May 2009 Examinations Managerial Level Paper P1 – Management Accounting – Performance Evaluation Question Paper 2 Examiner’s Brief Guide to the Paper 26 Examiner’s Answers 27 The answers published here have been written by the Examiner and should provide a helpful guide for both tutors and students. Published separately on the CIMA website (www.cimaglobal.com/students) from August is a Post Examination Guide for the paper which provides much valuable and complementary material including indicative mark information. © The Chartered Institute of Management Accountants. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recorded or otherwise, without the written permission of the publisher.

© The Chartered Institute of Management Accountants 2009

Management Accounting Pillar

Managerial Level Paper

P1 – Management Accounting – Performance Evaluation

19 May 2009 – Tuesday Morning Session Instructions to candidates

You are allowed three hours to answer this question paper.

You are allowed 20 minutes reading time before the examination begins during which you should read the question paper and, if you wish, highlight and/or make notes on the question paper. However, you will not be allowed, under any circumstances, to open the answer book and start writing or use your calculator during the reading time.

You are strongly advised to carefully read ALL the question requirements before attempting the question concerned (that is, all parts and/or sub- questions). The requirements for the questions in Section C are contained in a dotted box.

ALL answers must be written in the answer book. Answers or notes written on the question paper will not be submitted for marking.

Answer the ONE compulsory question in Section A. This has 16 sub-questions and is on pages 2 to 8.

Answer ALL SIX compulsory sub-questions in Section B on pages 10 and 11.

Answer ONE of the two questions in Section C on pages 12 to 15.

Maths Tables and Formulae are provided on pages 17 to 21.

The list of verbs as published in the syllabus is given for reference on the inside back cover of this question paper.

Write your candidate number, the paper number and examination subject title in the spaces provided on the front of the answer book. Also write your contact ID and name in the space provided in the right hand margin and seal to close.

Tick the appropriate boxes on the front of the answer book to indicate which questions you have answered.

P1 –

Per

form

ance

Eva

luat

ion

TURN OVER

P1 2 May 2009

SECTION A – 40 MARKS [the indicative time for answering this section is 72 minutes] ANSWER ALL SIXTEEN SUB-QUESTIONS

Instructions for answering Section A: The answers to the sixteen sub-questions in Section A should ALL be written in your answer book. Your answers should be clearly numbered with the sub-question number then ruled off, so that the markers know which sub-question you are answering. For multiple choice questions, you need only write the sub-question number and the letter of the answer option you have chosen. You do not need to start a new page for each sub-question. For sub-questions 1.11 to 1.16 you should show your workings as marks are available for the method you use to answer these sub-questions.

Question One 1.1 The fixed overhead volume variance is defined as the difference between A the budgeted value of the fixed overheads and the standard fixed overheads absorbed by

actual production.

B the standard fixed overhead cost specified for the production achieved, and the actual fixed overhead cost incurred.

C budgeted and actual fixed overhead expenditure.

D the standard fixed overhead cost specified in the original budget and the same volume of fixed overheads, but at the actual prices incurred.

(2 marks)

The following data are given for sub-questions 1.2 and 1.3 below. The following data relate to a manufacturing company. At the beginning of April there was no inventory. During April, 2,000 units of Product X were produced, but only 1,750 units were sold. The financial data for Product X for April were as follows:

£ Materials 32,000Labour 12,600Variable production overheads 9,400Fixed production overheads 22,500Variable selling costs 6,000Fixed selling costs 19,300Total costs for Product X 101,800

May 2009 3 P1

1.2 The value of inventory of Product X at the end of April using a marginal costing approach was:

A £5,575

B £6,750

C £7,500

D £9,563 (2 marks)

1.3 The value of inventory of Product X at the end of April using a throughput accounting

approach was: A £1,575

B £4,000

C £5,175

D £5,575 (2 marks)

1.4 A retailer uses the formula shown below when forecasting standard operating costs for its

delivery vehicles. Analysis has shown that the relationship between miles driven and total monthly vehicle operating costs is given by the following formula:

y = £2,000 + £0·0003x2

where y is the total standard monthly vehicle operating cost x is the number of miles driven in the month

The forecast then needs to be adjusted for inflation in vehicle operating costs, which for April was 2%.

Records for April show that the delivery mileage was 3,900 miles, and that the total actual vehicle operating costs for April were £5,500.

The total vehicle operating cost variance for April was closest to A £4,459 adverse

B £1,194 adverse

C £1,194 favourable

D £4,459 favourable

(2 marks)

Section A continues on the next page

TURN OVER

P1 4 May 2009

1.5 The budgeted profit statement for a company, with all figures expressed as percentages of revenue, is as follows:

% Revenue 100Variable costs 80Fixed costs 12Profit 8

After the formulation of the above budget it has now been realised that the sales volume will be only 80% of that originally forecast. The revised profit, expressed as a percentage of the revised revenue, will be:

A 5·0%

B 6·4%

C 8·0%

D 20·0% (2 marks)

1.6 Overheads will always be over-absorbed when A actual overheads incurred are higher than the overheads absorbed.

B actual overheads incurred are lower than the overheads absorbed.

C budgeted output is lower than actual output.

D budgeted overheads are lower than the overheads absorbed. (2 marks)

1.7 A basic standard is: A a standard set at an ideal level, which makes no allowance for normal losses, waste and

machine downtime. B a standard which assumes an efficient level of operation, but which includes allowances

for factors such as normal loss, waste and machine downtime.

C a standard which is kept unchanged over a period of time.

D a standard which is based on current price levels.

