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Code and Name of Course: SBC06110: Financial & Managerial Accounting Paper: MBA PT1FT
Date and Time: Friday, December 19, 2008; 9:00 a.m. -12:00 noon Duration: 3 hours
Instructions:
This examination consists of seven (7) questions and is divided into two (2)
sections: Sections 1 & 2.
You must answer at least one (1) question from each section.
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SECTION 1
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QUESTION 1 (do both parts) ."
Part (A)
"The biggest culprit [with respect to the recent financial crisis in the US] is the change in our
accounting rules that the Accounting Standards Board and the SEC put into place over the past
15 Years: Fair Value Accounting. Fair Value Accounting dictates that financial institutions
holding financial instruments available for sale (such as mortgage-backed securities) must mark
those assets to market" - William Isaac, The Wall Street Journal, September 19th,2008.
Required:
(i) Do you or don't you agree with the above statement? Why or why not? Carefully explain
your position on this issue. [3 marks]
(ii) Explain the accounting treatment for available for sale securities as recommended by IAS
39 /IFRS 7 (US SAFI15). With respect to:
(iii) How does accounting for available for sale securities differ from accounting for traded
securities? [3 marks]
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Part (B)
Blooming Things Company is in the business of growing and selling Christmas trees, a
seasonal business. By January 2, after the heavy selling.season, the company has cash on hand
that will not be needed for several months. It has minimal expenses from January to October and
heavy expenses during the harvest and shipping months of November and December. The
company's management follows the practice of investing the idle cash in marketable securities,
which can be sold as funds are needed for operations. The company's financial year ends on
June 30.
On January 10 of the year 2008, the company has cash 0($8,405,000. It keeps $200,000 on hand
for operating purposes and invests the rest ~s follows:
On February 10 and May 10, Blooming Things receives quarterly dividends from each company
in which it has invested: BNS - $0.50 per share; First Life - $0.05 per share; and Grace - $0.25
per share. The Treasury bills are redeemed at face value on April 10. On June 1, management
sells 5,000 First Life shares at $55 per share.
On June 30, the market values (per share) of the investments are as follows:
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BNS $20; First Life - $46; and Grace - $140.
Blooming Things sells all its remaining shares on November 1 at the followingprices: BNS -
$25; First Life - $44 and Grace - $160 per share.
Required:
(i) Record the investment transactions that occurred on January 10,February 10, April 10,
May 10 and June 1,2008. The T-bills are accounted for as held-to-maturitysecurities,
and the stocks are traded securities. [4 marks]
(ii) Prepare the required adjusting entries on June 30, 2008 and record the investment
transactions on November 1. [2 marks]
(iii) Explain how the short-term investments would be shown on the balance sheet at
June 30, 2008. [2 marks]
(iv) What is your assessment of the company's strategy with respect to cash management?
[2 marks]
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Question 2
Mr. David Jones, the CEO operates Computer Sales which assembles computer equipment from
bought in components and distributes them to various wholesalers and retailers. It has recently
subscribed to an interfirm comparison service. Members submit accounting ratios as specified by
the operator of the service, and in return, members receive the average figures for each of the
specified ratios taken from all of the companies,in the same sector that subscribe to the service.
The specified ratios and the average figures for Computer Sales' sector are shown below. Ratios
of companies reporting a full year's results for periQds ending between I July 2008 and
30 September 2008 Me listed below:
Computer Sales' financial statements for the year to 30 September 2008 are set out below:
Income statement
$000
Sales revenue 2,425
Cost of sales (1,870)
Balance Sheet
$000 $000
Non-current assets (note (i)) 540
Current Assets
Inventory 275
Accounts receivable 320
Bank nil 595
335
Non-current liabilities
Current liabilities
Bank overdraft 65
Trade accounts payable 350
.Taxation 85 500
Notes:
(2) The exceptional item relates to losses on the sale of a non-current asset.
(3) The market price of Computer sales' shares throughoutthe year averaged $6.00 each.
