Answers

ACCA Certified Accounting Technician Examination – Paper T7

Planning, Control and Performance Management June 2004 Answers

1 (a) Number of cases produced and sold

April May
Sales (£350,000 ÷ £350) 1,000 (£280,000 ÷ £350) 1,800
Production (£200,000 ÷ £200) 1,000 (£400,000 ÷ £200) 2,000

(b) Marginal costing profit statements

Profit and loss accounts for the month ended
30 April 2004 31 May 2004
£000 £000 £000 £000
Sales 350·0 280·0
Opening stock finished goods 6·0 6·0
Variable production cost 200·0 400·0
Closing stock finished goods (6·0) (246·0)
–––––– ––––––
Variable cost of sales (200·0) (160·0)
Variable selling and administration expenses (35·0) (28·0)
–––––– ––––––
Contribution 115·0 92·0
Fixed production cost (100·0) (100·0)
Fixed selling and Administration expenses (10·0) (10·0)
–––––– ––––––
Profit before bonus 5·0 (18·0)
Bonus (0·5) 0·0
––––––
Net profit 4·5 (18·0)
–––––– ––––––
Workings
April opening stock finished goods = £9,000 ÷ £300 x £200 = £6,000
April closing stock finished goods = £9,000 ÷ £300 x £200 = £6,000
May closing stock finished goods = £369,000 ÷ £300 x £200 = £246,000

(c) Report
Report
To: Board of directors Matthews Ltd
From: A Certified Accounting Technician
Subject: Profit measurement and bonus scheme
Date: Today
Differences in profit Figures
The difference in net profit figures for May 2004 is due to a change in costing principle. Absorption costing values finished
goods closing stock at full production cost (fixed and variable cost). In a period where finished goods stocks increase some
fixed overheads are carried forward to the next period in the finished goods closing stock valuation.
Marginal costing values finished goods closing stock at variable production cost only. Fixed production costs are written off
against profit in the period they are incurred.
Thus in a period where production is greater than sales, as in May 2004, absorption costing will show a higher profit figure
as a large proportion of May’s fixed production cost is carried forward in the closing stock valuation.
The statement below reconciles the two profit figures.
£000
Absorption costing profit 91·80
Less
Stock increase in cases x £100 per case
1,200 cases x £100 (120·00)
Plus
Difference in bonus payments 10·20
Marginal costing profit (18·00)
Problems with the performance of eastern division
Although the Eastern division has increased its reported profit (under absorption costing principles) two problems have
occurred. Firstly its sales have fallen leading to less contribution, and secondly the ‘profit’ has been generated by building up
large stocks of finished goods. The holding costs of these goods could be high, and given Eastern’s static market there seems
little reason to carry them.

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 Bonus systems based upon absorption costing principles
The danger of basing bonus schemes on absorption costing profit is that managers are effectively rewarded for increasing
stocks. In May the manager of the Eastern division increased the reported profit figure (and her bonus) although her
contribution to the financial well-being of the company is questionable. If managers are given autonomy over production levels
there is a danger that they ‘play the system’ to manipulate profits and boost their earnings.
Improved Bonus Systems
Many alternative bonus schemes could be adopted, examples include
– Basing bonus upon contribution or marginal cost net profit. This would result in bonus varying with sales and costs, not
production levels.
– Bonus payments based upon non financial indicators of performance such as a balanced scorecard approach. This
would focus manager’s attention on the long term success of their operations rather than short term financial
performance.
– Bonus payments could be based upon measures such as return on investment or residual income. This would focus
managers’ attention upon capital invested as well as profit earned.

(d) Trend and seasonal variation

In the context of time series analysis of sales, trend refers to the general direction in which a graph of sales goes over a long
interval of time.
Seasonal variations are the identical (or almost identical) patterns which sales follow during corresponding intervals of
successive periods. For example many retail businesses each year experience an increase in sales before Christmas only to
see them fall again after the Christmas period.

