ICAN MID DIET LIVE CLASS FOR MAY DIET 2015 PERFORMANCE MANAGEMENT PERFORMANCE MEASUREMENT NON- FINANCIAL MEASUREMENT PERFOMANCE MEASUREMENT OF A NON- PROFIT ORGANISATION DIVISIONAL PERFORMANCE MEASURE PLANNING AND CONTROL 1
VARIANCE ANALYSIS STRATEGIC PERFORMANCE MANAGEMENT DECISION MAKING AND RELEVANT COST SHORT TERM DECISIOIN 2
FINANCIAL PERFORMANCE MEASUREMENT 3
NON-FINANCIAL PERFORMANCE MEASUREMENT 4
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DIVISIONAL PERFORMANCE MEASUREMENT Type of responsibility centre: Cost centre: Manager has authority for decisions over costs (but not revenue) Revenue centre: Manager has authority for decisions over revenue (but not costs) Profit centre: Manager has authority for decisions over costs and revenues (but not capital investment decisions) Investment centre: Manager has authority for decisions over costs, revenues, and new capital investment. Controllable factors: The manager should only be assessed over those items over which he has control. For example, if a manager is given authority to make decisions over everything except salary increases which are dictated by central management, then it would be unfair to include salaries in his performance measurement. 7
If (for example) it is a profit centre, then for the purposes of measuring his performance the profit of the division should be calculated ignoring salaries. 8
RETURN ON INVESTMENT V RESIDUAL INCOME Division X of Y plc is currently reporting profits of $100,000 p.a. on capital employed of $800,000 A new project is being considered which will cost $100,000 and is expected to generate profits of $15,000 p.a. The target return of Y plc is 16% (a) Should Y plc accept or reject the project? (b) Will the manager of Division X be motivated to accept the project if his performance is measured (i) On Return on Investment? (ii) On Residual Income? 9
Answer (a) Return from project = 15,000/100,000 x 100% = 15% < target return of 16%, so reject (b) Divisional manager (i) ROI Current ROI 100,000/800,000 x 100% = 12.5% ROI with project: 115,000/900,000 x 100% = 12.8% Manager motivated to accept (ii) Current RI: Profit 100,000 Less: notional interest 16% x 800,000 (128,000) (28,000) RI with project Profit 115,000 Less: notional interest 16% x 900,000 (144,000) 10
(29,000) Manager motivated to reject 11
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PERFORMANCE IN THE NOT- FOR-PROFIT SECTOR 14
VARIANCE ANALYSIS Budget sales and production of Product X are 600,000 units p.a. at a standard selling price of $100 p.u. The original standard costs of production were: Materials: 2 kg @ $20 per kg Labour: 1.5 hrs @ $2 per hr Variable overheads: 1.5 hrs @ $6 per hr Fixed overheads were budgeted at $10.8M for the year. Actual results for January were as follows: Sales: 53,000 units @ $95 p.u. Production costs for 55,000 units produced: Materials (110,000 kg) $2,300,000 Labour (85,000 hrs) $180,000 Variable Overheads $502,000 Fixed Overheads $935,000 (a) Prepare an operating statement, reconciling actual profit with budget profit. (Note: the company s policy is to use marginal costing) 15
Since preparation of the budget, the suppliers of the materials had announced a permanent price increase of 10%. As a result the manufacturing process was examined and ways were found of reducing material usage by 5% without affecting the quality of finished goods. (b) using the additional information, analyse the total materials variance into Planning and Operational variances. 16
VARIANCE ANALYSIS (ANSWER A) a) Note: Budget sales are 600,000 pa, and so budget sales for January are 600,000/12 = 50,000 units Cost card Materials (2 kg x $20) 40 Labour (1.5 hours x $2) 3 Variable o/h (1.5 hours x $6) 9 Marginal cost $52 Standard contribution = 100 52 = $48 per unit Budgeted profit: 50,000 units x $48 2,400,000 Less: fixed overheads (900,000) Operating statement $1,500,000 Budgeted profit 1,500,000 Sales volume variance (3,000 units x $48) 144,000 (F) Sales price variance (53,000 x $5) 265,000 (A) 1,379,000 17
Materials Expenditure Variance Actual cost 2,300,000 Actual @ std cost (11,000 kg x $20) 2,200,000 100,000 (A) Materials Usage Variance kg Actual usage 110,000 Std usage for actual (55,000 x 2kg) 110,000 NIL Labour rate of pay variance Actual cost 180,000 Std hrs for actual (85,000 hrs x 2) 170,000 10,000 (A) Labour efficiency variance Actual hours 85,000 Std hrs for actual (55,000 hrs x 1.5) 82,500 18
2,500 hrs x $2 5,000 (A) Variable overheads expenditure variance Actual cost 502,000 Actual hrs @ std cost (85,500 hrs x $6) 510,000 8,000 (F) Variable overheads efficiency variance Actual hours 85,000 Std hrs for actual (55,000 hrs x 1.5) 82,500 2,500 hrs x $6 15,000 (A) Fixed overheads expenditure variance (935,000 900,000) 35,000(A) $1,222,000 19
