p2-q and as-advanced management accounting- june 2010 dec 2010 and june 2011

8/18/2019 P2-Q and as-Advanced Management Accounting- June 2010 Dec 2010 and June 2011

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ZAMBIA INSTITUTE OF CHARTERED ACCOUNTANTS

PROFESSIONAL LEVEL

P2: Advanced Management Accounting

June 2010

December 2010

June 2011

QUESTION PAPERS AND SUGGESTED SOLUTIONS


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Table of ontents

JUNE 2010 P2: ADVANCED MANAGEMENT ACCOUNTING ................................ 3

SUGGESTED SOLUTIONS ................................................................ 14

DECEMBER 2010 P2: ADVANCED MANAGEMENT ACCOUNTING .............................. 32


JUNE 2011 P2: ADVANCED MANAGEMENT ACCOUNTING .............................. 64



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CHARTERED ACCOUNTANTS EXAMINATIONS

PROFESSIONAL LEVEL

P2: ADVANCED MANAGEMENT ACCOUNTING

SERIES: JUNE 2010

TOTAL MARKS – 100

TIME ALLOWED: THREE (3) HOURS

INSTRUCTIONS TO CANDIDATES

1. You have ten (10) minutes reading time. Use it to study the examination paper carefully so thatyou understand what to do in each question. You will be told when to start writing.

2. There are SEVEN questions in this paper. You are required to attempt any FIVE questions. ALL

questions carry equal marks.

3. Enter your student number and your National Registration Card number on the front of the answer

booklet. Your name must NOT appear anywhere on your answer booklet.

4. Do NOT write in pencil (except for graphs and diagrams).

5. The marks shown against the requirement(s) for each question should be taken as an indication ofthe expected length and depth of the answer.

6. All workings must be done in the answer booklet.

7. Present Value and Annuity Tables are attached at the end of the question paper.

8. Graph paper (if required) is provided at the end of the answer booklet.


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Question 1

Mununshi Ltd has four control periods, namely periods 1, 2, 3 and 4. It started producing and selling a

new type of toy in period 4 of 2008. Toys are produced in batches. The budgeting information for periods

1 and 2 of 2009 is as follows:

(i) All batches produced will be sold in the period of production at K2,400 per batch.

(ii) Estimated production/sales is:

Period 4 Period 1 Period 2

Period/year 2008 2009 2009

Batches 60 90 90

(iii) The labour cost of batch 1 of 2008 was K1,200,000 (at K10,000 per hour). Direct labour is subjectto a learning curve effect of 80%. The labour output rates from the commencement of production

of the product, after adjusting for learning effect, are as below:

Total Batches Produced Cumulative Average Time per Batch

30 40.14 hours

60 32.11 hours

90 28.18 hours

120 25.68 hours

150 23.90 hours

180 22.54 hours

210 21.45 hours

240 20.55 hours

All time will be paid for at K10,000 per hour.

(iv) Variable overhead is estimated at 200% of direct labour cost.

(v) Direct material is used at the rate of 200 units per batch of product for the first 40 batches of

period 4, 2008. Units materials used per batch will fall by 2% of the original level for each 40

batches thereafter due to careful usage. Materials will be bought at K18 per unit throughout

2009.

(v) Fixed costs per period are K50 million.


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Required

(i) Calculate the labour time required for the first batch. (1 mark)

(ii) Calculate the time required for the 5th to 8th batches. (3 mark)(i) Prepare budget summary for each of the periods 1 and 2 of 2009. Total contribution earned

from the product in each period should be shown. All relevant workings should be shown.

(16 marks)

Total : 20 marks)


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Question 2

(a) ‘The balanced scorecard has many advantages as a basis for performance measurement over

raditional management accounting views of performance management’.

Required

(i) Discuss the statement above, including specific examples of quantitative measures for

each aspect of the balanced scorecard. (4 marks)

(ii) Explain three advantages of the balanced scorecard. (3 marks)

(b) Zanga Zine Plc (ZZ Plc) wishes to expand its operations and is considering investing K 90

million in a 5 year project. The project will be fully depreciated at the end of the 5 years. The

rest of the data is as follows.

K’ K’m K’m K’m K’m

Year: 1 2 3 4 5Sales revenues 70 98 106.4 114.8 106.4

Materials (10.7) (15) (18) (21) (18)

Labour (21.4) (30) (36) (42) (36)

Overheads (1) (2) (2 2) (2)

Interest (11.52) (11.52) (11.52) (11.52) (11.52)

Depreciation (18) (18) (18) (18) (18)Total profit 7.38 21.48 20.88 20.28 20.88

The following additional information is also available:

1. Cumulative investment in working capital will be as follows:

Year K’million

0 6

1 8

2 103 12

4 14

5 14

2. Elements of costs and revenue will be affected as follows:

Materials and labour – 10% increase per annum.

Selling prices, working capital and overheads – 5% increase per annum.3. Money post tax cost of capital will be 5% per annum.

4. ZZ plc pays corporation tax on its profits at the rate of 20% - payable one year in arrears.


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5. The above cash flows have been prepared in real terms.

6. The project will qualify for tax depreciation (capital allowances) at the rate of 25% per annumon a reducing balance basis.

Required

Evaluate the project and advise whether it is worthwhile. State clearly any assumptions that you make.

(13 marks)

Total : 20 marks

Question 3

Required

(a) Explain what you understand by management information systems (MIS) (3 marks)

(b) Three types of MIS include Decision Support Systems (DSS), Executive Information Systems

(EIS) and Expert Systems. Explain the decision support systems. (3 marks)

(c) Management accounting information should comply with a number of criteria including verifiability,

objectivity, timeless, comparability, reliability, understandability and relevance if it is to be useful in

planning, control and decision-making.

(i) Explain the meaning of each of the criteria named above and give a specific example toillustrate each. (11 marks)

(ii) Give an explanation of how the criteria detailed in (i) might be in conflict with each other.Giving examples to illustrate where such conflicts might arise. (3 marks)

(Total: 20 marks)


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Question 4

Katundu Transporters Ltd runs a small fleet of trucks as part of its business. The managers of the

company wish to estimate how regularly to replace the trucks. The fleet costs a total of K110,000, 000

and the company has just purchased a new fleet. Operating costs and maintenance costs increase asthe trucks get older. Estimates of these costs and the likely scrap values of the fleet at the end of various

years are presented below.

Year 1 2 3 4 5

K’000 K’000 K’000 K’000 K’000

Operating costs 46,000 49,000 52,000 56,000 88,000

Maintenance costs 13,600 18,400 26,000 34,200 56,000

Scrap value 70,000 48,000 24,000 4,000 400

Katundu Transporters Ltd uses a cost of capital of 15% .

Required:

(a) Evaluate how the company should replace its trucks.

Assume all cash flows occur at the end and are after taxation (where relevant). Ignore inflation.

(8 marks)

(b) Discuss the main problems of this type of evaluation. (3 marks)

(c) (i) Distinguish between ‘hard’ and ‘soft’ capital rationing, explaining why a company may

deliberately choose to restrict its capital expenditure. (6 marks)

(ii) Katundu Transporters Ltd has identified four other investments but has access to only

K700 million to invest in the year to 31 December, 2010. None of the investments isdivisible and they cannot be undertaken more than once. The investments to be undertakenin the year to 31 December 2010 are as follows:

Investment A B C DK’M K’M K’M K’M

Capital required 200 300 280 380NPV 112 150 136 182

Required

If there are no better investments available at this time, which investments if any should Katundu

Transport Ltd undertake? (3 marks)

(Total : 20 marks)


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Question 5

The Mwabona group operates with two divisions: Division A which is operating at full capacity and

Division B which is currently operating with spare capacity. Division A makes two products X and Y. Cost

data in relation to these two products is as follows:

Products X Y

Direct materials K40,000 per unit K30,000 per unit

Production time 4 hours 2 hours

Budget production 4,000 units 2,000 units

The variable overheads including labour of Division A are K200,000,000. These overheads vary based

on production time. Fixed overheads of Division A are budgeted at K300,000,000, and they are absorbedbased on production time. When pricing products, Division A adds 20% onto the total production cost.

