General Comments Performance on this paper was fairly poor, with the pass rate below the average for the 2010 syllabus. Many candidates scored very highly; however there were a large number of low-scoring scripts suggesting that many candidates had attempted the paper without being adequately prepared. Candidates scored fairly well in the multiple choice questions and question 1 as a whole was reasonably well done. Performance in question 2 was mixed in both the narrative and computational questions. Candidates struggled with question 2(b) in particular and question 2(d) was not well done, mainly as a result of candidates failing to answer the question that was asked. The question required candidates to compare and contrast the alternative investments but few candidates did anything more than list the features of each. Although question 3 was reasonably well done, it was clear from some scripts that some candidates had not mastered one of the core areas of section A of the syllabus, i.e. standard costing. Performance in part (a) of this question was disappointing. While many candidates scored full marks, a significant percentage of candidates clearly did not understand the principles of planning and operational variances. Those candidates took a scattergun approach, calculating all sorts of variances using a mixture of units and standards. As has been said in many previous postexamination guides, candidates will not be able to calculate a variance correctly if they do not understand what it is they are trying to calculate. Part (b) was very well done. In most cases candidates were able to give valid explanations for the variances, although some candidates simply re-iterated the variances they had calculated, failing to achieve any marks for this approach. Part (c), which has been examined on a number of occasions, was not as well answered as might have been expected, although many candidates were able to provide a reasonable answer. Part (a) of question 4 was generally well done, although it was obvious that some candidates had a lack of understanding of relevant cost analysis. The answers to part (b) were fairly weak, with many candidates failing to attempt an answer and others getting no further than calculating the net present value for each machine. The answers to part (c) were very poor and while this was a fairly challenging question, it had been examined in a previous diet. There was no evidence that time was an issue for candidates. Incomplete scripts seemed to reflect a lack of knowledge rather than a shortage of time. However, there was clear evidence that exam technique needs to be improved. In section B, candidates were still writing far too much to gain five marks. Some candidates also appeared to spend an inordinate amount of time working out the answer to question 2(b). Time management is going to be extremely important in the new 2015 syllabus assessments. In the case study exams, candidates will not be allowed to spend any more than the allocated time on each section and therefore it will be very important that they make their points clearly and concisely. Moreover, in the objective test question assessments, where candidates will not be awarded any marks for workings, it will be good exam technique to move on to the next question rather than spending time performing meaningless calculations. The Chartered Institute of Management Accountants Page 1
Section A 20 marks ANSWER ALL EIGHT SUB-QUESTIONS IN THIS SECTION Question 1.1 The economic order quantity is the order quantity which results in: A B C D the lowest cost of ordering inventory. the highest discount from suppliers. the lowest combined total costs of ordering and holding inventory. the lowest cost of holding inventory. The correct answer is C () Question 1.2 A decision maker using the maximin decision criterion will: A B C D assume that uncertainty can be ignored and will select the option with the highest expected value. assume that he/she will regret not having selected another option and will therefore minimise the possible regret under this assumption. assume that the worst outcome will occur and will select the option that will give the highest return from the worst outcome possible under each option. assume that the best outcome will occur and will select the option that will give the highest return from the best outcome possible under each option. () The correct answer is C Question 1.3 A company uses an activity based costing system. The company manufactures three products, details of which are given below: Product X Product Y Product Z Annual production (units) 160,000 200,000 100,000 Batch size (units) 100 50 25 Number of inspections per batch 3 4 6 Annual inspection costs are $150,000. The inspection cost per unit of Product Y is closest to: The Chartered Institute of Management Accountants Page 2
