IDIANA CONSULTANCY : NBAA PAST PAPERS ( B5 – PERFORMANCE MANAGEMENT : ( MAY 2017 ) The National Board of Accountants and Auditors,

MAY 2017
Q & A

©The National Board of Accountants and Auditors, 2017

EXAMINATION : INTERMEDIATE LEVEL

SUBJECT : PERFORMANCE MANAGEMENT

CODE : B5

EXAMINATION DATE : FRIDAY, 5^TH MAY, 2017

TIME ALLOWED : THREE HOURS (9.00 A.M. – 12.00 NOON)

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GENERAL INSTRUCTIONS

1. There are TWO Sections in this paper. Sections A and B which comprise a total of SIX questions.

2. Answer question ONE in Section A

3. Answer ANY FOUR questions in Section B.

4. In total answer FIVE questions.

5. Marks are shown at the end of each question.

6. Show clearly all your workings in respective answers where applicable.

7. State clearly any assumptions made in your answers.

8. Graph papers will be provided, where applicable.

9. This question paper comprises 10 printed pages.

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SECTION A

Compulsory Question

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QUESTION 1

Ngozi Ltd is engaged in the manufacturing and selling of leather accessories. Three different types of leather accessories are produced (leather wallets, leather belts and smartphone leather cases). The following information relates to the budget of Ngozi for the year to 31^st December 2017.

1. Budgeted selling price and cost for each type of leather accessory is as given below:

	Leather Wallets	Leather Belts	Smartphone Leather Cases
	TZS	TZS	TZS
Selling price	30,000	25,000	20,000
Material cost	12,000	8,250	7,200
Direct labour	4,000	1,700	2,000
Variable overhead	1,000	750	800

2. Budgeted fixed cost relates to rental charges of the leased plant and other administration expenses totaling to TZS.400,000,000 per annum.

3. Expected demand is as follows:

Leather Wallets

Leather Belts

Smartphone Leather Cases

1,000 units

12,500 units

57,000 units

4. Each leather accessory will have to undergo three processes (cutting, sanding and saddle stitching) before it is completed. The time that will be spent by each of the three processes on each leather accessory is as follows:

	Hours per Leather Wallet	Hours per Leather Belt	Hours per Smartphone Leather Case
Cutting	0.30	0.30	0.30
Sanding	0.25	0.15	0.25
Saddle stitching	0.60	0.40	0.40

5. Ngozi Ltd has two machines of which each can perform all of the three processes. Each machine can only operate for 10 hours each day for 6 days in a week and 50 weeks in a year, leaving 2 weeks for repair and maintenance.

6. Ngozi Ltd operates a Just In Time (JIT) manufacturing system with regard to the manufacture of leather accessories and aims to hold very little work in progress and nil finished stock whatsoever.

REQUIRED:

(a) Using contribution margin principles, calculate the mix (units) of each type of leather accessory which will maximize profit and state the value of profit. (8 marks)

(b) If it is estimated that direct labour cost per annum will amount to TZS.48,000,000 and that of overhead TZS.35,000,000, calculate the ThroughPut Accounting Ratio (TPAR) for each type of leather accessory and briefly discuss when it is worth producing a product where throughput accounting principles are in operation. (8 marks)

(c) Assuming that the TPAR of all the three leather accessories is less than 1. Explain how Ngozi Ltd could improve their TPAR and show the consequences of each improvement measure. (4 marks)

(Total : 20 marks)

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SECTION B

There are FIVE questions. Answer ANY FOUR questions

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QUESTION 2

(a) Vipuri Enterprises assembles and sells a range of components for motor vehicles. Vipuri is now considering a proposal to add a new component to its product range. This is a component for Nyumbu cars, which has been given an industrial code number Ny78. The company sees an opportunity to gain market share in Tanzania (the only market so far for Nyumbu cars) that is expected to grow considerably over time (when Nyumbu cars start to be exported), but already competition from rival producers is strong.

Component Ny78 would be produced by assembling a number of parts bought in from external suppliers, and would then be sold to manufacturers of Nyumbu cars. Vipuri Enterprises would use its current workforce of assembly workers to make the component. Production overheads are currently absorbed into production costs on an assembly hours basis.

Vipuri is considering the use of target costing for the new component.

REQUIRED:

(i) Explain briefly how target costing might be used in the development and production of a new product. (3 marks)

(ii) Explain the benefits of adopting a target costing approach at an early stage in the development of a new product. (3 marks)

(iii) If a target costing approach is used and a cost gap is identified for component Ny78, suggest possible measures that Vipuri might take to reduce the gap. (4 marks)

(b) Suppose you have been given the following cost information for the new component Ny78.