The manager of Division B intends asking the manager of Division A for 1,000 units of production X

which he intends to incorporate into a new product Zed. In order to produce Zed, Division B will have

additional variable costs of K30,000. It is expected that the new product will sell for K220,000.

The managers are to meet soon to discuss the possibility of transfer of X from Division B. In informal

negotiations prices of K80,000, K140,000, K170,000 and K195,000 have been mentioned.

Required

(a) Give your views on each of the prices mentioned, recommending a price range which you

consider most appropriate. (14 marks)

(b) Explain three other factors that should be taken into account in relation to the possible transfer of

X to Division B? (6 marks)

Total: 20 marks


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Question 6

Dolly Motors Plc is motor car distributor with 57 cars. 34 of them are Corollas, 15 Camrys and 8

Carinas. The distributor at the moment has three garages requiring cars. Garage A can take 18 cars,

Garage B 18 cars and Garage C 16 cars. The cost of supplying (K’000’s) each car to each garage is as

follows:

Garage A Garage B Garage C

K’000 K’000 K’000

Corollas 50 30 40

Camrys 80 40 50

Carinas 100 70 80

(a) Write out and explain the initial transportation tableau if the problem is to minimize the cost of

transporting the cars from the distributor to the garage. (6 marks)(b) What are the main features of a problem that would lead you to solve it as a transportation

problem?

Illustrate your answer by referring to the above problem. You will need to refer to the

transportation tableau. (14 marks)

(Total 20 marks)


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Question 7

Blessings Ltd produces and sells a sweet chewing gum which requires inputs from two types of

ingredients, X and Y.

The standard cost and revenues per unit are shown below.

K per unit

Ingredient X: 2.5grams at K100 per gram 250

Ingredient Y: 1.5grams at K88 per gram 132

Labour 1.5hours x K40 per hour 60

Variable overhead 1.5hours x K28 per hour 42

Standard variable cost per unit 484

Blessing Ltd budgets to sell all bubble gums at the standard selling price of K800 per unit. Budgeted

production and sales in the quarter to 31st March 2009 were 10,000 units.

Actual results for the quarter ended 31 March 2009 were as follows.

● Ingredient (gum) X: 17,500g at the total cost of K1,820,000

Ingredient (flavours) Y: 25,000g at the total cost of K2,100,000

Labour :15,000hours at the total cost of K770,000

● Variable overhead at the total cost of K460,000

● Actual units produced and sold were 9,000 units

● Total actual revenue raised from 9,000 units was K8,910,000

The respective original prices of K100 and K88 for ingredients X and Y were too high. With the benefit of

hindsight, the more realistic prices to incorporate in the standards for ingredients X and Y should have

been K84 per gram and K76 per gram, respectively. There were no opening and closing inventory during

the quarter under review.

Required

(a) Calculate the material mix and yield variances, planning and operating variances, labourvariances, variable overhead variances and sales variances. (9marks)

(b) Prepare on operating statement reconciling the budgeted contribution to the actual contribution. (5

(c) Explain the benefits of analysing variances into planning and operating, and mix and yieldvariances (6 marks)

Total: 20 marks

END OF PAPER


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JUNE 2010

P2 ADVANCED MANAGEMENT ACCOUNTING

SUGGESTED SOLUTIONS


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Solution 1

(i) Labour time for the first batchLet ‘X’ be the direct labour hours

x × K10,000 = K1,200,000

10,000x = K1,200,000

χ = 120 hours

Batch CAT Total Time Incremental Time

x Y TT

1 120 120

2 96 1924 76.8 307.20

184.32

8 61.44 491.52

Time for 5 – 8 batches =184.32 hours

Budget Summary For Periods 1 and 2 of 2009

Period 1 Period 2_

Batches 90 90

K’000 K’000 K’000 K’000

Sales

(K2,400,000 × 90/90) 216,000 216,000

Variable Cost

Materials 86,200 82,200

Labour (W.2) 16,580 13,470

VOH (200% x

K16,580/K13470) 33,160 26,940

FOH 50,000 50,000

(185,940) (172,610)

Profit/(Loss) 30,060 43,390


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Workings

W/1:Material Cost

Period 1 Units Period Units

20 200 98% = 3,920 10 200 94% = 1,880

40 200 96% = 7680 40 200 92% = 7360

30 200 94% = 5,640 40 200 90% = 7,200

X

17,240

X

16,440

Material price/kg K5,000 K5,000

Total Material Cost 86,200,000 K82,200,000

W.2 Labour Costs

Period 1 Period 2

Hours Hours

Total time for 150 batches Total time for 240

150 x 23.90 = 3,585 (240 x 20.55hrs) = 4,932

Total time for 60 batches Time for 150 batches

60 x 32.11 = 1,927 150 x 23.90 = 3,585

Time for 90 batches 1,658hrs 1,347

K10,000 K10,000

= K16,580,000 K13,470,000

Solution 2

The balanced scorecard consists of a variety of performance indicators both financial and non-financial.

The balanced scorecard addresses the problem identified above by focusing on four different

perspectives, as follows.

(a) The customer perspective gives rise to targets that matter to customers. Examples of measures

might include price as compared with competitors, number of favourable reviews in the press,

‘satisfaction’ levels measured on the basis of customers feedback and product rat ings, or

performance in relation to areas that customers say are important, such as percentage of

deliveries on time.

(b) The internal perspective aims to improve internal processes and decision making. Examples ofmeasures might include length of cycle times, level of waste or idle time and trends in costs.


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(c) The innovation and learning perspective considers the business’s capacity to maintain itscompetitive position through the acquisition of new skills and the development of new products.Examples of measures might include the percentage of sales derived from new products

compared with established ones, time to market, or level of long-term investment in new product

development.

(d) The financial perspective covers traditional measures such as profitability, ROCE, cash flow,growth and shareholder value.Examples of measures might include the percentage of sales derived from new products

compared with established ones, time to market, or level of long-term investment in new product

development.

Advantages of this approach are as follows:

(i) It is related to the key elements of a company’s strategy. It translates strategy into a clear

set of objectives. These are then further translated into a system of performancemeasurements that communicate a powerful message, and provide a forward-looking,strategic focus to everybody in the organization.

(ii) Financial, non-financial and qualitative measures are all considered and are linked together

(iii) The scorecard is ‘balanced’ in the sense that managers are required to think in terms ofall four perspectives, to make sure that improvements made in one area are not made atthe expense of another.

(iv) It forces managers to look at external matters concerning the organization as well asinternal matters.


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(b) (i)

NPV MODEL K’M

Year 0K’m

1K’m

2K’m

3K’m

4K’m

5K’m

6K’m

Initial cost (90)

W/capital (w.1) (6) (2) (3) (3) (3) 17

Cash profit (w.2) 15 35 36 35 36

Tax payable(w.3)

(3) (7) (7) (7) (4)

Ne cash flow (96) 13 29 26 25 46 (4)DF@5% 1.0 0.952 0.907 0.864 0.823 0.784 0.746

PV (96) 12 26 22 21 36 (3)

NPV = K18m

Since the project NPV is positive, the investment may be assumed to be profitable and may be increase

shareholders wealth. Hence it can be undertaken.

Workings

W.1 Incremental working capital p.a.

