete each plasma TV and exactly 1·5 hours to produce each LCD TV. The total labour variance therefore relates solely to the temporary workers, who took twice as long as the permanent workers to complete their production.

Required:

(a) Calculate the following for the month of November, showing all workings clearly:

(i) The sales price variance and sales volume contribution variance; (4 marks)

(ii) The material price planning variance and material price operational variance; (2 marks)

(iii) The labour rate variance and the labour efficiency variance. (5 marks)

(b) Explain the reasons why Carad Co would be interested in the material price planning variance and the material price operational variance. (9 marks)

(20 marks)

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32 THATCHER INTERNATIONAL PARK (TIP) Thatcher International Park (TIP) is a theme park and has for many years been a successful business, which has traded profitably. About three years ago the directors decided to capitalise on their success and reduced the expenditure made on new thrill rides, reduced routine maintenance where possible (deciding instead to repair equipment when it broke down) and made a commitment to regularly increase admission prices. Once an admission price is paid customers can use any of the facilities and rides for free.

These steps increased profits considerably, enabling good dividends to be paid to the owners and bonuses to the directors. The last two years of financial results are shown below.

20X4 20X5 $ $ Sales 5,250,000 5,320,000 Less expenses: Wages 2,500,000 2,200,000 Maintenance – routine 80,000 70,000 Repairs 260,000 320,000 Directors’ salaries 150,000 160,000 Directors’ bonuses 15,000 18,000 Other costs (including depreciation) 1,200,000 1,180,000 Net profit 1,045,000 1,372,000

Book value of assets at start of year 13,000,000 12,000,000 Dividend paid 500,000 650,000 Number of visitors 150,000 140,000

TIP operates in a country where the average rate of inflation is around 1% per annum.

Required:

(a) Assess the financial performance of TIP using the information given above. (14 marks)

During the early part of 20X4 TIP employed a newly qualified management accountant. He quickly became concerned about the potential performance of TIP and to investigate his concerns, he started to gather data to measure some non-financial measures of success. The data he has gathered is shown below:

Table 1

20X4 20X5 Hours lost due to breakdown of rides (see note 1) 9,000 hours 32,000 hours Average waiting time per ride 20 minutes 30 minutes

Note 1: TIP has 50 rides of different types. It is open 360 days of the year for 10 hours each day

Required:

(b) Assess the QUALITY of the service which TIP provides to its customers using Table 1 and any other relevant data and indicate the RISKS it is likely to face if it continues with its current policies. (6 marks)

(20 marks)

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363

ACCA Practice Examination (2016 Specimen)

Paper F5 Performance Management

Answers

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364 P ract ic e ex am a n swe r s (2 0 16 S pec im en p ap e r) ACC A F5 Q uest i on Ba nk

S e c t i o n A

1 B $46·25

Set-up costs per production run = $140,000/28 = $5,000

Cost per inspection = $80,000/8 = $10,000

Other overhead costs per labour hour = $96,000/48,000 = $2

Overhead costs of product D:

$ Set-up costs (15 x $5,000) 75,000 Inspection costs (3 x $10,000) 30,000 Other overheads (40,000 x $2) 80,000 185,000

Overhead cost per unit = $185,000/4,000 units = $46·25

2 D $362·50

Return: $500,000 × 30% = $150,000

Total sales revenue = $550 × 800 = $440,000

Therefore, total cost = $440,000 – $150,000 = $290,000

Unit cost = $290,000/800 = $362·50

3 C 18,636 units

The number of units required to make a target profit = (fixed costs + target profit)/contribution per unit of P1.

Fixed costs = ($1·20 × 10,000) + ($1·00 × 12,500) – $2,500 = $22,000

Contribution per unit of P = $3·20 + $1·20 = $4·40

($22,000 + $60,000)/$4·40 = 18,636 units

4 B 1 and 4 only

Most organisations do collect data about environmental costs but find it difficult to split them out and categorise them effectively.

Life-cycle costing does allow the organisation to collect information about a product’s environmental costs throughout its life cycle.

The technique which divides material flows into three categories is material flow cost accounting, not input/output analysis.

ABC does categorise some costs as environment-driven costs, however, these are costs which are normally hidden within total overheads in a conventional costing system. It is environment-related costs which can be allocated directly to a cost centre.