(2 marks)

May 2009 5 P1

The following data are given for sub-questions 1.8, 1.9 and 1.10 below

A company uses a standard absorption costing system and adjusts for any under or over absorbed overheads at the end of each period. The company produces only one type of product. The unit standard costs were the same in both March and April. Data for April included:

Budget Actual Sales volume 90,000 units 85,000 units Production volume 80,000 units 78,000 units Total fixed production overheads $400,000 $395,000 Selling price per unit $11 $14 Variable production costs per unit $4 $4

1.8 The sales price variance for April was A $108,000 favourable

B $170,000 favourable

C $255,000 favourable

D $270,000 favourable (2 marks)

1.9 The sales volume profit variance for April was A $10,000 adverse

B $14,000 adverse

C $35,000 adverse

D $50,000 adverse

(2 marks) 1.10 If the company had used standard marginal costing to calculate the profit for April that

profit, compared to what would have been calculated by standard absorption costing, would be:

A $10,000 higher

B $35,000 higher

C $49,000 higher

D $50,000 higher (2 marks)

Section A continues on the next page

TURN OVER

P1 6 May 2009

1.11 Three products P, Q and R are produced together in a common process. Products P and Q are sold without further processing, but Product R must be modified in an additional process before it can be sold. No inventories are held. There are no process losses.

The following data apply to March.

Output Product P 2,000 litres Product Q 3,800 litres Product R 2,450 litres Selling prices Product P £2·50 per litre Product Q £4·00 per litre Product R £9·00 per litre Costs incurred in the common process £36,000 Costs incurred in the additional process for R £12,250

Calculate the value of the common process costs that would be allocated to product R using the proxy sales value method (notional sales value method).

(3 marks) 1.12 Division L has reported a net profit of £10m for the year ended 30 April 2009. Included in

the costs used to calculate this profit are the following items:

• interest payable of £3m; • development costs of £12m for a new product that was launched in May 2008, and

is expected to have a life of four years; • advertising expenses of £1m that relate to the re-launch of a product in June 2009.

The reported net assets invested in Division L at 30 April 2009 were £30m.

The cost of capital for Division L is 5% per year.

Ignore taxation.

Calculate the Economic Value Added® for Division L for the year ended 30 April 2009.

(3 marks)

1.13 A company manufactures a product using two sequential processes. In Process 2

additional materials are added to the base units that have been transferred from Process 1 and they are then converted to the finished product. Details for the previous period for Process 2 are:

Opening inventory: 700 base units. They were 75% complete in respect of added materials and 40% complete in respect of conversion costs.

Closing inventory: 800 base units. They were 55% complete in respect of added materials and 30% complete in respect of conversion costs.

Input: 2,000 base units were transferred from Process 1 during the period.

Output: 1,900 finished products were transferred out of Process 2.

Losses: there are no losses expected in Process 2.

The company uses “first in, first out” (FIFO) costing.

May 2009 7 P1

Calculate the total equivalent units for the previous period that would be used in the calculation of the cost per unit for the following cost elements:

(i) base units

(ii) added materials

(iii) conversion (3 marks)

1.14 A company can produce a wide variety of products but its production plans are limited by

the time available on Machine M. The budgeted time available for the next period for Machine M is 12,000 hours. The overheads for the next period are budgeted to be $216,000.

The company is reviewing the production plans for Product X. The product sells for $8 per unit and incurs material costs of $2 per unit and labour costs of $4 per unit. Each unit of Product X is worked on by Machine M for 10 minutes.

(i) Calculate the throughput accounting ratio for Product X.

(ii) State the significance of the figure you have calculated. (3 marks)

1.15 A company makes many products, one of which is Product P. Extracts from the budget for

the whole company for June are set out below:

Budget category £ Cost driver details Direct labour cost 64,000 8,000 direct labour hours Set-up costs 22,000 44 set-ups Quality testing costs 6,800 160 tests General overheads 18,800 Absorbed using direct labour hours.

Budgeted data for the manufacture of Product P in June are as follows:

Budgeted output 200 units Direct materials £18.00 per unit Direct labour 0·4 hours per unit Batch size 100 units Set-ups 1 set-up per batch Quality tests 2 tests per batch

Calculate, using an activity-based costing approach, the budgeted cost per unit of Product P for June.

(4 marks)

TURN OVER

P1 8 May 2009

1.16 A manufacturing company produces only one type of product. The company has two production departments, Assembly and Finishing, and two service departments, Maintenance and Stores.

Maintenance provides the following service to the production and service departments: 40% to Assembly, 40% to Finishing and 20% to Stores.

Stores provides the following service to the production departments: 55% to Assembly and 45% to Finishing.

The budgeted information for the year was as follows:

Budgeted fixed production overheads Assembly £200,000 Finishing £160,000 Maintenance £60,000 Stores £80,000

Budgeted output 10,000 units At the end of the year after apportioning the service department overheads, the actual total fixed production overheads attributed to the Assembly department were £298,790. The actual output achieved was 10,800 units. Calculate the under/over absorption of fixed production overheads for the Assembly department.

(4 marks)

(Total for Section A = 40 marks)

Reminder

All answers to Section A must be written in your answer book.

Answers to Section A written on the question paper will not be submitted for marking.

Section B starts on page 10

May 2009 9 P1

[This page is blank]

P1 10 May 2009

SECTION B – 30 MARKS [the indicative time for answering this section is 54 minutes] ANSWER ALL SIX SUB-QUESTIONS. EACH SUB-QUESTION IS WORTH 5 MARKS. YOU SHOULD SHOW YOUR WORKINGS AS MARKS ARE AVAILABLE FOR THE METHOD YOU USE. Question Two (a) Explain how a budget can cause conflict between “motivation” and “control”.

(5 marks) (b) Explain how “zero based budgeting” can overcome the problems that are associated with

“incremental budgeting”. (5 marks)

(c) Explain, giving examples, how budgets can be used for

(i) feedback control (ii) feedforward control

(5 marks) (d) A management consulting company had set the budget for the staff requirements for a

particular job as follows:

£ 50 hours of senior consultant at £120 per hour 6,000 90 hours of junior consultant at £80 per hour 7,200 Budgeted staff cost for job 13,200

The actual hours recorded were:

£ 60 hours of senior consultant at £130 per hour 7,800 90 hours of junior consultant at £75 per hour 6,750 Actual staff cost for job 14,550

The junior consultant reported that for 10 hours of the 90 hours he recorded there was no work that he could do. (i) Calculate the following variances:

• Idle time variance • Labour mix variance

(3 marks)

(ii) Explain the worth, or otherwise, of this company calculating the labour mix variance in this situation.