K’m

Y0 K6 × 1.050 = 6

Y1 8 × 1.051 – K6 × 1.050 = 2

Y2 10 × 1.052 – 8 × 1.051 = 3

Y3 12 × 1.053 – 10 × 1.052 = 3

Y4 14 × 1.054 – 12 × 1.053 = 3

Y5 14 × 1.055 – 14 × 1.054 = 1

18

Y5 working capital release: 14 ×1.055 = 18 – year 5 incremental w/capital

= 18 – 1

= 17

W.2 Cash profit and tax payable K’m

Year 1 2 3 4 5 6


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K’m K’m K’m K’m K’m K’m

Sales

X (1.05) n = 74 108 123 140 136

MaterialsX (x 1.1) n = (12) (18) (24 (31) (29)

Labour

X (1.1) n = (24) (36) (48) (62) (58)

Overheads

(1.05) n = (1) (2) (2) (2) (3)

Capital allow (22) (17) (13) (10) (28)

Cash profit 15 35 36 35 18

Tax @ 20% 3 7 7 7 4Tax lag 3 7 7 7 4

W.3 Capital Allowances

K’Million

WDV WDA

@75% @25%

Y1 90 22

Y2 67.5 17Y3 50.625 13

Y4 37.969 10

Y5 28.477 28( Balancing allowance)


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Working 3

Capital allowances

Year Capital allowances K’m 0 Initial cost 90

1 WDA 25% K90m 22

68

2 WDA 25% K68m 17

51

3 WDA 25% K51m 13

38

4 WDA 25% K38m 10

5 Balancing allowance 28


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Solution 3

(a) Management information system is ‘a system to convert data from internal and external sources

into information and to communicate that information, in an appropriate form, to managers at all

levels in all functions to enable them to make timely and effective decisions for planning, direct

and controlling the activities for which they are responsible. A management information system

(MIS) collects data from various sources and turns it into the type of information that managers

need to help them to run their business. An MIS cannot be bought off-the-shelf and installed

overnight. It is a combination of both informal data collection, information analysis and information

dissemination which provides an organisation’s managers with the information they require for

strategic, tactical and operational planning and control.

(b) Decision support systems are used by management to help make decision on poorly defined

problems (with high levels of uncertainty). They provide access to information with a wide range of

information gathering and analytical tools. Decision support systems allow managers to scan the

environment, consider a number of alternatives and evaluate them under a variety of potential

considerations. There is a major emphasis upon flexibility and user friendliness.

(c) (i) Verifiability – this means that the managerial accounting information can be confirmed by

reference to documentation and schedules maintained by the company. This is especially

important when information is being used to aid decision making – the decision maker will

want to be in a position to check the information being made available to him. It is alsoimportant that the calculations used in planning and forecasting can be checked and that

the subsequent control information based on these plans (budgets) can be verified. Proper

documentation is essential to verification. Verifiability can be illustrated by reference to the

stock records that would be used in valuing material issues for cost control.

(ii) Objectivity – it is highly unlikely that management accounting information will contain no

subjective bias. However, efforts should be made to ensure that such bias is kept within

acceptable limits and is appreciated during the planning and decision making process. An

example of the need for objectivity would be the setting of standard costs for labour or

materials.

(iii) Timeliness – it is essential that information is produced and communicated to the

management in time for it to be used. Delays in data gathering, processing or

communication can transform potentially vital information into worthless waste paper. An

example would be material price variances which should be reported at the time of

purchase, not usage.

(iv) Comparability – most information does not ‘stand on its own’. It must be in a form which

enables it to be compared with either data from previous periods or with some planned


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(budgeted) data. This is especially important for control purposes. A good example is the

use of flexible budgets to ensure that actual results are compared with the budgeted results

for that level of activity. It is also very useful to use percentages instead of absolute values

to enhance comparability.

(v) Reliability – this means that the management information should be processed and

presented in such a way that the user can safely use the information while planning,

controlling or making decisions. For example, analysis using a computerized system is

likely to be more reliable than when using a manual system.

(vi) Understandability – management must receive information in a style and format it finds

readily comprehensible. This means that the management accountant must be aware of the

recipient’s knowledge of technical accounting terms, numeracy/ literacy levels and his

personal characteristics. An example would be the use of graphs and charts instead oftables of figures for (say) CVP analysis. Information which cannot be understood is at best

useless and at worst ‘dangerous’, resulting in poor planning and decision-making and

incorrect use of control devices.

(vii) Relevance – this is the primary criterion to be met by management accounting information.

The information provided should be that which is required for the manager to plan, control

or make decisions in the current environment. Information which is relevant in one

environment, at a particular time, may not be relevant as the environment changes. An

example would be information based on marginal costing principles, giving the contributionper unit, instead of total absorbed costs, for decisions relating to changes in activity levels.

This data may not be relevant to decisions on product pricing.

(ii) Several of the criteria could be in conflict e.g. relevant data is not always verifiable or easily

understood. The major conflict is likely to be, between timeliness and some (or all) of the

other criteria. For example it may be possible to improve the understandability of the

information but not within the period when it is considered to be timely. Some objectivity

may be lost in an effort to get the information out in time. The management accountant will

have to balance the criteria to find the optimal practical position, which is not necessarilythe optimal theoretical position for information.


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Solutions 4

(a) W.1 Cumulative PV of initial costs, maintenance and operating costs.

(K’ million) Year Costs Df@15% PV Cum. PV

0 (110) 1.0 (110) (110)

1 (59.6) 0.870 (52) 162)

2 (67.4) 0.756 (51) (213)

3 (78.0) 0.658 (51) (264)

4 (90.2) 0.572 (52) (316)

5 (144) 0.497 (72) (388)

W.2 PV of scrap value (K’million)

Year cash flow DF@ 15% PV

1 + 70 0.870 61

2 + 48 0.756 36

3 + 24 0.658 16

4 +4 0.572 2

5 + 0.4 0.497 0

Replace every: 1 yr 2 yrs 3 yrs 4 yrs 5yrs

PV cost K’m (162) (213) (264) (316) (388)

PV scrap value + 61 +36 +16 +2 0

NPV cost (101) (177) (248) (314) 388

Annuity Factor 0.870 1.626 2.283 2.855 3.352

EAC (116.1) (108.9) (108.6) (110.0) (115.8)

Advice: On financial grounds, Katundu Transporters Ltd should replace its fleet of trucks every 3 years

as this cycle has the lowest equivalent annual cost(EAC).

(b ) ─ The solution assumes that replacements will be with identical trucks, which will incur

the same costs and generate the same revenues as vehicles retained for longer periods.

This is unlikely, as newer vehicles will be more attractive to customer, and should have less

time off the road for repairs.

─ The effects of inflation and taxation should not be ignored.


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─ Technical improvements may create cheaper running costs, particularly in maintenance

and fuel. Drivers wages may increase. The resale value of vehicles is very difficult to

estimate accurately.

( c) (i) Hard capital rationing applies when a firm is restricted from undertaking all apparently

worthwhile investment opportunities by factors external to the company, and over which it

has no control. These factors may include government monetary restrictions and the

general economic and financial climate, for example, a depressed stock market, precluding

a rights issue of ordinary shares.

Soft capital rationing applies when a company decides to limit the amount of capital

expenditure, which it is prepared to authorize. The capital budget becomes a control

variable, which the company may relax if it chooses. Segments of divisionalised companies

often have their capital budgets imposed by the main board of directors.

A company may purposely curtail its expenditure for a number of reasons:

(1) It may consider that it has insufficient depth of management expertise to exploit all

available opportunities without jeopardizing the success of both new and ongoing

operations.

(2) It may be deliberate board policy to restrict the capital budget to concentrate

managerial attention on generating the very best and most carefully thought out and

analysed proposals. In this regard, self-imposed capital rationing may be an exercisein quality control.

(3) Many companies adopt the policy of restraining capital expenditure to the amounts

which can be generated by internal resource i.e. retained earnings and depreciation

provision (or in reality, cash flow). This reluctance to use the external capital markets

may be due to a risk-averse attitude to financial gearing, possibly because of the

operating characteristics of the industry e.g. high operating gearing in a cyclical

industry. Alternatively it may be due to reluctance to issue equity in the form of a

rights issue, for fear of diluting earnings, or in the case of an unlisted company,reluctance to seek a quotation owing to the time and expense involved and the

dilution of ownership.


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(ii)

Feasible Combinations Total Capital required Total NPV

(K’m) (K’m)

A and B 500 262

A and C 480 248

A and D 580 294

B and C 580 286

B and D 680 332 * Optimal

C and D 660 318

The optimal combination is to select B and D because this combination gives the highest NPV.


