EOQ = = = 8,000 units Reorder level Reorder level = Safety stock + Lead time consumption Reorder level = (ii)

Transcription

1 Model Test Paper - 1 IPCC Group- I Paper - 3 Cost Accounting and Financial Management May (a) Primex Limited produces product P. It uses annually 60,000 units of a material Rex costing ` 10 per unit. Other relevant information are: Cost of placing an order : ` 800 per order Carrying cost : 15% per annum of average inventory Re-order period : 10 days Safety stock : 600 units The company operates 300 days in a year. You are required to calculate: (i) Economic Order Quantity for material Rex. (ii) Re-order Level (iii) Maximum Stock Level (iv) Average Stock Level (5 marks) Answer: (i) Economic order quantity of material Rex. EOQ = EOQ = = (ii) = 8,000 units Reorder level Reorder level = Safety stock + Lead time consumption Reorder level = Reorder level = ,000 Reorder level = 2,600 units 3.1

2 3.2 O Solved Scanner IPCC Group- I Paper - 3 (iii) (iv) Maximum stock level = Reorder level + Economic order quantity - (Min. usage Min. Lead time) = 2, ,000 - lead time consumption = 8,600 units Average level Average level = Average level = 4,600 units = (b) Explain and illustrate cash break even chart. (5 marks) Answer : Cash Break Even Chart A Cash Breakeven Chart records cash costs and revenues on the vertical axis and the level of activity on the horizontal axis. In this chart, variable costs are assumed to be payable in cash. Beside this, the fixed expenses are divided into two groups viz. (i) Those expenses which involve cash outflow, e.g. rent, insurance, salaries etc. and (ii) Those expenses which do not involve cash outflow, e.g. depreciation, bad debts etc. The making of the cash breakeven chart would require us to select appropriate axes. Subsequently, we will mark costs/revenues on the Y axis whereas the level of activity shall be traced on the X axis. Lines representing (i) Cash Fixed costs, (ii) Total costs at maximum level of activity and (iii) Revenue at maximum level of activity (joined to the origin) shall be drawn next. The cash breakeven point is that point where the sales revenue line intersects the total cash cost line. Other measures like the margin of safety and profit can also be measured from the chart. It is computed as under

3 Model Test Paper O 3.3 Cash BEP (units) = (c) Explain the principles of "Trading on equity". (5 marks) Answer : The term 'equity' refers to the ownership or stock of a company and trading means taking advantage of. Hence, the term trading on equity means taking advantage of equity share capital to borrow funds on reasonable basis. It refers to the additional profit which equity shares make at the expense of other forms to securities. This concept is based on the theory that there is a difference among the rates of return on the various types of securities issued by the company. When the Return on Investment (ROI) is more than the interest rate then financial leverage works in favour of equity shareholder and Return on Equity (ROE) will be even more than ROI. The policy of trading on equity is followed by a company for the following three purpose: 1. To retain full control over the business. 2. To increase the rate of dividend on equity shares. 3. To achieve control on more financial resources by taking maximum loan/ debt on the basis of minimum owned or equity share capital. For example the Capital employed is ` 2,00,000, debt equity ratio is 1:1, interest rate is 10% and EBIT is ` 30,000. Here ROI is 15% (30,000 / 2,00,000) which is more than interest rate of 10%. This excess return of 5% (15 10) will go to equity shareholders and (ROE) will be 20% (20,000/ 1,00,000). This excess return earned by equity shareholder due to favourable financial leverage position is termed as trading on equity. (d) Discuss the risk-return considerations in financing current assets. (5 marks) Answer : The financing of Current Assets involves a trade off between risk & return. A firm can choose from short or long term sources