(2 marks)

(Total for sub-question (d) = 5 marks)

May 2009 11 P1

(e) Explain the importance to management, for planning and control purposes, of the differing definitions of “variable” costs offered by traditional costing methods and activity based costing.

(5 marks) (f) A company budgeted to produce 400 units of a product in a period. The standard cost

card of the product showed that the standard cost of the material used to manufacture each unit of the product was 6 kg costing £12 per kg.

The actual results for the period were that 380 units were produced from 2,500 kg of material which had cost £29,000.

It has now been realised that the standard material content per unit should have been 6·75 kg.

Calculate

(i) the materials usage planning variance

(ii) the operational materials price variance

(iii) the operational materials usage variance.

(5 marks)

(Total for Question Two = 30 marks)

(Total for Section B = 30 marks)

End of Section B

Section C starts on the next page

TURN OVER

P1 12 May 2009

SECTION C – 30 MARKS [the indicative time for answering this section is 54 minutes] ANSWER ONE OF THE TWO QUESTIONS. YOU SHOULD SHOW YOUR WORKINGS AS MARKS ARE AVAILABLE FOR THE METHOD YOU USE. Question Three A company manufactures and sells a single product. Next year’s budgeted profit (based on absorption costing) on the projected sales of 810,000 units is £1,611,000. In view of this figure the company is thinking of investing in new machinery at some time in the forthcoming year. The company is preparing its cash budget for next year. The company divides the year into four periods, each of thirteen weeks. Sales and production will occur at even rates within each period. Details are as follows: Sales budget (810,000 units) The selling price is £30 per unit. All sales will be on credit and payment will be received five weeks after the date of sale. It is expected that 2% of all sales will become bad debts. The budgeted sales units are:

Period 1 2 3 4 Sales (units) 150,000 200,000 180,000 280,000

The product incurs variable selling costs of £1.60 per unit. These are paid in the period in which they are incurred. Production budget (860,000 units)

Period 1 2 3 4 Production (units) 210,000 210,000 220,000 220,000

Production cost per unit

£ Notes Raw materials 9·50 Purchased on credit. Paid for four weeks after purchase.Production wages 8·20 Paid one week in arrears. These are variable costs. Production expenses 7·00 See below. 24·70

Raw material inventory The company wishes to increase inventory to six weeks of forward production by the end of Period 1 and then to seven weeks by the end of Period 2. Purchases will occur evenly throughout the periods.

May 2009 13 P1

Production expenses The production expenses of £7·00 per unit are detailed below:

£ Notes Variable expenses 1·10 Paid in the period incurred Depreciation 2·70 This is an annual fixed cost that is absorbed on a

per unit basis by the budgeted production of 860,000 units

Fixed expenses 3·20 Absorbed on a per unit basis based on the annual production of 860,000 units. Paid in two equal instalments at the beginning of periods 1 and 3.

Long term borrowing The company has a long term loan. The balance on this loan at the start of the year will be £10m. Interest on this loan is charged at 9% per annum on the amount outstanding at the start of the year and is to be paid in two equal instalments at the end of period 2 and at the end of period 4. The loan is “interest only”: there are no capital repayments due. Opening balances £ Raw materials inventory 710,000 (all purchased at the current price) Trade receivables (net of bad debts) 2,430,000 Bank and cash 76,000 Trade payables 612,000 Unpaid wages 130,000 Loan 10,000,000

Required:

(a) Calculate, in units, the budgeted break even point and margin of safety for the next year.

(6 marks)

(b) It is now thought that the price of raw materials could range from £7·50 to £11·50 for each unit produced.

Produce a diagram that shows the sensitivity of the budgeted profit to changes in the price of the raw materials.

(4 marks)

(c) Prepare, showing all cash flows, a cash budget for period 1 and a cash budget for period 2 (assume the price of raw materials is £9·50 for each unit produced).

(14 marks)

(d) Explain three areas from your cash budget which could cause problems for the

company’s management team. (6 marks)

(Total for Question Three = 30 marks)

Section C continues on the next page

TURN OVER

P1 14 May 2009

Question Four A multi-national sports equipment manufacturer has a number of autonomous divisions throughout the world. Two of the divisions are in America, one on the west coast and one on the east coast. The west coast division manufactures cycle frames and assembles them into complete cycles using bought-in components. The east coast division produces wheels that are very similar to the wheel sets that are used by the Frames Division but it currently only sells them to external customers. Details of the two divisions are given below. Frames Division (west coast) The Frames Division buys the wheels that it needs from a local supplier. It has negotiated a price of $870 per set (there are two wheels in a set). This price includes a bulk purchase discount which is awarded if the division purchases 15,000 sets per year. The production budget shows that 15,000 sets will be needed next year. Wheels Division (east coast) The Wheels Division has a capacity of 35,000 sets per year. Details of the budget for the forthcoming year are as follows:

Sales 30,000 sets

Per set $ Selling price 950 Variable costs 650

The fixed costs of the division at the budgeted output of 30,000 sets are $8m per year but they would rise to $9m if output exceeds 31,000 sets. Note: the maximum external demand is 30,000 sets per year and there are no other uses for the current spare capacity. Group Directive The Managing Director of the group has reviewed the budgets of the divisions and has decided that in order to improve the profitability of the group the Wheels Division should supply wheel sets to the Frames Division. She is also thinking of linking the salaries of the divisional managers to the performance of their divisions but is unsure which performance measure to use. Two measures that she is considering are “profit” and the “return on assets consumed” (where the annual fixed costs would be used as the “assets consumed”). The Manager of the Wheels Division has offered to supply wheel sets to the Frames Division at a price of $900 per set. He has offered this price because it would earn the same contribution per set that is earned on external sales (this is after adjusting for distribution and packaging costs).

May 2009 15 P1

Required

(a) Assume that the 15,000 wheel sets are supplied by the Wheels Division at a

transfer price of $900 per set.

Calculate the impact on the profits of each of the divisions and the group.

