POA 2008 ZA + ZB Commentaries

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Examiners commentaries 2008

Examiners commentary 2008

25 Principles of accounting

Specific comments on questions Zone A

SECTION A

Question 1

Distinction is often made between financial and management accounting.Briefly explain the differences between these terms.

This question requires explanation of the differences between financial

accounting and management accounting. These differences are covered

on pages 16 and 17 of the subject guide. Good answers would link the

attributes of the two types of accounting, for example:

Financial accounting

Is concerned with the preparation of

accounting information for the needs of

users who are external to the business.

Management accounting

Is concerned with the preparation of accounting

information for the needs of users who are internal

to the business.

Question 2

The chairman of Lateen Ltd [For full question please refer to theexamination paper.]

Accounting ratios are an important element of the syllabus; thisquestion requires ratios to be used in constructing a balance sheet. The

information given was sufficient to determine the following balance

sheet figures:

Current assets (1.75 x 125,000) = 218,750

Quick assets (1.05 x 125,000) = 131,250

Debtors (260,000 x 12) = 60,000

( 52)

Cash = (Quick Assets Debtors) = 71,250

Stock = (Current Assets Quick Assets) = 87,500

Fixed assets = (Total Assets Current Assets) = 50,000Retained profits = (Gross Profit expenses)

= ((260,000 x 20%) 33,250) = 18,750

Share capital = (Net assets retained profits)

= (143,750 18,750) = 125,000

Using these figures and the amount given for current liabilities, a

complete summarised balance sheet can be constructed. The topic of

accounting ratios is dealt with on pp.106113 of the subject guide and

in Chapter 16 of Glautier and Underdown.

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Question 3

Galleon Ltd commenced business [For full question please refer to theexamination paper.]

Depreciation is one of the fundamental accounting issues and this

question tests students ability to apply a given depreciation policy to a

set of facts. Part (a) requires computation of the profit and loss account

depreciation charge for each of two years (2007: 6,900; 2008:

9,425) together with the loss on disposal of the vehicle (2008:

8,800).

Part (b) requires the relevant balance sheet values of cost (2007:

41,000; 2008: 8,700) and accumulated depreciation (2007: 6,900;

2008: 12,325). In this type of question the presentation of clear

workings is essential. There are examples of these calculations in the

subject guide (pp.5761).

Question 4Dhow Ltds [For full question please refer to the examination paper.]

(a) Prepare a forecast outline balance sheet for Dhow Ltd as at 31stMarch

2009, incorporating the above transactions.

(a) It is important to understand the practical implications of different

types of share issue on a companys shareholders funds in the

balance sheet. This question involves a bonus issue and a

subsequent rights issue at a premium. The question also involves

an issue of loan stock. These transactions give rise to the following

forecast balance sheet:

Forecast balance sheet as at 31stMarch 2009

Net assets

Loans (20 + 10)

Ordinary shares of 1 each

Share Premium

Retained earnings

m

148

(30)

118

60

8

50

118

In this type of question, clear workings are essential; in particular, inthe calculation of the impact of each transaction on the companys

retained earnings and net assets.

The relevant issues are dealt with on pages 88 and 89 of the subject

guide.

(b) Describe how each of the share issues in the year ended 31stMarch 2009will affect the earnings per share of Dhow Ltd.

(b) This section requires descriptions of how each share issue will

affect the earnings per share (EPS) but did not ask for calculations

of EPS. The answers could be quite short as follows:

Bonus issue increases shares and thus will reduce the EPS.

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Rights issue will increase shares but also generate profits from newfunds therefore impact will probably be to increase EPS.

Earnings per Share is explained on page 113 of the subject guide.

Question 5

The following data [For full question please refer to the examinationpaper.]

The calculation of stock value by application of a specific accounting

base is a common and relatively straightforward examination question.

This question requires the use of the FIFO method and the basic data

gives a closing stock at 31stDecember 2007 of 35,500 and cost of

sales for the six months ending on that date of 61,500. The above figures needed to be adjusted for the two additional pieces

of information. The transport charge should be included in the cost of

the relevant units, thus closing stock increases by 2,500. However, as

this amount will also be included in purchases, the cost of sales figure

remains unchanged. The closing stock figure should be written downby 6,000 to net realisable value. However, this amount should not be

included as cost of sales but reflected in the profit and loss account as

an exceptional charge. Inventory, purchases and sales calculations are

given on pages 52 and 53 of the subject guide.

Question 6

Skiff Plc [For full question please refer to the examination paper.]

Required:

Calculate the profit earned on sales to each of the customers and the netprofit margin for each customer (A, B and C). Briefly comment on youranswers.

This question involves the calculation of profit for different customers

where each has different trading terms with the reporting company.

The results obtained are as follows:

A B C

Profit after customer costs 73,000 51,000 63,000

Net profit margin 11.4% 12.75% 19.7%

The question required brief commentary on these results: The gross

profit figures simply show that the largest sales produce the highest

gross profit, but the picture becomes more complex when the customer

related expenses are included. A, the largest customer, still producesthe highest profit, but not the best margin, as B and C are higher. In

fact, C the smallest customer produces the highest margin.

Question 7

Xebec Ltd manufactures [For full question please refer to the examinationpaper.]

Required:

Calculate the mix of sales which would enable Xebec Ltd to maximise profits,and calculate the profit for the year which would be achieved by that salesmix.