VARIANCE ANALYSIS (ANSWER B) (b) Total materials variance Actual total cost 2,300,000 Std cost for actual production (55,000 x $40) 2,200,000 Sales price variance 100,000 (A) Revised cost card for materials Materials (1.9 kg x $22) $41.80 pu Planning variances Expenditure Revised std purchases at revised std cost 55,000 u x 1.9 kg = 104,500 kg x $22 2,299,000 Revised std purchases at original std cost 104,500 kg x $20 2,090,000 Usage Revised std usage at actual production $209,000 (A) 20
(55,000 units x $1.9kg) 104,500 Original std usage for actual production (55,000 x 2kg) 110,000 5,500 x$20 $110,000 (F) Operational variances Expenditure Actual purchases at actual cost 2,300,000 Actual purchases at revised std cost 110,000 kg x $22 2,420,000 $120,000 (F) Usage kg Actual usage 110,000 Revised std usage for actual production (55,000 x 1.9kg) 104,500 21
5,500 x$22 $121,000 (A) 22
SHORT-TERM DECISION MAKING QUESTION 1 QUESTION 1 The Hi Life Co (HL Co) makes sofas. It has recently received a request from a customer to provide a one-off order of sofas, in excess of normal budgeted production. The order would need to be completed within two weeks. The following cost estimate has already been prepared: Direct materials: Note # Fabric 200 m2 at #17 per m2 1 3,400 Wood 50 m at #8 20 per m2 2 410 Direct labour: Skilled 200 hours at #16 per hour 3 3,200 Semi-skilled 300 hours at #12 per hour 4 3,600 Factory overheads 500 hrs at #3 per hr 5 1,500 Total production cost 12,110 23
Administration overheads at 10% of total production cost 6 1,211 Total cost 13,321 Notes 1 The fabric is regularly used by HL Co. There are currently 300 m2 in inventory, which cost #17 per m2. The current purchase price of the fabric is #17 50 per m2. 2 This type of wood is regularly used by HL Co and usually costs #8 20 per m2. However, the company s current supplier s earliest delivery time for the wood is in three weeks time. An alternative supplier could deliver immediately but they would charge #8 50 per m2. HL Co already has 500 m2 in inventory but 480 m2 of this is needed to complete other existing orders in the next two weeks. The remaining 20 m2 is not going to be needed until four weeks time. 3 The skilled labour force is employed under permanent contracts of employment under which they must be paid for 40 hours per week s labour, even if their time is idle due to absence of orders. Their rate of pay is #16 per hour, although any overtime is paid at time and a half. In the next two weeks, there is spare capacity of 150 labour hours. 24
4 There is no spare capacity for semi-skilled workers. They are currently paid #12 per hour or time and a half for overtime. However, a local agency can provide additional semi-skilled workers for #14 per hour. 5 The #3 absorption rate is HL Co s standard factory overhead absorption rate; #1 50 per hour reflects the cost of the factory supervisor s salary and the other #1 50 per hour reflects general factory costs. The supervisor is paid an annual salary and is also paid #15 per hour for any overtime he works. He will need to work 20 hours overtime if this order is accepted. 6 This is an apportionment of the general administration overheads incurred by HL Co. Required: Prepare, on a relevant cost basis, the lowest cost estimate which could be used as the basis for the quotation. Explain briefly your reasons for including or excluding each of the costs in your estimate. 25
Hi Life Co Direct materials: Note # Fabric 200 m2 at #17 50 per m2 1 3,500 Wood 20 m at #8 20 per m 2 164 Direct labour 30 m at #8 50 per m 2 255 Skilled 50 hours at #24 per hour 3 1,200 Semiskilled 300 hours at #14 per hour 4 4,200 Factory overheads 20 hours at #15 per hour 5 300 Administration overheads 6 - Total cost 9,619 1. Since the material is in regular use by HL Co, it is replacement cost which is the relevant cost for the contract. 26
2. 30 m will have to be ordered from the alternative supplier for immediate delivery but the remaining 20 m can be used from inventory and replaced by an order from the usual supplier at a cost of #8 20 per m. 3. There is no cost for the first 150 hours of labour because there is spare capacity. The remaining 50 hours will be paid at time and a half, which is #16 x 1 5, i.e. #24 per hour. 4. HL Co will choose to use the agency workers, who will cost #14 per hour, since this is cheaper than paying existing semi-skilled workers at #18 per hour (#12 x 1 5) to work overtime. 5. None of the general factory costs are incremental, so they have all been excluded. However, the supervisor s overtime pay is incremental, so has been included. The supervisor s normal salary, on the other hand, has been excluded because it is not incremental. 6. These are general overheads and are not incremental, so no value should be included for them. 27
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