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P2 Decision Management
SECTION A 20 MARKS [the indicative time for answering this section is 36 minutes] ANSWER ALL EIGHT SUB-QUESTIONS
Question One
1.1 A company manufactures three products using the same machine which has limited time available. The following cost and selling price details relate to the three products: Product Selling price Direct material Direct labour Variable overhead Fixed overhead Profit F $/unit 35 15 6 4 7 6 Minutes per unit 30 G $/unit 31 7 10 6 5 3 Minutes per unit 14 H $/unit 47 12 14 7 10 4 Minutes per unit 24
Machine time
The correct rank order for the three products so that the company maximises its profits, as measured using throughput accounting is A B C D FHG HFG HGF GHF (2 marks)
P2
May 2009
1.2
An investment project, with an initial outlay of $150,000, has a net present value of $28,000 when it is discounted at 5%. The present value of the sales revenue of the investment project is $262,500. The sensitivity of the investment to changes in the sales revenue is closest to: $112,500 $234,500 10% 11% (2 marks)
A B C D
1.3
The following table shows the daily cost estimates that a bank has made for a new banking service, together with their respective probabilities. The probabilities for each cost are independent. Variable costs Probability 30% 50% 20% Fixed costs Probability 20% 35% 45%
1.4
A project is discounted at 6% and has a positive net present value of $124,230. When the same project is discounted at 13% it has a negative net present value of $35,760. Calculate the internal rate of return of the project to the nearest 01% (2 marks)
1.5
The following incremental cash inflows relate to a new machine which has an initial purchase cost of $45,000: Year 1 2 3 4 Incremental cash flow $14,000 $22,000 $19,000 $11,000
1.6
A company is launching a new product. The product is made using a labour intensive process. The first unit took 12 minutes to complete. The total time taken for the first 16 units was 545 minutes. Calculate the rate of learning that occurred. (2 marks)
1.7
The following data have been extracted from the records of SW: Output 3,400 2,800 Total Cost $20,197 $18,312 Inflation Index 104 105
February March
Calculate the total cost expected for a month when output is forecast to be 3,300 and the inflation index is expected to be 107. (4 marks)
1.8
A company is reviewing the price of one of its products. The product has a marginal cost of $28 per unit and is currently sold for $65 per unit. At this price the demand for the product is 800 units per week. A market research study shows that for each reduction in the selling price by $5 per unit the weekly demand would increase by 40 units, and that for each increase in the selling price by $5 per unit the weekly demand would decrease by 40 units. Calculate the optimal selling price. Note: If Price P = a-bx then Marginal Revenue = a-2bx
(4 marks)
Reminder All answers to Section A must be written in your answer book. Answers to Section A written on the question paper will not be submitted for marking End of Section A. Section B starts on the next page
P2
May 2009
SECTION B 30 MARKS [the indicative time for answering this section is 54 minutes] ANSWER ALL THREE QUESTIONS. YOU SHOULD SHOW YOUR WORKINGS AS MARKS ARE AVAILABLE FOR THE METHOD YOU USE.
Question Two
A restaurant chain is considering when to replace its ovens. Each oven has a purchase cost of $14,000. The restaurant needs to decide whether to replace its ovens after one year, after two years or after three years. The following forecast data have been collected for a single oven: Year of ownership Operating costs Maintenance costs Trade-in value at the end of the year 1 $ 5,000 1,000 10,000 2 $ 6,000 2,000 7,000 3 $ 6,500 3,000 5,000
The companys cost of capital for this type of decision is 12% per annum. Ignore taxation.