4 3.4 O Solved Scanner IPCC Group- I Paper - 3 of finance. Short term financing less expensive than long term financing, but at the same time, short term financing involves greater risk than long term finance. Depending upon the mix of short term and long term financing the approach followed by a company may be referred as matching approach, conservative approach and aggressive approach. 1. Matching Approach In matching approach, long term finance is used to finance fixed assets & permanent current assets and short term financing to finance temporary or variable current assets. 2. Conservative Approach Under the conservative plan, the firm finances its permanent assets and also a part of temporary current assets with long term financing and hence less risk of facing the problem of shortage of funds. 3. Aggressive Approach An aggressive approach is said to be followed by the firm, when it uses more short term financing than warranted by the matching plan and finances a part of its permanent current assets with short term financing. 2. (a) A company produces single product which sells for ` 20 per unit. Variable cost is ` 15 per unit and Fixed overhead for the year is ` 6,30,000. Required : (a) Calculate sales value needed to earn a profit of 10% on sales. (b) Calculate sales price per unit to bring BEP down to 1,20,000 units. (c) Calculate margin of safety sales if profit is ` 60,000. (8 marks)

5 Model Test Paper O 3.5 Answer : ` (a) Selling Price = 20 Variable cost = 15 Contribution 5 P/V ratio = 100 = 100 = 25% Sales to earn Desired Profit = Let Sales = x x =.25x = 6,30, x x = = 42,00,000 Sales value = ` 42,00,000 Desired = ` 4,20,000 (b) Break- Even Point = = = 1,26,000 Units Sales Price / unit to bring BEP down to 1,20,000 units Contribution = = 1,20,000 = Selling Price = 5.25 = Variable cost + Contribution

6 3.6 O Solved Scanner IPCC Group- I Paper - 3 = = ` (c) Sales to earn ` 60,000 Profit = Sales = ` 27,60,000 Sales at BEP = 1,26,000 units ` 20 = ` 25,20,000 Margin of Safety Sales = Sales Sales at BEP = 27,60,000 25,20,000 = ` 2,40,000 Alternatively MS Sales = = = (b) The following information related to XL Company Ltd. for the year ended 31 st March, 2013 are available to you: Equity share capital of ` 10 each ` 25 lakh 11% Bonds of ` 1,000 each ` 18.5 lakh Sales ` 42 lakh Fixed cost (Excluding Interest) ` 3.48 lakh Financial leverage 1.39 Profit-Volume Ratio 25.55% Income Tax Rate Applicable 35% You are required to calculate: (i) Operating Leverage; (ii) Combined Leverage; and (iii) Earning Per Share. (8 marks) Answer: Profit - Volume Ratio =

7 Model Test Paper O = 100 Contribution = 10,73,100 (i) Operating Leverage = = = (ii) (iii) = 1.48 Combined Leverage = Operating Leverage Financial Leverage = = 2.06 Earnings Per Share (EPS) Number of Equity Shares = 2,50,000 Earnings Before Tax (EBT) = Sales - Variable Cost - Fixed Cost - Interest EBT = 42,00,000-31,26,900-3,48,000-2,03,500 = 5,21,600 Profit After Tax (PAT) = EBT - Tax = 5,21,600-1,82,560 =3,39,040 EPS = = EPS = (a) ABX Company Ltd. provides the following information relating to Process-B: (i) Opening Work-in-progress - NIL (ii) Units Introduced - 45,000 ` 10 per unit (iii) Expenses debited to the process: Direct material ` 65,500

8 3.8 O Solved Scanner IPCC Group- I Paper - 3 Labour ` 90,800 Overhead ` 1,80,700 (iv) Normal loss in the process - 2% of Input (v) Work-in-progress - 1,800 units Degree of completion Materials - 100% Labour - 50% Overhead - 40% (vi) Finished output - 42,000 units (vii) Degree of completion of abnormal loss: Materials - 100% Labour - 80% Overhead - 60% (viii) Units scrapped as normal loss were sold at ` 5 per unit. (ix) All the units of abnormal loss were sold at ` 2 per unit. You are required to prepare: (a) Statement of equivalent production. (b) Statement showing the cost of finished goods, abnormal loss and closing balance of work-in-progress. (c) Process-B account and abnormal loss account. (8 marks) Answer : (a) Statement of Equivalent Production Input Details Units Output Particulars Units Equivalent Production Material Labour Overhead % Units % Units % Units Unit Introduced 45,000 Finished output Normal loss 42, , , , (2% of 45,000) Abnormal loss Closing W-I-P 1, ,