A $0.23 B $0.33 C $13.39 D $0.27 The correct answer is D () Workings Product X Product Y Product Z Total Annual production 160,000 200,000 100,000 Batch size (units) 100 50 25 Number of batches 1,600 4,000 4,000 Number of inspections per batch 3 4 6 Total number of inspections 4,800 16,000 24,000 44,800 Cost driver rate = $150,000 / 44,800 = $3.35 per inspection Cost per unit of Product Y = ($3.35 x 16,000) / 200,000 = $0.27 Question 1.4 A company uses a standard costing system. The company s sales budget for the latest period includes 1,500 units of a product with a selling price of $400 per unit. The product has a budgeted contribution to sales ratio of 30%. Actual sales for the period were 1,630 units at a selling price of $390 per unit. The actual contribution to sales ratio was 28%. The sales volume contribution variance for the product for the latest period is: A B C $15,600 F $52,000 F $14,560 F D $14,196 F The correct answer is A () Workings (Actual sales volume budgeted sales volume) x standard contribution per unit (1,630 1,500) x ($400 x 0.3) = $15,600 F Question 1.5 A company s budget for the next period shows that it would break even at sales revenue of $800,000 and fixed costs of $320,000. The Chartered Institute of Management Accountants Page 3
The sales revenue needed to achieve a profit of $200,000 in the next period would be: A $1,000,000 B $1,300,000 C $1,320,000 D $866,667 The correct answer is B () Workings At the breakeven point, contribution is equal to fixed costs therefore the contribution to sales ratio is $320,000 / $800,000 i.e. 40% To earn a profit of $200,000 the required contribution is equal to the fixed costs plus the required profit ($320,000 + $200,000) / 0.40 = $1,300,000 Question 1.6 Calculate the percentage decrease, to the nearest 0.1%, in the annual cash inflow that would cause the managers to reject the project from a financial perspective. Workings Net present value of the project = $240,000 Present value of the annual cash outflow = $120,000 x 3.605 = $432,600 Sensitivity = $240,000/$432,600 = 55.5% () Question 1.7 Calculate, to the nearest day, the company s cash operating cycle based on the year end figures. (4 marks) Workings The Chartered Institute of Management Accountants Page 4
Days Accounts receivable days (6/28) x 365 = 78.2 Inventory days (4/(28 x 0.6)) x 365 = 86.9 Accounts payable days (3/(28 x 0.6)) x 365 = (65.2) 99.9 The cash operating cycle is 100 days. Question 1.8 Calculate the expected unit sales of Product W for each quarter of year 2, after adjusting for seasonal variations using the multiplicative model. (4 marks) Workings Quarter Trend sales units Actual sales units Variation Forecast sales 1 18,000 20,250 +12.5% 2 21,000 19,425-7.5% 3 24,000 25,200 +5.0% 4 27,000 24,300-10.0% Year 2 Quarter 1 = 15,000 + (3,000 x 5) = 30,000 + 12.5% = 33,750 units Year 2 Quarter 2 = 15,000 + (3,000 x 6) = 33,000-7.5% = 30,525 units Year 2 Quarter 3 = 15,000 + (3,000 x 7) = 36,000 + 5.0% = 37,800 units Year 2 Quarter 4 = 15,000 + (3,000 x 8) = 39,000-10.0% = 35,100 units The Chartered Institute of Management Accountants Page 5
Section B 30 marks ANSWER ALL SIX SUB-QUESTIONS. YOU SHOULD SHOW YOUR WORKINGS AS MARKS ARE AVAILABLE FOR THE METHOD YOU USE Question 2(a) Explain the benefits that may result from the company using a decentralised purchasing system. (5 marks) The question assesses learning outcome E1(g) Analyse the impacts of alternative policies for stock management. It examines candidates ability to explain the benefits of a decentralised purchasing system. Candidates should consider the potential benefits to a company of using a decentralised purchasing system compared to the current system and explain clearly what the benefits are and why they arise under this system. Explanation of the benefits of decentralised purchasing: one mark per well-explained benefit. 5 marks This was a straightforward and generally well-answered question with most candidates able to explain two or three benefits. Some of the weaker candidates discussed the ordering of the goods and indicated that a decentralised purchasing system would have improved knowledge of what was in the warehouse and what needed to be ordered. Some answers did not provide explanation of the benefits. For example they would state that decentralised purchasing could result in better supplier relationships without then explaining why this would be of benefit to the organisation. 1. Failing to expand the points made. 2. Providing answers that did not address the question that was asked. 3. Suggesting features that would be of benefit that would equally apply using a centralised purchasing system. The Chartered Institute of Management Accountants Page 6
