YORK UNIVERSITY: Atkinson Faculty of Liberal & Professional Studies ADMS2510 3.

0 Final Examination: Winter 2005: 13th April 2005: 7-10 pm Solutions: Question 1: (25 marks): You have been hired by the President of Electric Motors & Computing Corp. (EM&CC) to provide advice on 3 issues. EM&CC has a number of divisions, each with their own manager. The following information is taken from the 2003 accounting records of East Coast Marketing, a division of EM&CC. Sales $12,000,000 Variable costs 4,000,000 Contribution margin $ 8,000,000 Direct fixed costs 5,000,000 Segment income $ 3,000,000 ========= At the beginning and end of 2003, East Coast Marketing had total assets of $6,000,000 and $4,000,000 respectively. Required: Issue 1: (6 marks) 1a) Compute the asset turnover ratio (2 marks)

Asset turnover = sales/assets = $12,000,000/$6,000,000 = 2 times Or, using average assets: $12,000,000/$5,000,000 = 2.4 times 1b) Calculate the profit margin ratio (based on segment income) (2 marks)

Profit margin = income/sales = $3,000,000/$12,000,000 = 25% 1c) Calculate the return on investment (2 marks). $3,000,000/$6,000,000 = 50% $3,000,000/$5,000,000 = 60%

ROI = income/assets = Or, using average assets =

Issue 2: (8 marks): The Cambridge Division of EM & CC manufactures circuit breakers. The company evaluates managers on the basis of both financial and non-financial results. The following data relate to the throughput of the Cambridge plant: Units started into production: Good units completed: Total production hours: Value-added production hours: Required: 2a) Calculate the manufacturing cycle efficiency (2 marks): 350,000; 300,000; 20,000; 17,500.

Manufacturing cycle efficiency = value added time/total time: 17,500/20,000 = 87.5% 2b) Calculate the process productivity (2 marks);

Process productivity = total units processed/value-added time: 350,000/17,500 hours = 20 units per hour 2c) Calculate the process quality yield (2 marks):

Process quality yield = good units/total units processed: 300,000/350,000 = 85.7% 2d) Calculate the throughput per hour (2 marks):

Throughput = good units/total time: 300,000/20,000 = 15 units per hour (Check: Throughput = MCE * PP * PQY = 87.5% * 20 * 85.7% = 15)

Required: Issue 3: (6 marks) The President wants to know how the compensation plan that is used to provide annual pay increases to managers should relate to the overall goals and objectives of EM & CC. 1. A good compensation plan tries to tie together the elements of organizational goals, performance measures, and employee rewards. 2. The organizational goals/objectives are determined by the board of directors and upper management of the company. 3. Critical success factors are identified and operational targets and compensation strategies are set. 4. Once these tasks are completed, performance measures can be identified and performance rewards can be set. 5. Employees then perform the designated tasks and their performance is monitored and measured to determine the necessary rewards. 6. Feedback is a critical part of the entire process for proper evaluation and continuation of the policy established.

Question 2 (25 marks: allow about 45 minutes) The Gasket Division is an autonomous division of Precision Parts Inc. It is producing 120,000 gaskets per month, which represents full capacity utilization. All its production is sold to outside buyers. The Rebuilt Engine Division of Precision Parts Inc is negotiating to buy 20,000 gaskets from the Gaskets Division. These are in various sizes and shapes, but one commonly used gasket (type XL5) is being used to set the transfer price. The outside purchase price of XL5 is $7.50. The Gasket Divisions cost estimates for XL5 are as follows: Direct materials: Direct labour: Fixed manufacturing overhead: Variable selling costs: Fixed selling costs: Fixed administrative costs: $2.00 1.00 0.60 1.80 0.80 0.30

The variable selling costs are mostly commission paid to sales representatives. This would not be incurred on an internal sale. Required: a) What would be a fair transfer price for the Gasket Division to supply product XL5 to the Rebuilt Engine Division (explain why it is fair)? (5 marks)

The Gasket Division is operating at capacity, so it should be entitled to the outside selling price, less any costs avoided on an internal transfer as a minimum transfer price: $7.50 $1.80 = $5.70. This ensures that the gasket division is no worse off by selling internally. b) What would be a fair transfer price for the Rebuilt Engine Division to buy product XL5 from the Gasket Division (explain why it is fair)? (5 marks)

The Rebuilt Engine Division can pay up to $7.50, being the alternative outside supply price. This ensures that it is no worse off by buying internally. c) Should the management of Precision Parts Inc. take any action in respect of the transfer price or the sourcing of these gaskets, and if so, what and why? (5 marks)

The company as a whole is better off by the avoided variable selling costs of $1.80 on each internal sale. If the two divisions can agree on a transfer price, then there is no need for intervention. This is likely.