9 Model Test Paper O ,000 45,000 44,100 43,140 42,900 (b) Statement of Cost Particulars Units Rate (`) Amount (`) Amount (`) (i) Finished goods 42, ,51, (ii) Abnormal Loss Material , Labour Overhead , (iii) Closing W-I-P: Material 1, , Labour , Overhead , , Cost Per Unit Particulars Amount (`) Units Per Unit (`) (i) Direct Material: Unit Introduced 4,50,000 Add: Material 65,500 Less: Value of normal loss (900 units x ` 5) 5,15,500 (4,500) 5,11,000 44, (ii) labour 90,800 43, (iii) Overhead 1,80,700 42,

10 3.10 O Solved Scanner IPCC Group- I Paper (c) Process- B A/c Particulars Units Amount (`) Particulars Units Amount (`) To Input 45,000 4,50,000 By Normal loss 900 4,500 To Direct Material - 65,500 By Abnormal loss 300 4,740 To Labour - 90,800 By Finished goods 42,000 7,51,976 To Overhead 1,80,700 By Closing W-I-P 1,800 25,784 45,000 7,87,000 45,000 7,87,000 Abnormal Loss A/c Particulars Units Amount (`) Particulars To Process-B A/c 300 4,740 By Cost ledger control A/c or Bank A/c By Costing Profit & Loss A/c Units Amount (`) , , ,740 (b) A company is required to choose between two machines A and B. The two machines are designed differently, but have indentical capacity and do exactly the same job. Machine A costs ` 6,00,000 and will last for 3 years. It costs ` 1,20,000 per year to run. Machine B is an 'economy' model costing ` 4,00,000 but will last only for two years, and cost ` 1,80,000 per year to run. These are real cash flows. The costs are forecasted in Rupees of constant

11 Model Test Paper O 3.11 purchasing power. Opportunity cost of capital is 10%. Which machine company should buy? Ignore tax. PVIF 0.10,1 = , PVIF 0.10,2 = , PVIF 0.10,3 = (8 marks) Answer : Advise to the Management Regarding Buying of Machines Statement Showing Evaluation of Two Machines Machines A B Purchase cost (`): (i) 6,00,000 4,00,000 Life of machines (years) 3 2 Running cost of machine per year (`): (ii) 1,20,000 1,80,000 Cumulative present value factor for 1-3 years@ 10%: (iii) Cumulative present value factor for 1-2 years@ 10%: (iv) Present value of running cost of machines (`): (v) 2,98,416 3,12,390 [(ii) x (iii)] [(ii) x (iv)] Cash outflow of machines (`): (vi) = (i)+(v) 8,98,416 7,12,390 Equivalent present value of annual cash outflow 3,61, ,10, [(vi) (iii)] [(vi) + (iv)] Alternatively: Calculation of Annualized cash outflow of machine A Year Cash of 10% DF ,00,000 1,20,000 1,20,000 1,20, ,00,000 1,09,092 99,168 90,156

12 3.12 O Solved Scanner IPCC Group- I Paper - 3 8,98,416 Annualized cash outflow = = 3,61,274/- Note: = Calculation of Annualized cash outflow of machine B Year Cash of 10% DF ,00,000 1,80,000 1,80, Annualized cash outflow = = 4,10,481/- Note: = ,00,000 1,63,638 1,48,752 7,12,390 Recommendation: Machine A s Annualized cash out flow is lower than machine B. Therefore machine A should be adopted. Recommendation: The Company should buy Machine A since its equivalent cash outflow is less than Machine B. 4. (a) A transport company has been given a 40 kilometre long route to run 5 buses. The cost of each bus is ` 6,50,000. The buses will make 3 round trips per day carrying on an average 80 percent passengers of their seating capacity. The seating capacity of each bus is 40 passengers. The buses will run on an average 25 days in a month. The other information for the year are given below : Garage rent ` 4,000 per month Annual repairs and maintenance ` 22,500 each bus Salaries of 5 drivers ` 3,000 each per month Wages of 5 conductors ` 1,200 each per month Manager s salary ` 7,500 per month Road tax, permit fee, etc. ` 5,000 for a quarter

