ACO24 - 1 Management Accounting 1

Examination – January 2009 (Luton site)/Singapore PT2 group (May 2009?)

Duration - three hours

Students may bring into the exam a scientific calculator
No printed material may be brought into the exam.

The structure of this paper is as follows;

Section A

There are two questions in this section

Students must attempt 1 – each question carries 25 marks

Section B

There are four questions in this section

Students must attempt 3 – each question carries 25 marks
Section A – Attempt one question only

Question 1

"It is essential to allocate common processing costs to joint products in order to provide
meaningful information to management."

Discuss.
(25 marks)

Question 2

Discuss the role of marginal costing in decision making, giving examples of it use.

(25 marks)
Section B – Attempt three questions

Question 3

Goldfish Ltd. manufactures a fishtank – their only product. The standard marginal cost for this
product is as follows:
£
Direct material 12.00
Direct wages 8.50
Variable production overhead 2.00
22.50

The annual budget shows the following:

Output (units) 100,000

£
Fixed overhead:
Production 1,200,000
Administration 300,000
Marketing 750,000

Selling Price £57.50

A number of alternative strategies are being considered;

1 Selling price should be increased by 20%. This should cause a 10% drop in output volume,
but in addition fixed marketing costs can be reduced by £50,000.

2 A new system of plant maintenance should be introduced at the start of the year. This will
cost an additional £100,000 p.a. but will enable less wastage of direct material to be
experienced. It is estimated that 25% of the direct material cost will be saved.

3 Selling price should be increased by 20% and additional advertising of £350,000 incurred.
This should increase sales by 10,000 units for the period. Such an increase in volume will
cause the variable production overhead for all output to increase to £2.50 per unit, and for
fixed production overhead to rise to £1,250,000.

4 A second product should be produced. This will be marketed through a mail order company
under their brand name. There is an initial request for 15,000 units at a price to the mail order
company of £40.00 per unit. Due to different quality of materials the direct material cost will
be £1.00 per unit lower. Variable production overhead for all output will increase to £2.50 per
unit, and that fixed production overhead will increase to £1,250,000. Existing sales should be
reduced by 5,000 units because the mail order company will sell to some of Goldfish Ltd's
existing customers.

Required:

Evaluate each of the alternative strategies, and recommend which, if any, should be
implemented. State clearly any assumptions you make. (25 marks)
Question 4

(a) You have recently been appointed Chief Management Accountant for a large company
which has several factories. You are a little unhappy with the existing budget system and it is
clear to you that some of the factory managers do not understand much about budgeting.
You, therefore, are arranging a programme of "in house" training sessions and will commence
by giving a lecture on budgetary control.

Required

Prepare a set of notes under the following headings:

1. The purpose of budgetary control (4 marks)

2. The main steps in preparing a budget (4 marks)
3. The difference between fixed and flexible budgets. (4 marks)

(b) Polhill Brothers produce a single product whose expected sales are:

Units

December 1500
January 1800
February 2100
March 2000
April 1800
May 1600
June 2000
July 1800

The firm's policy for stock is:

i) Raw material stock should be equal to 25% of next month's production.

ii) Finished goods stock should be equal to 20% of next month's sales.

Stocks at the end of November:

Finished Goods 300 units

Raw Materials 1,500 kg

Each unit of production requires 4 kg of raw material.

Required

Prepare a month by month production and raw material purchase budgets for the six
months December 1st to May 31st (6 months).
(8 marks)

(25 marks)
Question 5

(a) Rodney Fishing Ltd. manufacture a high quality fishing rod. The standard prime cost of
the fishing rod is shown below:

£ £
Materials:
Carbon blank 55.00
Graphite rings (12) 12.00
Cork handle 6.00
73.00
Labour:
2 hours at £7.50 per hour 15.00
Other:
Varnish and silk thread 2.00
Standard prime cost per rod 90.00

For the month of May the output of completed rods was 1,500. There were no stocks of work
in progress at either the beginning or the end of the month. The receipts and issues of
materials are as follows:-

Carbon Graphite Cork

blanks rings handles

Opening Stock: 25 400 29

Purchases: 1,600 20,000 1,700

at £58 at £0.90 at £7.00
each each each

Issues: 1,510 18,200 1,510

The above material was used exclusively in the production of the fishing rod and it is the
policy of the company to calculate any price variance when the materials are purchased.

The direct employees who assembled the rods worked a total of 2,950 hours and earned
gross wages of £22,895.