Required: (a)
Prepare calculations to show the optimum replacement cycle for the restaurants ovens and state your recommendation. (7 marks) Explain two limitations of your solution to (a) above. (3 marks) (Total for Question Two = 10 marks)
(b)
TURN OVER
May 2009
P2
Question Three
A software development company sells three software products: AXPL1, FDR2 and VBG3. The companys marketing department adds a 25% mark-up to product costs to calculate the selling prices of the companys products. The current selling prices are based on the product costs that were calculated using a traditional absorption costing system. The company has just installed an activity based costing system and consequently changed its working practices with the result that all costs are now treated as effectively variable. The marketing department has not yet been informed about the revised product costs. The company has carried out some market research and there is a linear relationship between the price it charges for its software products and the resulting market share. The research shows that a change in price causes there to be a proportionate change in market share. A summary of the research shows that for every $2 increase in selling price there would be a 3% reduction in market share and for every $2 decrease in selling price there would be a 3% increase in market share. For example, if the selling price of AXPL1 were to be increased to $52 per unit its market share would reduce to 42%. The following data relate to the three software products: AXPL1 5000 45% 2,500 FDR2 7500 15% 3,000 VBG3 6500 80% 4,000
Current unit selling price ($) Current market share % Market size for the remaining life of the product (units) Activity based cost per unit ($)
48.00
42.00
75.00
Required: (a)
Explain, using the above information, why VBG3 currently has a high market share. (3 marks)
(b)
The marketing department is now considering using the new product costings to set the selling price by adding 25% mark-up to the unit Activity Based Cost. Calculate the impact on the remaining lifetime profits of each software product and the company as a result of the marketing department using this approach.
P2
May 2009
Question Four
You have recently been appointed as a companys Assistant Management Accountant. The company has recently begun operating a just-in-time production system but is having problems in meeting the demands of its customers because of quality failures within its production function. Previously, the company used to hold sufficient levels of finished goods inventory so that quality problems did not lead to lost sales. However, it was costly to hold high inventories and, as a result, the company decided to adopt the just-in-time approach. The Production Director believes that higher expenditure on Compliance costs is necessary to avoid the costs of Non-compliance, but he is having difficulty convincing the Managing Director and seeks your help.
Required:
Prepare a report addressed to the Managing Director that explains briefly the principles of Total Quality Management, explains the four categories of quality costs and explains the relationship between Compliance and Non-compliance costs in the context of Total Quality Management.
End of Section B
SECTION C 50 MARKS [the indicative time for answering this section is 90 minutes] ANSWER TWO QUESTIONS OUT OF THREE. YOU SHOULD SHOW YOUR WORKINGS AS MARKS ARE AVAILABLE FOR THE METHOD YOU USE.
Question Five
The ZYX Chemical Processing Company manufactures three liquid soaps (Z, Y and X) from the same common process. One of these (Z) may then be sold or further processed in a separate process into a luxury soap (ZS). At the moment all output of Z is processed further to produce ZS. Common Process The common process account for April 2009 is as follows: Litres 500 1,500 3,500 $000 1,000 750 5,000 4,000 6,000 16,750 Litres 500 2,000 1,500 1,000 500 5,500 $000 500 6,932 4,159 4,159 1,000 16,750
5,500
The outputs from this common process may be sold for the following prices per litre: Z $500 Y $400 X $600
The managers of the company consider that the results of the common process for April 2009 are similar to those that were expected, and that they may be used as a reliable basis for future decisions. Further Process The manager responsible for products Z and ZS seeks your help in advising her whether or not products should continue to be further processed. It is almost the start of a new financial year and she must decide now whether or not to sign a new 12 month contract for the rent of the building that is used for the further processing. The monthly rent is included in the specific costs shown below. If she decides not to continue with the further process, the specific cost can be avoided, but any realisable value associated with the further processing equipment will be cancelled out by the costs of its removal from the building. Over the past three months, when the level of inflation has been insignificant, the number of litres of Z input into the further process has varied slightly and the specific costs and other data of the process have been recorded as: Input volume (litres) March 2009 February 2009 January 2009 2,200 1,900 2,100 Specific costs $000 7,070 6,515 6,885
P2
May 2009
Losses are expected to arise at the end of the further process, although the percentage loss is uncertain. The following probabilities relate to the different amounts of loss that could occur: Loss (% of input) 10 12 15 The losses from this process have no value. The input volumes of 1,900 litres, 2,000 litres, 2,100 litres, and 2,200 litres all have equal probability of occurring. Probability 30% 45% 25%
Required: (a)
(i) (ii) Prepare a two-way data table in respect of the further process for product Z, with separate columns for each of the four input volumes, that shows the financial gains or losses that could result from further processing; and their respective probabilities (13 marks)
(b)
Evaluate your two-way data table and recommend to the product manager whether or not to further process product Z. (8 marks)
(c)
The product manager is concerned at the level of process losses occurring in the further process and has been investigating alternative methods of reducing the losses. One solution is to implement a quality test on the output of the common process. It is believed that its implementation would reduce the level of further processing losses by 50%.