13 Model Test Paper O 3.13 Office expenses ` 2,000 per month Cost of diesel per litre ` 33 Kilometre run per litre for each bus 6 kilometres Annual depreciation 15% of cost Annual Insurance 3% of cost You are required to calculate the bus fare to be charged from each passenger per kilometre, if the company wants to earn a profits of 33a percent on taking (total receipts from passengers). (8 marks) Answer : Operating Cost Sheet for the year (Total Passenger Km = 1,15,20,000) Particulars A. Fixed Charges : Garage rent (4,000 12) Salary of drivers (3, ) Wages of Conductors (1, ) Manager s salary (7,500 12) Road Tax, Permit fee, etc. (5,000 4) Office expenses (2,000 12) Insurance (6,50,000 ) Total Cost (`) 48,000 1,80,000 72,000 90,000 20,000 24,000 97,500 Cost per Passenger Km. (`) Total A 5,31,

14 3.14 O Solved Scanner IPCC Group- I Paper - 3 B. Variable Charges : Repairs and Maintenance (22,500 5) Depreciation (6,50,000 ) Diesel : Total B Total Cost (A + B) Add : percent Profit on takings or 50% on cost Total Bus Fare Collection 1,12,500 4,87,500 19,80,000 25,80,000 31,11,500 15,55,750 46,67, Total passenger km (WN. 2) Bus fare to be charged from each passenger/km 1,15,20, Working Notes : 1. Total Kilometres to be run during the year = = 3,60,000 Kilometres 2. Total passenger Kilometres = 3,60, = 1,15,20,000 Passenger km. (b) The following details are available of Process X for August 2011 : 1. Opening work-in-process 8,000 units Degree of completion and cost : Material (100%) ` 63,900 Labour (60%) ` 10,800 Overheads (60%) ` 5, Input 1,82,000 units at ` 7,56, Labour paid ` 3,28, Overheads incurred ` 1,64, Units scrapped 14,000 Degree of completion :

15 Model Test Paper O 3.15 Material 100% Labour and overhead 80% 6. Closing work-in-process units Degree of completion : Material 100% Labour and overhead 70% 7. 1,58,000 units were completed and transferred to next process. 8. Normal loss is 8% of total input including opening work-inprocess. 9. Scrap value is ` 8 per unit to be adjusted in direct material cost. You are required to compute, assuming that average method of inventory is used : (i) Equivalent production, and (ii) Cost per unit. (8 marks) Answer : (i) Statement of Equivalent Production Particulars Units Material Labour and Overhead % Units % Units Production units completed Normal Loss 8% of (1,82, ,000) Closing WIP 1,58,000 15,200 18, ,58,000 18, ,58,000 12,600 Total Less: Abnormal Gain 1,91,200 1, ,76,000 1, ,70,600 1,200 Total 1,90,000 1,74,800 1,69,400 (ii) Statement of cost

16 3.16 O Solved Scanner IPCC Group- I Paper - 3 Particulars Materials Labour Overhead ` ` ` Opening WIP Input of Materials Expenses 63,900 7,56,900 10,800 3,28,000 5,400 1,64,000 Total Less: Sales of Scrap (15,200 8) 8,20,800 1,21,600 3,38,800 1,69,400 Net cost 6,99,200 3,38,800 1,69,400 Equivalent units 1,74,800 1,69,400 1,69,400 Cost Per Unit ` 4.00 ` 2.00 ` 1.00 Total cost per unit = = ` (a) You are given the following information of the cost department of a manufacturing company : ` Stores : Opening Balance 12,60,000 Purchases 67,20,000 Transfer from work-in-progress 33,60,000 Issue to work-in-progress 67,20,000 Issue to repairs and maintenance 8,40,000 Shortage found in stock taking 2,52,000 Work-in-progress : Opening Balance 25,20,000 Direct wages applied 25,20,000 Overhead applied 90,08,000 Closing Balance 15,20,000