(i) Part A1: Each unit of component Ny78 requires one unit of part A1. These bought-in parts are purchased in batches of 5,000 units, and the purchase cost is TZS.5,300 each plus delivery costs of TZS.2,750,000 per batch.

(ii) Part A2: Each unit of components Ny78 requires 20 cm of part A2, which costs TZS.2,400 per meter to purchase. However, it is expected that there will be some waste due to cutting and that 5% of the purchased part will be lost in the assembly process.

(iii) Other parts for component Ny78 will also be bought in and will cost TZS.7,200 per unit of the component.

(iv) Assembly labour: It is estimated that each unit of component Ny78 will take 25 minutes to assemble. Assembly labour, which is not in short supply, is paid TZS.24,000 per hour. It is also estimated that 10% of paid labour time will be idle time.

(v) Production overheads. Analysis of recent historical costs for production overheads shows the following costs:

	Total production overhead (TZS)	Total assembly labour hours worked
Month 1	912,000,000	18,000
Month 2	948,000,000	22,000

Fixed production overheads are absorbed at a rate per assembly hour based on normal activity levels. In a normal year, Vipuri works 250,000 assembly hours.

Vipuri estimates that it needs to sell component Ny78 at a price of not more than TZS.56,000 per unit to be competitive, and it is considered that an acceptable gross profit margin on components sold by the company is 25%. Gross margin is defined as the sales price minus the full production cost of sales.

REQUIRED:

Calculate the expected cost per unit of component Ny78 and calculate any cost gap that exists. (10 marks)

(Total : 20 marks)

QUESTION 3

(a) A friend of yours, Mike Anderson, has recently been made redundant from his job as a sale representative for an arts and crafts company. Mike has decided to set up a business of his own named Art Supplies Company, selling art supplies to shops and art societies. He plans to invest TZS.400,000,000 of his savings into the new business. He has a number of good business contacts, and is confident that his firm will do well. He thinks that some additional finance will be required in the short term and plans to approach his bank for this.

Mike as Managing Director of Art Supplies Company asks for your assistance in producing a cash budget for his new business for the next six months. He provides the following information:

(i) The business, which is to be called ‘Art Supplies Company’ will commence in January 2018.

(ii) Non-current assets costing TZS.160,000,000 will be bought in early January. These will be paid for immediately and are expected to have a five year life, at the end of which they will be worthless.

(iii) An initial stock (inventory) of goods costing TZS.100,000,000 will be bought and paid for at the beginning of January 2018.

(iv) Monthly purchases of goods will then be made at a level sufficient to replace forecast sales for that month.

(v) The following are the forecast monthly sales (“000”):

January

February

March

April

May

June

TZS.60,000

TZS.120,000

TZS.210,000

(vi) The selling price of goods is fixed at the cost price plus 50 percent.

(vii) To encourage sales, he will allow two months’ credit to customers. However, only one month’s credit will be received from suppliers of goods except for the initial stocks which will be paid for immediately.

(viii) Operating expenses of the business, including rent of premises, but excluding depreciation of non-current assets, are estimated at TZS.32,000,000 per month and are paid for in the month in which they are incurred.

(ix) Salaries per month are TZS.10,000,000 and are paid monthly.

REQUIRED:

As a Consultant you are asked to assess cash position of Art Supplies Company for the first six months of the business. Comment on the results. (10 marks)

(b) “It’s frustrating working with RJ. He’s very dominant and expects everything to be done his way. We have done more and better work to get up to budget, and the minute we make it he tightens the budget on us. We can’t work any faster and still maintain quality. We always seem to be interrupting the big jobs for all those small rush orders. The accountants seem to know everything that’s happening in my department, sometimes even before I do. I thought all that budget and accounting staff were supposed to help, but it just gets me into trouble. I’m trying to put out quality work; they-re trying to save money. This is a dead end job. I don’t see much of a future here”, said Ms. AP, manager of the machine shop of Global Medical Manufacturing, a Tanzanian based company.

Ms. AP had just attended the monthly performance evaluation meeting for plant department. As a supervisor, Ms. AP stressed the importance of craftsmanship and told her workers that she wanted no careless work coming from her department.

When Mr. RJ became the plant manager, he directed that monthly performance comparisons be made between actual and budgeted costs for each department. The departmental budgets were intended to encourage the supervisors to reduce inefficiencies and to seek cost reduction opportunities. The company controller was instructed to have his staff ‘tighten’ the budget slightly whenever a department attained its budget in a given month; this was done to reinforce the plant supervisor’s desire to reduce costs. Mr. RJ often stressed the importance of continued progress towards attaining the budget. He also made it known that he kept a file of these performance reports for future reference.