Required:
Calculate, using an expected value basis, the maximum monthly cost of the quality test that would be acceptable. (4 marks) (Total for Question Five = 25 marks)
Question Six
PL is a manufacturing company that prepares its annual accounts to 30 June each year. It has been developing a new product at a total cost of $100,000. The company is now ready to begin full scale production in July 2009. The product will be manufactured using a number of machines which will need to be purchased at a cost of $1,500,000. This cost will be incurred on 1 July 2009 and the machines will be installed during July 2009. Production will commence during July 2009 and output volumes will gradually increase as the employees become more skilled at operating the machines. Initial Batch Cost The products are to be manufactured in batches of 100 units and the cost of the first batch is expected to be as follows: $ 20000 15000 15000 50000
Direct labour ($20 per hour) Direct material ($30 per kg) Variable overhead
Direct Labour It is expected that there will be a 90% learning curve effect on the direct labour cost for the first 64 batches. Thereafter the direct labour hours for each batch will be the same as that of the 64th batch until the total production equals 256 batches (25,600 units). After this it is expected that more employees will be recruited to enable the production volume to be increased to meet sales demand. The average time for each batch in excess of 256 batches is then expected to be 6 hours. Direct Material It is expected that the direct material usage for each batch will reduce to 4kg after the first 16 batches have been completed.
P2
10
May 2009
Variable Overhead Variable overhead costs are expected to vary in direct proportion to direct labour costs. Production & Sales The company does not plan to start selling the product until October 2009. This is to allow time to build up sufficient inventory of the product to enable the company to meet demand. For accounting and taxation purposes each unit of inventory is valued at a cost of $10. The company has produced the following schedule of production and sales volumes for each of the three years of the products life.
Selling Prices The initial selling price of the product will be $40 per unit in 2009. As the product becomes well known and in order to exclude competitors from the market, the price will be reduced at the start of July 2010 to $20 per unit. It is expected that the company can continue to charge this price for the remaining life of the product. Fixed Overhead Costs The product is expected to incur specific fixed costs of $1m for each year of its life. This includes some specific non-production costs, but does not include the depreciation cost of the machines. Capital Costs The machines will be used solely for the new product and will be purchased on 1 July 2009 at a cost of $1,500,000. They have an expected residual value of $300,000 on 30 June 2012 and qualify for tax depreciation at the rate of 20% per annum on a reducing balance basis. Taxation PL is liable to pay corporation tax at the rate of 30% of its profits. One half of its tax is payable in the year in which the profit is earned and the remainder is payable in the following year. Inflation It is believed that the effects of inflation on the investment are insignificant and can be ignored. Cost of Capital PL uses a post tax cost of capital of 12% to evaluate investments of this type.