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This question requires an application of contribution analysis. The

limited factor is clearly identified as raw material Essence and thus

the first stage is to calculate the contribution per kilo of Essence for

each product (Silk 2.50; Musk 6; Opia 3.33). Having established

this, the products are ranked in order of contribution per kilo and after

applying the maximum market demand constraint the optimum

production schedule is:

Units

Musk

Opia

Silk

8,000

15,000

33,500

The resulting maximum net profit is 215,500. An example of this type

of calculation is found on pages 159160 of the subject guide.Question 8

Dinghy Products Ltd [For full question please refer to the examinationpaper.]

Required:

Calculate the indirect cost of producing a mast and a boom.

The topic of overhead (indirect cost) absorption using traditional full

cost methods is covered on pages 142145 of the subject guide (a

further example is given on page 148) and in detail in Chapter 26 of

Glautier and Underdown. This topic has not been tested before in this

format therefore a full answer is given below:

Turning Finishing Office Storeroom Total

Indirect costs Storemans salary 1,300 1,300

Office clerks salary 1,500 1,500

Rent (basis: floorspace) 600 300 20 80 1,000

Sub-total 600 300 1,520 1,380 3,800

Reapportion (basis: issues) 1,104 276 (1,380) -

Total departmental costs 1,704 576 1,520 - 3,800

Total direct labour hours (W) 3,800 3,200

Indirect cost per labour hour 0.448 0.18

Indirect cost per mast 1.344 0.72 2.064

Indirect cost per boom 1.792 0.54 2.332

The use of a columnar format would be essential in answering thisquestion.

Question 9

What factors should be considered when deciding whether to use full ormarginal costing?

This question requires a discussion of the factors which should be

considered in deciding whether to use full or marginal costing. This

topic is specifically dealt with on page 145 of the subject guide.

Answers which explained the two techniques in detail would not

specifically answer the question being asked. This is a common mistake

made by candidates and clearly illustrates the need to read the

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question (even very short ones) carefully and to address the specific

issues raised.

Question 10

Lugger Ltd [For full question please refer to the examination paper.]

Required:

(a) Calculate the break-even point and margin of safety for the presentmachine, using current demand. Give your answers in terms of unitsproduced.

(b) Comment on the proposal to lease the new machine, giving calculationsto support your comments.

Break-even and contribution analysis are key areas of the management

accounting syllabus. Part (a) of this question needs a calculation of the

contribution per unit of 12 (186). Note that this is not reduced by

the direct labour cost which is clearly identified as being not dependent

on the level of production and thus a fixed cost for this calculation. The

contribution per unit is then used to calculate break-even point

(18,333 units) and margin of safety (1.667 units).

Part (b) requires comment on the leasing proposal including

supporting calculations. The break-even point is higher (8.661 units)

and margin of safety is lower (1,333 units). At 10,000 units the current

and proposed machines give the same total cost and profit figures.

Thus, there is no compelling financial support for the leasing of the

new machine.

This type of analysis is covered on pages 157161 of the subject guide

and in Chapter 31 of Glautier and Underdown.

Question 11

Proa Ltd [For full question please refer to the examination paper.]

Required:

(a) Calculate the average accounting rate of return over the life of theproject.

(b) Calculate the payback period for the project.

Investment appraisal using accounting rate of return (ARR) and

payback are recurring themes in this examination. In answering part

(a) it is necessary to adjust the annual cash flows for depreciation to

give average annual profit (13,500) and to calculate average

investment (7,500). Thus average ARR is 18 per cent.

Part (b) uses the annual cash flows to give a payback period of threeyears two months. These calculations are explained on pages 166171

of the subject guide.

Question 12

Glautier and Underdown [For full question please refer to the examinationpaper.]

The five stages of planning identified by Glautier and Underdown

(page 353) are summarised as follows:

1. Setting organisational objectives

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2. Assessing the environment inwhich the organisation will be

operating by reference to the external factors which are likely to

affect its operations. For this purpose forecasts have to be made

which attempt to predict what will happen in the future, with and

without policy changing on the part of the planning organisation.

3. Assessing existing resources, for management is concerned withmaking the most efficient use of those scarce resources, often called

the four Ms: men, machines, materials and money. This aspect of the

planning function involves making an estimate both of external

resources which are accessible, and resources already held which are

either idle or which might be more efficiently utilised.

4. Determining the strategyfor achieving the stated objectives by

means of an overall plan which specifies strategic goals. Strategic

decisions are concerned with establishing the relationship between

the firm and its environment.

5. Designing a programme of actionto achieve the selected

strategic goals by means of both long-range programmes and short-range programmes; the latter covering a period of a year or less and

containing sets of instructions of the type found in annual budgets.

Once more it is necessary to read the question carefully; it is quite

specific and answers which dealt with, for example, only the

advantages of budgets as part of planning would be insufficient.

SECTION B

Question 13

Clipper Ltd [For full question please refer to the examination paper.]

Required:

(a) Show the adjustments necessary to eliminate the balance on the suspenceaccount. (5 marks)

(a) This question requires a statement showing how the balance on the

suspense account should be eliminated. Although this statement

could be in any appropriate format a double entry based approach

would be shown as follows:

Suspense account

BalanceB/

d

50,200 Purchases(closing stock)

57,000

Disposal proceeds 1,000Provisions 5.100

Debtors (Bal.fig) 700 ______57,000 57,000

(b) A profit and loss account for Clipper Ltd for the year ended 31stDecember2007 and a balance sheet as at that date, in a form suitable forpresentation to the directors. (21 marks)

(b) Students are strongly advised to use the eight-column accounting

paper in answering this type of question. Often only brief workings

are required and therefore a complete set of T accounts or

journals is a waste of time. Such workings can be effectively shown

on the face of the profit and loss account and balance sheet.

However the adjustments necessary to arrive at amounts for cost of

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sales, debtors and fixed assets were quite involved and therefore

separate clear workings would be necessary to enable candidates to

be awarded with all appropriate marks.