REQUIRED:

(a) Identify the problems which appear to exist in budgetary control system. (5 marks)

(b) Explain how budgetary control system could be revised to improve the effectiveness. (5 marks)

(Total : 20 marks)

QUESTION 4

(a) Kamzungu Hini, the CEO of Hini Company, has a problem that does not involve a substantial monetary amount, but does involve the important question of responsibility for variances from standard costs. She has just received the following report:

	TZS
Standard materials at standard price for actual production in April	9,000,000
Unfavourable material price variance (TZS.3,600 – TZS.3,000) x 3, 450kg	2,070,000
Unfavourable material usage variance (3,450kg - 3,000kg) x TZS.3,000	1,350,000
Total actual material cost for the month of April	12,420,000

Kamzungu has discussed the unfavourable price variance with Nataya, the purchasing officer. Nataya agrees that under the circumstances he should be held responsible for most of the materials price variance. But he objects to the inclusion of TZS.270,000 (450kgs of excess materials usage at TZS.600). This, he argues, is the responsibility of the production department. If the production department had not been so inefficient in the use of materials, he would not have had to purchase the extra 450 kgs.

On the other hand, Dede, the production manager, agrees that he is basically responsible for the excess quantity of materials used, but he does not agree that the materials usage variance should be revised to include the TZS.270,000 of unfavourable price variance on the excess materials used. “That’s Nataya’s responsibility”, he says.

Kamzungu now turns to you for help.

REQUIRED:

(i) Who is responsible for the TZS.270,000 in dispute? State reasons(s)

(4 marks)

(ii) If the responsibility can not be clearly assigned, how should accounting categorize the variance (price or usage)? State reasons for your answer.

(3 marks)

(iii) Are there likely to be other circumstances where materials variances can not be considered the responsibility of the manager most closely involved in them? Explain. (4 marks)

(b) In the course of discussion with Kamzungu, you noticed that, she is highly fascinated with the use of standard costing system and has made it a matter of principle that all the adverse variances are investigated and actions taken upon them, while not being worried about the favourable variances.

REQUIRED:

Write a commentary on Kamzungu’s approach to variance investigations and corrections, and advise her accordingly. (9 marks)

(Total : 20 marks)

QUESTION 5

(a) You are a newly recruited financial analyst in Kilimahewa Enterprises, a diversified company which run eight different divisions. Among your duties is to advise the CEO and founder of the company, Mr. Kamili Kasorobo on management and evaluation of its divisions’ performance.

The manager of Shimba, one of the divisions in Kilimahewa has provided you with the following data for the year 2016:

	TZS.‘000’
Division’s contribution to general company expenses	1,800,000
Assets directly used by and identified with the division	22,500,000
Sales	36,000,000

Kilimahewa has a cost of capital of 7%.

REQUIRED:

Determine the Margin percentage (%), the Asset Turnover, and Return on Investment for Shimba in 2016, and comment on the importance of the relationship that exists amongst the three measures computed. (3 marks)

(b) Assume that the management meeting of the Kilimahewa Enterprises in part (a) above have suggested some changes to be implemented in Shimba division for year 2017. The changes have been implemented as suggested and the following are results of their implementation.

1. A campaign to control costs resulting in TZS.360,000,000 of reduced expenses.

2. Certain non-productive assets are to be eliminated. As a result, investment will decrease by TZS.1,800,000,000 and expenses will decrease by TZS.144,000,000.

3. An advertising campaign which will increase sales by TZS.7,200,000,000 is being considered. This advertising will cost TZS.1,080,000,000. The associated cost of sales will increase by TZS.5,400,000,000.

4. An investment is to be made in productive assets costing TZS.8,500,000,000. As a result, sales are expected to increase by TZS.720,000,000 and expenses will increase by TZS.108,000,000.

Each change is considered separately and other items not specifically mentioned remained the same as 2016.

REQUIRED:

(i) Determine the effect on margin percentage (%), Asset Turnover and Return on Investment of Shimba in 2017 of implementation of each of the above changes. (6 marks)

(ii) Comment the desirable course of action by Shimba in each case.

(2 marks)

(iii) State the implication of such action in (ii) above to Kilimahewa Enterprises. (4 marks)

(c) Mr. Kasorobo has recently heard from a presentation by one of prominent accountants in a workshop that there are times where focus on divisional performance may result in divisional managers making sub-optimal decisions for the company. He couldn’t understand the point made by the presenter as the forum was one of highly technical finance persons, except a few, who happened to be CEOs, including him. He has now asked you to explain how this can happen and how it can be avoided.