(5 marks)

(b) Calculate the minimum price at which the Manager of the Wheels Division would be willing to transfer the 15,000 sets to the Frames Division if his performance is to be measured against maintaining:

(i) the profit of the division (currently $1m) (ii) the return on assets consumed by the division (currently 12·5%).

(9 marks)

(c) Produce a report to the Managing Director of the group that:

(i) explains the problems that may arise from the directive and the

introduction of performance measures; (10 marks)

(ii) explains how the problems could be resolved.

(6 marks)

Note: You should use your answers to parts (a) and (b) and other relevant calculations, where appropriate, to illustrate points in your report.

(Total for Question Four = 30 marks)

(Total for Section C = 30 marks)

End of question paper

Maths Tables and Formulae are on pages 17 to 21

P1 16 May 2009

[This page is blank]

May 2009 17 P1

P1 18 May 2009

PRESENT VALUE TABLE

Present value of $1, that is where r = interest rate; n = number of periods until payment or receipt.

( ) nr −+1

Interest rates (r) Periods

(n) 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% 1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909 2 0.980 0.961 0.943 0.925 0.907 0.890 0.873 0.857 0.842 0.826 3 0.971 0.942 0.915 0.889 0.864 0.840 0.816 0.794 0.772 0.751 4 0.961 0.924 0.888 0.855 0.823 0.792 0.763 0.735 0.708 0.683 5 0.951 0.906 0.863 0.822 0.784 0.747 0.713 0.681 0.650 0.621 6 0.942 0.888 0.837 0.790 0.746 0705 0.666 0.630 0.596 0.564 7 0.933 0.871 0.813 0.760 0.711 0.665 0.623 0.583 0.547 0.513 8 0.923 0.853 0.789 0.731 0.677 0.627 0.582 0.540 0.502 0.467 9 0.914 0.837 0.766 0.703 0.645 0.592 0.544 0.500 0.460 0.424 10 0.905 0.820 0.744 0.676 0.614 0.558 0.508 0.463 0.422 0.386 11 0.896 0.804 0.722 0.650 0.585 0.527 0.475 0.429 0.388 0.350 12 0.887 0.788 0.701 0.625 0.557 0.497 0.444 0.397 0.356 0.319 13 0.879 0.773 0.681 0.601 0.530 0.469 0.415 0.368 0.326 0.290 14 0.870 0.758 0.661 0.577 0.505 0.442 0.388 0.340 0.299 0.263 15 0.861 0.743 0.642 0.555 0.481 0.417 0.362 0.315 0.275 0.239 16 0.853 0.728 0.623 0.534 0.458 0.394 0.339 0.292 0.252 0.218 17 0.844 0.714 0.605 0.513 0.436 0.371 0.317 0.270 0.231 0.198 18 0.836 0.700 0.587 0.494 0.416 0.350 0.296 0.250 0.212 0.180 19 0.828 0.686 0.570 0.475 0.396 0.331 0.277 0.232 0.194 0.164 20 0.820 0.673 0.554 0.456 0.377 0.312 0.258 0.215 0.178 0.149

Interest rates (r) Periods

(n) 11% 12% 13% 14% 15% 16% 17% 18% 19% 20% 1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833 2 0.812 0.797 0.783 0.769 0.756 0.743 0.731 0.718 0.706 0.694 3 0.731 0.712 0.693 0.675 0.658 0.641 0.624 0.609 0.593 0.579 4 0.659 0.636 0.613 0.592 0.572 0.552 0.534 0.516 0.499 0.482 5 0.593 0.567 0.543 0.519 0.497 0.476 0.456 0.437 0.419 0.402 6 0.535 0.507 0.480 0.456 0.432 0.410 0.390 0.370 0.352 0.335 7 0.482 0.452 0.425 0.400 0.376 0.354 0.333 0.314 0.296 0.279 8 0.434 0.404 0.376 0.351 0.327 0.305 0.285 0.266 0.249 0.233 9 0.391 0.361 0.333 0.308 0.284 0.263 0.243 0.225 0.209 0.194 10 0.352 0.322 0.295 0.270 0.247 0.227 0.208 0.191 0.176 0.162 11 0.317 0.287 0.261 0.237 0.215 0.195 0.178 0.162 0.148 0.135 12 0.286 0.257 0.231 0.208 0.187 0.168 0.152 0.137 0.124 0.112 13 0.258 0.229 0.204 0.182 0.163 0.145 0.130 0.116 0.104 0.093 14 0.232 0.205 0.181 0.160 0.141 0.125 0.111 0.099 0.088 0.078 15 0.209 0.183 0.160 0.140 0.123 0.108 0.095 0.084 0.079 0.065 16 0.188 0.163 0.141 0.123 0.107 0.093 0.081 0.071 0.062 0.054 17 0.170 0.146 0.125 0.108 0.093 0.080 0.069 0.060 0.052 0.045 18 0.153 0.130 0.111 0.095 0.081 0.069 0.059 0.051 0.044 0.038 19 0.138 0.116 0.098 0.083 0.070 0.060 0.051 0.043 0.037 0.031 20 0.124 0.104 0.087 0.073 0.061 0.051 0.043 0.037 0.031 0.026