The profit and loss account and balance sheet for Clipper plc

should be properly headed. An acceptable layout with appropriate

sub-headings is given in the subject guide (Chapter 6, examples 6.1and 6.2).

The final accounts of Clipper Ltd should be as follows:

Clipper Ltd

Profit and loss account for the year ended

31stDecember 2007

Sales 1,050,000Cost of sales 715,000Gross profit 335,000

Distribution costs 42,000

Administration costs 56,000Selling costs 59,500Directors remuneration 55,500Audit fee 4,000Bad debts 1,850Depreciation 36,750Loss on disposal 5,000 260,600Profit before interest and tax 74,400Interest 2,500Profit before interest 71,900Taxation 30,000Profit for the year 41,900Dividend paid 15,000Retained profit for the year 26,900

Clipper Ltd

Balance sheet as at 30th

December 2007

Fixed assetsCost Accumulated

Depn/AmorNet

Motor vehiclesPlant and equipment

95,000180,000

(38,750)(72,000)

56,250108,000164,250

Current assetsStock (483-24)Debtors

PrepaymentsBank

63,00075,050

6,0004,800

148,850Creditors: due within one year

TradeAccrualsTaxation

(48,600)(6,500)

( 30,000)

(85,100)Net current assets (working capital) 63,750Total assets less current liabilities 228,000Loans (25,000) 203,000Capital and reservesOrdinary share capital 165,000Retained Earnings 38,000

203,000

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(c) One of the directors of Clipper Ltd has sent you the following e-mail.

Why do we only have 4,800 in the bank when we have retained profitsin excess of 30,000?

Draft a brief email, without any figures, in response to the director.

(4 marks)

(c) This question requires a brief explanation of the accounting issues,

the confusion is caused by viewing profits as being the same as

cash surpluses. Profits represent the increase in the net assets of

the firm, that is all assets less all liabilities. Cash represents only

one element of the companys resources and profit is the increase

in these resources over the year. If you wish to reconcile the

increase/decrease in cash balances and the profits for the year you

should refer to the cash flow statement attached to the accounts.

These fundamental issues are covered in chapter 2 of the subject guide.

SECTION CQuestion 14

(a) Prepare a cash flow statement for Sloop Plc for the year ended 31stMarch

2008. (16 marks)

(a) This question requires preparation of a cash flow statement. Using

the eight-column accounting paper is recommended. The direction

of cash flows (outflows or inflows) is clearly a key issue and care

should be taken to ensure that this is correct. The layout and

preparation of a cash flow statement is given on pages 9294 of the

subject guide.

The cash flow statement of Sloop plc should be as follows:

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Cash flow statement for the year ended 31stMarch 2008

m m

Operating profit 666

Depreciation 150

Profit on disposal of fixed assets (20)

Increase in stock (242)

Increase in debtors (18)

Increase in prepayments (60)

Decrease in trade creditors (20)

Net cash flow from operating activities 456

Returns on investment and servicing of finance

Investment income

Interest paid 30

(34)

(4)

Taxation (280)

Capital expenditure

Purchase of tangible fixed assets

Disposal of tangible fixed assets

Purchase of fixed asset investments

(324)

160

(36)

(200)

Equity dividends paid (160)

Net cash flow before financing (188)

Financing

Issue of ordinary shares

Repayment of loans

76

(64)

12

Decrease in cash balances (176)

Reconciliation of cash balances

Decrease in cash at bankIncrease in bank overdraft

8888

176

(b) It has been argued that cash flow statements are more reliable thanfinancial statements prepared under the accruals convention. Brieflyexamine this argument. (4 marks)

(b) The argument proposed is that cash flow statements are more

reliable than accruals-based financial statements. Answers should

examine the comparative objectivity of cash flow statements and

the subjective nature of some accruals-based estimates and

judgments. Good answers would clearly identify the trade-offbetween relevance and reliability and assess the usefulness of both

conventions in isolation and as a total reporting package.

Question 15

Cleanahull Ltd [For full question please refer to the examination paper.]

Required:

(a) Prepare an operating statement, reconciling budgeted and actual profitfor Cleanahull Ltd for May 2008 showing two variances for sales and foreach cost category. (13 marks)

(a) Budgetary control, performance evaluation and variance analysis

are frequently examined in this paper. It is very important that full

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workings are shown and that students ensure they understand and

clearly indicate the direction (favourable or unfavourable) of the

variances computed.

A straightforward layout of the operating statement is given below.

Operating statement for Cleanahull for May 2008

Budgeted profit for month (288 x 18) 5,184Sales margin volume variance 756Standard profit for actual sales 5,940Sales price variance 600 6,600Cost variances Fav Unfav

MaterialPrice variance 140Efficiency varianceSkilled labour

60

Price variance 297Efficiency variance

Unskilled labour

528

Price variance 99Efficiency varianceVariable overheads

330

Spending variance 165Efficiency varianceFixed overheads

- -

Spending variance 140Volume variance 1,260 ___

2,192 827 1,365Actual profit for month 7,965

(b) Prepare a brief report to the owner of Cleanahull Ltd commenting on theperformance in May 2008 suggesting possible reasons for any unexpected

results. (7 marks)(b) This part of the question requires a brief report which comments on

the variances and suggests possible reasons for unexpected results.

