B292 Revision Part 4

B292 Revision Part 4 EX 1 The following represent four independent situations from which one amount is missing. Products Annual Quantity Carrying (Holding) Cost/Unit Ordering Cost/Order EOQ A 4,500 $1 $? 300 B? $30 $10 80 C 3,600 $0.12 $6? D 3,500 $? $5 125 1- Calculate the missing figures for each of the cases. 2- Calculate the number of orders that will be placed each year. 3- Give examples of costs included in annual carrying (holding) costs of stock when using the EOQ decision model. 4- Prepare a graph for case C. 5- Currently the company purchases product C for $5 per unit. The company has been offered a 1 per cent discount on the cost of product C if it places orders in quantities of 1,200. Discuss whether the company should accept the discount and place larger orders. Show your workings. 1- Compute the missing figures: Answer Case A: for example EOQ = (2 Order cost Annual quantity) Holding cost 300 = (2 X 4,500) 1

90,000 = X 9,000 X = $10 Case Annual Quantity Carrying (Holding) Cost/Unit Ordering Cost/Order EOQ A 4,500 $1 $10 300 B 9,600 $30 $10 80 C 3,600 $0.12 $6 600 D 3,500 $2.24 $5 125 2- Compute the number of orders: Case Annual Quantity (1) A 4,500 EOQ (2) No. of Orders (3) = (1)/(2) 300 15 B 9,600 80 120 C 3,600 600 6 D 3,500 125 28 3- Costs included in the carrying (holding) costs of stock are incremental costs for such items as insurance, rent, obsolescence, spoilage, and breakage plus the opportunity cost of capital (or required return on investment). 4- EOQ graph: Total Cost Holding Cost Order Cost 0 600 Order Size

5- The total costs if it orders the EOQ of 600 units are: Cost of buying the tires = $5 x 3,600 = $18,000 Cost of ordering = [3,600/600] 6 = $ 36 Cost of holding = [600/2] 0.12 = $ 36 Total Costs = $18,072 The total costs if it orders the 1,200 units are: Cost of buying the tires = $5 x 3,600 x 0.99 = $17,820 Cost of ordering = [3,600/1,200] 6 = $ 18 Cost of holding = [1,200/2] 0.12 = $ 72 Total Costs = $17,910 The company should order 1,200 units. The company will save $162 (18,072-17,810). EX 2 a. Randa manufactures women handbags. Last year Randa sold 20,000 handbags at $110 each. Total costs amounted to $1,600,000 of which $400,000 were considered fixed. 1- Calculate Randa's break-even point in number of units. 2- Compute the target sales in units in order to earn a profit of $250,000. a- Break even: 1- Breakeven sales in units: Answer Unit contribution margin = ($2,200,000 - $1,200,000)* / 20,000 units Unit contribution margin = $50 per unit

*Total sales = 20,000 units $110 = $2,200,000 Total variable costs = $1,600,000 - $400,000 = $1,200,000 Or Unit contribution margin = $110 ($1,200,000/20,000) = $50 per unit Breakeven sales in units = $400,000 $50 = 8,000 units 2- Target sales: EX 3 Number of sales in units = = $400,000 + $250,000 $50 = = 13,000 units b. A company makes four products which involve ordering materials, setting up machinery and handling production runs. The indirect costs of these activities are as follows. $ Handling 90,000 Ordering 30,000 Set-up 60,000 Total 180,000 Other information relating to the products is as follows: Products Number of units Number of orders Set-ups Handling hours X 1,000 100 600 160 Y 2,800 60 500 120 Z 3,600 30 300 100 W 6,000 10 200 70

1. Prepare a schedule of each activity s costs per unit and calculate the indirect cost to be allocated to each of the four products. 2. Discuss the advantages of using the ABC technique and give examples. Answer b- 1- ABC: Products Number of units Number of orders Set-ups Handling hours X 1,000 100 600 160 Y 2,800 60 500 120 Z 3,600 30 300 100 W 6,000 10 200 70 Total 13,400 200 1,600 450 The cost of each activity will be as follows: Ordering: $30,000 200 = $150 per purchase order Set-up: $60,000 1,600 = $37.5 per set-up Handling: $90,000 450 = $200 per handling hour X ($) Y ($) Z ($) W ($) Total ($) Ordering 15,000 9,000 4,500 1,500 30,000 Set-up 22,500 18,750 11,250 7,500 60,000 Handling 32,000 24,000 20,000 14,000 90,000 Total 69,500 51,750 35,750 23,000 180,000 Number of units 1,000 2,800 3,600 6,000 Cost per unit 69.5 18.48 9.93 3.83 2- The advantages of using the ABC technique may include: Integration of ABC into a budgetary system provides more detailed information about overhead costs and reveals inefficiencies in spending for specific overhead resources.