Required: (c)
Calculate the Net Present Value of the investment proposal and advise PL whether or not the investment should proceed. (17 marks)
TURN OVER
May 2009
11
P2
Question Seven
A company has been asked to provide a quotation for an engineering project that will take one year to complete. An analysis of the project has already been completed and the following resource requirements have been identified:
(1)
A specialised machine will be required for a total of 10 weeks. Two of these weeks are at the start of the project and three of them are at the end. The machine could be hired in from a reputable supplier, who would guarantee its availability when it is required, for $4,000 per week. Alternatively it could be purchased at a cost of $250,000. If it were purchased it could be sold in one years time for $150,000. If the machine were purchased it could be hired out to other companies for $2,500 per week and it is believed that it would be hired out for a total of 30 weeks. The machinery has a running cost of $720 per week. This cost is incurred by the user of the machine. It is company policy to depreciate non-current assets by 25% per year on a reducing balance basis. Skilled labour would be required for a total of 9,000 hours during the year. The labour required could be recruited at an hourly rate of $12. Alternatively some of the employees currently working on other projects within the company could be transferred to this project. Their hourly rate is $10 per hour. If these existing employees were to be transferred to this project then they would need to be replaced on their existing project work. Replacements for their existing project work would cost $11 per hour. Unskilled labour would be required for a total of 12,000 hours during the year. These employees would need to be recruited on a one year contract at a cost of $8 per hour. The project would need to be supervised and it is estimated that there would be a total of 500 hours of supervision required during the year. One of the existing supervisors could undertake this work, but if he did so he would have to work a total of 300 hours overtime during the year to carry out the supervision on this project as well as his existing duties. The supervisor earns a salary of $50,000 per year for working 2,000 hours and is not paid for overtime work. If this project goes ahead the supervisor will be paid a bonus of $500, which would not be paid if the project is not undertaken. The direct materials required for the project are as follows: Material A The total amount required for the project would have to be purchased at a cost of $15,000. Material B The total amount required would be 10,000 square metres. The company purchased 25,000 square metres of this material for a project two years ago at a total cost of $100,000. The earlier project used 20,000 square metres of the material and the remainder is currently held in inventory. The company does not foresee any other use for this material in the future and could sell it for $2 per square metre. The current purchase price of the material is $5 per square metre.
(2)
(3)
(4)
(5)
(6)
(7)
(8)
The company has already incurred expenditure of $25,000 in analysing the resource requirements of the project. It is company policy to attribute overhead costs to projects using an absorption rate of 40% of prime costs. It is company policy to add a 25% profit mark-up to total costs when setting its prices. 12 May 2009
(9)
(10) P2
Required: (a)
Prepare a statement that shows the relevant cost of the project. For each of the resources indicated in notes (1) to (10) you must clearly explain the reason for the cost value that you have used. Ignore the time value of money and taxation. (20 marks)