Required:

Calculate for the month of May the following standard cost variances:

i) material price (in total and by type of material);

ii) material usage (in total and by type of material);
iii) direct wages rate;
iv) direct labour efficiency. (20 Marks)

(b) Rodney, the managing director has asked you as management accountant to analyse the
results for May.

Required:

Draft a report which analyses how well the company has performed for May, and
suggest possible causes for the variances you have calculated.
(5 Marks)

(25 Marks)
Question 6

Burns Limited has three production departments (processing, assembly and finishing) and
two service departments (administration and work study). The following information relates
to April.

£
Material costs
Processing 100 000
Assembling 30 000
Finishing 20 000

Labour costs
Processing (£4 x 100 000 hours) 400 000
Assembling (£5 x 30 000 hours) 150 000
Finishing (£7 x 10 000 hours) + (£5 x 10 000 hours) 120 000
Administration 65 000
Work Study 33 000

Other allocated costs:

Processing 15 000
Assembling 20 000
Finishing 10 000
Administration 35 000
Work Study 12 000

Apportionment of costs:

Process Assembling Finishing Work study

% % % %
Administration 50 30 15 5
Work study 70 20 10 -

Total machine hours: Processing 25 000

All units produced in the factory pass through the three production departments before they
are put into stock. Overhead is absorbed in the processing department on the basis of
machine hours, on the basis of direct labour hours in the assembling department, and on the
basis of percentage on the direct labour cost in the finishing department.

The following details relate to unit XP6:

£ £
Direct materials:
Processing 15
Assembling 6
Finishing 1 22

Direct labour:
Processing (2 hours) 8
Assembling (1 hour) 5
Finishing (1 hour x £7 + 1 hour x £5) 12 25
Prime cost £47

XP6: Number of machine hours in the processing department = 6

Required:

a) Calculate the total cost of producing unit XP6 (20 Marks)

b) Discuss the proposition that overhead absorption rates should always be
pre-determined. (5 Marks)

(25 Marks)
Marking scheme

Question 1 solution

Points to include:

allocation of common costs to meet financial accounting requirements for stock valuation

discussion of the various methods that could be adopted

• physical units
• final sales value
• net realisable value
• sales value at point of separation
• examples
to distinguish between joint and by-products
discussion of the limitations of joint cost allocations for decision-making purposes
basic solution to look at the benefit of further processing versus to cost of further processing,
i.e. to ignore the common costs
examples

Question 2 solution

In order to make decisions, managers need to understand the behaviour of cost – i.e. those
costs that will change as a result of the decision. The use of CVP analysis in making
decisions is called marginal costing (UK) or variable costing (US).

Marginal costing should be used “on the margins”, i.e. for non core activity. Core activity
should be expected to cover fixed costs. Activities on the margins that produce a contribution
should normally attract an accept decision.

Uses of marginal costing

- planning activities in multi product organisations
- decisions involving price-cost-volume variables
- special Selling Price Decisions e.g.
In general, organisations will decide to set special selling prices if a contribution to
fixed costs is made, i.e. if incremental revenue covers incremental cost.
This will usually for the short term only, as in the long term, fixed costs must be
recovered
Is price cutting the only way to achieve sales?
Will this confuse the market?
Is there a possibility of a price war?
Will existing customers accept their own (higher) prices?
Is it wise to lock up capacity? Demand for full price production may rise.
- Shutdown - of a business segment
A segment may consist of a product or service, a department, branch, factory or
unit, a geographical region or customer type.
- Limiting Factors
Many organisations experience situations whereby demand outstrips the ability to
supply. This may be due to shortages in particular areas
materials
labour
services
space
capital
The factor should be identified, and the contribution earned per unit of that factor
should be computed.
- Make or Buy Decisions
Many organisations have the option of producing a part/service or of subcontracting
Automotive parts
Outsourcing
Question 3 solution

Proposal 1

New Sales Price £

£57.50 x 120% 69.00

New volume
100,000 x 90% 90,000 units

Old Profit
£3,500,000 - (1,200,000 + 300,000 + 750,000) £1,250,000

New Profit
(£69.00 - 22.50) x 90,000 £4,185,000
Less fixed costs
(1,200,000 + 300,000 + 700,000) 2,200,000
1,985,000