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Required:
(i) Explain the problems that are inherent when ratios are used to assess a company's
financial performance. Your answer should consider any additiomil problems that may
be encountered when using inter-firm comparisons such as those used to compare
Computer Sales. [4 marks]
(ii) Calculate the ratios for Computer Sales, equivalent to those provided by the inter-firm
comparison. [9 marks]
(iii) Write a report to the CEO, Mr. Jones analyzing the financial performance of Computer
Sales based q,n comparison with th~ sector averages: [7 marks]
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Question 3
The statementof cash flows for Appliance Sales and Sen;ices Ltd appears below:
Investing activities:
Additions to property, plant and equipment (102.4) ( 131.5)
Proceeds from sale of property, plant and equipment 5.6 6.7
Proceeds from sales of Computer City - 36.5
Investment in North Point Communication (20.0)
Other investing activities (4.2) (4.7)
Net cash used by investing activities (121.0) ( 93.0)
Financing activities:
Purchases of treasury stock (422.2) (337.4)
Proceeds from sale of common stock put options 4.4 0.3
Sale of treasury stock to employee stock plans 39.5 35.4
Proceeds from exercise of stock options 42.0 22.4
Dividends paid (42.5) (44.8)
Changes in short-term borrowings, net (42.3) (44.9)
Additions to long-term borrowings 100.6 45.7
Repayments of long-term borrowings (20.0) (39.9)
(340.5) (363.2)
Net cash used by financing activities .
Increase (decrease) in cash and cash equivalents 100.1 (41.4)
Cash and cash equivalents,beginning of period 105.9
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The following additional data comes from Appliance Sales' annual report (in thousands):
2007 2006 2005
( $' 000)
Reauired:
For the two years shown for the cash flow statements:
(i) Compute the cash-generating efficiencyratios of: Cash flow yield, Cash flows to sales,
Cash flows to assets and free cash flow. [4 marks]
(ii) Assume that you report to the chairman of the board who has asked you to analyze the
statement of cash flows for 2007 and 2006. Prepare a memorandumthat assesses the
company's cash generating efficiency and evaluates its available free cash flow in light of
its operating, investing and financing activities. [7 marks]
(iii) Are there any special operating circumstancesthat should be taken into consideration?
Refer to your computations and to the Statementof Cash Flows and additional
information provided in the question. [6 marks]
(iv) . From your analysis of the informationgiven, what business strategies can you discern
that management is attempting? Clearlyidentify three (3) such strategies.
(Note: althoughyour identificationshould bejustifiable a discussion on each is not
required.) [3 marks]
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SECTION 2
(i) Why are conv.entional product costing systems mor~ likely to systematically distort
product costs in highly automated plants? How do (ABC) activity-based costing systems
deal with such a situation? [4 marks]
(ii) What major steps must be performed to determinethe activity cost driverrates in a
traditional ABC cost system? [2 marks]
(Part B)
Deluxe Standard
Sales units 5,000 40,000
Last year, MTM purchased an expensive robotics system to allow for more complex
products in the deluxe line. The CFO suggestedthat an ABC analysis could be valuable
to help evaluate a product mix and promotion strategy for the next sales campaign.
She obtained the following ABC information for 2007:
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Reuuired:
(i) Using the current cost system, what is the estimated profit per unit for each type of wall?
.. [2 marks]
(ii) Using the current cost system, estimated manufacturing support costs per unit are less for
the deluxe wall ($900 per unit) than the standard wall ($1,200 per unit). What is a likely
explanation for this? [2 marks]
(a) compute the cost driver rate for each support activity. [3 marks]
(b) compute the revised total cost to manufacture one unit of the deluxe wall.
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(v) Is the deluxe wall as profitable as the original data estimated? Why or why not?
[2 marks]
(ii) Explain how an understanding of the supply chain can assist managers in maintaining a
JIT system. [3 marks]
(iii) Explain how value chain analysis can assist managers in making outsourcing decisions.
[3 marks]
(Part B)
Diamond Bicycle Company manufactures and sells bicycles nation-wide through specialty
bicycle shops. Diamond's average selling price to its distributors is $185 per bicycle. These
stores then sell retail to their customers for $349.
After several years of high sales, Diamond's sales over the last three years have slumped to
160,000 bicycles per year which is only 64% of its manufacturing capacity. Diamond expects the
demand for its product to remain the same over the next few 'years.
