ASSIGNMENT COVER SHEET Surname GEERDHARRY First Name/s Bibi Shirin Student Number M401000963 Subject Accounting for Decision Making Assignment Number 1 Tutor’s Name Mr Phul Examination Venue MES Date Submitted 18 April 2011 Submission (√) First Submission ⇃ Re-submission 1
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% of other variable costs 21.13 32.39 25.35 21.13 100
Total variable costs -108 -290 -429 -563 1390
% of total variable costs 7.77 20.86 30.86 40.5 100
Other fixed costs -8 -15 -8 -6 -37
% of fixed costs 21.62 40.54 21.62 16.22 100
Profit (loss) 34 -5 13 31 73
Sales to fixed cost relationship
Department B has the highest fixed costs amount of 40.54% and its sales is 20%. Other
departments for example, department C & D have higher sales but have a lower fixed cost
amount. If the fixed cost is divided in an appropriate proportion in relation to sales then
Department B can make a profit therefore it is not wise to close department B as it can be made
to be profitable.
Also, if Department B, is closed the fixed costs of department A, C & D will increase therefore
their profit will decrease.
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Scenario 1
Suppose the fixed cost is distributed in relation to sales of the department then the fixed cost will be as
follows:
Department
A B C D
Sales 150 300 450 600
% of sales 10 20 30 40
Sales - Total variable cost 42 10 21 37
Fixed cost (divided in proportion
of percentage sales)
3.7 7.4 11.1 14.8
Profit 38.3 2.6 9.9 22.2
In this case the profit for Department B will be R 2 600.
Scenario 2
Suppose fixed cost is distributed equally between the departments in relation to sales then the
fixed cost will be as follows:
Department
A B C D
Sales - Total variable cost 42 10 21 37
Fixed cost (divided
equally) 9.25 9.25 9.25 9.25
Profit 32.75 0.75 11.75 27.75
In this case the profit for Department B will be R 750.
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If the fixed cost is divided in proportion to sales then the Department B will be more profitable
with a profit equals to R2 600. Therefore, I would advise the management of Zimbesi
Manufacturers not to close Department B.
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Question 4
4.1 Information
Crimson Enterprises has set a number of transfer prices to be used by service departments within
the business, all of which used to be cost centres. One is for typing services. The charge is R15
per hour which is based on the total budgeted hours of available service and total budgeted costs
for the typing service pool. Budgeted costs for the pool are 75% fixed. The manager of one of
the operating departments has obtained a price of R10.50 per hour of typists’ time from an
outside agency. This manager informed B. Lara, the manager of the typing cost centre, of the
outside price. B. Lara replied that he could make use of the outside facility if he so desired, but
the price set internally would not be lowered from the existing rate of R15 per hour.
4.1.1 Describe two disadvantages to the supplying division of the transfer pricing method used
by Crimson Enterprises:-
1. The prices set for typing services at Crimson Enterprises are fixed at R15 per hour and
cannot be lowered, though the outside market price is better than that provided by
Crimson Enterprises.
2. The manager of one of the operating departments has obtained a price of R10.50 per hour
of typists’ time from an outside agency therefore he will opt to get his typing work from
outside, thus reducing the profit of the enterprise as a whole.
3. Outside rates are not fixed they may fluctuate depending on the amount of work.
4. The main problem with this method is that supplying division will gain no profit from the
transfer and thus does not provide an incentive to the supplying division to transfer goods
internally. If internal transfers comprise a significant part of the supplying division’s
business, its profits will be understated.
According to Terry Lucey (2003:550), full cost transfer pricing suffers from a number of
limitations:
(a) The calculated cost is only accurate at one level of output.
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(b) The validity of any pricing decision based on past cost is questionable.
(c) When transfers are made at full cost plus a profit markup the selling division is
automatically given a certain level of profit rendering genuine performance appraisal
difficult.
(d) When the selling division is inefficient or working at low volume the costs may be
unacceptably high as far as the buying division is concerned.
4.1.2 Comment on the position taken by B. Lara. Make your recommendations.
B. Lara, the manager of the typing cost centre has a budgeted costs for the pool fixed at 75%.
Therefore even if the outside price of providing typing services is lower than R15 per hour as
that provided by Crimson Enterprises, B. Lara could not decrease his prices lower than R15. The
manager of the typing cost centre has to adhere to the price fixed by the company, which is not in
the best interest of the enterprise as viewed as a whole.