17 Model Test Paper O 3.17 Finished products : Entire output is sold at a profit of 12% on actual cost from work-inprogress. Other information : ` Wages incurred 29,40,000 Overhead incurred 95,50,000 Income from Investment 4,00,000 Loss on sale of fixed assets 8,40,000 Shortage in stock taking is treated as normal loss. You are required to prepare : (i) Stores control account; (ii) Work-in-progress control account; (iii) Costing Profit and Loss account; (iv) Profit and Loss account and (v) Reconciliation statement (4 marks) Answer : Dr. Stores Ledger Control A/c Cr. Particulars Amount (`) Particulars Amount (`) To To To Balance b/d General ledger adjustment A/c Work-in progress Control A/c 12,60,000 By 67,20,000 By 33,60,000 By By Work-in-progress control A/c Overhead control A/c Overhead control A/c (Shortage) Balance c/d 67,20,000 8,40,000 2,52,000 35,28,000 1,13,40,000 1,13,40,000 Dr. W.I.P Control A/C Cr. Particulars Amount (`) Particulars Amount (`)

18 3.18 O Solved Scanner IPCC Group- I Paper - 3 To Balance b/d To Stores ledger control A/c To D i r e c t w a g e s control A/c To Overhead control A/c 25,20,000 By By 67,20,000 25,20,000 90,08,000 By Stores ledger control A/c Costing P & L A/c (Cost of sales) (Balancing figure) Balance c/d 33,60,000 1,58,88,000 15,20,000 2,07,68,000 2,07,68,000 Dr. Costing Profit and Loss A/c Cr. Particulars Amount (`) Particulars Amount (`) Amount (`) To W.I.P Control A/c To General ledger Adj. A/c (Profit) 1,58,88,000 By General ledger 19,06,560 Adj. A/c: Cost of sales Add 12% Profit 1,58,88,000 19,06,560 1,77,94,560 1,77,94,560 1,77,94,560 Dr. Financial Profit and Loss A/c Cr. Amount Amount Particulars (`) (`) Particulars (`) (`) To opening stock : Stores W.I.P To Purchases To Wages To Overhead To Loss on sale of fixed assets 12,60,000 25,20,000 37,80,000 67,20,000 29,40,000 95,50,000 8,40,000 By Sales By Income from investment By Closing stock : Stores WIP By Loss 35,28,000 15,20,000 1,77,94,560 4,00,000 50,48,000 5,87,440 2,38,30,000 2,38,30,000 Reconciliation Statement

19 Model Test Paper O 3.19 ` ` Profit as per Cost Accounts Add : Income from investments Less : Loss on sale of fixed assets Under absorption of overheads (working note) Loss as per Financial Accounts 8,40,000 20,54,000 19,06,560 4,00,000 23,06,560 28,94,000 5,87,440 Working Notes : Dr. Overhead Control A/c Cr. Particulars Amount (`) Particulars Amount (`) To To To To General Ledger Adj. A/c Stores Ledger Control A/c Stores Ledger Control A/c Wages Control A/c Indirect Wages (` 29,40,000-25,20,000) 95,50,000 2,52,000 8,40,000 4,20,000 By By W.I.P Control A/c Balance c/d (under absorption of overheads) 90,08,000 20,54,000 1,10,62,000 1,10,62,000 (b) State the types of cost in the following cases: (i) Interest paid on own capital not involving any cash outflow. (ii) Withdrawing money from bank deposit for the purpose of purchasing new machine for expansion purpose. (iii) Rent paid for the factory building which is temporarily closed. (iv) Cost associated with the acquisition and conversion of material into finished product. (4 marks) Answer: Type of costs (i) Imputed Cost (ii) Opportunity Cost (iii) Shut Down Cost (iv) Product Cost