(b)
Assume that the company used your calculations as the basis of the quotation and then added $125,000 for profit. Also assume that all costs incurred were the same as forecast. Explain why the financial profit reports at the end of the year would not show a profit of $125,000 for the engineering project. (5 marks)
P2
14
May 2009
4% 0.962 0.925 0.889 0.855 0.822 0.790 0.760 0.731 0.703 0.676 0.650 0.625 0.601 0.577 0.555 0.534 0.513 0.494 0.475 0.456
Interest rates (r) 5% 6% 0.952 0.943 0.907 0.890 0.864 0.840 0.823 0.792 0.784 0.747 0.746 0705 0.711 0.665 0.677 0.627 0.645 0.592 0.614 0.558 0.585 0.527 0.557 0.497 0.530 0.469 0.505 0.442 0.481 0.417 0.458 0.394 0.436 0.371 0.416 0.350 0.396 0.331 0.377 0.312 Interest rates (r) 15% 16% 0.870 0.862 0.756 0.743 0.658 0.641 0.572 0.552 0.497 0.476 0.432 0.410 0.376 0.354 0.327 0.305 0.284 0.263 0.247 0.227 0.215 0.195 0.187 0.168 0.163 0.145 0.141 0.125 0.123 0.108 0.107 0.093 0.093 0.080 0.081 0.069 0.070 0.060 0.061 0.051
7% 0.935 0.873 0.816 0.763 0.713 0.666 0.623 0.582 0.544 0.508 0.475 0.444 0.415 0.388 0.362 0.339 0.317 0.296 0.277 0.258
8% 0.926 0.857 0.794 0.735 0.681 0.630 0.583 0.540 0.500 0.463 0.429 0.397 0.368 0.340 0.315 0.292 0.270 0.250 0.232 0.215
9% 0.917 0.842 0.772 0.708 0.650 0.596 0.547 0.502 0.460 0.422 0.388 0.356 0.326 0.299 0.275 0.252 0.231 0.212 0.194 0.178
10% 0.909 0.826 0.751 0.683 0.621 0.564 0.513 0.467 0.424 0.386 0.350 0.319 0.290 0.263 0.239 0.218 0.198 0.180 0.164 0.149
11% 0.901 0.812 0.731 0.659 0.593 0.535 0.482 0.434 0.391 0.352 0.317 0.286 0.258 0.232 0.209 0.188 0.170 0.153 0.138 0.124
12% 0.893 0.797 0.712 0.636 0.567 0.507 0.452 0.404 0.361 0.322 0.287 0.257 0.229 0.205 0.183 0.163 0.146 0.130 0.116 0.104
13% 0.885 0.783 0.693 0.613 0.543 0.480 0.425 0.376 0.333 0.295 0.261 0.231 0.204 0.181 0.160 0.141 0.125 0.111 0.098 0.087
14% 0.877 0.769 0.675 0.592 0.519 0.456 0.400 0.351 0.308 0.270 0.237 0.208 0.182 0.160 0.140 0.123 0.108 0.095 0.083 0.073
17% 0.855 0.731 0.624 0.534 0.456 0.390 0.333 0.285 0.243 0.208 0.178 0.152 0.130 0.111 0.095 0.081 0.069 0.059 0.051 0.043
18% 0.847 0.718 0.609 0.516 0.437 0.370 0.314 0.266 0.225 0.191 0.162 0.137 0.116 0.099 0.084 0.071 0.060 0.051 0.043 0.037
19% 0.840 0.706 0.593 0.499 0.419 0.352 0.296 0.249 0.209 0.176 0.148 0.124 0.104 0.088 0.079 0.062 0.052 0.044 0.037 0.031
20% 0.833 0.694 0.579 0.482 0.402 0.335 0.279 0.233 0.194 0.162 0.135 0.112 0.093 0.078 0.065 0.054 0.045 0.038 0.031 0.026
May 2009
15
P2
Cumulative present value of $1 per annum, Receivable or Payable at the end of each year for n years
1 (1+ r ) n r
1% 0.990 1.970 2.941 3.902 4.853 5.795 6.728 7.652 8.566 9.471 10.368 11.255 12.134 13.004 13.865 14.718 15.562 16.398 17.226 18.046
2% 0.980 1.942 2.884 3.808 4.713 5.601 6.472 7.325 8.162 8.983 9.787 10.575 11.348 12.106 12.849 13.578 14.292 14.992 15.679 16.351
3% 0.971 1.913 2.829 3.717 4.580 5.417 6.230 7.020 7.786 8.530 9.253 9.954 10.635 11.296 11.938 12.561 13.166 13.754 14.324 14.878
4% 0.962 1.886 2.775 3.630 4.452 5.242 6.002 6.733 7.435 8.111 8.760 9.385 9.986 10.563 11.118 11.652 12.166 12.659 13.134 13.590
Interest rates (r) 5% 6% 0.952 0.943 1.859 1.833 2.723 2.673 3.546 3.465 4.329 4.212 5.076 5.786 6.463 7.108 7.722 8.306 8.863 9.394 9.899 10.380 10.838 11.274 11.690 12.085 12.462 4.917 5.582 6.210 6.802 7.360 7.887 8.384 8.853 9.295 9.712 10.106 10.477 10.828 11.158 11.470
7% 0.935 1.808 2.624 3.387 4.100 4.767 5.389 5.971 6.515 7.024 7.499 7.943 8.358 8.745 9.108 9.447 9.763 10.059 10.336 10.594
8% 0.926 1.783 2.577 3.312 3.993 4.623 5.206 5.747 6.247 6.710 7.139 7.536 7.904 8.244 8.559 8.851 9.122 9.372 9.604 9.818