The manager of the operating department will see where it is more profitable for him to do the
typing work. If the outside price is better, he will do it outside. If the price provided by Crimson
Enterprises is better, he will do it at Crimson Enterprises itself.
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4.2 Information
The summarised balance sheets of Beta Limited as at the end of 2010 and 2009 are given below:
2010 (R) 2009 (R)
ASSETS
Non-current assets (Property, plant and equipment) 522 000 572 000
Current assets 398 000 286 000
920 000 858 000
EQUITY AND LIABILITIES
Ordinary share capital 388 000 388 000
Retained earnings (456 000) (332 000)
Shareholders’ equity (68 000) 56 000
Non-current liabilities 880 000 698 000
Current liabilities 108 000 104 000
920 000 858 000
Required
Study the balance sheets of Beta Limited and comment on its financial position.
Solution
The financial position of Beta Limited has improved by R62 000 from 2009 to 2010.
Beta Limited Balance Sheet first lists the company’s assets. According to R. Libby, P.A. Libby
and D.G. Short, assets are economic resources owned by the entity. It next lists its liabilities and
stock holders’ equity. They are the sources of financing or claims against the company’s
economic resources – financing provided by creditors creates a liability.
Financing provided by owners creates owners’ equity. Since each asset must have a source of
financing, a company’s assets must, by definition, equal its liabilities and stockholder’s equity.
This basic accounting equation, often called the balance sheet equation, is written:
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Asset = Liabilities + Stockholder’s Equity
Economic Resources Sources of financing for economic resources.
(e.g. Cash, inventory) Liabilities: From creditors
Stockholders’ Equity: From stockholders
Assets are the economic resources owned by the company. Every asset on the balance sheet is
initially measured as the total cost incurred to acquire it.
Liabilities are the company’s debts or obligations. Under the category Liabilities, two items are
provided: current and non-current liabilities.
Stockholder’s equity indicates the amount of financing provided by owners of the business and
earnings. It comes from two sources: (1) contributed capital, or the investment of cash and other
assets in the business by the owners, and (2) retained earnings, or the amount of earnings
(profits) reinvested in the business (and thus not distributed to stockholders in the form of
dividends).
Assets
The non-current assets (Property, plant and equipment) of Beta Limited have deteriorated from
2009 to 2010, whereas its current assets and the total assets have improved from 2009 to 2010.
Equity and Liabilities
The ordinary share capital has remained constant from 2009 to 2010.
The value of retained earnings and shareholder’s equity has deteriorated from 2009 to 2010. The
value non-current and current liabilities have improved from 2009 to 2010.
Finally it can be deduced from the balance sheet that the overall financial position of Beta
Limited has improved from 2009 to 2010 by R 62 000.
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Question 5
5.1 Information
SD Enterprises has the option to invest in machinery in projects A and B but finance is only available to invest in one of them. You are given the following projected data:
Project A
(R)
Project B
(R)
Initial cost 302 000 150 000
Net profit:
Year 1
Year 2
Year 3
Year 4
Year 5
12 000
25 000
34 000
43 000
4 000
70 500
70 500
70 500
70 500
-
Additional information
1. All cash flows take place at the end of the year except the original investment in the project which takes place at the beginning of the project.
2. Project A machinery will be disposed of at the end of year 5 with a scrap value of R42 000.
3. Project B machinery will be disposed of at the end of year 4 with a nil scrap value.
4. Depreciation is calculated on a straight line basis.
5. The discount rate to be used by the company is 12%.
REQUIRED
5.1.1 Calculate the payback period for both projects. (Answer must be expressed in years and months.)
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5.1.2 Calculate the accounting rate of return (on average investment) for project B. (Answer expressed to 2 decimal places)
5.1.3 Calculate the net present value of each project. (Round off amounts to the nearest Rand)
5.1.4 Using your answers from question 5.1.3, which project should be chosen? Why?
Solution
For Project A,
Initial cost or initial investment = R 302 000
Project A machinery will be disposed of at the end of year 5 with a scrap value of R42 000