REQUIRED:

Write brief notes on the explanations you are going to give to Mr. Kasorobo, including simple numerical example (s) to clarify the case. (5 marks)

(Total : 20 marks)

QUESTION 6

Vinyago Craftworks Ltd (VCL) is a newly established maker and distributor of unique mninga sculptures. VCL management are inexperienced in making and selling process of their mninga sculptures and are yet to decide the selling price which will maximize both sales revenue and profit of the company. VCL management have heard of marginalist theory, a neo-classical theory of the firm which is based on two rules: MC = MR, the theory which is likely to help them establish selling price for their sculptures.

You have been identified as a management consultant who could help VCL management, and you have been provided with the following information:

(i) The cost of making the first sample of a sculpture included

Direct material 2 pieces of mninga @ TZS.20,000	40,000
Sculpturing labour 50 hrs @ TZS.1,000	50,000
Variable overhead (50% of sculpturing labour)	25,000
	115,000

(ii) Budgeted fixed cost per annum include:

Rental charges TZS.50,000,000

Administration expense TZS.80,000,000

(iii) VCL management expects the sculpturing time to gradually improve with experience and has estimated 80% learning curve for the first 16 sculptures, after which a steady state production time will apply with labour time per sculpture being equal to the 16^th sculpture.

(iv) It has been established that, the current price of similar mninga sculptures in the market is TZS.120,000 and at this price 100,000 units are demanded. Experience in this market indicate if price of similar sculptures increase or decrease by TZS.10,000, quantity demand will increase or decrease by 25,000 units.

(v) Currently, 20 units of mninga sculptures have been ordered by a newly established resort.

Note: The learning curve formula is y = ax^b. At the learning rate of 0.8 (80%), the learning factor (b) is equal to -0.322. All figures should be rounded off to one decimal place.

REQUIRED:

(a) Determine sales maximizing selling price and the maximum sales revenue at this sales point. (4 marks)

(b) Determine profit maximizing selling price and the maximum profit at this selling price. (8 marks)

(c) Explain what is meant by a ‘penetration pricing’ strategy and a ‘market skimming’ strategy and discuss the cases that would make VCL to use such pricing strategies when launching their mninga sculptures. (8 marks)

(Total : 20 marks)

___________p___________

SUGGESTED SOLUTIONS

B5 – PERFORMANCE MANAGEMENT

MAY 2017

ANSWER 1

(a) PRODUCTION MIX USING CONTRIBUTION MARGIN APPROACH

Step 1: Determining C.M/unit for each type leather accessory

	Leather wallet	Leather Belt	Smartphone leather cases
Selling price	30,000	25,000	20,000
Less: V. cost
D. Material	12,000	8,250	7,200
D. Labour	4,000	1,700	2,000
Variable OHD	1,000	750	800
C.M/unit	13,000	14,300	10,000

Step 2: Determine contribution per limiting Hrs

C.M	13,000	14,300	10,000
÷ Saddle stitching Hours *	0.60Hrs	0.4Hrs	0.4Hrs
	________	_______	_________
Contribution per stitching hours	21,667/Hrs	35,750/Hrs	25,000/Hrs
RANKING	2^nd	1^st	3^rd

*Bottleneck Process:

	Leather wallet hours	Leather Belt hours	Smartphone leather cases
Cutting	20,000	20,000	20,000
Sanding	24,000	40,000	24,000
Saddle stitching	10,000	15,000	15,000

Total hour each process ca be operated

= (10 Hrs x 6 days x 50 weeks) x 2 machines

= 6,000 Hrs per annum are available

:- Saddle Stitching the Bottleneck process and Hrs for saddle stitching are the

limiting Hrs.

PRODUCTION PLAN

Ranking	Product	(units)Hrs/unit	Hrs/unit	Total Hrs
1^st	Leather Belt	12,500	0.4 Hrs	5,000 Hrs
2^nd	Smartphone case	2,500	0.4 Hrs	1,000 Hrs
				6,000 Hrs

PROFIT

	Leather wallet	Leather Belt	Smartphone leather cases	TOTAL
C.M/unit	13,000	13,300	10,000
X Units	1,000	12,500	2,500
Total contribution margin	13,000,000	178,750,000	25,000,000	203,750,000
Less: Fixed costs				(400,000,000)
Loss				(196,250,000)