May 2009 19 P1

Cumulative present value of $1 per annum, Receivable or Payable at the end of each year for n

years rr n−+− )(11

Interest rates (r) Periods

(n) 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% 1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909 2 1.970 1.942 1.913 1.886 1.859 1.833 1.808 1.783 1.759 1.736 3 2.941 2.884 2.829 2.775 2.723 2.673 2.624 2.577 2.531 2.487 4 3.902 3.808 3.717 3.630 3.546 3.465 3.387 3.312 3.240 3.170 5 4.853 4.713 4.580 4.452 4.329 4.212 4.100 3.993 3.890 3.791 6 5.795 5.601 5.417 5.242 5.076 4.917 4.767 4.623 4.486 4.355 7 6.728 6.472 6.230 6.002 5.786 5.582 5.389 5.206 5.033 4.868 8 7.652 7.325 7.020 6.733 6.463 6.210 5.971 5.747 5.535 5.335 9 8.566 8.162 7.786 7.435 7.108 6.802 6.515 6.247 5.995 5.759 10 9.471 8.983 8.530 8.111 7.722 7.360 7.024 6.710 6.418 6.145 11 10.368 9.787 9.253 8.760 8.306 7.887 7.499 7.139 6.805 6.495 12 11.255 10.575 9.954 9.385 8.863 8.384 7.943 7.536 7.161 6.814 13 12.134 11.348 10.635 9.986 9.394 8.853 8.358 7.904 7.487 7.103 14 13.004 12.106 11.296 10.563 9.899 9.295 8.745 8.244 7.786 7.367 15 13.865 12.849 11.938 11.118 10.380 9.712 9.108 8.559 8.061 7.606 16 14.718 13.578 12.561 11.652 10.838 10.106 9.447 8.851 8.313 7.824 17 15.562 14.292 13.166 12.166 11.274 10.477 9.763 9.122 8.544 8.022 18 16.398 14.992 13.754 12.659 11.690 10.828 10.059 9.372 8.756 8.201 19 17.226 15.679 14.324 13.134 12.085 11.158 10.336 9.604 8.950 8.365 20 18.046 16.351 14.878 13.590 12.462 11.470 10.594 9.818 9.129 8.514

Interest rates (r) Periods

(n) 11% 12% 13% 14% 15% 16% 17% 18% 19% 20% 1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833 2 1.713 1.690 1.668 1.647 1.626 1.605 1.585 1.566 1.547 1.528 3 2.444 2.402 2.361 2.322 2.283 2.246 2.210 2.174 2.140 2.106 4 3.102 3.037 2.974 2.914 2.855 2.798 2.743 2.690 2.639 2.589 5 3.696 3.605 3.517 3.433 3.352 3.274 3.199 3.127 3.058 2.991 6 4.231 4.111 3.998 3.889 3.784 3.685 3.589 3.498 3.410 3.326 7 4.712 4.564 4.423 4.288 4.160 4.039 3.922 3.812 3.706 3.605 8 5.146 4.968 4.799 4.639 4.487 4.344 4.207 4.078 3.954 3.837 9 5.537 5.328 5.132 4.946 4.772 4.607 4.451 4.303 4.163 4.031 10 5.889 5.650 5.426 5.216 5.019 4.833 4.659 4.494 4.339 4.192 11 6.207 5.938 5.687 5.453 5.234 5.029 4.836 4.656 4.486 4.327 12 6.492 6.194 5.918 5.660 5.421 5.197 4.988 7.793 4.611 4.439 13 6.750 6.424 6.122 5.842 5.583 5.342 5.118 4.910 4.715 4.533 14 6.982 6.628 6.302 6.002 5.724 5.468 5.229 5.008 4.802 4.611 15 7.191 6.811 6.462 6.142 5.847 5.575 5.324 5.092 4.876 4.675 16 7.379 6.974 6.604 6.265 5.954 5.668 5.405 5.162 4.938 4.730 17 7.549 7.120 6.729 6.373 6.047 5.749 5.475 5.222 4.990 4.775 18 7.702 7.250 6.840 6.467 6.128 5.818 5.534 5.273 5.033 4.812 19 7.839 7.366 6.938 6.550 6.198 5.877 5.584 5.316 5.070 4.843 20 7.963 7.469 7.025 6.623 6.259 5.929 5.628 5.353 5.101 4.870

P1 20 May 2009

Formulae

PROBABILITY A B = A or B. A B = A and B (overlap). ∪ ∩

P(B A) = probability of B, given A. Rules of Addition If A and B are mutually exclusive: P(A B) = P(A) + P(B) ∪If A and B are not mutually exclusive: P(A ∪B) = P(A) + P(B) – P(A ∩ B) Rules of Multiplication If A and B are independent: P(A ∩B) = P(A) * P(B) If A and B are not independent: P(A ∩B) = P(A) * P(B | A) E(X) = (probability * payoff) ∑ Quadratic Equations If aX2 + bX + c = 0 is the general quadratic equation, the two solutions (roots) are given by:

aacbbX

242 −±−

=

DESCRIPTIVE STATISTICS Arithmetic Mean

nxx ∑

= ffxx

∑∑

= (frequency distribution)

Standard Deviation

nxxSD

2)( −∑= 2

2x

ffxSD −∑∑= (frequency distribution)

INDEX NUMBERS Price relative = 100 * P1/P0 Quantity relative = 100 * Q1/Q0

Price: 100 x w

PP

wo

1

∑

⎟⎟⎠

⎞⎜⎜⎝

⎛∗∑

Quantity: 100 x

1

wQQw

o

∑

⎟⎟⎠

⎞⎜⎜⎝

⎛∗∑

TIME SERIES Additive Model

Series = Trend + Seasonal + Random Multiplicative Model

Series = Trend * Seasonal * Random

May 2009 21 P1

LINEAR REGRESSION AND CORRELATION The linear regression equation of Y on X is given by:

Y = a + bX or Y - Y = b(X – X) where

b = 22 )X(Xn

)Y)(X(XYn)X( Variance

)XY( Covariance∑−∑

∑∑−∑=

and a = Y – bX or solve

∑ Y = na + b ∑ X ∑ XY = a ∑ X + b∑X2

Coefficient of correlation

})Y(Yn}{)X(Xn{

)Y)(X(XYn)Y(Var).X(Var)XY( Covariancer

2222 ∑−∑∑−∑

∑∑−∑==

R(rank) = 1 - )1(

62

2

−

∑

nnd

FINANCIAL MATHEMATICS Compound Interest (Values and Sums) Future Value S, of a sum of X, invested for n periods, compounded at r% interest

S = X[1 + r]n Annuity Present value of an annuity of £1 per annum receivable or payable for n years, commencing in one year, discounted at r% per annum:

PV = ⎥⎥⎦

⎤

⎢⎢⎣

⎡

+−

nrr ]1[111

Perpetuity Present value of £1 per annum, payable or receivable in perpetuity, commencing in one year, discounted at r% per annum:

PV = r1

P1 22 May 2009

[This page is blank]

May 2009 23 P1

LIST OF VERBS USED IN THE QUESTION REQUIREMENTS A list of the learning objectives and verbs that appear in the syllabus and in the question requirements for each question in this paper. It is important that you answer the question according to the definition of the verb.