Question 2(b) Calculate the net annual cost if the credit controller s proposed change to the credit policy is adopted. (5 marks) Part (i) assesses learning outcome E1(f) Analyse the impacts of alternative debtor and creditor policies. It examines candidates ability to calculate the net cost of a change to a company s credit policy. Candidates should first calculate the change in the level of investment in trade receivables if the early settlement discount is offered. The benefit of this, in terms of the reduction in overdraft interest, can then be calculated. This should then be compared to the cost of the cash discount offered and the additional credit control costs. Current cost of investment in trade receivables Cost of cash discounts Revised cost of investment in trade receivables Increase in credit control costs Net increase in costs There were very few correct answers to this question and there were also many candidates who did not make an attempt at the question. Most candidates were able to calculate the cost of the discount and some could calculate the current cost of the investment in trade receivables but few could go much further than this. A significant proportion of candidates appeared not to understand what the question was asking and calculated instead the effective annual interest rate of the early settlement discount, presumably because they had seen previous questions requiring that calculation. 1. Calculating the effective annual interest rate of the discount. 2. Failing to calculate a net cost of the change in policy. 3. Calculating the cost of the discount on trade receivables of $25m. 4. Ignoring the revised interest cost for the trade receivables that paid in 50 days. 5. Calculating an annual interest cost based on trade receivables of $25m. The Chartered Institute of Management Accountants Page 7
Question 2(c) Prepare a cash budget for each of the three months January, February and March. (5 marks) The question assesses learning outcome B3(a) Prepare a budget for any account in the master budget, based on projections/forecasts and managerial targets. It examines candidates ability to prepare a cash budget based on information about the timing of cash flows. Candidates should first prepare a format for the cash budget with months along the top and receipts and payments down the side. They should then work out the timing of the cash flows for each of the items. The cash receipts and cash payments should be summed and the net cash flow for each month should be calculated. The opening cash balance and closing cash balance for each month can then be calculated. Sales receipts Payment for purchases Payment for labour and overheads Payment for machinery Opening balance Net cash flow Closing balance 1s This question was not as well done as might have been expected for a cash budget question, although most candidates scored two or three marks and many achieved full marks. The timing of the cash flows for purchases was an issue for many candidates, presumably because they did not read the question sufficiently carefully. More candidates than in previous sessions used the correct format and included the opening and closing balances. More worryingly, some candidates did not appreciate that depreciation is not a cash flow and included both depreciation and the $100,000 machine cost. 1. Failing to include opening and closing balances. 2. Poor labelling of figures. 3. Failing to apply the correct timing for the purchases. 5. Including depreciation as a cash outflow. 6. Deducting depreciation from the overhead costs. The Chartered Institute of Management Accountants Page 8
Question 2(d) Compare and contrast the two alternative types of investment in terms of their risk, return and liquidity. (5 marks) The question assesses learning outcome E2(b) Identify alternatives for investment of short-term cash surpluses. It examines candidates ability to compare and contrast two short term investment opportunities in terms of their risk, return and liquidity. Candidates should describe each of the investments and indicate clearly how each of them compares in terms of their risk, return and liquidity. Comparison of the investments in terms of their risk, return and liquidity: one mark per valid point. 5 marks Note: a maximum of three marks should be given for explanation of features of the investments The majority of candidates did not provide any comparison of the two investments; instead they discussed risk, return and liquidity for each investment separately. The weaker candidates failed to justify their points and literally just stated that treasury bills were low risk, low return and liquid. Some of the weaker candidates seemed to be discussing bills of exchange rather than treasury bills. Many candidates appeared to believe that money market deposits could be accessed whenever required, subject to an interest penalty. 1. Failing to justify the points made for each investment. 2. Failing to compare and contrast the investments. 3. Lack of understanding of money market deposits. The Chartered Institute of Management Accountants Page 9