(b) TAR

TAR	Leather	Leather	Smartphone
S. Price	30,000	25,000	20,000
D. Material	(12,000)	(8,250)	(7,200)
Throughput contribution	18,000	16,750	12,800
÷ Bottleneck process	÷ 0.6Hrs	÷ 0.4Hrs	÷ 0.4hrs
Hrs/unit	____________	__________	__________
Return/factory Hr	30,000	41,875	32,000
÷ Total conversion cost	80,500	80,500	80,500
Per factory Hr (W1)	____________	_________	__________
TAR =	0.37 ====	0.52 ====	0.39 ====

W1: Total conversion cost/factory Hr

Total conversion cost

D. Labour ___________ 48,000,000

V. OHD ____________ 35,000,000

Rent + Adm exp _____ 400,000,000

483,000,000

Total conversion cost per factor hours

= 483,000,000

6,000 Hrs

= 80,500 per hr

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It is worth producing a product where throughput accounting Ratio principle is in operation is such product field a TAR ≥ 1.

Improvement Measure	Consequence
Increase sales price per unit	Demand for the product may fall
Reduce material costs per unit, e.g. change material and/or suppliers	Quality may fall and bulk discounts may be lost
Reduce operating expenses	Quality may fall and/or errors increase

ANSWER 2

(a) (i) How to use target costing in the development and production of a new

product

· When a company identifies a product that it wishes to make and sell, it must design the product in a way that will appeal to customers. A product design and specification must be prepared, based on a combination of technical considerations and market research.

· The component will also consider the price at which the product will be sold. The price that can be obtained will often depend on the price of similar rival products in the market, or on market research into customer attitude to price. This may be called the target price.

· The company should decide on the profit margin it would like to make from the product. The desired margin is subtracted from the target price to obtain a target cost.

· A cost estimate is then produced for the product if it is made to the planned design and specification and then this cost estimate is compared with the target cost. If the cost estimate is higher than the target cost, the difference is called a cost gap.

· When a cost gap exists, the company should re-consider the planned product design and look for ways of reducing the estimated cost to the level of the target cost – in other words, the aim should be to eliminate the cost gap before actual production of the new product item begins.

(ii) Benefits of adopting target costing at an early stage of new product development

· Target costing should begin at an early stage in the product design and development process because the opportunity for reducing production costs is greatest at the design stage. If there is a cost gap, the product design can be amended. Because the measures to reduce costs are made at an early stage, it is easier to fund ways of reducing costs that do not take away significant value for the customer, (if costs are reduced in a way that reduces value for the customer, the target sales price will probably not be achievable).

· If target costing is introduced at a later stage in the product development, for example after the material components, product design features and production methods have been finally agreed, there are fewer opportunities for cost reduction.

· Early adoption of target costing also helps to create a general awareness of the need for cost control, and it increases the probability that new products will be developed at a cost that allows the company to sell them at a competitive price whilst making an acceptable level of profit. It can therefore be argued that target costing improves the probability of commercial success (profitability) for new products.

(iii) Possible measures for Vipuri to reduce the cost gap

· If a cost gap is identified early in the product design process, the team responsible for the product development (which should include marketing staff as well as production and R&D staff) should consider every aspect of the product design and planned production method to consider ways of reducing the costs.

· The aim should be to make changes in a way that does not remove significant value for the customer. For example, some aspects of the product, such as the materials or parts used, could be changed and parts that are less expensive used instead. Some features of the product design might be removed without loss of significant value.

· As an alternative (or in addition to) looking for cheaper or fewer parts to the product, cost savings might be achieved by identifying suppliers who are willing to provide parts at a lower cost, so that prices from suppliers are re-negotiated.

· It might be possible to change the production process in some ways to reduce the assembly time required per unit, or different assembly workers might be hired at a lower rate of pay per hour.

· Finding ways of reducing overhead costs can be difficult because indirect costs cannot be identified directly with specific products. However, if Vipuri uses target costing for new products, it would be surprising if it did not also employ methods of looking for savings in overhead costs (such as total quality management and continuous improvement).