LEARNING OBJECTIVE VERBS USED DEFINITION

1 KNOWLEDGE

What you are expected to know. List Make a list of State Express, fully or clearly, the details of/facts of Define Give the exact meaning of

2 COMPREHENSION What you are expected to understand. Describe Communicate the key features

Distinguish Highlight the differences between Explain Make clear or intelligible/State the meaning of Identify Recognise, establish or select after

consideration Illustrate Use an example to describe or explain

something

3 APPLICATION How you are expected to apply your knowledge. Apply

Calculate/compute To put to practical use To ascertain or reckon mathematically

Demonstrate To prove with certainty or to exhibit by practical means

Prepare To make or get ready for use Reconcile To make or prove consistent/compatible Solve Find an answer to Tabulate Arrange in a table

4 ANALYSIS How you are expected to analyse the detail of what you have learned.

Analyse Categorise

Examine in detail the structure of Place into a defined class or division

Compare and contrast Show the similarities and/or differences between

Construct To build up or compile Discuss To examine in detail by argument Interpret To translate into intelligible or familiar terms Produce To create or bring into existence

5 EVALUATION How you are expected to use your learning to evaluate, make decisions or recommendations.

Advise Evaluate Recommend

To counsel, inform or notify To appraise or assess the value of To advise on a course of action

P1 24 May 2009

Management Accounting Pillar

Managerial Level

P1 – Management Accounting – Performance Evaluation

May 2009

Tuesday Morning Session

May 2009 25 P1

The Examiner for Management Accounting – Performance Evaluation offers to future candidates and to tutors using this booklet for study purposes, the

following background and guidance on the questions included in this examination paper.

Section A – Question One – Compulsory Question One consists of 16 objective test sub-questions. These are drawn from all sections of the syllabus. They are designed to examine breadth across the syllabus and thus cover many learning outcomes.

Section B – Question Two – Compulsory Question Two has six sub-questions.

(a) covers learning outcome C(v) Describe and explain the possible purposes of budgets, including planning, communication, co-ordination, motivation, authorisation, control and evaluation.

(b) covers learning outcome C(vi) Evaluate and apply alternative approaches to budgeting. (c) covers learning outcome C(ix) Identify controllable and uncontrollable costs in the context of

responsibility accounting and explain why “uncontrollable” costs may or may not be allocated to responsibility centres.

(d) covers learning outcome B(ii) Calculate and interpret material, labour, variable overhead, fixed overhead and sales variances.

(e) covers learning outcome A(vi) Compare activity-based costing with traditional marginal and absorption costing methods and evaluate its potential as a system of cost accounting.

(f) covers learning outcome B(iv) Calculate and explain planning and operational variances.

Section C – answer one of two questions Question Three has four parts. (a) covers learning outcome C(vii) Calculate the consequences of “what if” scenarios and evaluate

their impact on master profit and loss account and balance sheet.. (b) covers learning outcome C(vii) Calculate the consequences of “what if” scenarios and evaluate

their impact on master profit and loss account and balance sheet.. (c) covers learning outcome C(iii) Calculate projected revenues and costs based on product/service

volumes, pricing strategies and cost structures. . (d) covers learning outcome C(xi) Evaluate performance using fixed and flexible budget reports.. Question Four has three parts. (a) covers learning outcome D(i) Discuss the use of cost, revenue, profit and investment centres in

devising organisation structure and in management control (b) covers learning outcome D(vii) Identify the likely consequences of different approaches to

transfer pricing for divisional decision making, divisional and group profitability, the motivation of divisional management and the autonomy of individual divisions.

(c) covers learning outcome D(vi) Explain the typical consequences of a divisional structure for performance measurement as divisions compete or trade with each other

P1 26 May 2009

Managerial Level Paper

P1 – Management Accounting – Performance Evaluation

Examiner’s Answers

SECTION A

Answer to Question One 1.1 The correct answer is A. 1.2 Marginal cost values inventory at the variable production cost of £54,000. 1/8th of

production was in inventory. 1/8th of £54,000 = £6,750

The correct answer is B. 1.3 Throughput approach values inventory at direct materials cost = 1/8th of £32,000 =

£4,000

The correct answer is B. 1.4 Total cost = 2,000 + 0·0003 x (3,900)2

Total cost = 2,000 + (0·0003 x 15,210,000) Total cost = £6,563 Adjusted for inflation: Total cost = £6,563 x 102% = £6,694 Total cost variance = £6,694 - £5,500 = £1,194 favourable The correct answer is C.

1.5 Assuming the revenue was $100 will lead to the following revised figures:

Original Revised $ $ Revenue 100 80Variable costs 80 64Fixed costs 12 12Profit 8 4

May 2009 27 P1

The correct answer is A (4/80).

1.6 The correct answer is B. 1.7 The correct answer is C. 1.8 85,000 x ($14 - $11)

The correct answer is C. 1.9 (90,000 – 85,000) x standard profit per unit = 5,000 x $2

The correct answer is A. 1.10 Inventory has fallen by 7,000 units and therefore the marginal costing profit would be

higher by 7,000 * $5 = $35,000.

The correct answer is B. 1.11 Post separation costs are £12,250 / 2,450 = £5 per litre

Notional price at separation point is £9 - £5 = £4 per litre

Total sales value is P 2,000 x £2·50 = £5,000 Q 3,800 x £4·00 = £15,200 R 2,450 x £4·00 = £9,800 £30,000

Allocation of common process costs to R is £36,000 x (£9,800 / £30,000) = £11,760

1.12 £m £m Net profit 10 Add Interest 3 Development costs 12 Advertising 1 16 26 Less 1/4 development costs 3 23 Less capital charge: 40 x 5% 2 EVA 21 Note: Capital = £40m = 30 + (12 – 3) + 1 1.13 Base units = 1,200 + 800 = 2,000 equivalent units

Added materials = (700 x 25%) + 1,200 + (800 x 55%) = 1,815 equivalent units Conversion = (700 x 60%) + 1,200 + (800 x 30%) = 1,860 equivalent units.