(e) Sales Forecast

Trend
y = 1,500 + 60x
y = 1,500 + (60 * 20) = 2,700
Seasonal variation
Last quarter of the year = + 50
Forecast = 2,700 + 50 = 2,750 cases

2 (a) Variances
Direct Material
actual purchases at actual price 1,800m3 at £150 = £270,000
(i) Raw material price variance £18,000 FAV
actual purchases at standard price 1,800m3 at £160 = £288,000
actual usage at standard price 1,600m3 at £160 = £256,000
(ii) Raw material usage variance £32,000 ADV
standard usage at standard price 14,000 sets at 0·1m3 at £160 = £224,000

Direct Labour
actual hours at actual rate 8,000 hours at £9·25 = £74,000
(iii) Direct labour rate variance £2,000 ADV
actual hours at standard rate 8,000 hours at £9·00 = £72,000
(iv) Direct labour efficiency variance £9,000 ADV
standard hours at standard rate 14,000 sets at 0·5 hours at £9·00 = £63,000

Fixed Overhead
Actual fixed overheads = £23,000
(v) Fixed overhead expenditure variance £3,000 FAV
Budgeted fixed overheads = £26,000
(vii) Fixed overhead capacity variance £6,000 FAV
Actual labour hours at standard absorption rate 8,000 hours at £4 = £32,000
(viii) Fixed overhead efficiency variance £4,000 ADV
Standard labour hours at standard absorption rate
14,000 sets at 0·5 hours at £4 = £28,000
capacity + efficiency = £6,000 FAV + £4,000 ADV =
(vi) Fixed overhead volume variance £2,000 FAV

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 (b) Meaning and possible cause of variances
The raw material price variance shows that wood was purchased at a lower price than standard. This saved £18,000 on the
material purchased.
This saving could have many potential causes including a change of supplier, a fall in market prices, better price negotiation
or by buying a lower grade of material. The material usage variance is £32,000 adverse showing that more material was
used than standard. Again there are many potential causes including careless use of material, pilferage, or problems resulting
from the use of poorer quality material. The two variances could possibly be related, as the favourable price variance could
have been achieved by buying material of an inferior quality leading to more wastage than usual. If this is the case then the
decision to buy cheaper material was a poor one as the material cost variance is £14,000 adverse.
The fixed overhead expenditure variance is favourable, indicating that less has been spent on fixed overheads than budgeted.
This could be caused by price reductions or seasonal effects.
The fixed overhead volume variance is favourable indicating an over absorption of overhead caused by producing more sets
than budgeted. This can be considered good news as long as the extra production can be sold.
The capacity and efficiency variances indicate the cause of this over absorption. Because we worked more labour hours than
budgeted we could have absorbed £6,000 more overhead than budgeted. However part of this over absorption was lost due
to inefficient labour and at standard labour hours £4,000 of this over absorption is cancelled out leading to an overall volume
variance of £2,000 favourable.

3 (a) Residual income

£million
2001 2002 2003
Operating profit 15 16 17
Imputed interest charge
£50m x 20% (10)
£70m x 20% (14)
£90m x 20% (18)
–––– –––– ––––
Residual income 5 2 (1)
–––– –––– ––––

(b) Advantages and disadvantages of residual income

Advantages
– It makes divisional managers aware of the cost of financing their divisions.
– It is an absolute measure of performance and not subject to the problems of relative measures such as return on
investment.
– In the long run it supports the net present value approach to investment appraisal (the present value of a project’s
residual income equals net present value of that project).
Disadvantages
– In common with most other divisional performance measures, problems exist in defining controllable and traceable
income and investment.
– Residual income gives the symptoms not the causes of problems. If residual income falls the figures give little clue as
to why.
– Problems exist in comparing the performance of different sized divisions (large divisions will earn larger residual incomes
simply due to their size).
– Residual income when applied on a short term basis is a short term measure of performance and may lead managers
to overlook projects whose payoffs are long term. This could well be the case for the hotel chain.

(c) Advantages of a balanced scorecard approach

The balanced scorecard approach seeks to measure performance under a variety of headings of financial success, customer
satisfaction, process efficiency and organisational learning and growth.
– It measures performance in a variety of ways, rather than relying on one figure.
– Managers are unlikely to be able to distort the performance measure, bad performance is difficult to hide if multiple
performance measures are used.
– It takes a long-term perspective of business performance.
– Success in the four key areas should lead to the long-term success of the organisation.
– It is flexible, what is measured can be changed over time to reflect changing priorities.
– ‘What gets measured gets done’, that is if managers know they are being appraised on various aspects of performance
they will pay attention to these areas, rather than simply paying lip service to them.