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Solution 5

As Division A operates at full capacity the minimum Transfer Price(TP) is:

Marginal cost (MC) + Opportunitycost

Therefore, Selling Price (Transfer Price) of product X

K

– Materials 40,000

– Variable overheads(Including labour): 4hrs x K10,000 (w.1) 40,000

Marginal cost 80,000

– Fixed overheads(. K15,0000 x 4hrs(w.2)) 60,000

Total cost per unit 140,000

– Profit mark up (20% x K140,000 ) 28,000

– Transfer Price = selling price 168,000

Therefore; TP = MC + Opportunity cost : K80,000 + K88,000 = K168,000

Working: W.1 Variable overhead rate

2,0002hrs4,0004hrs00K200,000,0

=4,00016,000

00K200,000,0

=

20,000hrs

00K200,000,0

= K10,000 / hour

W.2: Fixed overhead rate

=20,000

K300,000= K15,000/hour


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● Identifying maximum Division B can pay for one unit of XMaximum price payable = Marginal Revenue in Division B – Marginal cost in Division B

(MRB – MCB)

Or

= Selling Price Division B – Marginal cost Division B (SPB – MCB)

= K220,000 – K30,000 (Own Costs)

Therefore; Max. Price Payable = K190,000

● Some possible allowance can be made for possible savings in Div. A.

Division A manager’s view point (K’000)

● TP K80 K140 K170 K195

● SP K168 K168 K168 K168● Loss/gain (K88) (K28) +K2 +K27

Division A manager will accept TPs of K170,000 and K195,000

Division B manager’s view point (K’000)

● TP K80 K140 K170 K195

● SP K190 K190 K190 K190

● Loss/gain +K110 K50 +K20 (+K5)

Therefore; Div. B manager would accept all prices except. Price K195,000

b) Any three factors

─ Saving in selling, packaging, transportation etc costs in Div. A

─ Forecast sales of new product

─ If product is transferred externally, the danger of attracting competition into market.

(Other relevant factors will be factors will be accepted on merit)


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Solution 6

(a ) The supply of cars exceeds the demand for cars. To be able to use the transportation method, it is

necessary to balance demand and supply by including in the tableau a dummy demand center to

take up the surplus capacity of four cars. The tableau therefore, consists of four columns and

three rows to represent the demand centers and supply centers. The transportation costs have

been written in the top left hand corner of each cell. The costs in the cells in the dummy column

are all zero. The dummy only uses up surplus capacity.

X22, X12, … X34 are the unknown quantities that will be allocated to the cells such that the sums

in the individual rows and columns satisfy the appropriate demand and supply figures given.

The transportation method shows that for an initial feasible solution to the problem, at most only 6

(i.e. 4 + 3 – 1) of these unknowns will have a non-zero positive value. The value of the rest will bezero.

( b)

Demand A B C Dummy Total

Corollas

X11 X12 X13 X14

34

Camrys

X22 X22 X23 X24

15

Carinas

X31 X32

er

X33 X34

8

Total

18 18 16 5 57

50 30 40 0

80 40 50 0

10070 80 0


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The classical transportation problem arises when an optimum schedule of shipments has to bedetermined, e.g. three types of cars to three garages. The shipments originate at source where fixedstockpiles of a commodity are available, e.g. 34 Corollas, 15 Camrys and 8 Carinas.

They are sent directly to their final destinations where various fixed amounts are required, e.g. 18 at A,18 at B and 16 at C.

The total demand equals the total supply, (hence the reason for the dummy in the above problem). Thecosts must, in addition, satisfy the linear objective function, so the cost of each shipment is proportionalto the amount shipped and the cost is the sum of the individual costs, i.e. total cost=50X22 + 30X22 + …,the objective being to minimize 50X22 + 30X22 + …


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Solution 7

(a) (i) Mater ial mix variance

Actual mix Std mix

X (17,500 26,562.5) @ 100=

906,250 FY (25,000 15,937.5) @ 88 = 797,500 A

42,500 42,500 108,750 F

(ii) Material yield variances

Actual in std mix std qty in std mix

X (26,562.5 22,500) @ 100 = 406,250 A

Y (15,937.5 1,500) @ 88 = 214,500 A

(iii) Planning variances

Revised std price - original std price x actual qtyX (84 100) @ 17,500 = 280,000 F

Y (76 88) @ 25,000 = 300,000 F

580,000 F

(iv) Operating variance

(Revised std price - Actual price) Actual cost

X (84 17,500) 1,820,000 = 350,000 A

Y (76 25,000) 2,100,000 = 200,000 A

550,000 A

(v) Labour rate variance

(Std rate - Actual rate) Actual hrs

(40 15,000) 770,00

170,000 A

(vi) Labour efficiency variance

(Std hrs - Actual hrs) x std rate

(9,000 1.5) 15,000) 40

60,000 A(vii) Variable expenditure var iance

(Std rate actual rate) actual hrs

(28 15,000) - 460,000

40,000 Aa.

Variable efficiency variance

(Std hrs actual hrs) std rate

(9,000 1.5) 15,000) 28

42,000 A


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(ix) Sales price variance

(Std price actual price) actual qty

(800 8,910,000/9,000) 9,000

1,710,000 F(x) Sales volume variance

(Budgeted qty - actual qty) std contribution

(10 ,000 9,000) (800 484)

316,000 A

(b) Reconciliation operating statement

Budgeted contribution (800 484) 3,160,000

Sales variances: volume variance 316,000 A

1,710,000 FPrice variance 4,554,000

F A

Planning variance 580,000

Operating variance 550,000

Material mix 108,750

Material yield 620,750

Labour rate 170,000

Labour efficiency 60,000Variable ohd expenditure 40,000

Variable ohd efficiency 42,000

688,750 1,482,750 4,554,000

794,000

Actual contribution 3,760,000

(c) Analysis of var iances useful for the following reasons:

(i) Responsibilities can be identified for each variance and control reporting is improved

(ii) Factors outside management control are separately identified so that they could

concentrate on the controllable factors

(iii) Motivation is improved because standards are more relevant and achievable

(iv) The standard costs become more relevant and are kept up to date with changing

circumstances.


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PROFESSIONAL LEVEL


SERIES: DECEMBER 2010

TOTAL MARKS – 100 TIME ALLOWED: THREE (3) HOURS


1. You have ten (10) minutes reading time. Use it to study the examination paper carefully so that you

understand what to do in each question. You will be told when to start writing.





4. Do NOT write in pencil (except for graphs and diagrams).5. The marks shown against the requirement(s) for each question should be taken as an indication of

the expected length and depth of the answer.


7. Discount Factor tables/Present Value and Annuity Tables are attached at the end of the question

paper.



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Question 1

The objective of the Mable health authority (a public sector organization in Zambia) is stated in its most

recent annual report as:

‘To serve the people of Zambia by providing high-quality healthcare within expected waiting times’.

The ‘mission statement’ of a large plc in a manufacturing industry is shown in its annual report as:

‘In everything the company does, it is committed to creating wealth, always with integrity, for its

shareholders, employees, customers and suppliers and the community in which it operates`.

Required:

(a) Discuss the four main differences between the public and private sector which have to be addressedwhen determining corporate objectives. (8 marks)

(b) Describe three performance measures which could be used to assess whether or not the health

authority is meeting its current objective. (6 marks)

Note. Candidates may draw on their knowledge and experience of the public sector in Zambia

when answering this question.

(c) One of the most important elements of any decision is the specification of goals or objectives

which the decision maker seeks to achieve. It is often assumed that the goal of a company is tomaximise the shareholders’ wealth.

Required:

Explain any two alternative goals available to companies. (6 marks)

(Total : 20 marks)


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Question 2

The government of the Republic of Zambia decided to sell the rights to drill for copper in the North

Western province. They have offered the rights to Kasempa Quantum Mines (KQM) Plc for K2 billion,

payable one year before the start of the first year of drilling.

The directors of KQM Plc have availed to you the following estimates relating to mining operations.

Quantity of copper Probability Annual Net Revenues

(excluding depreciation)

Strong Demand Weak Demand

High 0.3 K8 billion K2 billion

Low 0.3 K4 billion K1 billion

Zero 0.4 0 0

The selling price of copper and hence the annual revenue, depends on whether the demand for copper

is ‘strong’ or ‘weak’. The directors estimate that there is a 40% probability that demand for copper will be

strong and 60% probability that it will be weak.