20 3.20 O Solved Scanner IPCC Group- I Paper - 3 (c) Profit maximisation vs Wealth maximisation objective of the firm. (4 marks) Answer : 1. Profit Maximisation : Profit Maximisation is the main objective of business because profit acts as a measure of efficiency and it serves as a protection against risk. Arguments in favour of Profit Maximisation : (i) When profit earning is the main aim of business the ultimate objective should be profit maximisation. (ii) Future is uncertain. A firm should earn more and more profit to meet the future contingencies. (iii) The main source of finance for growth of a business is profit. Hence, profits maximisation is required. (iv) Profit maximisation is justified on the grounds of rationality as profits act as a measure of efficiency and economic prosperity. Arguments against Profit Maximisation : (i) It leads to exploitation of workers and consumers (ii) It ignores the risk factors associated with profit. (iii) Profit in itself is a vague concept and means differently to different people. (iv) It is a narrow concept at the cost of social and moral obligations. Thus, profit maximisation as an objective of financial management has been considered inadequate. 2. Wealth Maximisation: Wealth maximisation is considered as the appropriate objective of an enterprise. When the firms maximises the stockholder s

21 Model Test Paper O 3.21 wealth, the individual stockholder can use this wealth to maximise his individual utility. Wealth maximisation is the single substitute for a stockholder s utility. Arguments in favour of Wealth Maximisation: (i) Due to wealth maximisation, the short term money lenders get their payments in time. (ii) The long time lenders too get a fixed rate of interest on their investments. (iii) The share of employees in the wealth gets increased. (iv) The various resources are put to economical and efficient use. Arguments against Wealth Maximisation : (i) It is socially undesirable. (ii) It is not a descriptive idea. (iii) Only stockholder s wealth maximisation does not lead to firm s wealth maximisation. (iv) The objective of wealth maximisation is endangered when ownership and management are separated. (d) X is invested ` 2,40,000 at annual rate of interest of 10 percent. What is the amount after 3 years if the compounding is done? (i) Annually (ii) Semi-annually. (4 marks) Answer: Computation of Future Value Principal (P) = ` 2,40,000 Rate of Interest (i) = 10% p.a. Time period (n) = 3 years Amount if compounding is done: (i) Annually Future Value = P (1 + I) n

22 3.22 O Solved Scanner IPCC Group- I Paper - 3 = 2,40,000 (ii) = 2,40,000 ( ) 3 = 2,40,000 x = ` 3,19,440 Semi-Annually Future Value = 2,40,000 = 2,40,000 ( ) 6 = 2,40,000 (1.05) 6 = 2,40, = ` 3,21, (a) X Y Z Limited is drawing a production plan for its two products Product xml and Product yml for the year The company s policy is to maintain closing stock of finished goods at 25% of the anticipated volume of sales of the succeeding month. The following are the estimated data for the two products: xml yml Budgeted Production (in units) 2,00,000 1,50,000 Direct Material (per unit) ` 220 ` 280 Direct Labour (per unit) ` 130 ` 120 Direct Manufacturing Expenses ` 4,00,000 ` 5,00,000 The estimated units to be sold in the first four months of the year are as under: April May June July xml 8,000 10,000 12,000 16,000 yml 6,000 8,000 9,000 14,000 Prepare: (i) Production Budget (Month wise) (ii) Production cost Budget (for first quarter of the year). (8 marks) Answer: (i) Production Budget of Product xml and yml (monthwise in units)

23 Model Test Paper O 3.23 April May June Total xml yml xml yml xml yml xml yml Sales 8,000 6,000 10,000 8,000 12,000 9,000 30,000 23,000 Add: Closing Stock (25% of next month s sale) 2,500 2,000 3,000 2,250 4,000 3,500 9,500 7,750 Less: Opening Stock 2,000* 1,500* 2,500 2,000 3,000 2,250 7,500 5,750 Production units 8,500 6,500 10,500 8,250 13,000 10,250 32,000 25,000 * Opening stock of April is the closing stock of March, which is as per company s policy 25% of next month s sale. (ii) Production Cost Budget (for first quarter of the year) Elements Rate (`) Amount (`) Direct Material ,40,000 70,00,000 Direct Labour ,60,000 30,00,000 Manufacturing Overhead (` 4,00,000 2,00,000 32,000) 64,000 (` 5,00,000 1,50,000 25,000) 83,333 1,12,64,000 1,00,83,333 (b) A Ltd. is considering the purchase of a machine which will perform some operations which are at present performed by workers. Machines X and Y are alternative models. The following details are available: Machine X Machine Y ` ` Cost of machine 1,50,000 2,40,000 Estimated life of machine 5 years 6 years Estimated cost of maintenance p.a. 7,000 11,000 Estimated cost of indirect material p.a. 6,000 8,000 Estimated savings in scrap p.a. 10,000 15,000 Estimated cost of supervision p.a. 12,000 16,000