9% 0.917 1.759 2.531 3.240 3.890 4.486 5.033 5.535 5.995 6.418 6.805 7.161 7.487 7.786 8.061 8.313 8.544 8.756 8.950 9.129
10% 0.909 1.736 2.487 3.170 3.791 4.355 4.868 5.335 5.759 6.145 6.495 6.814 7.103 7.367 7.606 7.824 8.022 8.201 8.365 8.514
11% 0.901 1.713 2.444 3.102 3.696 4.231 4.712 5.146 5.537 5.889 6.207 6.492 6.750 6.982 7.191 7.379 7.549 7.702 7.839 7.963
12% 0.893 1.690 2.402 3.037 3.605 4.111 4.564 4.968 5.328 5.650 5.938 6.194 6.424 6.628 6.811 6.974 7.120 7.250 7.366 7.469
13% 0.885 1.668 2.361 2.974 3.517 3.998 4.423 4.799 5.132 5.426 5.687 5.918 6.122 6.302 6.462 6.604 6.729 6.840 6.938 7.025
14% 0.877 1.647 2.322 2.914 3.433 3.889 4.288 4.639 4.946 5.216 5.453 5.660 5.842 6.002 6.142 6.265 6.373 6.467 6.550 6.623
Interest rates (r) 15% 16% 0.870 0.862 1.626 1.605 2.283 2.246 2.855 2.798 3.352 3.274 3.784 4.160 4.487 4.772 5.019 5.234 5.421 5.583 5.724 5.847 5.954 6.047 6.128 6.198 6.259 3.685 4.039 4.344 4.607 4.833 5.029 5.197 5.342 5.468 5.575 5.668 5.749 5.818 5.877 5.929
17% 0.855 1.585 2.210 2.743 3.199 3.589 3.922 4.207 4.451 4.659 4.836 4.988 5.118 5.229 5.324 5.405 5.475 5.534 5.584 5.628
18% 0.847 1.566 2.174 2.690 3.127 3.498 3.812 4.078 4.303 4.494 4.656 7.793 4.910 5.008 5.092 5.162 5.222 5.273 5.316 5.353
19% 0.840 1.547 2.140 2.639 3.058 3.410 3.706 3.954 4.163 4.339 4.486 4.611 4.715 4.802 4.876 4.938 4.990 5.033 5.070 5.101
20% 0.833 1.528 2.106 2.589 2.991 3.326 3.605 3.837 4.031 4.192 4.327 4.439 4.533 4.611 4.675 4.730 4.775 4.812 4.843 4.870
P2
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May 2009
FORMULAE
Time series
Additive model: Series = Trend + Seasonal + Random Multiplicative model: Series = Trend*Seasonal*Random
Regression analysis
The linear regression equation of Y on X is given by: Y = a + bX where: b= and or solve
Covariance ( XY ) Variance ( X )
or Y Y = b(X X ), =
n XY ( X )( Y ) n X ( X )
2 2
a= Y bX
Y = na + b X
XY = a X + b X
Exponential Geometric
Y = abx Y = aXb
Learning curve
Yx = aXb where: Yx = the cumulative average time per unit to produce X units; a = the time required to produce the first unit of output; X = the cumulative number of units; b = the index of learning. The exponent b is defined as the log of the learning curve improvement rate divided by log 2.
May 2009
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P2
P2
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May 2009
VERBS USED
List State Define
DEFINITION
Make a list of Express, fully or clearly, the details of/facts of Give the exact meaning of
Communicate the key features Highlight the differences between Make clear or intelligible/State the meaning of Recognise, establish or select after consideration Use an example to describe or explain something
To put to practical use To ascertain or reckon mathematically To prove with certainty or to exhibit by practical means To make or get ready for use To make or prove consistent/compatible Find an answer to Arrange in a table
4 ANALYSIS How you are expected to analyse the detail of what you have learned.
Examine in detail the structure of Place into a defined class or division Show the similarities and/or differences between To build up or compile To examine in detail by argument To translate into intelligible or familiar terms To create or bring into existence
5 EVALUATION How you are expected to use your learning to evaluate, make decisions or recommendations.
To counsel, inform or notify To appraise or assess the value of To advise on a course of action
May 2009
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P2
Managerial Level
May 2009
P2
20
May 2009