Good answers should go beyond statements of the facts, e.g.

unfavourable labour variances show they were paid more; instead

they should give a more meaningful analysis. Again using labour

cost as an example a good answer might be as follows:

Skilled labour has been used very efficiently with 10% less hours than standard;

this has resulted in a substantial favourable variance. However the unskilled labour

is a similar amount over budget (66 hours), thus producing an unfavourable

variance. It appears that Cleanahull is short of skilled labour and may have

substituted unskilled. This has led to a cost saving of 198 (66 x [8-5]). As

long as there has been no loss in quality this is satisfactory, although Cleanahull

should establish whether the use of unskilled labour has been the cause of the overuse

of materials. The shortage of skilled labour may also be the cause of the skilled

labour price variance labour may be short and those workers may work overtime or

be paid more than budget. The unskilled labour is being paid below budget by 5%

which again suggests there is no shortage.

Variance analysis, with comprehensive examples, is covered on pages

198206 of the subject guide.

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Question 16

Yawl Ltd [For full question please refer to the examination paper.]

(a) Use the net present value method of project appraisal to advise themanagement of Yawl Ltd whether to go ahead with the product.

(12 marks)

Required:

(a) Investment appraisal using discounting methods is a key part of the

syllabus. This question combines application of the Net Present

Value method of investment appraisal with an understanding of

opportunity costs.

It is important to adopt a well-organised approach to the layout of

the answer. In answering this type of question it is strongly advised

that the eight-column accounting paper be used to produce a table

of cash flows and present values for each of the relevant years.

The most appropriate way of presenting the answer to this question

is as follows:000s 2009

start2009end

2010 2011 2012 2013 2014

Sales 0 800 800 800 640 400Equipment (480) 80Stock (60) 60Working capital (40) 40Overheads (16) (16) (19.2) (19.2) (19.2)Material (480) (480) (480) (384) (240)Variable costs (80) (80) (80) (64) (40)Cash flow (580) (576) 224 220.8 332.8 520.8 400Discount factor 0 0.893 0.797 0.712 0.636 0.567 0.507Discounted cash flow (580) (514.4) 178.5 157.2 211.7 295.3 202.8NPV = 48,900

A negative NPV indicates that the project is expected to earn less than the opportunity cost of capital of thefinance providers. This firm would serve its shareholders best by not proceeding with this project.

(b) List and briefly explain the key points you would make to a managementteam unfamiliar with discounted cash flow appraisal techniques. (8 marks)

(b) The key points should explain the following:

the time value of money discounting cash flows to a common point in time opportunity cost of investors funds minimum rate of return required on a project NPV = shareholder wealth increase NPV decision rule the significance of being cash flow-based rather than profit-based only incremental cash flows are considered.The relevant examples and discussion of disconnected cash flow

appraisal techniques is covered in Chapter 13 of the subject guide and

pp.490500 of Glautier and Underdown.

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Question 17

Ketch plc [For full question please refer to the examination paper.]

Required:

(a) Prepare a break-even price report [For full question please refer to theexamination paper.] (14 marks)

(a) This question requires application of a number of decision-making

techniques; in particular the identification of relevant costs, sunk

costs and opportunity costs. A key part of the requirement is the

explanation of each cost included in the final amount and the

reasons for exclusion of any costs which are referred to in the

original data. Good answers would clearly link all of the costs

included and excluded, with the explanations. A brief summary of

these are given below:

Break-even for final order for pump

Material A (note 1) 1,000Material B (1,000 x 3.15 note 2) 3,150Labour (1,000 x x x 12 note 3) 3,000Variable overheads - supervisors overtime (note 4)

- packaging 1,000 x 50p (note 5)Fixed costs - depreciation (note 6)

- maintenance (note 7)

-500

-250

7,900

Notes:

1. Opportunity cost being half of the sale proceeds.2. Replacement cost will include the 5 per cent price increase.3.

There is no change in the basic labour costs but half of the 500 hours will be paid at 50per cent extra this must be included.

4. There is no increase in supervisors overtime as a result of this order.5. The special packaging is a relevant cost for this order.6. No depreciation needs to be included. This is an irrelevant sunk cost, so there is no loss

of value through additional use.

7. The additional maintenance charge is relevant it would not be paid if this order werenot accepted.

(b) Prepare a brief report to the sales manager [For full question pleaserefer to the examination paper.]

(b) This analytical question should be answered by clearly identifyingthree issues as required. These should relate the key strategic and

operational matters raised by the decision facing the company and

relate these appropriately to the answer given to part (a). Good

answers go beyond a simple restatement of the facts given in

part (a).

Information for short-run tactical decisions is covered in the subject

guide (pp.151161) and Glautier and Underdown (Chapter 31).

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Examiners commentary 2008


Specific comments on questions Zone B

SECTION A

Question 1

Distinction is often made between financial and management accounting.Briefly explain the differences between these terms.

This question requires explanation of the differences between financial

accounting and management accounting. These differences are covered

on pages 16 and 17 of the subject guide. Good answers would link the

attributes of the two types of accounting, for example:

Financial accounting



users who are external to the business.

Management accounting



users who are internal to the business.

Question 2

The following information is available in respect of Bagehot Ltd [For fullquestion please refer to the examination paper.]

Required:

Prepare for Bagehot Ltd a profit and loss account for the year ended 31

st

December 2007 and a balance sheet as at that date, in as much detail aspossible, taking into account all the above information.

This question requires the use of accounting ratios in constructing a set

of financial statements from incomplete information. In this situation

the key is to adopt a logical approach starting from the actual amounts

given; in this case we know the figures for debtors, opening stock,

purchases, loans and share capital. If these amounts are placed into the

financial statements then the ratios can be used to find most of the

other items. There are some items which are deduced as balancing

figures, for example expenses and reserves bought forward.