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ACC A F5 Q uest i on Ba nk P ract ic e ex am a n swe r s (2 0 16 S pec im en p ap e r) 365

5 D The total mix variance was favourable and the total yield variance was adverse

Mix variance:

Material AQSM AQAM Difference Standard cost Variance (litres) ($/litre) ($)

A 800 900 100 A 20 2,000 A B 1,200 1,100 100 F 25 2,500 F 2,000 2,000 500 F

Yield variance:

Material SQSM AQSM Difference Standard cost Variance (litres) ($/litre) ($)

A 779 800 21 A 20 420 A B 1,168 1,200 32 A 25 800 A 1,947 (W1) 2,000 1,220 A

(W1) 1,850 litres of output should use 1,947 litres of input (1,850/0·95)

6 A 1 and 2 only

An incremental budget builds from the previous year’s figures and so any inefficiencies will be carried forward and zero-based budgeting starts from scratch with each item justified for its inclusion in the budget and so should encourage the identification of waste and non-value adding activities, so Statement 1 is correct.

Beyond budgeting attempts to move away from conforming to a rigid annual budget and uses adaptive processes to encourage management to be responsive to current situations which facilitates the use of rolling forecasts, so Statement 2 is correct.

Rolling budgeting are budgets which are continuously updated throughout the year and so forces managers to reassess plans more regularly, whereas activity-based budgeting involves defining the activities which underpin the financial figures and using the activity to allocate resources for the budget, so Statement 3 is incorrect.

Flexible budgets are designed to show the changes in financial figures based on different activity levels and so will recognise different cost behaviour patterns, however, it is activity-based budgeting which ensures that the overall strategy is taken into account because it attempts to manage the business as interrelated parts, not separate activities, so Statement 4 is incorrect.

7 C Undertake the minor upgrade

EV for major upgrade = (0·80 × $11m) + (0·2 × $7·5m) = $10·3m

EV for minor upgrade = (0·70 × $9m) + (0·3 × $6m) = $8·1m

Decision

Shutdown and sell $5·75m Major upgrade (10·3m – 4·5m) $5·8m Minor upgrade ($8·1m – $2m) $6·1m

As the minor upgrade has the highest expected return that should be the option chosen.

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8 A D, A, C, B

In a single limiting factor situation products should be ranked based on their contribution per unit of limiting factor, which in this case is labour hours.

Product A B C D Contribution per unit ($) 46 52 21 60 Number of labour hours required per unit 6 8 3 2 Contribution per labour hour ($) 7·67 6·50 7·00 30·00 Ranking 2nd 4th 3rd 1st

9 Economy Efficiency Effectiveness

D 1 2 3

Target 1 is a financial target and so assesses economy factors. Target 2 is measuring the rate of work handled by staff which is an efficiency measure. Target 3 is assessing output, so is a measure of effectiveness.

10 D 1, 2, 3 and 4

Management information systems do summarise data from TPS into periodic reports for management to use for decision-making.

Transaction processing systems do facilitate the immediate processing of data.

Executive information systems draw data from the MIS and support senior managers to make strategic decisions. They usually have dashboard and interactive graphics so that the big picture can be seen.

Enterprise resource planning systems can have extranet links set up with customers and suppliers.

11 A 1 and 3 only

Direct data capture is a type of data input in which there is no data entry but instead it is captured for a specific purpose. Therefore, the use of bar coding and scanners and the completion of timesheets are examples of direct data capture costs.

Time spent by the payroll department processing personnel costs and the input of data into the production system are examples of process costs.

12 C 1 and 4 only

Customer life-cycle costing can be used by organisations.

It has been reported that the majority of a product’s costs are determined early on, i.e. at the design phase.

Life-cycle costing does not include any opportunity costs associated with production.

The growth phase is characterised by a rapid increase in demand.

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13 A 1·33

Return per factory hour = ($130 – $50)/4 hours = $20

Factory costs per hour = $20 + ($40/4) = $15

TPAR = $20/$15 = 1·33

14 B Decrease of $78,00

Increase in variable costs per unit from buying in ($140 – $100) =$40

Therefore, total increase in variable costs (2,200 units × $40) = $88,000

Less the specific fixed costs saved if A is shut down = ($10,000)

Decrease in profit = $78,000

15 C 3 and 4

The determinants of performance are quality, innovation, resource utilisation and flexibility. Competitiveness is a result of the determinants.