(b) Calculation of Expected unit cost and cost gap for Ny78

Working:

Production overhead costs

Production Overheads	Hours	TZS
Month 1: Total cost	18,000	912,000,000
Month 2: Total cost	22,000	948,000,000
Difference	4,000	36,000,000

From the above, variable production overhead cost per hour = TZS.36,000,000/4,000 = TZS.9,000

Calculation on fixed overheads and fixed overhead absorption rate will thus be:

Production Overheads	TZS
Month 1: Total cost of 18,000 hours	912,000,000
Variable cost (18,000 x TZS.9,000)	162,000,000
Therefore fixed costs per month	750,000,000

Annual fixed production overhead costs = TZS.750,000,000 x 12 =

TZS.9,000,000,000

Fixed production overhead absorption rate = TZS.9,000,000,000/250,000 = TZS.36,000 per assembly hour

Cost estimate and cost gap estimate

Cost per unit of Ny78	TZS
Part A1: TZS.5,300 + (TZS.2,750,000/5,000)	5,850
Part A2: 0.20 x TZs.2,400 x 100/95	505
Other parts	7,200
Assembly labour cost: 25/60 x TZs.24,000 x 100/90	11,111
Variable overheads: 25/60 x TZS.9,000	3,750
Fixed overheads: 25/60 x TZS.36,000	15,000
Total estimated production cost	43,416
Target cost (75% of TZS.56,000)	42,000
Cost gap	(1,416)

ANSWER 3

(a) Assessment of Cash position of Art Supplies Company

ART AND SUPPLIES COMPANY
CASH BUDGET FOR THE SIX MONTHS ENDING 30^TH JUNE 2018 – TZS. “000”
	January	February	March	April	May	June
Receipt
Capital Introduced	400,000
Trade Receivables	-	-	60,000	120,000	120,000	210,000
Total Receipts	400,000	-	60,000	120,000	120,000	210,000
Payments
Non-Current Assets	160,000
Inventory	100,000
Trade Payables	-	40,000	80,000	80,000	140,000	140,000
Operating Expenses	32,000	32,000	32,000	32,000	32,000	32,000
Salaries	10,000	10,000	10,000	10,000	10,000	10,000
Total Payments	302,000	82,000	122,000	122,000	182,000	182,000
Net Cash Flow	98,000	-82,000	-62,000	-2,000	-62,000	28,000
Add: Bank Balance: (Beginning Month)	-	98,000	16,000	-46,000	-48,000	-110,000
Bank Balance (End of Month	98,000	16,000	-46,000	-48,000	-110,000	-82,000

Notes:

Purchases are two-thirds of the sales values (because selling price is cost price plus 50 per cent)

Customers pay two months after sale, i.e. trade receivables from January settle in March Suppliers are paid one month after purchase, i.e. trade payables from January are paid in February.

The cash budget shows that there is a need, in the first six months at least, for a bank overdraft. An early approach to the bank needs to be made. The total net cash outflow for the six month period is TZS.110,000,000 (i.e. from a nil opening balance to TZS.110,000,000 overdraft at 30^th May 2018).

(b) (i) The budgetary control system appears to have several very important shortcomings

which reduce its effectiveness and may in fact cause it to interfere with good performance. Some of the shortcomings are explained below:

ü Lack of Coordinated Goals: Ms AP had been led to believe high quality output is the goal; it now appears low cost is the goal. She does not know what the goals are and thus cannot make decisions which lead toward reaching the goals.

ü Influences of Uncontrollable Factors: The actual performance relative to budget is greatly influenced by uncontrollable factors i.e. rush orders. Thus, the variance reports serve little purpose for evaluation of performance.

ü The Short-Run Perspectives: The monthly evaluation and the budget tightening on a monthly basis result in a very short-run perspective. This will result in inappropriate decisions.

(ii) The improvements in the budgetary control system must correct the deficiencies

described above. Accordingly:

ü Budgetary control system must more clearly define the company’s objectives.

ü Budgetary control system must develop an accounting reporting system which better matches controllable factors with supervisor responsibility and authority.

ü Establish budget values for appropriate time periods which do not change monthly simply as a result of a change in the prior month’s performance.

The entire company from top management down must be educated in sound budgetary procedures so that all parties will understand the total process and recognize the benefit to be gained.

ANSWER 4

(a) Material price variance on excess usage of materials

(i) Responsibility for material price variance on excess usage of materials

· Both Nataya and Dede are right in disclaiming responsibility for the TZS.270,000 of unfavourable price variance on the excess materials used.

· This is so because of the same grounds offered by both Nataya and Dede, where Nataya admits responsibility to price variance, only in relation to the standard materials, and Dede admits responsibility for usage variance, only to the extent that the price paid is the standard one.

· In other words, it won’t be fair to hold any of them responsible for the variance, if the causes were beyond their control.

(ii) Accounting for Material price variance on excess usage of materials

· For accounting purposes, the variance should be reported separately as a joint price/quantity variance, and thus be removed from the material price variance [where it was originally included].

· This is to eliminate the possible unfairness on evaluation of performance of one of the managers and avoid the negative effects of the possible associated organization politics.

· The good news for Kamzungu is that if both the two managers work to eliminate the unfavourable variances in their responsibility areas, the joint variance will also be eliminated.