Bagehot Ltd.Profit and Loss Account for the year ended 31st December 2007

Sales (33,600 x 12) 403,200

Opening stock 28,000

Purchases 360,000

388,000

Closing stock (Bal f ig) (85,600) 302,400

100,800

Expenses (Bal. Fig) 80,640

Net Profit (403,200 x 5%) 20,160

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Balance sheet as at 31stDecember 2007

Fixed assets (403,200 4) 100,800

Current assets

Stock

Debtors

Cash at bank (Note 1)

85,600

33,600

26,400

145,600

Creditors (360,000 12) (30,000) 115,600

216,400

Loan (29,520)

186,880

Share Capital 39,120

Reserves : Brought forward

Current year

127,600

20,160 147,760

186,880Note 1

Creditors = 30,000

Acid Test = 2 : 1

Debtors + Bank = 60,000

Bank = 26,400

Accounting ratios are covered on pages 106116 of the subject guide.

Question 3

In the books of Beveridge Ltd the creditors ledger control account [For full

question please refer to the examination paper.]Required:

(a) Calculate the corrected creditors ledger control account balance, and,

(b) reconcile this with the total of the individual creditors balances in thecreditors ledger.

Control accounts play an important part in internal control within a

record keeping system based on double entry. This is a typical question

which involves the correction of the balances in the creditors ledger

control account (321.100). The second part of the question requires

the reconciliation of this figure with the total of the individual

creditors balances in the creditors ledger; the final figure in this

reconciliation is an error which is the balancing figure (3,570). The

key to this type of question is a clear distinction between the

adjustments to the control account on the one hand; and the list of

balances on the other.

An illustrative example of this type of question is found on page 44 of

the subject guide.

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Question 4

Hicks Plcs outline balance sheet [For full question please refer to theexamination paper.]

Required:

(a) Prepare a forecast outline balance sheet for Hicks Plc as at 31stMarch

2009, incorporating the above transactions.

(a) It is important to understand the practical implications of different

types of share issue on a companys shareholders funds in the

balance sheet. This question involves a bonus issue and a

subsequent rights issue at a premium. The question also involves

an issue of loan stock. These transactions give rise to the following

forecast balance sheet:

Forecast balance sheet as at 31stMarch 2009

Net assets

Loans

Ordinary shares of 1 each

Share premium

Retained earnings

m

122

(20)

102

60

8

34

102

In this type of question clear workings are essential, in particular in the

calculation of the impact of each transaction on the companys retained

earnings and net assets.

The relevant issues are dealt with on pages 88 and 89 of the subject

guide.

(b) Describe, without calculations, how each of the share issues in the yearended 31

stMarch 2009 will affect the earnings per share of Hicks Plc.

(b) This section requires descriptions of how each share issue will

affect the earnings per share (EPS) but did not ask for calculations

of EPS. The answers could be quite short as follows:

Bonus issue increase shares and thus will reduce the EPS.

Rights issue will increase shares but also generate profits from new

funds the impact will probably be to increase EPS.

Earnings per Share is explained on page 113 of the subject guide.

Question 5

Explain, with examples, the terms monetary assets and non-monetaryassets and describe their treatment in historical cost accounting and onealternative valuation convention.

There are essentially three elements to this question as follows:

1. explain the terms

2. give examples

3. describe the treatment under HCA and one alternative.

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Good answers would have clearly addressed all of these elements as

follows.

Monetary assets are those which by their nature, or by contract, are

expressed in pounds (money values) regardless of changes in price

levels. Examples are cash, debtors and bank balances.

Non-monetary assets are those which have a value which may beregarded as changing in line with changing price levels of different

types of asset: examples are stocks and fixed assets.

Accounting treatment

Monetary Non-monetary

HCA Current money value HC

CPP Current money value HC x change in purchasing power of

OR

CVA Current money value Replacement cost

or

Realisable value

or

Value in use.

The issues in this question are dealt with on pages 127128 of the

subject guide, and on pages 321336 of Glautier and Underdown.

Question 6

Clark Distributors Ltd began business [For full question please refer to theexamination paper.]

Required:

Using only the data in the table above, calculate the cost of sales and closingstock figures for inclusion in the accounts for the six months to 31stDecember

2007 under both the FIFO and LIFO assumptions.

The calculation of cost of sales and stock values by application of the

various accounting bases is a common and relatively straightforward

examination question. There were no particular problems posed by this

question, which gave FIFO values of 6,500 and 35,500; under LIFO

the amounts are 60,500 and 36,500. A worked example of this type

of question is given on page 53 of the subject guide. It is important to

provide your workings for this type of question.

Question 7

Smith Plc manufactures and sells a range of [For full question please refer

to the examination paper.]Required:

(a) Compute the following variances for product Adam for July.

(i) Sales price variance.

(ii) Sales contribution volume variance.

(iii) Sales margin volume variance.

(a) This question involves the calculation of a number of sales

variances, as below:

i. Sales price variance 8,000 (U)

ii. Sales contribution variance 8,000 (F)

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iii. Sales margin volume variances 6,000 (F).

(b) The difference between (ii) and (iii) is the treatment of fixed

overheads.

ii. shows the additional contribution from increased sales and thus

ignores the fixed overheads.

iii. Shows the additional net margin from increased sales but this

includes an allocated fixed cost element. It would be necessary

to calculate a separate fixed overhead volume variance to reflect

the fact that the increase in volume will not result in any

additional fixed costs.

Thus

F

(F)

Sales margin volume variance

Fixed overhead volume variance*

(AQ SQ) x FO per unit

(8,000 6,000) x 1

Sales contribution volume variance

6,000

2,000

8,000

Students are always advised to show clear workings. For example, in

this question a mistake in one element of the computations would only

be penalised for that mistake and the correct elements of the

computation would be rewarded as appropriate. For this to be done it

is important that workings are clear and legible with relevant

descriptions and labels. Pages 201 and 202 of the subject guide give

illustrative examples.