24 3.24 O Solved Scanner IPCC Group- I Paper - 3 Estimated savings in wages p.a. 90,000 1,20,000 Depreciation will be charged on straight line basis. The tax rate is 30%. Evaluate the alternatives according to : (i) Average rate of return method, and (ii) Present value index method assuming cost of capital being 10%. (The present value of ` 10% p.a. for 5 years is 3.79 and for 6 years is 4.354) (8 marks) Answer : Working Notes: Depreciation on Machine X = = ` 30,000 Depreciation on Machine Y = = ` 40,000 Particulars Annual Savings: Wages Scrap Total Savings (A) Annual Estimated Cash Cost: Indirect Material Supervision Maintenance Total Cash Cost (B) Annual Cash Savings (A-B) Less: Depreciation Annual Savings before Tax Less: 30% Annual Savings/Profit (After Tax) Add: Depreciation Machine X (`) 90,000 10,000 1,00,000 6,000 12,000 7,000 25,000 75,000 30,000 45,000 13,500 31,500 30,000 Machine Y (`) 1,20,000 15,000 1,35,000 8,000 16,000 11,000 35,000 1,00,000 40,000 60,000 18,000 42,000 40,000 Annual Cash Inflows 61,500 82,000 Evaluation of Alternatives (i) Average Rate of Return Method (ARR)

25 Model Test Paper O 3.25 ARR = Machine X = 100 = 42% Machine Y = 100 = 35% (ii) Decision: Machine X is better. Present Value Index method Present Value = Annual Cash inflow P.V. 10% Machine X = 61, = ` 2,33,085 Machine Y = 82, = ` 3,57,028 P.V. Index = Machine X = = Machine Y = = Decision: Machine X is better. 7. Answer any four of the following: (a) UV Ltd. presents the following information for November, 2008 : Budgeted production of product P = 200 units. Standard consumption of Raw materials = 2 kg per unit of P. Standard price of material A = ` 6 per kg. Actually, 250 units of P were produced and material A was purchased at ` 8 per kg. and consumed at 1.8 kg. per unit of P. Calculate the material cost variances. (4 marks) Answer :

26 3.26 O Solved Scanner IPCC Group- I Paper units of P were produced from material A. For one units of P = 1.8 kg of material A is required, so for 250 units of P = = 450 kg of material A is required. Total Actual cost of output P produced 250 units Actual cost = = ` 3,600 Standard cost = For Actual output produced i.e.; 250 units of P, raw material A will be required as in standard consumption ratio of 2 kg. per unit of P. So for 250 units, standard raw material A required = = 500 kg. Standard cost per unit of X = ` 6 per kg. So that standard cost = = ` 3,000 Material cost variance = Standard cost Actual cost = = 600 (A) Material price variance = = 900 (A) Material mix variance = Nil Material yield variance = = 300 (F) Material usage variance = = 300 (F) (b) Discuss the process of estimating profit/loss on incomplete

27 Model Test Paper O 3.27 contracts. (4 marks) Answer : Profit on uncompleted contract is computed on the basis of Notional Profit and the percentage of work done. It is transferred to costing Profit & Loss Account and computed as follows : 1. Stage of contract Initial (just began) 2. Stage of contract In course (but not substantial) Percentage of work done Less than 25% Profit Nil [as it is impossible to foresee clearly the future position] Percentage of work done - upto or more than 25% but less than 50% Profit = Notional Profit 3. Stage of contract Substantially complete Percentage of work done upto or more than 50% but less than 90% Profit = Notional Profit 4. Stage of contract Almost complete Percentage of work done upto or more than 90% but less than 100% Profit: Profit to be transferred to P&L A/c here is the proportion of the estimated profit. The estimated profit is arrived at by deducting from the contract price the aggregate of estimated cost and the expenditure incurred. The proportion of estimated profit in computed by adopting any of the following formula. (i) Estimated Profit (ii) Estimated Profit (iii) Estimated Profit