Exploratory drilling will be undertaken immediately after the drilling rights are acquired and will cost K1

billion payable at the time the drilling rights are paid for. If the existence of copper is revealed by the

exploratory drilling it will be extracted for ten years and KQM Plc will purchase special drilling and other

equipment at a cost of K13 billion payable at the start of the first year of drilling. It will not be necessary to

purchase the equipment if no copper is discovered. If the quantity of copper is ‘high’ the equipment will

have no resale or scrap value after ten years; if it is ‘low’ the equipment will have a resale value of K2

billion at the end of the period .

KQM Plc has a cost of capital of 10% per annum. Annual net revenues are receivable in cash on the last

day of the year.

Required:

(a) Describe a decision tree and the purpose it serves. (3 marks)

(b) Using a decision tree, calculate the expected net present value of purchasing the drilling rights and

advise whether or not the investment should go ahead. (12 marks)

(c) KQM Plc has five other mutually exclusive projects. The projects will each last for one year only

and their net cash inflows will be determined by the prevailing market conditions. The forecast

annual cash inflows (already discounted) and their respective probabilities are shown below :


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Projects (K’million)

A B C D E

Market State Probability

Bad 0.2 1,000 800 900 720 1,200

Moderate 0.5 940 1,100 800 800 1,000

Very Good 0.3 1,100 1,140 950 840 850

Required:

(i) Evaluate the above projects and make a recommendation as to which project should be

selected. (2 marks)

(ii) Calculate the value of the perfect information about the state of the market. (3 marks)

(Total : 20 marks)


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Question 3

(a) Mafikeng Division is part of the MCCM group. It produces a basic raw material which is then

converted in other divisions within the group. The material is also produced in other divisions within

the MCCM group and a limited quantity can be purchased from outside the group. The material is

currently charged out by the Mafikeng Division at total actual cost plus 25% profit mark-up.

(i) Explain why the current transfer pricing method used by Mafikeng Division is unlikely to lead

to the following.

Maximization of group profit.

Effective division performance measurement (4 marks)

(ii) If the supply of raw material is insufficient to meet the needs of the divisions who convert it

for sale outside, explain the procedure which should lead to a transfer pricing and

deployment policy for the basic raw material for group profit maximization. ( 4 marks)

(b) Mwanachingwala Plc operates two divisions, X and Y. Divisions X makes two products A and B.

Product A is sold on the open market for K84,000 per unit. The only outlet for product B is Division

Y.

Division Y supplies an external market and can obtain its semi-finished product, (product B) from

either Division X or an external source. Division Y currently has the opportunity to buy product B

from an external supplier for K 76,000 per unit. The operating capacity of Division X is measured in

units of output, regardless of whether product A, B or a combination of both are being

manufactured. The associated product costs are as follows:

A B

K/unit K/unit

Variable costs 4,000 70,000

Fixed costs 0,000 10,000

Total unit costs 74,000 80,000

Required:

Using the above information, discuss and advise a transfer price or transfer prices for the sale of

product B from Division X to Division Y under the following assumptions:

(i) When Division X has spare capacity and limited external demand for product A. (3 marks)

(ii) When Division X is operating at full capacity with unsatisfied external demand for product A.

(4 marks)

(c) State any Five (5) issues that you may have to take into account in international transfer pricing.

(5 marks)

(Total: 20 marks)


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Question 4

Hi Tech Plc has developed a new product which it is expecting to sell well in hardware shops.

Development costs incurred to date amount to K50,000,000. The company has not yet decided whether

to commence production because a major company Robotics Ltd has offered K220,000,000 payable

immediately for the exclusive rights to produce and sell the new product.

The cost accountant has produced the following figures in relation to the manufacture of the new

product.

(a) The product will be sold for K75,000 per unit over the next four years. Demand for the product is

estimated at 11,000 units per year.

(b) Additional employees will have to be recruited if manufacturing commences. Recruitment costs are

expected to be K10,000,000 payable at the start of the project. At the end of the product’s liferedundancy costs are estimated at K 40,000,000. The labour cost is K10,000 per unit.

(c) The product can be manufactured using a machine which the company currently owns. The

machine cost K400,000,000 and has written down value of K15,000,000. The machine is no

longer in use by the company and could be sold for K80,000,000 if the product is not

manufactured. If the machine is used in the manufacture of the product it is expected to have a

scrap value of K15,000,000 at the end of the project.

(d) The new product will require 5kgs of material X per unit. Material X is regularly used by the

company and the company currently has 100,000 units of X in inventory, purchased at K8,000 per

unit. The replacement cost of material X is K10,000 per kg.

(e) Additional costs of K30,000,000 per annum will be incurred if production commences.

(f) Working capital of K60,000,000 will be required immediately.

(g) Hi Tech Plc has a cost of capital of 18%.

Required:

(i) Prepare the relevant cash flows, stating all assumptions, assuming Hi Tech Plc

manufactures the new product. (6 marks)

(ii) Calculate the net present value and advise Hi Tech Plc. (6 marks)

(iii) Calculate the internal rate of return on the project. (4 marks)

(iv) Calculate the sensitivity of the annual labour cost in relation to the project. (Show as an

absolute and a percentage amount). (4 marks)

(Total: 20 marks)


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Question 5

(a) Business process re-engineering (BPR) has been promoted as a major management technique,

but it is also criticized as a little more than cost reduction.

Required:

(i) Explain business process re-engineering.

(ii) Explain five (5) main advantages and three disadvantages of business process re-

engineering programmes.

(b) Budgeting may be viewed as a relevant technique in facilitating the assessment of business

performance from initial planning to actual results. It will be necessary, however, to consider how to

overcome factors that may limit its effectiveness by use of activity based budgeting technique.

Required:

Highlight FOUR advantages that may be claimed for the use of activity based budgeting rather

than a traditional incremental budgeting system. (8 marks)

(Total : 20 marks )

Question 6

(a) “A business enterprise needs to spend to have a quality product or provide a quality service. That

is to say, quality costs money. Quality costs may be divided into conformance and non-

conformance cost.” (Extract from a presenter’s handout at a joint ZICA/CIMA CPD Workshop).

Your Managing Director missed this workshop because he was overseas. However, a

complimentary copy was sent to him and wants to know more about quality related costs.

Required:

Write a report which discusses the four classical quality related costs, giving two examples under

each category.

(b) Red Ribbon Transport Services (RRTS) operates a car hire division. It is considering replacing a

12-seater Toyota Hiace luxury wagon. Lease or buy option is being considered. Since RRTS is abrand and has a good company profile, the leasing divisions of leasing institutions are ready to

provide leasing funds.

Buy Option

The Toyota Hiace wagon will cost K45 million and RRTS will be entitled to 25% capital allowance

on a reducing balance basis. The bus can be scraped for K15 million at the end of three years.

Lease Option


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An initial deposit of K3.75 million plus annual payments of K14.976 million at the end of each of the

three years will be required. Lease payments are allowable for the purpose of computing taxable

profits.

Other relevant information(i) RRTS pays corporation tax at the rate of 30% of its profits.

(ii) RRTS pays half of its corporation tax in the year in which the profits are made and half in the

following year.

(iii) The cost of capital is 12%

Required:

Advice RRTS management as to whether it should lease or out rightly purchase the Toyota Hiace

bus. (10 marks)

(Total : 20 marks )


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Question 7

Kalulushi Jam Products produces Kalulu jams and jam by-products by mixing four ingredients (fruit

extracts, syrups, citric acid and preservatives). These ingredients are coded as A,B, C and D. The firm

operates a system of standard costing for each batch of jam.

The standard cost data for a batch (a jar) of Kalulu jam are as follows.

A 400 kg @ K160 per kg

B 700 kg @ K100 per kg

C 99 kg @ K332 per kg

D 1 kg @ K2,000 per kg

Labour 18 hrs @ K3,250 per hour

Standard processing loss is 3%Bad drought conditions in Zambia in the period of October to December of 2008 resulted in a low national

yield for ingredient A. As a consequence, normal prices in the trade were K190 per kg for ingredient A;

although good buying could achieve some savings. The impact of exchange rates on imports of

ingredient B has caused the price of B to increase by 20%.

