Answers

Part 1 Examination Paper 1.2 Financial Information for Management Section A 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 1 2 3 B A A A D C B C D C C A C B C C B C D C C D D C C B A A Contribution per unit (CPU) = (36 060) 040 = 24 Break-even point = (81,000 24) = 3,375 units Margin of safety = (5,000 3,375) = 1,625 units Using the high low method: Variable cost per unit = [(470,000 18,000) 380,000] [24,000 15,000] = 8 Total fixed costs (below 20,000 units) = 380,000 (15,000 8) = 260,000 Total costs for 18,000 units = 260,000 + (18,000 8) = 404,000

June 2007 Answers

5 6 7

D C B Weighted average after receipts on 7th = [(2,900 2) + (400 1750)] 500 = 1690 Value of issues = 100 (2,900 200) + [(190 + 170) 1690] = 7,534 Reorder level (Minimum usage in shortest lead time) + Reorder quantity = 1,800 (50 11) + 2,000 = 3,250 units = Maximum stock level

D Prime cost (300 + 400 + 100) = 800 + Production overheads (400 8) 40 = 2,000 + Non-production overheads (15 800) = 1,200 Total cost 4,000

10 C

11 C

17

12 A

Absorption rate (Y) = 576,000 [(5 + 3) 12,000] = 6 per hour Absorption rate (Z) = 288,000 [(2 + 4) 12,000] = 4 per hour Fixed overhead cost per unit (K2) = [(3 6) + (4 4)] = 34 Total overheads (T) = 128,000 + (030 140,000) = 170,000 Total overheads (P) = 180,000 + (070 170,000) + (040 140,000) = 355,000 Closing work in progress (WIP) = (200 + 1,000 1,040) = 160 units WIP valuation = (160 040 20) = 1,280 Opening WIP value 1,530 + Completion of opening WIP (200 060 20) 2,400 + Units started and finished in the month [(1,040 200) 20] 16,800 Total value of 1,040 completed units 20,730

13 C

14 B

15 C

16 C 17 B 18 C 19 D Fixed production overhead capacity variance: (Budgeted hours Actual hours worked) Standard fixed overhead rate = (8,000 8,400) 9 = 3,600 Favourable 200 units standard contribution per unit = [200 (40 30)] = 2,000 (F)

20 C 21 C 22 D 23 D 24 C

CPU = (160,000 40,000) = 4 and variable cost per unit = (10 4) = 6 Units Selling price per unit CPU Total contribution 000 44,000 950 350 154 40,000 1000 400 160 36,000 1050 450 162 31,000 1100 500 155 Additional cost of buying in per unit 48 60 45 39 Hours per unit to manufacture 4 6 5 3 Additional cost per hour 12 10 9 13

25 C Component A B C D

Lowest additional cost per hour saved is 9 and component C should be bought in.

18

Section B 1 (a) (i) Actual cost Standard cost of actual production (26,000 20) (ii) Actual cost Standard cost of actual production (26,000 24) (iii) and (iv) Actual cost Actual hours at standard rate (150,000 8) Standard cost of actual production (26,000 48) (b) Budgeted contribution [25,000 (120 92)] Sales variances: Price [(25,000 120) 2,995,000] Cost variances: Total direct materials [(a) (i)] Total variable production overhead [(a) (ii)] Direct labour: rate [(a) (iii)] efficiency [(a) (iv)] Total direct labour Actual contribution (See workings) 532,800 Total variance 12,800 A 520,000 614,000 Total variance 10,000 F 624,000

1,221,000 Wage rate variance 21,000 A (iii) 1,200,000 Efficiency variance 48,000 F (iv) 1,248,000

700,000

5,000 A 12,800 A 10,000 F 21,000 A 48,000 F 27,000 F 719,200 2,995,000

Workings: Actual sales (25,000 units) Less: Actual production costs (26,000 units): Material + Labour + Production overhead Less: Closing stock at standard cost (1,000 92)

2,367,800 (92,000) (2,275,800) 719,200

Actual contribution

(c)

The rate variance is adverse (21,000) and the efficiency variance is favourable (48,000). A possible explanation of how these could be interrelated is that higher graded, more skilled workers, were used last month to produce gonds and were paid at a higher wage rate than standard thus giving the adverse rate variance. These higher graded, more skilled workers were more efficient and produced the gonds in less than the standard time allowed 26,000 units should have taken 156,000 hours (that is 6 hours per unit) to manufacture whereas they were produced in only 150,000 hours thus giving a favourable efficiency variance.