Question 8

A summary of Pareto Companys profit [For full question please refer to

the examination paper.]Required:

(a) What is the break-even point in units?

(b) What is the margin of safety in units?

(c) If an extension to the factory [For full question please refer to theexamination paper.]

This question tests the application of break-even analysis and the use

of a contribution approach to decision making. The techniques are

relatively straightforward but students need to read the question

carefully in order to use the data correctly. The solutions are as

follows:(a) 500,000 units

(b) 500,000 units

(c) Extension to factory

Contribution per unit

= 0.50 (30 110)

100

= 0.17

Required contribution

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= FC + Profit

= 150,000 + 110,000

= 260,000

Required volume

= 260,0000.17

= 1,529.411 units

The required volume is less than the new capacity of 1,600,000 units

and so there will be sufficient capacity.

Good answers would clearly identify the required levels of contribution

and volume in order to give full data for decision making.

Short term decision making involving these techniques is covered on

pages 152 and 156 of the subject guide and in Chapter 28 of Glautier

and Underdown.

Question 9

Rickwood Ltd [For full question please refer to the examination paper.]

Answers should briefly explain the stages in the process of cost

determination.

1. Collect and classify overhead costs as between indirectmaterial, indirect labour and other identifiable cost headings

(e.g. power, insurance, depreciation).

2. Allocate these costs to the four production and three servicedepartments (cost centres) using appropriate methods (e.g.

floor area, capital value)

3. Apportion the costs of the service departments to theproduction departments using appropriate methods.

4. Absorb the total indirect cost for each production cost centreinto the total cost of each of the three different product lines.

This question could easily be misinterpreted by students who do not

read the question carefully but see the word cost and write about

issues which are not relevant to the specific issue being examined.

Traditional costing methods are explained on pages 142144 of the

subject guide and a comprehensive coverage is given in Chapter 16 of

Glautier and Underdown.

Question 10In the context of cost-volume-profit analysis [For full question please referto the examination paper.]

This question requires brief explanations andgive examples of three

management accounting terms. To gain good marks both of the

requirements must be met.

(a) Non-linear variable costsvary with volume of activity but with

a cost per unit which is different for different levels of activity.

Example: Direct material where there are discounts available for

larger orders.

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(b) Stepped fixed costsare those which do not vary with volume of

activity between two levels of activity but which will require an

extra resource at the higher level. Example: Rental of storage

facility which has a maximum capacity after which a new facility

will have to be rented.

(c) The relevant rangeis the range of outputs over which theassumption that a cost-volume relationship is a linear relationship

is realistic. Example: A firm may determine variable and fixed

costs which will be realistic between 10,000 and 15,000 units;

outside of this range these costs will no longer behave in the

assumed linear fashion.

These terms are explained within Chapter 11 of the subject guide.

Question 11

Hayek Plc is considering investing in either project P or project Q: [For fullquestion please refer to the examination paper.]

Required:

(a) Calculate the payback period for each project and on this basis adviseHayek Plc which project to invest in.

(b) Briefly explain twodisadvantages of payback period as a method ofinvestment appraisal.

Payback is a straightforward investment appraisal method. The only

complication here was remembering to adjust profits to cash flows (by

adding back depreciation) to give payback periods of 21/3years for

project P and four years for project Q. Part (b) required standard text

book appraisal of the disadvantages of payback, which is discussed on

pages 166169 of the subject guide.

Question 12

Glautier and Underdown state that [For full question please refer to theexamination paper.]

The five stages of planning identified by Glautier and Underdown

(page 353) are summarised as follows:

1. Setting organisational objectives.

2. Assessing the environment in which the organisation will be

operating by reference to the external factors which are likely to

affect its operations. For this purpose forecasts have to be made

which attempt to predict what will happen in the future, with and

without policy changing on the part of the planning organisation.3. Assessing existing resources; management is concerned with

making the most efficient use of scarce resources, often called the

four Ms: men, machines, materials and money. This aspect of the

planning function involves making an estimate both of external

resources which are accessible, and resources already held which

are either idle or which might be more efficiently utilised.

4. Determining the strategy for achieving stated objectives by means

of an overall plan which specifies strategic goals. Strategic

decisions are concerned with establishing the relationship between

the firm and its environment.

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5. Designing a programme of action to achieve selected strategic goals

by means of both long-range programmes and short-range

programmes; the latter covering a period of a year or less and

containing sets of instructions of the type found in annual budgets.

Once more it is necessary to read the question carefully. The question

is quite specific and answers which dealt with, for example, only theadvantages of budgets as part of planning would be insufficient.

SECTION B

Question 13

Keynes Plc is a company incorporated [For full question please refer to theexamination paper.]

Required:

(a) Show any necessary adjustments to the bank balance according to thecash book as at 30

thApril 2008. (3 marks)

(a) The reconciliation of the bank balance per the cash book and the

balance on the bank statement often reveals errors and omissions.The adjustment of these and of the other accounting records is a

recurring question in this examination. In this case the adjustments

are as follows:

Bank balance per trial balance (6,600)

Administration standing order (12,000)

Bank interest paid (900)

Compensation received 20,000

Refund received 5,000

Bad debt recovered 12,000Bank balance per cash book 17,500

Students are strongly advised to use the eight-column accounting

paper in answering this type of question. Often only brief workings are

required and therefore a complete set of T accounts or journals is a

waste of time. Such workings can be effectively shown on the face of

the profit and loss account and balance sheet. However, the

adjustments necessary to arrive at amounts for cost of sales,

administration cost, loss of equipment, and fixed assets were quite

involved and therefore separate clear workings are necessary to enable

candidates to be awarded with all the appropriate marks.