The actual results for the batch were as follows.

A 428 kg @ K180 per kg

B 742 kg @ K120 per kg

C 125 kg @ K328 per kgD 1 kg @ K950 per kg

Labour 20 hrs @ K3,000 per hour

Actual output was 1,164kg of Kalulu jam.

Required:

(a) Calculate the ingredients planning variances. (3 marks)

(b) Calculate the ingredients operating price variance and operating usage variance. (4 marks)

(c) Comment on two advantages and two disadvantages of variance analysis using planning and

operating variances.

(4 marks)

(d) Calculate the mix and yield variances. (6 marks)

(e) Calculate the total variance for the batch (3 marks)

(Total: 20 marks)

END OF PAPER


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DECEMBER 2010

P2 ADVANCED MANAGEMENT ACCOUNTING

SUGGESTED SOLUTIONS


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Solution 1

(a) A private sector organization is owned by private shareholders whereas a public sector is owned

by a government, whether national, local or international. Both sectors can have profit-making and

non-profit organizations. Most of this discussion however, is concerned with the comparison of the

profit-seeking private sector with non-profit seeking public services.

Some of the main differences between private sector and public sector organizations, which need

to be addressed when determining corporate objectives or missions, include:

(i) Public sector objectives are usually detailed in a statute or other regulatory document.

Private sector bodies will have objectives decided by their owners or by directors acting as

agents for the owners. It is easier for private sector objectives to adapt to changing

circumstances. (2 marks)

(ii) Private sector organizations will usually not survive unless they earn adequate profits fortheir owners. Public services are not charged with making profits but with producing the

maximum effective high-quality output for the minimum unit cost within the allowed budget.

Other than this, the objectives of the two types of organization may be very similar, involving

consideration for the various stakeholders, such as customers, suppliers employees and the

wider community. (2 marks)

(iii) Private sector organizations nearly always have outputs which can be expressed in monetary

terms (e.g. sales value). Public service output cannot be or are not valued in monetary terms.

For example one of the outputs of the public sector hospital will be a patient with a mended

leg but the equivalent output of a private sector hospital is a patient with a mended leg and

an invoice in her/his pocket.

This difference between the two types of organization is fundamental when trying to set

objectives.

1 Private sector businesses always have a profit-based measure as one of their major

objectives. Often it will be the over-riding objective. It might be profit or return on capital

employed or shareholder value, but if the organization fails to achieve the required

financial returns for its owners, it will fail to survive.

2 Public service organizations cannot measure profit because their outputs are non-financial. Their financial objectives are always concerned with input costs only,

whereas output objectives are set in terms of non-financial quality and efficiency

measures. (2 marks)

(iv) The sanctions on failing to meet public service objectives are weaker than private sector.

Except in extreme cases, the organization cannot be closed down and it is often more

difficult to change the management. The most severe sanction that can be imposed is to

starve the organization of cash in an attempt to force efficiency improvements.


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(v) Until recently, public sector organizations have used cash-based accounting systems which

make it more difficult to estimate the resources used in service provision. The introduction of

cash based accounting in Zambia and other countries enables the setting of objectives and

targets which are easier to monitor against the actual out-turn and hence allows comparison

with equivalent private sector service providers. (2 marks)

(b) The health authority has as its objective the provision of high quality healthcare within expected

waiting times. This should be quantified by setting performance targets. Many performance

measures can be devised. two examples are as follows.

Waiting times

(i) Average time taken for an ambulance to arrive at the scene of an emergency.

(ii) Average time spent waiting for a particular type of non-urgent operation. (4 marks)

Quality(iii) Percentage of successful operations for a given type of surgery.

All of these measures can be compared against the national average, or another benchmark

figure. (2 marks)

(c) Recent debate has questioned whether the maximization of shareholder wealth should or can be

the only true objective. The stakeholder theory of corporate objectives contends that many groups

of people have a stake in what the company does. Each of these groups, including workers,

managers, suppliers, customers, the local community and government, as well as shareholders

has its own objectives. Thus in practical terms, the goal of shareholder wealth maximization must

be seen as a primary objective within a whole matrix of objectives, the relative importance of which

will vary from location to location and from time to time.

Examples of non-financial objectives are:

(i) The welfare of the employees. A company might try to provide good wages and salaries,

attractive and safe working conditions, good training and career development and good

pensions. While such policies are likely to improve morale and impact favourably on financial

performance, it may be realistic to expect them to generate a positive financial return on

investment.

(ii) Fulfilment of responsibilities to suppliers. Large companies may be able to exert considerablepressure on suppliers, both in terms of prices and payment terms. This power should not be

used unfairly. (2 marks)

(ii) Responsibilities to society. Some companies, such as Barclays Zambia Plc, take seriously their

responsibilities to society and devote resources both to initiatives in their local community and to

wider social campaigning. (2 marks)

(iii) Thus in practice, companies operate with a whole range of financial and non-financial

objectives. Although maximization of shareholder wealth may well be the primary objective, this

is likely to be constrained to some degree by the other aims of the firm. (2 marks)


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Solution 2

(a) A decision tree is a diagram showing several possible courses of action and possible events (i.e.

state of nature) and the potential outcomes for each course of action. Each alternative course of

action or event is represented by a branch, which leads to subsidiary branches for further course of

action or possible events. Decision trees are designed to illustrate the full range of alternatives and

events that can occur, under all envisaged conditions. The value of a decision tree is that its logical

analysis of a problem enables a complete strategy to be drawn up to cover all eventualities before

a firm becomes committed to a scheme.


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(a)

KEY:

Decision point

Outcome point

0.4

0.4

0.6

0.6


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Workings:

High copper quantity: K’billion

S : K8 0.4 6.145 = 19,664

W: K2 0.6 6.145 = 7,374

27,038

Low copper quantity K’billion

S : K4 0.4 6.145 = 9,832

W: K1 0.6 6.145 = 3,687

Scrap value : K2 0.386 = 0,772

14,291

W.2 : Discount ENPV at decision node to time zero by using year 1 discount factor

K’billion

H : 14.038 0.909 0.3 = K3,828

L : 1.291 0.909 0.3 = K0,352

Zero : 0 0.909 0.4 = K0,000

= K4,180

K’million

(b) (i) A (1,000 0.2 + 940 0.5 + 1,100 0.3) = K1,000

B (800 0.2 + 1,100 0.5 + 1,140 0.3) = K1,052

C (900 0.2 + 800 0.5 + 950 0.3) = K 865

D (720 0.2 + 800 0.5 + 840 0.3) = K 796

E (1,200 0.2 + 1,000 0.5 + 850 0.3) = K 995

Advice

Based on EV, project B should be undertaken because it has the Highest EV of cash inflows.


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(ii)

Consultant’s Advice Projectchosen

Cashflow Probability EVK’million

x p xpBad E 1,200 0.2 = 240

Moderate B 1,100 0.5 = 550

Very Good B 1,140 0.3 = 342

EV of cashflow with perfect information = 1,132

EV of cashflow without perfect information = 1,052

Value of perfect information = 80


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Solution 3

(a) (i) The current transfer pricing policy is ineffective as it does not take into account the efficiency

of producing in-house rather than buying outside. Nor does it properly allocate the final profit

on sale of the goods to the various divisions.

The transfer price should be set at the variable cost of producing the goods plus the

opportunity cost. The opportunity cost is the contribution which could be earned from selling

the goods on the open market, if this is possible.

An actual cost plus approach does not send signals to managers to enhance efficiency, as

there is no incentive to control costs. The profits of the receiving divisions will be unfairly

penalised for inefficiencies in the transferring division. The poorer its performance, the

greater will be the producing division's variable costs.

The best transfer price is one which encourages the transferor division to produce enoughgoods at the right price, and the transferee to purchase enough for its own requirements, so

that the incentive effect of the transfer price should be the same on both divisions.