Standards should be fair, achievable and staff should have ownership of them. Controllability is a feature of the rewards block.

Rewards should be clear, motivating and controllable, so this is correct.

It is a framework designed to attempt to overcome the problems associated with performance management in service companies.

Marking guide Marks

Each question is worth 2 marks 30

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S e c t i o n B

16 Cuts Treatments

C 7,200 4,800

Total salon hours = 8 × 6 × 50 = 2,400 each year.

There are three senior stylists, therefore total hours available = 7,200.

Based on the time taken for each activity, they can perform 7,200 cuts (7,200 hours/1 hour per cut) or 4,800 treatments

(7,200 hours/1·5 hours per treatment).

17 Cuts Treatments

A 1·37 1·58

Cuts

Return per hour = (Selling price – materials)/time taken on the bottleneck = (60 – 1·50)/1 = 58·50

TPAR = Return per hour/cost per hour = 58·50/42·56 = 1·37 (to two decimal places)

Treatments

Return per hour = (Selling price – materials)/time taken on the bottleneck = (110 – 8·90)/1·5 = 67·40

TPAR = Return per hour/cost per hour = 67·40/42·56 = 1·58 (to two decimal places)

18 C 2, 5 and 6

The factors which are included in the TPAR are selling price, material costs, operating expenses and bottleneck time. Increasing the selling price and reducing costs will improve the TPAR. Increasing the time which each service takes on the bottleneck (the senior stylists’ time) will only reduce the number of services they can provide, so this will not improve throughput. Throughput accounting does not advocate the building of inventory as it is often used in a just-in-time environment and there is no point increasing the activity prior to the bottleneck as it will just create a build-up of work-in-progress. Neither of these will improve the rate of throughput through the process.

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19 B The senior stylists’ time will be a bottleneck for treatments only

The existing capacity for each activity is: Cut Treatment

Assistants 48,000 16,000 Senior stylists 7,200 4,800 Junior stylists 8,000 9,600

If another senior stylist is employed, this will mean that their available hours will be (4 × 2,400) = 9,600.

This will give them capacity to now do 9,600 cuts (9,600 hours/1 hour per cut) and 6,400 treatments (9,600 hours/1·5 hours per treatment).

As a result, the senior stylists will still be the bottleneck activity for treatments but for cuts the bottleneck will now be the junior stylists as they can only do 8,000 cuts compared to the senior stylists of 9,600.

20 A 1 and 2 only

The theory of constraints is focused on identifying restrictions in a process and how to manage that restriction (commonly termed a bottleneck).

It is based on the concept of managing throughput, operating expenses and inventory.

It does use a series of focusing steps but it is not complete once the bottleneck has been overcome. In fact, it is an ongoing process of improvement, as once the bottleneck has been elevated it is probable that another bottleneck will appear and the process will continue.

It cannot be applied to all limiting factors as some, particularly those external to the organisation, may be out of the organisation’s control.

21 A $45·65

Learning curve formula = y = axb

Cumulative average time per unit for 8 units: Y = 12 × 8–·415= 5·0628948 hours.

Therefore, cumulative total time for 8 units = 40·503158 hours.

Cumulative average time per unit for 7 units: Y = 12 × 7–·415= 5·3513771 hours.

Therefore, cumulative total time for 7 units = 37·45964 hours.

Therefore, incremental time for 8th unit = 40·503158 hours – 37·45964 hours = 3·043518 hours.

Total labour cost for 8th unit =3·043518 × $15 = $45·65277

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22 C 70·0%

Actual learning rate

Cumulative number of seats produced Cumulative total Cumulative average hours hours per unit 1 12·5 12·5 2 ? 12·5 x r 4 ? 12·5 x r2 8 34·3 12·5 x r3

Using algebra: 34·3 = 8 × (12·5 × r3) 4·2875 = (12·5 × r3) 0·343 = r3 r = 0·70

Therefore, the learning rate was 70%.

23 B 1, 3 and 5

An 80% learning rate means that the learning was faster than expected.