Question 2(e) Calculate whether it is worthwhile opening the tourist attraction on 1 January. You should use expected value as the basis of your analysis. (5 marks) The question assesses learning outcome D1(c) Analyse risk and uncertainty by calculating expected values and standard deviations together with probability tables and histograms. It examines candidates ability to calculate the expected value of a decision. Candidates should first calculate the expected value of the number of visitors and the expected value of the contribution from sales of souvenirs and refreshments. The total contribution can then be calculated and the specific fixed costs deducted from this to calculate the expected contribution towards general fixed overheads. Contribution from ticket sales Contribution from sales of souvenirs and refreshments Specific fixed costs Contribution to general fixed costs This question was generally answered well by the candidates that attempted it. Some candidates did not recognise that it would be quicker to calculate the expected value of the number of visitors and the expected value of the contribution from the souvenirs and refreshments, rather than calculating the expected value of all nine possible outcomes. Unfortunately this tended to result in a lot of arithmetical errors. Some candidates failed to deduct the specific fixed costs to calculate the profit as required by the question. 1. Calculation of the contribution from souvenirs and refreshments as ((800 + 900 + 1,000) 9.8) or ((400 8 0.35) + (270 10 0.4) + (200 12 0.25)) or ((800 8 0.35) + (900 10 0.4) + (1,000 12 0.25)). 2. Arithmetic errors when applying probabilities. 3. Failure to deduct fixed costs. The Chartered Institute of Management Accountants Page 10
Question 2(f) (i) Prepare a two way data table to show the contribution to general fixed overheads for each of the nine possible outcomes. (3 marks) (ii) Calculate the probability of making a positive contribution to general fixed overheads by opening on 1 January. () (Total for sub-question (f) = 5 marks) Part (i) of the question assesses learning outcome D1(d) Prepare expected value tables. It examines candidates ability to prepare a two way data table. Part (ii) of the question assesses learning outcome D1(c) Analyse risk and uncertainty by calculating expected values and standard deviations together with probability tables and histograms. It examines candidates ability to determine the probability of a particular outcome using joint probabilities. In part (i) candidates should calculate the contribution to general fixed overheads, for each of the possible outcomes, by multiplying the number of visitors by the selling price of the ticket plus the contribution from the sales of souvenirs and refreshments. The specific fixed costs should then be deducted from the total contribution. The figures should then be presented in the form of a two way data table. In part (ii) candidates should calculate the joint probability of each of the possible outcomes that produce a positive contribution. The total probability of making a positive contribution can then be calculated. Part (i) Total contribution for 800, 900 and 1,000 visitors based on $33 per visitor Total contribution for 800, 900 and 1,000 visitors based on $35 per visitor Total contribution for 800, 900 and 1,000 visitors based on $37 per visitor Part (ii) Total joint probability of outcomes with a positive contribution This question was not particularly well answered. Quite a large proportion of candidates omitted it entirely and others spent a significant amount of time performing irrelevant calculations. It was apparent that many candidates did not know how to construct a two way data table. A number of candidates only calculated the contribution from the sale of souvenirs and refreshments, which resulted in negative figures for each possible outcome. Others failed to deduct specific fixed costs, which resulted in positive figures for each possible outcome. The calculation of the joint probabilities was generally well done. 1. Inability to construct a two way data table. 2. Calculating the contribution from souvenirs and refreshments only. 3. Failing to deduct specific fixed costs. The Chartered Institute of Management Accountants Page 11
Section C 50 marks ANSWER BOTH QUESTIONS Question 3 (a) Prepare a statement for October that reconciles the budgeted contribution with the actual contribution. Your statement should show the variances in as much detail as possible. (13 marks) (b) (c) Discuss the performance of the company for October. Your discussion should give one possible reason for each of the operational variances calculated in part (a). (6 marks) Explain why separating variances into their planning and operational elements should improve performance management. (6 marks) (Total for Question Three = 25 marks) The question assesses a number of learning outcomes. Part (a) assesses learning outcome A1(d) Apply standard costing methods, within costing systems, including the reconciliation