(ii) If there is a shortage of supply which can be rectified by purchasing goods on the external

market in addition to internal production, the optimum transfer price would be the market

price of the goods.

However, in situations where there is no other source of supply the optimum transfer price

should be calculated by estimating which use of this scarce resource can generate the most

profit. A linear program is set up, with the objective to maximise contribution. The solution will

determine how much of the resource should be produced, and where it should be allocated

and thus the transfer price.

(b) (i) Division X has spare capacity and limited external demand for product A.

In this situation, the incremental cost to the company of producing product B is K70,000. It

costs Division X K76,000 to supply product B to the external market and so it cheaper by

K6,000 per unit to supply Division Y.

The transfer price needs to be fixed at a price above K70,000 both to provide some incentive

to Division X to supply Division Y and to provide some contribution towards fixed overheads.

The transfer price must be below K76,000 per unit, to encourage Division Y to buy from

Division X rather than from the external supplier.

The transfer price should therefore be set in the range above K70,000 but below K76,000 so

that both divisions, acting independently and in their own interests, would choose to buy

from, and sell, to each other.


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Division X is operating at full capacity with unsatisfied external demand for product A.

If Division X chooses to supply Division Y rather than the external market, the opportunity

cost of such a decision must be incorporated into the transfer price. For every unit of product

B produced and sold to Division Y, Division X will lose K20,000 (K(84,000 – 64,000)) incontribution due to not supplying the external market with product A. The relevant cost of

supplying B in these circumstances is therefore K90,000(70,000+ 20,000). It is therefore in

the interests of the company as a whole if Division Y sources product B externally at a

cheaper price of K76,000 per unit. Division X can therefore continue to supply external

demand at K84,000 per unit.

The company can ensure this happens if the transfer price of product B is set above

K76,000, thereby encouraging Division Y to buy externally rather than from Division X.

(c) Five issues that may have to be taken into account in international transfer pricing include:

Effect of exchange rate fluctuations

Taxation

Import duties

Repatriation of profits

Anti-dumping legislation

Competitive pressures

Foreign currency exchange controls

Minority interests


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Solution 4

(i) Assumption/Relevant costs and Workings

1 Development costs of K50,000,000 are sunk costs and should, therefore, be excluded.

2 K220,000,000 offer is the opportunity cost of manufacturing. They should be included in the

evaluation.

3 Sales revenue of K75,000 11,000units = K825,000,000.This is a future incremental

revenue and should be included.

4 Labour: K10,000 x 11,000units = K110,000,000. The labour cost is a relevant cost because it

is specific to this product and it is incremental.

5 Original cost and written down value are irrelevant: they are sunk/past costs.

6 Scrap value (K80,000,000) of the current machine is relevant: this is the opportunity cost ifthe machine is used in the manufacture of the product. Sales proceeds of K15,000,000 at the

end of the project are relevant.

7 The materials are in regular use and if used they have to be replaced. The cost of 5kg

K10,000 11,000 units = K550,000,000 is relevant. That is, the relevant cost is the current

replacement cost or current market value.

8 Working capital: this is a relevant cost and it should be included. It is assumed to be

recovered at the end of the project.

9 Redundancy and labour recruitment costs of K40,000,000 and K10,000,000, respectively,

are relevant future outflows.


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(ii) NPV Model (K’million)

Year 0 1 2 3 4

Current Mach. opportunity

Cost/scrap Value) (80) – – – 15

Manufacturing opportunity Cost (220) – – – –

Labour recruitment (10) – – – –

Working Capital (60) – – – 60

Redundancy cost – – – – (40)

Labour – (110) (110) (110) (110)

Material – (550) (550) (550) (550)

Additional cost – (30) (30) (30) (30)

Sales Revenue - 825 825 825 825

Net cashflow (370) 135 135 135 170

DF@ 18% 1.0 .0 0.84785 0.71861 0.60752 0.51616

PV (370) 114.0 97 82 88

NPV + K11

Advice

As the NPV is positive, on financial grounds, the manufacture of the new product should go ahead.

(iii) Internal Rate of return

Net cashflow (370) 135 135 135 170

DF@ 20% 1.0 0.833 0.694 0.579 0.482

PV (370) 112 94 78 82

NPV (4)

IRR = A%B%PPP

A% = 18%-20%41111

18%

= 19.47%

Where:

A% = Cost of capital which gives positive NPV

B% = Cost of capital which gives negative NPV

P = Positive NPV

N = Negative NPV


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(iv) Sensitivity of Labour Costs

Annual labour costs: K110 million p.a. for 4 years

Sensitive Factor = 100%costlabour of PV

NPV = 3.7%

2.690mK110

mK11

Absolute = 2.690

11

AF

NPVK4,089,219 per annum

Change % = 3.7%100%0110,000,00

4,089,219


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Solution 5

(a) (i) Business process re-engineering (BPR) is one of a number of techniques that have been

advocated to overhaul existing business processes and practices with a view to radically

improving organizational performance. It goes further than routine, automation andrationalisaton.

BPR is not confined to manufacturing processes and has been applied to a wide range of

administrative and operational activities. In each case the idea is to ask radical questions

about why things are done in a particular way, and whether alternative methods could

achieve better results. Often the focus has been on staffing levels, the implication being that

more staff are employed than are strictly needed to achieve the desired outcome. However,

this is a by-product of the technique and is not a main purpose of BPR.

(ii) Advantages of BPR

(1) BPR revolves around customer needs and helps to give an appropriate focus to the

business and its purpose.

(2) BPR provides cost advantages that assist the organization’s competitive position.

(3) BPR encourages a long-term strategic view of operational processes by asking radical

questions about how things are done and how processes could be improved.

(4) BPR helps overcome the shortsighted approaches that sometimes emerge from

excessive concentration on functional boundaries. By focusing on entire processes the

exercise can streamline activities throughout the organization.

(5) BPR can help to reduce organizational complexity by eliminating unnecessary

activities.

(ii) Disadvantages of BPR

(1) BPR is sometimes seen (incorrectly) as a means of making small improvements in

existing practices. In reality, it is a more radical approach that questions whether

existing practices make any sense in their present form.

(2) BPR is sometimes seen (incorrectly) as a single, once-for-all cost- cutting exercise. In

reality, it is not primarily concerned with cost cutting (though cost reductions often

result), and should be regarded as ongoing rather than once-for-all. This

misconception often creates hostility in the minds of staff who see the exercise as a

threat to their security.

(3) BPR requires a far-reaching and long-term commitment by management and staff.

Securing this is not an easy task, and many organizations have rejected the whole idea

as not worth the effort.


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(b) Advantages claimed for the use of activity based budgeting include the following:

(1) Resource allocation is linked to a strategic plan for the future, prepared after considering

alternative strategies.

(2) New high priority activities are encouraged, rather than focusing on the existing planningmodel. Activity based budgeting focuses on activities. This allows the identification of the

cost of each activity. It also allows the ranking of activities where financial constraints limit

the range of activities that may be achieved.

(3) There is more focus on efficiency and effectiveness and the alternative methods by which

they may be achieved. Activity based budgeting assists in the operation of a total quality

philosophy.

(4) It avoids arbitrary cuts in specific budget areas in order to meet the overall financial targets.

Non-value adding activities may be identified as those which should be eliminated.

(5) It tends to increase management commitment to the budget process. This should be

achieved since the activity analysis enables management to focus on the objectives of each

activity. Identification of primary and secondary activities and non-value added activities

should also help in motivating management in activity planning and control.

(N.B. Only four advantages are required but five advantages have been given here).


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Solution 6

(a)

Report

To: Management Team

From: Management accountant

Date: 1 June, 2010

Ref MA/005/al/AMM

Subject: Quality Related Costs

1 Introduction

This report explains quality related costs

2 Quality costs

There are two main types of quality costs, these being cost of conformance and costs of

non-conformance. Conformance costs are further analysed into prevention costs, and

appraisal costs. Costs of non-conformance can be further analysed into internal failure costs

and external failure costs.

2.1 Prevention costs are the costs incurred prior or during production to prevent substandard or

defective product or services being produced. Examples of these include costs of quality

engineering and design or development of quality control or inspection equipment.