(b) Prepare a profit and loss account for Keynes Plc for the year ended 30thApril 2008 and a balance sheet at that date in a form suitable for thedirectors. (22 marks)

The final accounts of Keynes plc should be as follows:

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Keynes plc

Profit and loss account for the year ended 30th April 2008

Sales 3,960,000

Cost of goods sold 2,444,000

Gross profit 1,516,000

Bad debt recovered 12,000

1,528,000

Distribution costs 566,500

Administration costs 511,500

Auditors remuneration 5,000

Depreciation/Amortization 306,000

Loss on equipment 50,000

Bad debts 18,000 1,457,000

Profit before interest and tax 71,000

Interest 18,900Profit before tax 52,100

Taxation 3,000

Net profit after tax 49,100

Dividends paid 12,000

Retained profit for the year 37,100

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Keynes plc

Balance sheet as at 30th April 2008

Fixed assets Cost Accumulated

Depn/Amort

Net

Leasehold property

Plant and equipment

440,000

2,840,000

132,000

1,572,000

308,000

1,268,000

1,576,000

Current assets

Stock

Debtors

Prepayments

Bank

459,000

206,000

3,000

17,500

685,500

Creditors: due within one year

Creditors

Accruals

Taxation

(389,400)

(24,000)

( 3,000) (416,400)

Net current assets (working capital) 269,100

Total assets less current

liabilities

1,845,100

Creditors: due after one year (180,000)

1,665,100

Capital and reserves

Issued ordinary share capital 660,000

Reserves: Share premium

Retained earnings

428,000

577,100

1,005,100

1,665,100

The profit and loss account and balance sheet for Keynes plc should be

properly headed and an acceptable layout with appropriate sub-

headings is given in the subject guide (see Chapter 6 examples 6.1 and

6.2).

(c) Draft a note in response to the directors statement. (5 marks)

The section requires a draft note in response to the directorsstatement. The main points to be included in a comprehensive answer

were: accounts prepared on the basis of historical cost asset values of non-monetary assets do not reflect current value freeholds are not included at the moment at valuation but could be

with change of accounting policy

plant and equipment stated at depreciated historical cost and onlyreduced to realisable value if have a lower value in use

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thus the balance sheet should not be used as a statement ofcorporate value.

SECTION C

Question 14

The following are the summarised accounts of Toynbee Plc [For fullquestion please refer to the examination paper.]

Required:

(a) Prepare a cash flow statement for Toynbee Plc for the year ended 31st

December 2007. (16 marks)

This question requires preparation of a cash flow statement. Using the

eight-column accounting paper is recommended. The direction of cash

flows (outflows or inflows) is clearly a key issue and care should be

taken to ensure that this is correct. The layout and preparation of a

cash flow statement is given on pages 9294 of the subject guide.

(a) The cash flow statement of Toynbee plc should be as follows:

Toynbee plc

Cash flow statement for the year ended 31 December 2007

m m

Operating profit 666

Depreciation 150

Profit on disposal of fixed assets (20)

Increase in stock (242)

Increase in debtors (18)

Increase in prepayments (60)

Decrease in trade creditors (20)

Net cash flow from operating activities 456

Returns on investment and servicing of finance

Investment income

Interest paid 30

(34)

(4)

Taxation (280)

Capital expenditure

Purchase of tangible fixed assets

Disposal of tangible fixed assets

Purchase of fixed asset investments

(324)

160

(36)

(200)

Equity dividends paid (160)

Net cash flow before financing (188)

Financing

Issue of ordinary shares

Repayment of loans

76

(64)

12

Decrease in cash balances (176)

Reconciliation of cash balances

Decrease in cash at bank

Increase in bank overdraft

88

88

176

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(b) It has been argued that cash flow statements are more reliable thanfinancial statements prepared under the accruals convention. Brieflyexamine this argument. (4 marks)

(b) This question specifically deals with arguments in respect of the

reliability of cash versus accruals accounting. Answers which

covered the general advantages/disadvantages of cash flowstatements would not address the issue. Students are again

strongly advised to read even short questions very carefully and to

focus on the specific issue raised.

Answers should discuss the following:

subjective nature of accruals convention giving examples ofestimates and judgments such as stock values, depreciation, debt

provisions, etc.

comparative objectivity of cash flow statements trade off between reliability and relevance thus while cash flows

are more reliable on their own they are less relevant for assessing

financial performance and position.

Question 15

Coase Ltd is a single-product manufacturing company [For full questionplease refer to the examination paper.]

Required:

(a) Prepare internal management profit statements for the year ended 30th

June 2008 using marginal costing. (7 marks)

(b) Prepare a draft profit and loss account for the year ended 30thJune 2008

using full absorption costing. (8 marks)

(c) Give calculations showing why the profits for 2008 are not the same inyour answers to (a) and (b) above. Explain your answer. (5 marks)

Chapter 10 of the subject guide covers cost accounting and the

differences between marginal and traditional absorption costing. This

question requires an application of the techniques explained in Chapter

10. Students should think carefully about the layout to be used in

presenting their answer. A key issue is the measurement of the value of

stocks under each method. Students should carefully structure their

layouts to bring out the important features of their answer and give all

relevant workings. The question asks for statements for the year ended

30th June 2008 only and anyone producing 2007 figures would be

wasting valuable time and effort.