P1 28 May 2009

1.14 (i) Throughput accounting ratio = (selling price – materials)/(labour + overhead)

Overhead = $216,000/12,000 hours = $18 per hour

Overhead for Product X = $18 x 10/60 = $3 per unit

Throughput accounting ratio = (8 – 2)/(4 + 3) = 6/7 = 0·857 (ii) The ratio is less than 1·0 and therefore the product is not profitable.

1.15

£ Calculation Direct materials 18·00 Direct labour 3·20 0·4 * 64,000/8,000 Set-up costs 5·00 (22,000/44) * (200/100) / 200 Quality testing 0·85 (6,800/160) * (200/100) * 2/200 General overheads 0·94 (18,800/8,000) * 0·4 Total cost per unit 27·99

1.16 Assembly

£ Finishing

£ Stores

£ Maintenance

£ Overheads 200,000 160,000 80,000 60,000 Reapportion Maintenance 24,000 24,000 12,000 -60,000 Stores 50,600 41,400 -92,000 274,600 225,400 Nil Nil OAR 274,600/10,000 £27·46 per unit Assembly Absorbed 10,800 x £27·46 £296,568 Incurred £298,790 Under absorbed £2,222

May 2009 29 P1

SECTION B Answer to Question Two (a) When preparing the whole company’s budget it is important to have a realistic forecast of

what is likely to happen, particularly for cash, purchases, labour and capital budgets. However, for a budget to be effective for motivation, targets must be set that are challenging. It is also argued that for control purposes the budget must be a realistic benchmark against which actual performance can be compared, that is, it must be close to a forecast.

The difficulty is that both of these objectives are valid and beneficial. Thus the issue becomes whether one budget can do both tasks or whether companies need to choose which task the budget will be used for.

(b) Incremental budgeting takes the previous year’s budget or actual results and adjusts for

anticipated changes in activity and price only. It builds in any inefficiency contained in the previous year’s budget or actual results. Incremental budgeting does not encourage a critical approach and the review of each item of cost. It also does not allow for the changing nature of the business environment as it is inward looking.

ZBB does require each cost element to be specifically justified, as though the activities to which the budget relates were being undertaken for the first time, thereby avoiding the problems encountered with incremental budgeting. Differing levels of service are evaluated by building up ‘decision packages’.

(c) Feedback control relates to information about past events. Actual results are compared to

planned results as part of the control mechanism. Variance analysis is a good example of feedback control. The feedback information should be used to revise future actions as appropriate.

Feedforward control is a system where deviations from a plan are anticipated and corrective action is taken in advance. An example is a cash flow projection which for example can highlight in advance any shortages of cash and therefore action can be taken to avoid any problems this may cause.

P1 30 May 2009

(d) (i) Idle time variance is 10 hours at £80 per hour = £800 adverse

The mix variance is calculated excluding the idle time hours.

Labour mix variance:

Actual Hours

Standard mix

Mix variance hours

Rate per hour

£

Senior 60 140*50/140 50 10 adverse £120 1,200 advJunior 80 140*90/140 90 10 favourable £80 800 fav 140 140 400 adv (ii) Mix variances are only worthwhile calculating if it is possible to substitute and control the

elements. In this case it would appear that it is not possible to switch elements: there was work which the junior consultant could not perform and there was none of the senior’s work that could be delegated.

(e) The traditional view is that variable costs vary in relation to volume. This link is acceptable

in some circumstances. For example direct material costs could be expected in total to vary in direct proportion to the volume of units produced. It is to be expected that if one unit uses 2 kg of material then 40 units would use 80 kg.

Activity based costing tries to identify a causal link between activities and costs. Consequently there will not be a direct relationship between output volume and total cost, the driver of the costs will be “activity”.

Activity based costing makes it more complicated to plan – a more detailed analysis is required as differing costs will have different drivers and it will not be as simple as flexing the budget in relation to volume. However the advantage is that the information will be a more useful benchmark for control purposes.

(f) (i) The change to the standard is that each unit needs an additional 0·75kg.

Output was 380 units. Therefore the planning variance is 285 kg adverse. This is valued at the standard cost of £12 per kg to give the planning variance of £3,420 adverse.

(ii) Operational price variance = (2,500 kg @ £12) v £29,000

Operational price variance = £1,000 favourable (iii) 380 units should use 2,565 kg but they actually used 2,500 kg. This is a favourable usage

variance of 65 kg.

The operational usage variance is 65 kg @ £12 = £780 favourable.

May 2009 31 P1

SECTION C Answer to Question Three (a) Fixed costs £’000 = 900 + (860 x 2·70) + (860 x 3·20) = £5,974

Contribution per unit = 30 – (9·50 + 8·20 + 1·10 + 1·60 + 0·60) = £9·00 per unit.

Break even point = 5,974,000 / 9·0 = 663,778 units

Margin of safety = 810,000 – 663,778 = 146,222 units (b) If price falls to £7·50 the budgeted profit would rise to £3,231,000

If price rises to £11·50 the budgeted profit falls to a loss of £9,000

Sensitivity of profit to material price

-500

0

500

1000

1500

2000

2500

3000

3500

0 5 10

Material price £

Prof

it £'

000

15

P1 32 May 2009

(c) Cash budget £000 Period 1 Period 2Sales receipts (W1) 5,144 5,314Payments: Raw materials (W2) 2,139 2,201Production wages (W3) 1,720 1,722Variable production expenses 231 231Variable selling expenses 240 320Fixed production expenses (W4) 1,376Interest (W5) 450Cash flow -562 390Opening balance 76 -486Closing balance -486 -96 Workings W1: Sales receipts Period 1