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 (d) CSFs and KPIs
Critical Success Factor Key performance indicator
financial success
Investor wealth residual income
Cash flow achievement of cash flow targets
customer satisfaction
Service levels number of complaints
Facilities customer questionnaire results
Catering customer questionnaire results
process efficiency Check-in average check-in time
Facility utilisation % utilisation of pools and gym
organisational learning and growth
Penetration of business market % growth in business usage
Usage of new facilities revenue from new facilities

4 (a) Break even point in good units

= Monthly fixed costs £148,500
= –––––––––––––––– = –––––––––
contribution per good unit £22·5 per unit
= 6,600 units

(b) Break even point in good units for the automated process
Revised cost card £ per good unit
Selling price 60·00
Direct materials 15·00
Direct labour 5·00
Variable overhead 5·00
Quality control rejects (5%) (w1) 1·32
––––––
Contribution per good unit £33·68
––––––
New monthly fixed costs
Revised break even point = –––––––––––––––––––––
New contribution per unit

£148,500 + £120,000
= ––––––––––––––––––––– = 7,972 units
£33·68

Working 1: (£15 + £5 + £5) ÷ 0·95 x 0·05 = £1·32 per good unit

(c) Output level in good units per month at which the current process and proposal 1 have the same total monthly cost.
If q = output level in good units per month, then total costs for each alternative are
Current process Total Cost = £48,500 + £37·5 q
Proposal 1 Total Cost = £148,500 + £120,000 + £26·32 q
To find the point where total cost is equal, solve the following for q
£148,500 + £37·5 q = £148,500 + £120,000 + £26·32 q
= £11·18q = £120,000
£120,000
q = ––––––––– = 10,733
£11·18
Increase in fixed costs £120,000
(Or more directly ––––––––––––––––––––––––––– = –––––––––
decrease in variable cost per unit £11·18
= 10,733 units
Comment: This is in excess of Taylor’s current monthly sales and appears non viable.

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(d) Costs of quality
Internal failure costs
These are quality costs that are discovered before the product is delivered to the customer. Examples include rework costs,
net cost of scrap, down time due to quality problems, etc.

External failure costs

These are discovered after the product has been delivered to customers.
Examples include complaint investigation, warranty claims, cost of lost sales, product recalls etc.

Appraisal costs
These are the costs of monitoring and inspecting products before they are released to customers. Examples include
measurement equipment, inspection and tests, test equipment expense, etc.

Prevention costs
These include investment in machinery, technology and training to reduce the number of defective products. Examples include
training programmes, supplier reviews, field trials, cost of research into customer needs, etc.

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ACCA Certified Accounting Technician Examination – Paper T7
Planning, Control and Performance Management June 2004 Marking Scheme

Marks
1 (a) Sales 2
Production 2
–––
4
(b) Sales 2
Opening Stocks 2
Closing Stock May 2
Contribution 2
Profit pre bonus 2
Bonus 2
–––
12
(c) Report format 1
Abs and marginal approaches
Explained 2
Reconciliation 3
(2 if bonus omitted)
Sales problem 1
Stock problem 2
Bonus problem 2
2 per improved system max 4
–––
15
(d) Trend 2
Seasonal 2
–––
4
(e) Trend 2
Seasonal 1
Forecast 2
–––
5
–––
40
–––

2 (a) Raw material price 2

(1 if based on usage)
Raw material usage 1
Labour rate 1
Labour efficiency 1
Fixed overhead expenditure 1
Fixed overhead volume 1
Fixed overhead capacity 1
Fixed overhead efficiency 2
–––
10
(b) Meaning and possible cause of
Price variance 1
Usage variance 1
Possible interrelationship of material price and usage 2
Expenditure variance 1
Capacity variance 2
Efficiency variance 2
Volume variance 1
–––
10
–––
20
–––

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 Marks
3 (a) 1 mark for each year 3
(b) 1 per advantage or disadvantage max 5
(c) 1 per advantage max 4
(d) 1 per each CSF + KPI, max 2 for each heading 8
–––
20
–––

4 (a) Method 1
Break even point 1
–––
2
(b) New reject cost 2
New contribution 1
New fixed costs 1
New break even point 1
–––
5
(c) Method 3
Output level 2
–––
5
(d) Explanations 4 x 1 4
Examples 4 x 1 4
–––
8
–––
20
–––

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