19

(a)

Let x = the number of units of product X and let y = the number of units of product Y. Objective function (maximisation of contribution): (200 170) x + (250 210) y = 30x + 40y Constraint formulations: Materials: 12x + 8y 540,000 Labour: 5x + 8y 400,000 Demand (Y): y 40,000 Non-negative x, y 0 The constraints and objective function can be represented as follows: Y Units 000

675 Materials 500 400 A B C Demand (Y)

150 Labour D 0 200 450 800 X Units 000

The feasible region is OABCD. By moving the objective function line (dotted) away from the origin it can be determined that the optimal point is C (the intersection of the material and labour constraint lines). The values of x and y at this point can be read from the graph or found by solving the equations for the two constraint lines simultaneously, as follows: (1) (2) Subtracting (2) from (1) gives Substituting for x in (1) gives 12x + 8y 5x + 8y 7x x (12 20,000) + 8y 8y y = = = = = = = 540,000 400,000 140,000 20,000 540,000 300,000 37,500 (Materials) (Labour)

The optimal production plan for next year is to manufacture and sell 20,000 units of product X and 37,500 units of product Y. The resultant total contribution is [(20,000 30) + (37,500 40)] = 2,100,000. Alternative approach (which does not involve drawing a graph): Each production possibility is evaluated in terms of total contribution, as follows: (1) Materials. Using all the materials available (540,000 kg), 45,000 units of X or 67,500 units of Y could be produced. For Y, this exceeds the demand constraint. The contribution from 45,000 units of X is (45,000 30) = 1,350,000. (2) Labour. Using all the labour hours available (400,000), 80,000 units of X or 50,000 units of Y could be produced. There is insufficient material available for this quantity of X [see (1)]. In the case of Y, production is restricted to 40,000 units which uses only 320,000 hours, leaving 80,000 hours for the production of 16,000 units of X. The total contribution from this production mix is [(16,000 30) + (40,000 40)] = 2,080,000. (3) The other production mix possibility is found by solving the following equations simultaneously: 12x + 8y = 540,000 and 5x + 8y = 400,000 This calculation has been done above under the graphical approach and gives a total contribution of 2,100,000. The optimal solution is (3) as it gives the highest total contribution. It involves the production of 20,000 units of product X and 37,500 units of product Y.

20

(b)

Any scarce resource that is fully utilised in the optimal solution will have a shadow price. It would be worth paying more than the normal price to obtain more of the scarce resource because of the contribution foregone by not being able to satisfy the sales demand. Hence the shadow price of a so-called binding constraint is the amount by which the total contribution would increase if one more unit of the scarce resource became available. In the case of Plaza Ltd there are two binding constraints next year materials and labour (all available materials and labour are used in the optimal solution) therefore each will have a shadow price.

(a) Litres 90,000

Process K Account 450,000 216,000 Litres Normal loss 3,600 (4% 90,000) Abnormal loss [W1] 1,200 (4,800 3,600) Output: Product P1 [W2] 56,800 Product P2 [W2] 28,400 90,000 18,000 9,000

Materials input Conversion costs

90,000 Workings:

666,000

355,000 284,000 666,000

W1 Valuation of abnormal loss and combined total output of 85,200 litres (P1 + P2) is at a cost per litre of: (666,000 18,000) (90,000 3,600) = 750 Abnormal loss valuation: (1,200 750) = 9,000 W2 Total output (85,200) split P1 : P2 in ratio 2 : 1, P1 = 56,800 and P2 = 28,400 Combined total output of P1 + P2 valued at: (85,200 750) = 639,000 Split between P1 and P2 in the ratio of the sales value of production : P1 : P2 is (56,800 25) : (28,400 40) = 1,420 : 1,136 = 125 : 1 Product P1 valuation = (125 225) 639,000 = 355,000 Product P2 valuation = (100 225) 639,000 = 284,000 (b) 2,500 2,760 Additional revenue 260 Further processing costs of converting P1 into XP1 (100 3) 300 Additional costs exceed additional revenue by (40) Product P1 should not be further processed to make product XP1 as additional costs exceed additional revenue by 40 for every 100 litres of product P1. Assuming 100 litres of product P1: Revenue from sale of 100 litres of P1 (100 25) Revenue from sale of (100 092) litres of XP1 (92 30)