Factors which are present for a learning curve to take effect are a highly manual and repetitive process (so staff can become quicker the more they perform the same series of tasks), no stoppages to production (so the learning rate will not be lost whilst staff are idle) and a stable workforce (so the learning process does not have to keep restarting).

If there is high staff turnover, stoppages in production and continual design changes, then the learning rate will not be effective and should be slower.

24 B 1 and 2 only

As marginal costing is based on variable costs, it is easier when a readily identifiable variable cost has been established.

The budgeted volume of output does need to be determined for full cost-plus pricing as it would be used to calculate the overhead absorption rate for the calculation of the full cost per unit.

Cost-plus pricing is internally focused and a drawback of the technique is that it fails to consider external influences, like competitor pricing strategies.

The mark-up percentage does not have to be fixed; it can vary and be adjusted to reflect market conditions.

25 D $362,600

As the variable cost per unit is changing depending on the production level, contribution for each level needs to be calculated and then the probabilities applied to the outcomes.

Demand Contribution Total Probability Expected budgeted (units) (per unit) contribution contribution 10,000 17·00 170,000 0·3 51,000 22,000 17·00 374,000 0·5 187,000 35,000 17·80 623,000 0·2 124,600

362,600

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26 Fabric Wood A $3,500 $419

Fabric is in regular use, so the replacement cost is the relevant cost (200 m2 × $17·50) = $3,500.

30 m2 of wood will have to be ordered in from the alternative supplier but the remaining 20 m2 which is in inventory and not needed for other work can be used and then replaced by an order from the usual supplier (30 m2 × $8·50) + (20 m2 × $8·20) = $419.

27 Skilled Semi-skilled B $1,200 $4,200

Skilled labour:

There is no cost for the first 150 hours as there is spare capacity. The remaining 50 hours required will be paid at time and a half, which is $16 × 1·5 = $24.

50 hours × $24 = $1,200

Semi-skilled labour:

There is no spare capacity, so the company will either need to pay overtime or hire in additional staff. The cost of paying overtime would be $18 per hour, so it would be cheaper to hire in the additional staff for $14 per hour.

300 hours × $14 = $4,200

28 A $1,050

The electricity costs are incremental as the machine will be used more to produce the new order (500 hours × $1·50) = $750.

The supervisor’s salary is not relevant as it is paid anyway; however, the overtime is relevant (20 hours × $15) = $300.

29 B The overheads should be excluded because they are not incremental costs

The general fixed overheads should be excluded as they are not incremental, i.e. they are not arising specifically as a result of this order. They are not sunk as they are not past costs. This is a common misconception.

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30 C 3, 4, 6 and 7

An opportunity cost does represent the cost of the best alternative forgone, however, if it is an historic (past) cost, it would not be relevant.

Fixed costs can be incremental to a decision and in those circumstances would be relevant.

Committed costs are costs the organisation has already agreed to and can no longer influence and so are not relevant.

Notional costs are used to make cost estimates more realistic; however, they are not real cash flows and are not considered to be relevant.

Avoidable costs are saved if an activity is not undertaken and if this occurs as a result of the decision, then they are relevant.

Common costs are relevant if the whole process is being evaluated; however, they are not relevant to a further processing decision.

Differential costs are relevant in a make or buy decision as the organisation is trying to choose between two options.

Marking guide Marks

Each question is worth 2 marks 30

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S e c t i o n C

31 CARAD CO (a)

(i) Sales price variance and sales volume variance

Sales price variance = (actual price – standard price) × actual volume

Sales Actual Standard Difference Actual price price price volume variance $ $ $ $

Plasma TVs 330 350 –20 750 15,000 A LCD TVs 290 300 –10 650 6,500 A 21,500 A

Sales volume contribution variance = (actual sales volume – budgeted sales volume) × standard margin

Actual Budgeted Sales sales sales Difference Standard volume volume volume margin variance $ $

Plasma TVs 750 590 160 190 30,400 F LCD TVs 650 590 60 180 10,800 F 1,400 1,180 41,200 F

(ii) Material price planning and purchasing operational variances

Material planning variance = (original target price – general market price at time of purchase) × quantity purchased

($60 – $85) × 1,400 = $35,000 A

Material price operational variance = (general market price at time of purchase – actual price paid) x quantity purchased

($85 – $80) × 1,400 = $7,000 F

(iii) Labour rate and labour efficiency variances

Labour rate variance = (standard labour rate per hour – actual labour rate per hour) × actual hours worked

Actual hours worked by temporary workers:

Total hours needed if staff were fully efficient = (750 × 2) + (650 × 1·5) = 2,475.