EX 4 Activity based budgeting determines which activities incur costs within an organization and informs decisions as to how much of the total budget should be allocated to each activity. The activity based approach recognizes that it is not only the number of units produced that can affect the costs incurred in production. Re-setting machines, be it for a single unit or for a long production run, incurs similar costs. Re-designing products leads to a chain reaction of additional costs, from having to re-draw the product specification to sourcing and ordering new parts into raw material inventories. Activity based costing relies on historical data and therefore shares with many other aspects of accounting the disadvantages of being a backward looking measure which must be used with caution in forward looking decisions. Furthermore, activity based costing requires detailed accounting records and a wellstructured cost coding system so that costs are allocated correctly to activities and from there to products. Office Inc. manufactures wooden desks. The following unitary standards have been set by the production- engineering staff and the controller: Direct Material: Quantity: 5 m 2 of wood Price, $10 per m 2 Direct Labor: Quantity, 1.30 hours Price, $9 per hour Actual costs incurred in the production of 20,000 desks were as follows: Direct $990,000 for 110,000 m 2 Material: Direct Labor: $209,000 for 22,000 hours 1- Using the variance formulas to calculate the direct-material and labor variances, indicate whether each variance is favorable or unfavorable. 2- Discuss, giving examples, why these variances may have occurred. Answer Materials Variances: 1- Materials price variance = actual usage (standard price per m 2 - actual price per m 2 ) = 110,000 m 2 x ($10 $9*)/ m 2 = $110,000 Favorable. * Actual price per kg = $9 = $990,000 110,000 m 2 This has arisen because the actual price is less than the standard price and is therefore a favorable variance.

There are many possible reasons. Among the most likely are: The price of the materials fell Errors in estimating the price of materials when the budgets were set A reduced price was charged by the supplier because the amount purchased increased A different supplier was found who charged a lower price for the same or better quality of material The supplier charged a lower price for a poorer quality of material A different supplier was found who charged a lower price for a poorer quality of material. 2- Materials usage/quantity variance = standard price per m 2 (Standard quantity of actual output - actual quantity) = $10 x (100,000* m 2 110,000 m 2 ) = $ (100,000) Unfavorable. * Standard quantity of actual output = 100,000 m 2 = 20,000 desks 5 m 2 per desk This has arisen because the actual quantity is more than the standard quantity and is therefore an adverse (unfavorable) variance. The variances show that the material was bought for less than the standard price and that more material was used in manufacturing than was allowed for in the standard. There are many possible reasons. Among the most likely are: A change in manufacturing process resulted in higher material wastage than expected. Poorer quality workers caused a higher than expected level of wastage of materials during production. Higher than expected pilferage of raw material stocks. Errors in calculating the usage rate when the budgets were set. Poorer quality materials than anticipated from the supplier. Poorer quality materials as a result of buying cheaper materials than anticipated. Labor Variances: 1- Labor rate variance = actual number of hours worked (standard rate per hour - actual rate per hour) = 22,000 hours x ($9 $9.5*)/hours = $ (11,000) Unfavorable * Actual rate per hour = $9.5 = $209,000 22,000 hours This has arisen because the actual rate is more than the standard rate and is therefore an adverse (unfavorable) variance.

There are many possible reasons. Among the most likely are: The hourly wage rate rose unexpectedly Increased production levels resulted in overtime rates having to be paid Premium rates had to be paid to new workers. 2- Labor efficiency variance = standard rate per hour (Standard hours for actual outputactual number of hours worked) = $9 (26,000* hours 22,000 hours)/hours = $36,000 Favorable * Standard hours for actual output = 26,000 hours = 20,000 desks 1.3 hours This has arisen because the actual productivity exceeds the standard and is therefore a favorable variance. There are many possible reasons. Among the most likely are: A change in manufacturing process resulted in fewer labor hours being needed than anticipated. Higher quality material resulted in lower wastage levels and so resulted in fewer labor hours being required than anticipated. The workers worked faster than anticipated. EX 5 Emma is considering whether to open a gadgets shop. She provided you, as a consultant, the following information on Jun 30, 2014: 1- Sales of $30,000 and $36,000 are expected for July and August, respectively. All goods are sold on account. 2- The collection pattern for Accounts Receivable is 80 percent in the month of sale and 20 percent in the month following the sale. 3- Purchases of $20,000 and $27,000 are expected for July and August. 4- The payment pattern for purchases is 70 percent in the month of purchase, 30 percent in the month following the purchase. 5- Other monthly expenses are $4,000, which includes $800 of depreciation. All operating expenses are paid in the month of their incurrence. 6- $2,000 of cash is available on August 1, 2014. 7- A loan of $6,000 is to be paid on August 20, 2014. 1- Prepare the cash collection budget for the two months ending August 31, 2014. 2- Prepare the cash budget for the two months ending August 31,2014. 3- Explain why budgeted cash flow differs from budgeted net income.

Answer 1- Estimated cash collection: July August Sales of July: $30,000 $24,000 $6,000 Sales of August: $36,000 $28,800 Budgeted Cash Collection $24,000 $34,800 2- Cash budget: Cash Budget For the two months ending August 31, 2014 June August Total inflows $24,000 $34,800 Cash outflows: July purchases: $20,000 14,000 6,000 August purchases: $27,000 18,900 Operating expenses ($4,000 - $800) 3,200 3,200 Loan payment 6,000 Total outflows 17,200 34,100 Net cash flow 6,800 700 Opening balance 2,000 8,800 Closing balance $8,800 $9,500 3- The company's budgeted cash flow differs from budgeted income, in accrual accounting, revenue is recognized when it earned, not when cash is received. Further, expenses are recognized when they are incurred, not when cash is paid.