Difference - Increase in profit of

£1,250,000 - 1,985,000 £735,000

Proposal 2
£
Material saving: £12.00 x 25% £3.00 per unit

No. of units 100,000

Total saving £300,000
Cost of scheme £100,000
Net benefit £200,000

Proposal 3
£
New selling price 69.00
Less new variable cost £22.50 + 0.50 23.00
New contribution 46.00
No. of units 110,000
Total contribution 5,060,000
Less fixed costs
(1,250,000 + 300,000 + 1,100,000) 2,650,000
New Profit 2,410,000
Old Profit 1,250,000
Net increase 1,160,000

Proposal 4
£
New contribution:
Old units:
(£57.50 - 23.00) 95,000 3,277,500
New units:
(£40.00 - 22.00) 15,000 270,000
3,547,500
Less fixed costs:
(1,250,000 + 300,000 + 750,000) 2,300,000
New Profit 1,247,500
Old Profit 1,250,000
Net decrease 2,500
Suitable recommendations

Question 4 solution

Part (a)

1. Purpose

(i) Assist in assessment of different course of action

(ii) Create motivation via goal setting
(iii) To monitor/control performance, i.e. by constantly comparing actual v budget and taking
corrective action.

2. Preparation

(i) Prepare forecast

(ii) Determine overall policy (product range, channels of distribution)
(iii) Compute requirements (men, machines, material) and convert to money values
(iv) Review and amend through a series of management meetings
(v) Formally accept the budget.

3. Differences

(i) Flexible budget designed to change in accordance with the level of activity actually
attained, i.e. it assesses what costs should have been at the actual level of activity.
(ii) Fixed budgets do not change to reflect the level of activity. They remain constant.
(iii) Flexible budgets are of more use for control purposes, i.e. managers achievements can
only properly be compared with what he should have achieved in the actual circumstances
prevailing.

Part (b)

Production Budget

Dec Jan Feb Mar April May

Open Stock 300 360 420 400 360 320

Production 1560 1860 2080 1960 1760 1680
1860 2220 2500 2360 2120 2000

less Sales 1500 1800 2100 2000 1800 1600

Close Stock 360 420 400 360 320 400

Raw Material Budget

Open Stock 1500 1860 2080 1960 1760 1680

Purchase 6600 7660 8200 7640 6960 7000
8100 9520 10280 9600 8720 8680

less Production 6240 7440 8320 7840 7040 6720

Close Stock 1860 2080 1960 1760 1680 1960

Question 5 solution

a) i Material Price Variance: (SP - AP) Purchase Qty

Carbon blanks (£55 - 58) 1,600 £4,800 (A)

Graphite rings (£1 - 0.90) 20,000 £2,000 (F)
Cork handles (£6.00 - 7.00) 1,700 £1,700 (A)
 £4,500 (A)

ii Material Usage Variance: (SQ - AQ) SP

Carbon blanks (1,500 - 1,510) £55 £550 (A)

Graphite rings (1,500 x 12 - 18,200) £1 £200 (A)
Cork handles (1,500 - 1,510) £6 £60 (A)
£810 (A)

iii Direct Wages Rate: (SR x AH) - (AR x AH)

(£7.50 x 2,950) - £22,895 £770 (A)

iv Direct Labour Efficiency: (Std. hours produced - AH) SR

(1,500 x 2 - 2,950) £7.50 £375 (F)

b) Report format

Analysis of May 1994

Possible causes

Question 6 solution

a) BURNS LIMITED
Overhead absorption schedule
Departments

Processing Assembling Finishing Administration Work Study

£ £ £ £ £
Direct labour - - - 65 000 33 000
Allocated costs 15 000 20 000 10 000 35 000 12 000

100 000
Apportion:
Administration
(50:30:15:5) 50 000 30 000 15 000 (100 000) 5 000
50 000
Work study 35 000 10 000 5 000 - (50 000)
(70:20:10)
Overhead to be £100 000 £60 000 £30 000 - -
absorbed

Calculation of absorption rates:

Processing department: TCCO 100 000 = £4 per MH

Machine hours 25 000

Assembling department: TCCO 60 000 = £2 per DLH

Direct labour hours 30 000

Finishing department: TCCO x 100 30 000 x 100 = 25%

Direct labour cost 120 000

Total cost of producing unit XP6:

£ £
Prime cost 47
Overhead:
Processing (4 x 6 MH) 24
Assembling (2 x 1) 2
Finishing (25% x 12) 3 29
Total Cost 76

b) In favour of predetermined rates

- product cost arrived at quickly

- assets decision making e.g. pricing

Against predetermined rates

- lengthy over and/or under absorption calculations

- difficult to assign responsibility