(iii) Responsibility for materials variance beyond managers closely involved

· Yes, such situations exists.

· Material variances may also result from poor production scheduling by the planning department, inappropriately skilled labour [hired by the personnel department] handling materials in a wasteful manner.

· It is important therefore to dig to the root of the matter before placing responsibility to the officer concerned.

(b) Kamzungu’s variance investigation and correction approach

· Much as there are good reasons to be worried about unfavourable variances, favourable variances should also be investigated. Some of the reasons are that:

· A favourable variance might be an indication that the budget amount was in error, or a particular promotion campaign was more successful than anticipated, or cost savings were achieved by using different vendors. If we do not know, for example, that which of the three above the case is, it is difficult to take an appropriate management action, in the process of constant improvement of operational efficiency.

· If a particular variance is consistently favourable, it could indicate that either the standard is outdated or there are some deliberate efforts to set easy standards by managers who want to impress the top management.

· Favourable variances in prices and even usage may also mean that there has been some compromise on the quality of either input, output, or both, which is counterproductive to the company.

· It is therefore not always the case that favourable variances are good for the company and adverse variances are bad for the company. This means that it is important to investigate both adverse and favourable variance and the bias on investigation, if any should better be based on magnitude of the variance rather than on the direction of the variance.

· Regulators effect: EWURA, SUMATRA

· Economic changes.

ANSWER 5

(a) Computations and evaluation of different decisions

Given data:

	‘TZS’
Division’s contribution to General company expenses	1,800,000,000
Assets directly used by and identified with the division	22,500,000,000
Sales	36,000,000,000

Solution [i]

Margin % Divisions contribution/Sales = 1.8bn/36bn = 5%

Assets Turnover = Sales/Assets = 36bn/22.5bn = 1.6

ROI = Divisions contribution/Division’s Assets = 1.8bn/22.5bn = 8%

The relationship amongst the measures is such that Assets Turnover X margin percentage = ROI

This is useful for both decision making and evaluation, i.e. it is possible to know what is responsible for a decline in ROI, whether it is a decrease in asset utilization efficiency [as measured by Assets turnover], or it is the declining profitability margins, and relevant corrective actions can be better focused.

(b)

1. Cost reduction by 360m

This improves the division’s contribution to TZS	2,160,000,000
The resulting measures (formulas as above) are:
Margin %	6%
Asset turnover	1.6
ROI	9.6%

Comment on the action

Will be implemented, as it improves the ROI

Implications to Kilimahewa

It improves the overall results (at least in the short run) as it is a cost saving that has no additional asset investment

2. Non-productive Asset elimination

This improves the division’s contribution by TZS.144m, new figure =	1,944,000,000
It also reduces investment by TZs.1,800m, new figure =	20,700,000,000
The resulting measures (formulas as above) are:
Margin %	5.4%
Asset turnover	1.74
ROI	9.39%

Comment on the action

Will be implemented, as it improves the ROI

Implications to Kilimahewa

It improves the overall results [at least in the short run] as it is a cost saving that has no additional asset investment.

3. Advertising campaign to improve sales

This improves the division’s contribution by TZS.(7,200m – 5,400m – 1,080m)	720,000,000
The new contribution is thus	2,520,000,000
New sales figure (TZS.7,200m increase)	43,200,000,000
The resulting measures (formulas as above) are:
Margin %	5.83%
Asset turnover	1.92
ROI	11.2%

Comment on the action

Will be implemented, as it improves the ROI

Implications to Kilimahewa

It improves the overall results [at least in the short run] as it is a contribution improvement that has no additional asset investment.

4. Additional Investment

This improves the division’s contribution by TZS.720m – 108m	612,000,000
The new contribution is thus	2,412,000,000
It is also increase the Investment by TZS.8,500m, new figure is	31,000,000,000
The resulting measures (formulas as above) are:	36,720,000,000
Margin %	6.57%
Asset turnover	1.184516129
ROI	7.78%

Comment on the action

Will not be implemented, as it reduces the ROI

Implications to Kilimahewa

Non-implementation denies the Kilimahewa an improvement in the overall performance, since the abandoned course of action would still generate a divisional ROI that is above the company’s cost of capital. The additional investment is itself having a 7.2% ROI (612m/8,500m).

(c) Explanations to Kasorobo on possible sub-optimal decisions for the company, made by managers of divisions

· The main reason that can cause this to happen is the struggle by divisional manager to improve the division’s performance based on the selected performance criteria, ignoring the impact of different decisions to enhance such performance on the overall results of the corporate.