Permanent staff provide 2,200 hours, therefore excess = 2,475 – 2,200 = 275.

However, temporary workers take twice as long, therefore hours worked = 275 × 2 = 550.

Labour rate variance relates solely to temporary workers, therefore ignore permanent staff in the calculation.

Labour rate variance = ($14 – $18) × 550 = $2,200 A

Labour efficiency variance = (standard labour hours for actual production – actual labour hours worked) × standard rate

(275 – 550) × $14 = $3,850 A

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(b) Explanation of planning and operational variances

Before the material price planning and operational variances were calculated, the only information available as regards material purchasing was that there was an adverse material price variance of $28,000. The purchasing department will be assessed on the basis of this variance, yet, on its own, it is not a reliable indicator of the purchasing department’s efficiency. The reason it is not a reliable indicator is because market conditions can change, leading to an increase in price, and this change in market conditions is not within the control of the purchasing department.

By analysing the materials price variance further and breaking it down into its two components – planning and operational – the variance actually becomes a more useful assessment tool. The planning variance represents the uncontrollable element and the operational variance represents the controllable element. The planning variance is really useful for providing feedback on just how skilled management is in estimating future prices. This can be very easy in some businesses and very difficult in others. Giving this detail could help to improve planning and standard setting in the future, as management will be increasingly aware of factors which could create volatility in their forecasts.

The operational variance is more meaningful in that it measures the purchasing department’s efficiency given the market conditions which prevailed at the time. As can be seen in Carad, the material price operational variance is favourable which demonstrates that the purchasing department managed to acquire the component which was in short supply at a better price than expected. Without this breakdown in the variance, the purchasing department could have been held accountable for the overall adverse variance which was not indicative of their actual performance. This is then a fairer method of assessing performance and will, in turn, stop staff from becoming demotivated.

Marking guide Marks (a)

(i) Sales price variance – Plasma TVs

1

Sales price variance – LCD TVs 1 Sales volume contribution variance – Plasma TVs 1 Sales volume contribution variance – LCD TVs 1 4 (ii) Material price planning variance 1 Material price operational variance 1 2 (iii) Actual hours worked 3 Labour rate variance 1 Labour efficiency variance 1 5 (b) Controllability 2 Material price planning 3 Material price operating 3 Other valid point – planning or operating 1 9 Maximum marks available 20

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32 THATCHER INTERNATIONAL PARK (TIP) (a) TIP’s financial performance can be assessed in a number of ways:

Sales growth

Sales are up about 1·3% (W1) which is a little above the rate of inflation and therefore a move in the right direction. However, with average admission prices jumping about 8·6% (W2) and numbers of visitors falling, there are clearly problems. Large increases in admission prices reduce the value proposition for the customer, it is unlikely that the rate of increase is sustainable or even justifiable. Indeed with volumes falling (down by 6·7% (W6)), it appears that some customers are being put off and price could be one of the reasons.

Maintenance and repairs

There appears to be a continuing drift away from routine maintenance with management preferring to repair equipment as required. This does not appear to be saving any money as the combined cost of maintenance and repair is higher in 20X5 than in 20X4 (possible risks are dealt with in part (b)).

Directors’ pay

Absolute salary levels are up 6·7% (W3), well above the modest inflation rate. It appears that the shareholders are happy with the financial performance of the business and are prepared to reward the directors accordingly. Bonus levels are also well up. It may be that the directors have some form of profit related pay scheme and are being rewarded for the improved profit performance. The directors are likely to be very pleased with the increases to pay.

Wages

Wages are down by 12% (W5). This may partly reflect the loss of customers (down by 6·7% (W6)) if it is assumed that at least part of the wages cost is variable. It could also be that the directors are reducing staff levels beyond the fall in the level of customers to enhance short-term profit and personal bonus. Customer service and indeed safety could be compromised here.

Net profit

Net profit is up a huge 31·3% (W7) and most shareholders would be pleased with that. Net profit is a very traditional measure of performance and most would say this was a sign of good performance.