21

(a) Selling price (4,400,000 40,000) Less Variable costs: Production (1,800,000 45,000) Selling, admin and distribution (360,000 40,000)

per unit

per unit 110

40 9

Contribution (i) Total contribution (61 40,000)

(49) 61 2,440,000 000 2,440

(ii) Total contribution [as in (i)] Less Total fixed costs: Production Selling, admin and distribution

1,476 598

Net profit Alternative calculation of marginal costing net profit: Net profit (absorption costing) Less Increase in stock (5,000 units) at fixed production cost per unit (1,476,000 45,000) Net profit (marginal costing) (b) Let x = number of units produced and sold at the break-even point. At the break-even point: Total contribution = Total fixed costs 61x = 2,074,000 x = 34,000 units

(2,074) 366 000 530 (164) 366

(c)

When production units and sales units are not the same in a period, that is when opening and closing stocks are different, the profits calculated under absorption costing (AC) and marginal costing (MC) will not be the same. The stock valuation under AC includes a share of the fixed production overhead costs whereas under MC stocks are valued only at variable production cost. Marco Ltd has no opening stock next year but a closing stock of 5,000 units. Under AC this closing stock will contain an element of fixed production overhead costs which will be carried forward to the following year. Whereas under MC all the fixed production overhead costs will have been written off next year against profits and not included in the closing stock valuation. The effect of this is that next years MC profit (366,000) will be lower than the AC profit (530,000). The two profits will be the same in a period when production and sales units are the same, that is when there is no change in stocks.

(a)

(i)

The relevant cost of material in regular usage will be its replacement cost. So the relevant cost of 2,500 kg of material R will be: (2,500 25 108) = 67,500. The relevant cost of skilled labour in short supply will be the labour cost itself plus its opportunity cost (lost contribution from its alternative use). The alternative use of the skilled labour is the production of product T which makes a contribution of 30 using (25 10) = 25 hours of the skilled labour. So the relevant cost of 600 hours of skilled labour will be: (600 10) + [600 (30 25)] = 13,200.

(ii)

(b)

Relevant costs are those future cash costs that change as a direct consequence of undertaking the contract. This general approach applies to variable and fixed production overhead costs as well as to materials and labour. Generally variable production overhead costs tend to be relevant because by definition they vary with activity. So if the contract involves more activity then more variable production overhead costs will be incurred. An example of a variable production overhead cost is power charged at a rate per unit used (gas or electricity). On the other hand, if the fixed production overhead costs do not change as a result of undertaking the contract then they are not relevant. Examples of such costs would be rent or rates. However, if the contract causes a step up in the fixed production overhead costs then the amount by which they change is a relevant cost to the contract.

22

Part 1 Examination Paper 1.2 Financial Information for Management

June 2007 Marking Scheme Marks

Section A Each of the 25 questions in this section is worth 2 marks Section B 1 (a) (b) (i) to (iv) Variances (1 mark per variance) Budgeted contribution Sales price variance Variances from (a) Actual contribution Layout/presentation of statement 1 1 1 2 1 4 50

6 2 12

(c)

Explanation

(a)

Formulation of objective function Formulation of constraints Optimal production plan Resultant contribution

1 3 3 1 2 1

(b)

Explanation of shadow price Shadow prices

3 11

(a)

Debit entries Normal loss Abnormal loss Outputs

1 11/2 2 21/2 11/2 1 1/ 2

(b)

Additional revenue Additional costs Decision

3 10

(a)

Total contribution Net profit

21/2 11/2

4 2

(b) (c)

Break-even point Explanation for profit difference Condition for equal profits 2 1

3 9

23

Marks 5 (a) Relevant cost material R Relevant cost skilled labour 2 3 1 1 1

(b)

Explanation of relevant cost concept Application to variable and fixed production overhead costs Examples

3 8

24