· A good example is when a Return on Investment (ROI) is used. We may pick the example in item 4 in part A (ii) of the answer to this question. The use of ROI in that situation leads the divisional manager to abandon an option which, although it adversely affects the division’s ROI, it’s implementation would have improved the overall company’s performance, since it would generate a return of 7.2%, higher than the company’s cost of fund {7%).

· The solution to this problem is to ensure appropriate selection of divisions performance measures, so that the one used are those which align the objectives of the division with the version, Economic Value-Added (EVA) (The candidate can give formulas here). Use of Residual income in the above example would have resulted in an optimal decision, since the residual income of Shimba division will improve by making the additional investment. (candidate can show the computation here).

Note: Candidate can also come up with any other numerical example to

illustrate her/his argument.

ANSWER 6

ALTERNATIVE 1

(a) Sales Maximizing selling Price is determine when MR = 0

MR = a – 2bq

a – Current price +

a = TZS 120,000 +

a = 160,000

b =

Marginal Revenue function after having obtained a and b

MR = a – 2bq

MR = 160,000 –(2)(0.4)Q

MR = 160,000 – 0.8Q

Since sales is maximized when

MR = 0

Then 0 = 160,000 – 0.8Q

Q = 200,000 Units

ALTERNATIVE 2

P = a – bq

b =

From P = a – bq

120,000 = a – 0.4 (100,000)

a = 120,000 + 40,000

a = 160,000

P = 160,000 – 0.4Q

TR = P x Q

TR = (160,000 – 0.4Q)Q

TR = 160,000q – 0.4Q²

MR =

Sales maximizing selling price:

MR = 0

Q =

Q = 200,000 units

From P = a – bq

= 160,000 – 0.4 (200,000)

P = TZS 80,000

Sales maximizing selling price = TZS 80,000/unit

Maximum sales revenue

TR = P x Q

= 80,000 x 200,000

= TZS 16,000,000

(b) Profit maximizing selling price and max profit:

MC = MR – marginalist theory.

MC = VC/Unit

Total VC Total per Unit (Based on 20 Units)

D. Material (W₂) 800,000 40,000

D. Labour (4₁) 380x3x1000 hrs 386,000 19,300

HD 193,000 9,600

1,379,000 68,950

VC/unit = 68,950

Labour hours per unit if learning is assumed to exist

Total hours needed = 20 hours

W₁ Hours for the 16^th sculptures:

Cumm Sculptures y = 50 (x – 0.322) average hours Total hours

16 20.5 328.0

15 20.9 313.5

Incremental time 14.5 hrs

Total hours Average hours Total hours

Sculpture

16 20.5 328

04 14.5 58

386

W₂ Total DM = 2 x 20,000 x 20 = 800,000 (TZS)

MC = VC = 68,950

Profit maximizing quantity and selling prize:

MR = MC

160,000 – 0.8q = 68,950

160,000 – 68,950 = 0.89

Q =

Q = 113,813

Since P = a – bq

P = 160,000 – (0.4)113,813

P = 160,000 – 45,525.2

P 114,474.8

\ Profit maximizing price = TZS 114,475

Profit maximizing quantity = 113,813 units

Maximum profit = 114,475 x 113,813

= TZS 13,028,743,175

(c)

Penetration pricing is a policy of low prices when a product is first launched in order to obtain sufficient penetration into the market.

It is suitable in the following cases:

(i) Product demand is highly elastic

(ii) Substantial economies of scale are available

(iii) The product faces stiff competition soon after its introduction

(iv) In industries where standardisation is important

(v) Firm wishes to discourage new entrants into the market

(vi) Firm wishes to shorten the initial period of the products’ life cycle murder to enter growth

(vii) The product enters maturity stage as quickly as possible.

Price skimming/Market Skiming

Involves charging high prices when a product is first launched in order to maximize short-term profitability. Initially there is heavy spending on advertising and sales promotion to obtain sales. As the product moves into the later stages of its life cycle (growth, maturity and decline) progressively lower prices are charged. The profitable ‘cream’ is thus skimmed off in stages until sales can only be sustained at lower prices.

Such a policy may be appropriate for pricing if

(i) The product is new and different, so that customers are prepared to pay high prices so as to be one up on other people who do not own it.

(ii) The strength of demand and he sensitivity of demand to price are unknown. It is better from the point of view of marketing to start by charging high prices and then reduce them if the demand for the product turns out to be price elastic than to start by charging low prices and then attempt to raise them substantially if demand appears to be insensitive to higher prices.

(iii) High prices in the early stages of a product’s life might generate high initial cash flows.