If the two divisions cannot agree on a transfer price the management of Precision Parts should intervene to require internal sourcing and impose a suitable transfer price. The external alternative supply price of $7.50 is a likely choice. Alternatively they could impose a transfer price slightly lower than $7.50. This can be anywhere from $7.49 to $5.70, which would share the savings between the two parties. d) If the Gasket Division had excess capacity, in what ways would your answers to (a) (b) and (c) above change?

If the Gasket Division had excess capacity the minimum transfer price they could accept would be the variable cost of manufacture ($3). The Rebuilt Engine Division does not change and can still afford to pay $7.50. The motivation for an internal transfer is now much stronger (the cost saving is now $4.50 instead of $1.80), but the likelihood of the 2 parties agreeing on an internal transfer is much higher. If they cannot agree, head office must impose sourcing and pricing, but the price could be lower (anywhere from $3 to $7.50). e) Define an avoidable cost, and give one example (5 marks)?

An avoidable cost is one that goes away as a result of taking a decision. Examples include; raw materials; the variable selling costs in the problem above.

Question 3: Kline Co. makes a product that has a variable production cost of $15 and a selling price of $65. Variable selling costs per unit are $7.50. Fixed manufacturing costs total $250,000 and fixed selling costs total $175,000. The companys tax rate is 40%. The product requires 10 kg of steel. Steel costs $1.50 per kg. The production plan for the next three months is: May: 12,000 units; June: 15,000 units; July: 20,000 units. They always plan to have enough raw materials inventory on hand at the start of each month to manufacture all of that months output. Required: a. Kline Co. wants to earn $212,500 before taxes. How many units must it sell? (5 marks) Contribution margin = selling price variable cost: $65 ($15 + $7.50) = $42.50 Required sales level = (fixed cost + required profit)/contribution margin: ($250,000 + $175,000 + $212,500) / $42.50 = 15,000 units b. Kline Co. wants to earn $255,000 after taxes. How many units must it sell? (5 marks) Required sales level: (fixed cost + (required profit/ (1-tax rate)))/contribution margin: ($250,000 + $175,000 + ($255,000/ (0.6)) / $42.50 = 20,000 units c) What is the cost of raw material budgeted to be purchased in the month of June? (5 marks) Raw material to be purchased in June = July usage: 20,000 units * 10kg/unit * $1.50/kg = $300,000 d) If normal production is 12,500 kg per month, what is the standard manufacturing cost per unit produced? ( 5 marks) Materials: $15 (10kg @ $1.50/kg) Fixed cost: 20 ($250,000/12,500 units) Manufacturing cost: $35 e) If, in the month of May actual production was 10,000 units, and 100,000 kg of steel costing $180,000 was used, what was the material price variance? (5 marks) Standard cost material of actual steel used: 100,000 * $1.5 = $150,000 Less: actual cost: $180,000 Material price variance: $30,000 U.

Question 4: Chips For You manufactures microchips for computers. They use the weighted average method of process costing. All their manufacturing activities are treated as a single process for accounting purposes. The following data refers to the first two months of 2005: January Direct material used: Direct labour incurred: Total manufacturing costs: $420,000 380,000 $800,000 February $420,000 380,000 $800,000

There was no WIP inventory at the beginning of January. In January 10,000 chips were started into production and 10,000 good chips were produced and sold. There was no closing inventory at the end of January. There was no opening WIP inventory at the beginning of February. In February 10,000 chips were started into production, but only 9,000 were completed. The remaining 1,000 chips were complete in respect of materials, but only 50% complete in respect of conversion costs. Required: a) Prepare a production report for January 2005 (10 marks) Materials $420,000 10,000 $4.20 Conversion Costs $380,000 10,000 $3.80 $800,000 nil $800,000

Costs incurred; Equivalent units produced: Cost per equivalent unit:

Transferred to finished goods: Ending WIP: Cost accounted for/to account for:

b)

Prepare a production report for February 2005 (15 marks) $380,000 9,000 500 (1,000 * 50%) 9,500 40

Costs incurred; $420,000 Equivalent units Good units transferred out: 9,000 Ending WIP (1,000 nominal) 1,000 Equivalent units: 10,000 Cost per equivalent unit: $ 42 Transferred to finished goods: 9,000 * ($4.20 + $4): Ending WIP: Materials: 1,000 * $42: $42,000 Conversion costs: 500 * $40: 20,000 Cost accounted for/to account for:

$738,000 62,000 $800,000