Return on assets

The profitability can be measured relative to the asset base which is being used to generate it. This is sometimes referred to as ROI or return on investment. The return on assets is up considerably to 11·4% from 8% (W8). This is partly due to the significant rise in profit and partly due to the fall in asset value. We are told that TIP has cut back on new development, so the fall in asset value is probably due to depreciation being charged with little being spent during the year on assets. In this regard it is inevitable that return on assets is up but it is more questionable whether this is a good performance. A theme park (and thrill rides in particular) must be updated to keep customers coming back. The directors of TIP are risking the future of the park.

(b) Quality provision

Reliability of the rides

The hours lost has increased significantly. Equally the percentage of capacity lost due to breakdowns is now approaching 17·8% (W9). This would appear to be a very high number of hours lost. This would surely increase the risk that customers are disappointed being unable to ride. Given the fixed admission price system, this is bound to irritate some customers as they have effectively already paid to ride.

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Average queuing time

Queuing will be seen by customers as dead time. They may see some waiting as inevitable and hence acceptable. However, TIP should be careful to maintain waiting times at a minimum. An increase of 10 minutes (or 50%) is likely to be noticeable by customers and is unlikely to enhance the quality of the TIP experience for them. The increase in waiting times is probably due to the high number of hours lost due to breakdown with customers being forced to queue for a fewer number of ride options.

Safety

The clear reduction in maintenance could easily damage the safety record of the park and is an obvious quality issue.

Risks

If TIP continues with current policies, then they will expose themselves to the following risks:

(i) The lack of routine maintenance could easily lead to an accident or injury to a customer. This could lead to compensation being paid or reputational damage.

(ii) Increased competition. The continuous raising of admission prices increases the likelihood of a new competitor entering the market (although there are significant barriers to entry in this market, e.g. capital cost, land and so on).

(iii) Loss of customers. The value for money which customers see when coming to TIP is clearly reducing (higher prices, less reliability of rides and longer queues). Regardless of the existence of competition, customers could simply choose not to come, substituting another leisure activity instead.

(iv) Profit fall. In the end if customers’ numbers fall, then so will profit. The shareholders, although well rewarded at the moment, could suffer a loss of dividend. Directors’ job security could then be threatened.

Workings:

(W1) Sales growth is $5,320,000/$5,250,000 = 1·01333 or 1·3%.

(W2) Average admission prices were:

20X4: $5,250,000/150,000 = $35 per person

20X5: $5,320,000/140,000 = $38 per person An increase of $38/$35 = 1·0857 or 8·57%.

(W3) Directors’ pay up by $160,000/$150,000 = 1·0667 or 6·7%.

(W4) Directors’ bonus levels up from $15,000/$150,000 or 10% to $18,000/$160,000 or

12·5% of turnover. This is an increase of 3/15 or 20%.

(W5) Wages are down by (1 – $2,200,000/$2,500,000) or 12%.

(W6) Loss of customers is (1 – 140,000/150,000) or 6·7%.

(W7) Profits up by $1,372,000/$1,045,000 = 1·3129 or 31·3%.

(W8) Return on assets:

20X4: $1,045,000/$13,000,000 = 1·0803 or 8·03% 20X5: $1,372,000/$12,000,000 = 1·114 or 11·4%

(W9) Capacity of rides in hours is 360 days × 50 rides × 10 hours per day = 180,000.

20X4 lost capacity is 9,000/180,000 = 0·05 or 5%. 20X5 lost capacity is 32,000/180,000 = 0·177 or 17·8%.

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Marking guide Marks (a) Sales growth 3 Maintenance 3 Directors’ pay 2 Wages 2 Net profit 2 Return on assets 2 14 (b) Reliability of rides 2 Average queuing time 2 Risks 2 6 Maximum marks available 20

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ACC A F5 Q uest i on Ba nk Form u la e Sh e et 379

Formulae Sheet

Learning curve

Y = axb

Where:

Y = cumulative average time per unit to produce x units

a = the time taken for the first unit of output

x = the cumulative number of units produced

b = the index of learning (log LR/log2)

LR = the learning rate as a decimal

Demand curve

P = a – bQ

b = change in pricechange in quantity

a = price when Q = 0

MR = a – 2bQ

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380 Form u la e Sh e et ACC A F5 Q uest i on Ba nk

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