of budgeted and actual profit margins. It examines candidates ability to calculate variances to enable the reconciliation of budgeted and actual contribution margins. Part (b) assesses learning outcome A1(f) Interpret material, labour, variable overhead, fixed overhead and sales variances, distinguishing between planning and operational variances. It examines candidates ability to discuss the company s performance and the reasons why the variances may have arisen. Part (c) also assesses learning outcome A1(f) Interpret material, labour, variable overhead, fixed overhead and sales variances, distinguishing between planning and operational variances. It examines candidates ability to explain the importance of planning and operational variances. In part (a) candidates should first calculate the budgeted contribution and the actual contribution for the period. They should then prepare a reconciliation statement starting with the budgeted contribution, adjusting for the sales volume contribution variance to calculate a revised contribution and then adjusting for the planning variances. They should then calculate each of the individual operational variances to reconcile the budgeted contribution to actual contribution. In part (b) candidates should discuss the company s performance in general terms and then identify a possible reason for each of the operational variances as shown by the variances calculated in part (a). In part (c) candidates should explain clearly the potential benefits to a company, in terms of planning and control, of reporting planning and operational variances. Part (a) Budgeted contribution Sales volume contribution variance Material usage planning variance Labour rate planning variance Sales price variance Materials usage operational variance Materials price variance The Chartered Institute of Management Accountants Page 12
Labour rate operational variance Labour efficiency variance Actual contribution Format Part (b) Explanation of possible reasons for variances: one mark per valid explanation for each variance. Part (c) Explanation of benefits of separating variances into their planning and operational elements: one mark per valid point. 6 marks 6 marks The performance in part (a) was disappointing from most candidates. A significant proportion of candidates obviously did not know how to calculate planning and operational variances and just ignored them entirely. Other candidates were unsure which quantities and standards to apply and used a combination in the calculation of the planning and operational variance. Some of the more straightforward variances were also calculated incorrectly, in particular the sales volume contribution variance. There were some excellent answers to part (b) where candidates had methodically gone through their reconciliation statements and provided a brief paragraph for each variance, which ensured that sufficient points were made and that all variances were covered. Unfortunately some candidates answers were much weaker, often providing only a couple of paragraphs without explaining any of the variances. Instead, candidates would state for example that the labour rate variance was adverse, which meant that the company had spent more on labour, or that material usage was adverse, which meant that more material had been used. There was no attempt to explain why labour was more expensive or why more material had been used. Part (c) was surprisingly poorly answered as this has been examined on a number of previous papers. Many candidates explained what planning and operational variances were but did not then explain why they were important for performance management. However, most candidates did discuss controllability when explaining the operational and planning variances, so were able to achieve some credit. Part (a) 1. Failure to calculate planning variances. 2. Calculating planning variances using actual quantities. 3. Calculating the sales volume contribution variance as $120,000 i.e. multiplying the difference in sales volume by the selling price rather than by the unit contribution. 4. Calculating the labour rate planning variance as ($15 - $14.60) x 86,000 = $34,400F. 5. Calculating the labour efficiency operational variance as (84,000-86,000) x$15=$30,000a. Part (b) 1. Restating the calculation from part (a). 2. Not explaining clearly why the variance may have arisen. Part (c) 1. Confusing the planning and operational variance. 2. Defining the variance but not explaining the benefits of separating the variances into their planning and operational elements. 3. Discussing how the variances could be avoided. The Chartered Institute of Management Accountants Page 13