Premier Stores, a nation-wide chain of discount retail stores, has recently approached Diamond
to manufacture bicycles for Premier to sell. Premier has offered to purchase 40,000 bicycles
annually at $125 per bicycle. It is not willing to pay a higher price because it is planning to retail
the bicycles for only $200. Diamond had not previously sold bicycles through any marketing
channel other than specialty stores.
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Mike Diamond is the chief executive officer of Diamond Bicycle. Although Premier's offer is
well below Diamond's normal price, Mike is interested in the offer because Diamond has
significant excess capacity.He has asked for and has received the followingper unit product cost
information relating to the manufacture of bicycles:
Diamond pays its staff a 10% commission but will not have to pay commissionto any
salesperson if this special offer is accepted as this opportunitycame about as a result of a chance
meeting last year between Mike and Joe (the CEO of Premier) at a trade show in which Diamond
had to pay $20,000to exhibit.
Premier's offer requires that Diamond emboss Premier's private label on each bicycle. This
requirement will cost $2.50 per bicycle to cover materials. It will also require the purchase of a
custom-made embossing machine to do the embossment costing $50,000.This machine can/will
only be used on the bicycles sold to Premier and will be discardedthereafter.
Premier's offer also requires Diamond to deliver the bicycles to Premier's regional warehouse in
batches of 5,000 bicycles so that Premier can have ready access to an inventoryof bicycles to
meet fluctuating market demands. To meet this requirement,Diamond will have to contract with
a trucking company to do the delivery who will charge Diamond $25,000per shipment.
Required:
(i) Produce a statement which clearly shows whether or not Diamond should
accept or reject the offer from Premier. [9 marks]
(ii) What non-financial factors should management consider in making this decision?
[3 marks]
(ii) "All of a balanced scorecard's measures for processes should be fully controllable by
persons who perform the work in these the processes". Do you agree with this statement?
Explain. [4 marks]
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(Part B)
Syverson Manufacturingis a producer of plastic bottles for bottled water companies. In July of
this year, the plant manager switched to a new supplier of raw material. The materialhas a lower
cost, and because of its chemical composition, more bottles can be made per hour.
Below are the production data for the bottles for the two months before and after the switch of
suppliers.
Required:
1. Carefully evaluate the success of the decision to switch suppliers.To what extent has it
achieved the objective stated by the plant manager? Are there any draw backs?
[10 marks]
11. What does the plant manager need to consider in determiningwhether or not to continue
buying raw material from the new supplier? [2 marks]
QUESTION 7
The Blue Mountain Restaurant's financial informationfor the months of July- September, 2008,
is as follows:
Budeeted sales
July $60,000
August 65,000
September 70,000
In the past, cash and credit sales have been 40% and 60%, respectively, of the total sales. Actual
sales for May and June 2008 totaled $58,000 and $62,000,respectively.
Collections on credit sales average 25% in the month followihgthe sale and 75% in the second
month after the sale.
Food costs average 35% of total sales. Thirty percent of the food cost is paid in the month of sale
with Food Suppliers giving a 10% discount on all payments made within the month of sale. The
remaining 70% of the food cost is paid in the following month.
Payroll costs are paid at the end of each month and average 20% of total sales.
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Property tax totaling $12,000 for the year is paid in two eq~al installments in July and December.
During August, a new cash register is to be purchased for $18,000 from Cash Register Ltd. The
old register will be traded in to Cash Register Ltd in the same month at an expectedLoss of
$600; its net book value at the time of sale will be $1,000. The proceeds from the old cash
register will be set off against the purchase price of the new cash register.
The bank balance on June 30, 2008, was -$10,000 (bank overdraft).
All borrowings take place at the beginning of a month. Repaymentsof loans take place at the end
of a month if there is excess cash available to do so. The interestrate is 24% per annum.
Interest is calculated to the nearest dollar and is paid only when some repaymentof the loan is
made.
Required:
(i) Prepare the Blue Mountain Restaurant's cash~3J9,get for each of the months July-
September 2008 and for the quarter ending~with the assumption that the company
wants to maintain a cash balance at the end of each month of at least $40,000.
Round to the nearest dollar where necessary. [16 marks]
(ii) Explain how a cash budget can assist management in a seasonal cyclical business in
managing its cashflows. [4 marks]
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DEBT RATIOS
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LIQUIDITY RATIOS
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