A suggested presentation of the answer is as follows:

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Coase Ltd

(a) Profit statement using marginal costing for year ended 30 June 2008

Sales (25,000 x 90) 2,250,000

Opening stock (2,000 x 48) 96,000

Production cost (24,500 x 55) 1,347,500

1,443,500

Closing stock (1,500 x 55) (82,500) 1,361,000

Cost of sales 889,000

Selling of admin expenses

(25,000 x 3) 75,000

Contribution 814,000

Fixed overhead 180,000

Profit 634,000

(b) Profit statement using absorption costing for the year ended 30 June 2008

Sales revenue 2,250,000

Opening stock (2,000 x 54.07) 108,143

Production cost (24,500 x 61.43) 1,505,000

1,613,143

Closing stock (1,500 x 61.43) 92,143

Cost of sales 1,521,000

729,000

Under-absorption (3,500 x 6.43) 22,500

706,500Selling and admin costs 75,000

Profit 631,500

(c)

Marginal profit 634,000

Fixed overhead B/F in absorption O Stock

2,000 x 6.07 12,143

Fixed overhead C/F in absorption C Stock

1,500 x 6.43 9,643

Reduction in absorption profit 2,500

Absorption profit 631,500

The difference in profit figures is caused by the different treatments of

fixed production overheads. Fixed overheads are all written off as

period costs in marginal costing systems, while a proportion is carried

forward in stock valuation in absorption costing systems. The above

reconciliation shows exactly how the profit figures differ.

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Question 16

Wilkies Ltd [For full question please refer to the examination paper.]

Required:

(a) Use the net present value method of project appraisal to advice themanagement of Wilkes Ltd whether to go ahead with the proposed

project. (12 marks)(b) List and briefly explain the key points you would make to a management

team unfamiliar with discounted cash flow appraisal techniques. (8 marks)

(a) Investment appraisal using discounting methods is a key part of the

syllabus. This question continues application of the Net Present

Value method of investment appraisal with an understanding of

opportunity costs.

It is important to adopt a well organised approach to the layout of an

answer. In answering this type of question it is strongly advised that

the eight-column accounting paper be used to produce a table of cash

flows and present values for each of the relevant years.

The most appropriate way of presenting the answer to this question is

as follows:

000s 2009

start

2009

end

2010 2011 2012 2013 2014

Sales 0 +400 +400 +400 +320 200

Equipment (-240) +40

Stock (-30) +30

Working capital (-20) +20

Overheads (-8) (-8) (-9.6) (9.6) (-9.6)

Material (-240) (-240) (-240) (-192) (-120)

Variable costs (-40) (-40) (-40) (-32) (-20)Cash flow (-290) (-288) +112 +110.4 +166.4 +260.4 +200

Discount factor 0 0.893 0.797 0.712 0.636 0.567 0.507

Discounted cash flow (290) (257.2) 89.3 78.6 105.8 147.6 101.4

NPV = -24,500

A negative NPV indicates that the project is expected to earn less than

the opportunity cost of capital of the finance providers. This firm

would serve its shareholders best by not proceeding with this project.

Good answers would also explain the omission of sunk costs (research

20,000) and non cash-flow items (depreciation).

(a) The key points to be included in this explanation are:

the time value of money discounting cash flows to a common point in time opportunity cost of investors funds minimum rate of return required on a project NPV = shareholder wealth increase NPV decision rule the significance of being cash flow-based rather than profit-based only incremental cash flows are considered.

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The relevant examples and discussion of discounted cash flow

appraisal techniques is covered in Chapter 13 of the subject guide and

pages 490500 of Glautier and Underdown.

Question 17

The production manager [For full question please refer to the examination

paper.]

(a) Cost the project for the production manager, clearly stating how you havearrived at your figures and giving reasons for the exclusion of otherfigures. (10 marks)

(b) State whether the company should tender for the project, giving thereasons why and the price, bearing in mind that the competitor isprepared to undertake the project for 30,000. (6 marks)

(c) Identify four non-monetary factors that should be taken into accountbefore tendering for this project. (4 marks)

This question involves analysis of a complex set of information in order

to determine the relevant costs for a decision on acceptance of a

special job. This involves recognition of relevant, incremental and

opportunity costs and setting aside of any sunk costs or costs not

relevant to the decision. Students should note that the requirement

asks for an explanation of each of the figures used. Good answers

should explain why the individual costs were or were not included in

the calculations. Question 11.2 on page 162 of the subject guide gives

a good example of this type of problem.

The following provides a summary of the calculations and explanations

required.

(a) Relevant costs of the project

Material A (1,750)

Material B 8,000

Direct labour 7,000

Net cost of machinery 4,750

Relevant cost 18,000

Contract price 30,000

Contribution 12,000

Notes:

There is a saving in material costs of 1,750 if material A is not used.

The actual cost of material B represents the incremental cost.

The hiring of the labour on the other contract represents the additional cash flows of

undertaking this contract.

The net cost of purchasing the machinery represents the additional cash flows associated with

the contract.

Supervision and overheads will still continue even if the contract is not accepted and are

therefore irrelevant.

(b) The report should indicate that the costs given in the question do

not represent incremental cash flows arising from undertaking the

contract. Incremental costs will provide an additional contribution

which will result in an increase in profits. Assuming that the

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company has spare capacity and that a competitor is prepared to

accept the order at 30,000 then a tender price slightly below

30,000 would be appropriate. The price given by the production

manager includes non-relevant costs.

c) Before accepting the contract the following non-monetary factors

might be considered.i. Is there sufficient spare capacity to undertake the project?

ii. Is the overseas customer credit worthy?

iii. Has the workforce the necessary skills to undertake the project?

iv. Is the contract likely to result in repeat business with the

customer?

Students may have identified other relevant issues and appropriate

marks would be awarded. However answers which simply repeated the

figures and explanations in (a) would not be sufficient.

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POA 2008 ZA + ZB Commentaries