Question 4 (a) Evaluate whether ST should introduce the new product. You should use net present value (NPV) as the basis of your evaluation. (b) Calculate, using the annualised equivalent method, whether the company should purchase machine X or machine Y. (14 marks) (5 marks) (c) Explain the limitations of using the annualised equivalent method when making investment decisions. (6 marks) (Total for Question Four = 25 marks) Part (a) assesses learning outcome C1(b) Apply the principles of relevant cash flow analysis to long-run projects that continue for several years and learning outcome C2(a) Evaluate project proposals using the techniques of investment appraisal. It examines candidates ability to identify the relevant cash flows of a project and then apply discounted cash flow analysis to calculate the net present value of the project. Part (b) assesses learning outcome C2(c) Prioritise projects that are mutually exclusive, involve unequal lives and/or are subject to capital rationing. It examines candidates ability to apply the annualised equivalent method to choose between two machines which have different useful lives. Part (c) also assesses learning outcome C2(c) Prioritise projects that are mutually exclusive, involve unequal lives and/or are subject to capital rationing. It examines candidates ability to explain the limitations of using the annualised equivalent method when making investment decisions. In part (a) candidates should first calculate the contribution for each year of the project. They should then deduct the fixed costs after adjusting these for depreciation. The forgone contribution from the existing machine should also be deducted from the cash flows. The tax depreciation and tax payments should then be calculated. The total cost of the investment, the residual value and the sales proceeds from the existing machine should be added to the net cash flows. The net cash flows after tax should then be discounted at the discount rate of 12% to calculate the net present value (NPV) of the project. In part (b) candidates should calculate the net present value for each of the machines using the company s cost of capital. They should then calculate the annualised equivalent by dividing the net present value of the machine by the appropriate cumulative discount factor. The machine with the highest annualised equivalent net present value should then be selected. In part (c) candidates should explain clearly the limitations of using the annualised equivalent method in investment appraisal. Part (a) Depreciation Fixed costs excluding depreciation Contribution years 1-4 Tax depreciation Tax payments Initial investment/residual value Lost contribution Proceeds from disposal of old machine The Chartered Institute of Management Accountants Page 14
Present value of cash flows Net present value of cash flows Investment decision Part (b) Net present value of each machine Annualised equivalent net present value of each machine Decision Part (c) Explanation of the limitations of the annualised equivalent method: per valid point each each 6 marks The performance on part (a) of the question was good with most candidates able to do enough to achieve at least a pass in this part of the question. It was however apparent that many candidates did not understand the concept of relevant costs. In part (b) the majority of candidates got no further than calculating the net present value for the two machines. Many of those that did then correctly calculate an annualised equivalent selected machine X, presumably because they thought the question was about minimising costs rather than maximising net present value. Part (c) was very poorly answered. Many of those who attempted the question discussed the limitations of investment appraisal techniques in general terms rather than specifically the use of the annualised equivalent method. Part (a) 1. Incorrect calculation of depreciation. 2. Failure to exclude depreciation from fixed costs. 3. Including the loss on disposal of the old machine. 4. Failure to include the sales proceeds from the old machine. 5. Treating the consultant s cost as a relevant cost. 6. Failure to include the lost contribution. 7. Including the machine disposal and/or opportunity cost in the wrong year. 8. Treating the tax depreciation figures as a cash flow. 9. Failure to calculate the correct balancing allowance for year 4. 10. Failure to extend the tax payments into year 5. 11. Failure to state a decision about the investment. 12. Including the residual value in year 5. Part (b) 1. Assuming the question was about minimising cost and therefore selecting machine X rather than machine Y. 2. Using incorrect annuity factors to calculate the annualised equivalent net present value. 3. Multiplying by the annuity factor rather than dividing. 4. Dividing the net present value by the number of years. 5. Using the common multiple method rather than the annualised equivalent method. Part (c) 1. Failure to answer the question asked. 2. Lack of sufficient detail in answers. 3. Providing very general answers relating to the use of net present value. The Chartered Institute of Management Accountants Page 15