£000 Period 2

£000 Sales(@£30 per unit) 4,500 6,000Reduced for bad debts 4,410 5,880Opening trade receivables 2,430 1,696Closing trade receivables *-1,696 -2,262Receipts 5,144 5,314* 1,696 = 4,410 x 5/13 W2: Raw materials Production (@£9·50 per unit) 1,995 1,995 2,090Closing inventory *921 1,125Opening inventory -710 -921Purchases 2,206 2,199Opening payables 612 679Closing payables **-679 -677Paid 2,139 2,201* 1,995 x 6/13 **2,206 x 4/13 W3: Production wages Production (@£8·20 per unit) 1,722 1,722 Opening unpaid 130 132 Closing unpaid -132 -132 Paid 1,720 1,722 W4 Fixed production expenses Total cost = 860,000 units * £3·20 = £2,752,000. This is paid in two instalments. W5 Interest payments £10m @ 9% = £900,000. This is paid in two instalments. (d) The question asks for three areas. Suggested areas for discussion are given below but

any valid area will earn marks:

• The product is profitable but there are cash flow concerns.

May 2009 33 P1

• If the price of materials rises the product is not profitable and the cash flow position will worsen.

• Could profitability be improved by trying to reduce variable costs and/or switching

them to ‘fixed’ (e.g. automation)? This could also improve cash flow (if suitable financing arrangements can be made). Is this why new investment is planned?

• High cash outflow in Period 1. Have arrangements been made to cover this?

• Can the debt be serviced in Period 2?

• Given the above problems is it sufficient to budget in thirteen week periods? Should

this be broken down and a system of rolling budgets implemented?

• Seasonality of sales.

• Will funds be available for the new machinery?

P1 34 May 2009

Answer to Question Four (a) Wheels division

Increased contribution 5,000 * $300 $1.5mIncreased fixed costs $1.0mNet gain $0.5m

Frames division: Loss of 15,000 * $30 = $0·45m

Group Profit = $0·5m – $0·45m = $0·05m gain

(b) (i) The sales would need to cover the lost contribution from the external sales of $3m

(10,000 * $300) and the increased fixed costs of $1m. Total contribution needed = $4m. This is from 15,000 sets and therefore the contribution per set is $266·67. The variable cost of selling internally is $900 - $300 = $600. Minimum price = $866·67

(ii) Need to cover the lost contribution of $3m and generate a return of $1·125m (calculated

as 112·5% on the increased fixed costs of $1m). This totals $4·125m. Contribution per set = $4.125m/15,000 = $275 Minimum price = $875 Alternative method

Revised fixed costs = $9m. Return required = $9m * 112·5% = $10·125m. The contribution from external sales is 20,000 * $300 = $6m. Therefore the contribution needed from the internal sales is $10·125 – 6 = $4·125m.

(c) To: Group Managing Director From: Management Accountant Date: May 09 Terms of Reference: Issues surrounding internal transfers and performance measures Introduction By issuing the directive that the Frames Division must source its components from the Wheels Division you will be immediately taking away some of the autonomy of the managers. This could have a major impact on the behaviours and attitudes of the managers. This will be compounded by issues surrounding the price of the transfers and this in turn is further complicated by the impact of a performance measurement system. Transfer Pricing It is evident from the calculations that it is in the Group’s best interest for the wheels to be supplied internally; the group’s profit would increase by $0.05m. There is also the possibility that a lower price for the sets could allow the Frames Division to reduce the price of the assembled cycle and increase the sales volume thus earning higher profits. However the price of $900 per wheel set quoted by the Manager is clearly not acceptable to the Frames Division as they can be bought locally for $870. This should be the maximum level of the transfer price.

May 2009 35 P1

The minimum transfer price should be the sum of the selling division’s marginal cost and the opportunity cost. If output was restricted to 30,000 sets this would be $900 (given the adjustment for packaging and distribution costs) but output can be raised above the current maximum demand and consequently the Wheels Division can use the spare capacity. This will allow a price of $867 per set. Performance Measures Performance measures should encourage goal congruence. If an unsuitable measure is chosen it is possible that managers will be encouraged to act in a way that does not lead to the optimal performance for the group. You have suggested two measures but careful thought should be given before you implement them. Using “profit” as a measure will allow the manager of the Wheels Division to set a transfer price that will enhance the group’s profits. However the Manager may be reluctant to do so: at a price of $867 he will have to manage and control additional fixed costs of $1m and the production of an extra 5,000 sets which will take the plant up to its maximum capacity. Using your idea of “return on assets consumed” will not promote goal congruence. The price needed by the Wheels division of $875 is higher than n the open market price. Problems can arise when managers react to a single measure of performance, especially if it is a financial measure. An effective performance measurement system should emphasise both financial and non financial measures and encourage behaviour that is in line with the group’s objectives. One way to overcome these problems is to use a series of financial and non-financial measures in a balanced scorecard. Potential Solutions Transfer pricing is a tricky area. If you impose a transfer price on the managers then it will take away some of their autonomy and consequently it will be better if the managers are allowed, if possible, to come to a mutually agreeable price. The price that is used should encourage goal congruence, motivate the managers and facilitate performance measurement. A recommended resolution to the problem could be a two-part tariff or dual pricing transfer pricing system. A two-part tariff works where the transfer is at marginal cost and a fixed fee is credited to one division to compensate them for the lost additional contribution and the possible subsequent reduction in the performance measure or measures that you decide to implement. Alternatively a dual pricing system could be used where the transfer is recorded in one division at marginal cost and in the other division at market price and the discrepancy between the two prices is recorded in an account at head office. Either of these methods would allow the divisions to remain autonomous and the Group to protect group profits. Problems could arise when Divisional Managers are negotiating a transfer price (lengthy negotiations, time consuming, difficulty in reaching an agreement and the possibility that one manager may be more skilled than another in such negotiations). These can be overcome by Head Office appointing an arbitrator to assist the managers in arriving at a fair transfer price. If the Divisional Managers fail to negotiate a transfer price then Head Office will have to intervene to avoid a reduction in group profit if the Frames Division sources the wheels externally.

P1 36 May 2009