2.2 Appraisal costs are the costs incurred to ensure that the output produced meet required

quality standards. Examples would include acceptance testing costs and the cost of

inspection of goods inwards.

2.3 Internal failure costs are the costs arising from inadequate quality, which are identified

before the transfer of ownership from supplier to purchaser. Relevant examples include re-

inspection costs and losses due to lower selling prices from sub-quality goods.

2.4 External failure costs are the costs arising from inadequate quality discovered after the

transfer of ownership from the supplier to purchaser. Relevant examples would include

product liability costs and costs of repairing products returned from customers.If you need further clarification, please do not hesitateto contact me.

Signed: Management Accountant


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(b)

Purchase Option

Year 0 Year1 Year2 Year3 Year4

K’000 K’000 K’000 K’000 K’000

Investment(bus) (45,000) – – – –

Capital allowance savings 1,688 2,953 2,812 1,547

Scrap value 15,000

(45,000) 1,688 2,953 17,812 1,547

Discount rate at 12% 1.000 0.893 0.797 0.712 0.636

PV (45,000) 1,507 2,354 12,682 984

NPV = K (27,473)

Working

Capital allowance savings and their timings

CA Tax at 30% Year1 Year2 Year3 Year4

K’000 K’000 K’000 K’000 K’000 K’000

Machine cost 45,000

Year 1 – WDA at 25% (11,250) 3,375 1,688 1,687

33,750

Year 2 – WDA at 25% (8,438) 2,531 1,266 1,265

25,312

Year 3

Disposal (15,000)

Balancing allowance 10,312 3,094 1,547 1,547

Tax saved 1,688 2,953 2,812 1,547


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Solution 7

(a) Planning price variance

K

A 400 kg K(190 – 160) 12,000

B 700 kg K(120 – 100) 14,000

planning variance 26,000 (A)

(b) (i) Operating price variance

K

A (190 – 180) 428 4,280 (F)

B (K120 – K120) 742 -

C (332 – 328) 125 500 (F)

D (2,000 – 950) 1 1,050 (F)

operating price variance 5,830 (F)

(ii) Operating usage variance

K

A (400 – 428) K190 5,320 (A)

B (700 – 742) K120 5,040 (A)

C (99 – 125) K332 8,632 (A)

D (1- 1) K2,000 0

operating usage variance 18,992 (A)

(c) Advantages

(i) Standard costs are more relevant because they are kept up to date with changingcircumstances.

(ii) Motivation is improved because standards are more relevant and achievable.

(iii) Responsibilities can be readily identified for each variance and control reporting is improved.

(iv) Factors which are outside the control of management are separately identified so that theycould concentrate on the controllable factors.

Disadvantages

(i) There is a tendency to try and explain away all the variances as planning errors, so thatoperating variances appear small.

(ii) It may be difficult to obtain an objective revised standard.

(iii) The work involved in updating standards regularly is considerable and time – consuming.


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(d) Ingredients Mix Variance

Std Mix

Kg

Actual mix

Kg

Variance

Kg

Std price Variance

K K

A

1,200

400

432 428 4.00 (F) 190 760 (F)

B

1,200

700

756 742 14.00 (F) 120 1,680 (F)

C

1,200

99

106.92 125 18.08 (A) 332 6,003 (A)

D

1,200

1

1.08 1 0.08 (F) 2,000 160 (F)

1,296.00 1,296.00 0 3,403 (A)

Ingredients Yield Variance

1,296 kg should have yielded : 1,296 x 97 %kg = 1,257.120 kg

1,296 kg yielded 1,164.000 kg

93.120 kg (A)

X

K167.412 per kg(W.1)

Yield Variance K15,589 (A)

Working : W.1 - Weighted Average ingredients standard cost per kg

K

A 400 K190 76,000B 700 K120 84,000

C 99 K332 32,868

D 1 K2,000 2,000

1,200 194,868

3% loss 36 -

Output 1,164 194,868


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Average cost per kg = K194,868 ÷ 1,164 = K167.412 per kg

(e) Standard ingredient cost per batch

K

A 400K160 64,000

B 700 K100 70,000

C 99 K332 32,868

D 1 K2,000 2,000

168,868

Labour standard cost 18hrs K3,250 58,500

Total standard cost 227,368

Actual cost per batch

K

A 428 K180 77,040

B 742 K120 89,040

C 125 K328 41,000

D 1 K950 950

208,030

Labour 20hrs K3,000 = 60,000

268,030

Total variance for the batch:

Total Standard Cost K227,368

Total Actual cost K268,030

K40,662 (A)

END


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PROFESSIONAL LEVEL


SERIES: JUNE 2011

TOTAL MARKS – 100 TIME ALLOWED: THREE (3) HOURS


1. You have ten (10) minutes reading time. Use it to study the examination paper carefully so that you

understand what to do in each question. You will be told when to start writing.





4. Do NOT write in pencil (except for graphs and diagrams).

5. The marks shown against the requirement(s) for each question should be taken as an indication of

the expected length and depth of the answer.


7. Discount Factor tables/Present Value and Annuity Tables are attached at the end of the question

paper.



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Question 1

Moze Plc has identified a market for a new product at a selling price of K600 per unit. It has yet to

quantify its estimate of the volume of the market in product units.

The estimated cost structure for the product per unit is as follows:

Materials A: 8.5kg at K10 per kg

Materials B: 1.5kg (material B is a special input raw material)

Variable overheads are 60% of the selling price

Moze Plc must place an advance order for the coming year with the supplier for material B. It intends to

enter into an advance contract for material B for the coming year at one of three levels – high, medium or

low – which correspond to the requirements of a high, medium or low level of demand for the product.

The level of demand for the product will not be known when the advance order for material B is enteredinto. A set of probabilities have been estimated by the management as to the likelihood of demand for the

product being high, medium or low. See the table below.

The amount of material B actually supplied will always be equal to the actual demand level. However,

because of the effects of unidentified volume on supplier costs;

(i) Where the advance order entered into for Material B was lower than that required for the level of

demand which is actually achieved, a discount from the original price of supply is allowed to Moze

Plc for the total quantity of material B which is purchased.

(ii) Where the advance order entered into for Material B was in excess of that required for the actual

level of demand achieved, a penalty payment( premium) in excess of the original price of supply is

payable for the total quantity of Material B which is purchased.

A summary of additional information relating to the above points is as follows:

Units Probability Advance order

High 15,000 0.3 K20.00

Medium 12,000 0.5 K24.00Low 8,000 0.2 K28.00


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Material B order discount or premium cost on conversion from:

Conversion discount Conversion premium (penalty)

Low to Medium K3.00

Medium to High K2.00

Low to High K4.00

Medium to Low K8.00

High to Medium K6.00

High to Low K18.00

Required:

(a) Prepare a summary which shows the total budgeted contribution earned by Moze Plc from

the new product for the coming year for each of the nine possible outcomes which may resultfrom the above data. (11 marks)

(b) Using figures from your answer to (a) as a relevant, indicate the advance level order size

which should be chosen for Material B and comment on the management attitude to risk

where the decision is based on each of the following criteria:

(i) Maximizing expected value (3 marks)

(ii) Maximax (3 marks)

(iii) Maximin. (3 marks)

(Total: 20 marks)


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Question 2

Luangwa Plc operates two divisions, Petauke Division(P) which manufactures the material for the

intermediate products and Kasama Division (K) which produces the complete products for sale.

Petauke DivisionThe Petauke(P) division produces two separate materials, material A and material B. Both materials take

the same amount of labour time to produce a unit. Material A is sold to external customers only for K28

per unit. Division P incurs variable costs in producing this material of K18 per unit and fixed overheads

amount to K2 per unit. The budgeted production and sales of material A for June 2010 is 5,400 units.

Material B is sold to division K only. The transfer price that has been set for each unit is full cost plus

20%. This material is available externally for K52 per unit but division K has been told by management

that they must buy the material from division P. Division P incurs variable costs of K40 per unit and fixe

p2-q and as-advanced management accounting- june 2010 dec 2010 and june 2011

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