28 3.28 O Solved Scanner IPCC Group- I Paper - 3 (iv) Estimated Profit Note: If Notional profit < estimated profit then only the notional profit is transferred to Profit & Loss A/c. (c) Discuss the difference between allocation and apportionment of overhead. (4 marks) Answer : Cost allocation : The term allocation implies relating overheads directly to the various departments. The estimated amount of various items of manufacturing overheads should be allocated to various cost centers or departments. Cost apportionment: Those items of estimated overheads (like the salary of the works manager) which cannot be directly allocated to the various departments and cost centers are apportioned. Apportionment implies the allotment of proportions of items of cost to cost centres or departments. It implies that the unallocable expenses are to be spread over the various departments or cost centres on an equitable basis. The differences between Allocation and Apportionment are as follows: Basis of Difference Allocation Apportionment Meaning Nature of expenses Identifying a cost centre and charging its expenses in full. Allotment of pro-portions of common cost to various cost centre. Specific and identifiable General and common

29 Model Test Paper O 3.29 Number of centre (Deptt.) One Many Basis Allocate directly Allocate Indirectly Amount of overhead Charge in full Charge in proportion-able Assumption Not required Required (d) List the fundamental principles governing capital structure. (4 marks) Answer: Fundamental Principles Governing Capital Structure 1. Cost Principle According to this principle, an ideal pattern of capital structure is one that minimises cost of capital structure and maximises earnings per share (EPS). 2 Risk Principle According to this principle, reliance is placed more on common equity for financing capital requirements than excessive use of debt. Use of more and more debt means higher commitment in form of interest payout. This would lead to erosion of shareholders value in unfavourable business situation. 3 Control Principle While designing a capital structure, the finance manager may also keep in mind that existing management control and ownership remains undisturbed. 4 Flexibility Principle 5 Other Considerations It means that the management chooses such a combination of sources of financing which it finds easier to adjust according to changes in need of funds in future too. Besides above principles, other factors such as nature of industry, timing of issue and competition in the industry should also be considered.

30 3.30 O Solved Scanner IPCC Group- I Paper - 3 (e) Explain the concept of Debt securitization. Answer : Debt Securitization Meaning Process of debt securitisation Function of debt securitisation (4 marks) Debt securitisation is a method of recycling of funds. It is a process whereby loans and other receivables are underwritten and sold in form of asset. It is thus a process of transforming the assets of a lending institution into negotiable instrument for generation of funds. The process of debt securitisation is as follows : 1. The loans are segregated into relatively homogeneous pools. 2. The basis of pool is the type of credit, maturity pattern, interest rate, risk etc. 3. The asset pools are then transferred to a trustee. 4. The trustee then issues securities which are purchased by investors 5. Such securities (asset pool) are sold on the undertaking without recourse to seller. It is a method of recycling of funds. It is especially beneficial to financial intermediaries to support the lending volumes. The basic debt securitisation process can be classified in the following three functions:

31 Model Test Paper O 3.31 The origination function The pooling function The securitisation function Whenever a bank, financial institution, leasing company, Hire Purchase Company, credit card company, housing finance company etc. lends money (whether directly of indirectly) to a borrower, there comes into existence an asset in the books of bank. This creation of financial asset is called the origination function. Similar loans or receivables are clubbed together to create an underlying pool of assets. This pool is transferred in favour of a SPV (Special Purpose Vehicle), which acts as a trustee for the investor. This pooling of assets is SPV s portfolio is called the pooling function. Once the assets are transferred, SPV issues its securities (Called Pass through certificates) to the investor. This issue of securities is called the securitization function. In this way we see that conversion of debts to securities is known as debt securitisation.