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PGP Term II, End-term Examination-2012 Management Accounting

Close Book, Calculators Allowed Time: 2 Hours Faculty: Prof. K N Badhani Note: Attempt any two questions. All question carry equal marks. Maximum Marks: 50

1. Silven Industries, which manufactures and sells a highly successful line of summer lotions and insect repellents, has decided to diversify in order to stabilize sales throughout the year. A natural area for the company to consider is the production of winter lotions and creams to prevent dry and chapped skin. After considerable research, a winter product line has been developed. However, Slivens CEO has decided to introduce only one of the new products for this coming winter. If the product is a success, further expansion in the future years will be initiated. The product selected (call Chap-Off) is a lip balm that will be sold in a lip-stick type tube. The product will be sold to wholesalers in boxes of 24 tubes for $ 8 per box. Because of excess capacity used to manufacture this product during slack season, no additional fixed manufacturing overhead costs will be incurred to produce the product. However, a $ 90,000 charge for fixed manufacturing overhead will be absorbed by the product under the companys absorption costing system. Using the estimated sales and production of 100,000 boxes of Chap-Off, the accounting department has developed the following cost per box. Direct Material Direct Labour Manufacturing Overheads $3.60 2.00 1.40

Total Cost $ 7.00 The above costs include costs of producing both the lip balm and the tube that contains it. As an alternative to making tubes, Silven has approached a supplier to discuss the possibility of purchasing the tubes for Chap-Off. The purchase price of empty tubes from the supplier would be $1.35 per box of 24 tubes. If Silven Industries accepts the purchase proposal, direct labour and variable manufacturing overhead costs per box of Chap-Off would be reduced by 10% and direct material cost would be reduced by 25%. Required:

a. Should Silven Industry make or buy the tubes? Give cost calculations to support your answer. b. What would be maximum purchase price of tubes acceptable to Silven Industries? c. Instead of sale of 100,000 boxes, revised estimate shows a sale of 120,000 boxes. At this new volume, additional equipments must be acquired to manufacture the tubes at an annual rental of $40,000. Assuming that the outside supplier will not accept the order for less than 100,0000 boxes, should Silven Industry make or buy the tubes? Show calculations in support of your answer. d. Apart from above cost calculations what other qualitative factors should Silven Industries consider in deciding whether they should make or buy the tubes? 2. Meghraj Cookies bakes cookies for retail stores. The companys best selling cookie is Chocolate Nut Supreme which is marketed as a gourmet cookie and regularly sells for Rs 80 per kg. The standard cost per kg of Chocolate Nut Supreme, based on Maghrajs normal monthly production of Rs 400,000kg, follows: Cost Item Direct Material: Cookie Mix Milk Chocolate Almonds Direct Manufacturing Labour: Mixing Baking ManufacturingOverheads (@324/hr) Total Standard Cost per kg (oz = ounce, min = minute, hr = hour) Quantity Standard Rate Standard Cost per kg Rs 2.00 7.50 5.00 2.40 6.00 16.20 Rs 39.10

10 oz Rs 0.20/oz 5 oz 1.50/oz 1 oz 5.00/oz 1 min 2 min 144/hr 180/hr

Manufacturing overheads are allocated on the basis of labour hours. Meghrajs accountant, Zaheer, prepares monthly reports based on these standard costs. Presented below is November report: Performance Report for the month of November, 2010 Actual Budget Variance Unit (kg) 4,50,000 4,00,000 50,000 (F) Revenue Rs Rs 3,20,00,000 Rs 35,50,000 (F) Direct Material 86,50,000 58,00,000 28,50,000 (U) 3,55,50,000 Direct Labour 34,80,000 33,60,000 1,20,000(U)

Abbas, president of the company, is disappointed with the results. Despite a sizable quantity of cookies sold, the products expected contribution to overall profitability decreased. Abbas has asked Zaheer to identify the reasons why the contribution margin has decreased. Zaheer has gathered the following information to help in his analysis: Usage Report, November 2010 Quantity Direct Material Cookie Mix Milk Chocolate Almonds Direct Manufacturing Labour Mixing Baking Required: a. Analyze sales, direct material and direct labour variances in detail. b. Prepare a report in a tabular form, showing possible reasons for the variances you have computed and suggested corrective actions. 46,50,000 oz 26,60,000 oz 4,80,000 oz 4,50,000 min 8,00,000 min

Actual Cost RS 9,30,000 53,20,000 24,00,000 10,80,000 24,00,000

3. Weller Industries is a decentralized organization with six divisions. The companys Electrical

Division produces a variety of electrical items, including an X52 electrical fitting. The Electrical Division (which is operating at full capacity) sells its fittings to its regular customers for Rs7.50 each; the fitting has variable manufacturing cost of Rs 4.25 and total manufacturing cost of Rs 6.00. The companys Brake Division has asked the Electrical Division to supply it with a large quantity of X52 fittings for only Rs 5.00 each. The Brake Division, which is operating at 50% of capacity, will put the fitting into a brake unit that it will produce and sell to a large commercial airline manufacturer. The cost of brake unit being built by the Brake Division follows:

Purchased parts (from outside vendors) Electrical fitting X52 Other variable costs Fixed overheads Total Cost per Brake unit

Amount (Rs) 22.50 5.00 14.00 8.00 49.50

Although the Rs 5.00 price for the X52 fitting represents a substantial discount from the regular Rs 7.50 price, the manager of Brake Division believes that the price concession is necessary if his division is to get the contract for the airplane brake units. He has heard through the grapevine that the airplane manufacturer plans to reject his bid if it is more than Rs 50.00 per brake unit. Thus if the Brake Division is forced to pay the regular Rs 7.50 price for X52 fitting, it will either not get the contract or it will suffer a substantial loss at a time when it is already operating at 50% of capacity. The manager of Brake Division argues that the price concession is imperative to the well-being of both his division and the company as a whole. Weller Industries uses return on Investment (ROI) to measure divisional performance. Required: a. Assume you are the manager of the Electrical Division. Would you recommend your division to supply the X52 fitting to the Brake Division for Rs 5.00 as requested? Why or why not? b. Would it be profitable for the company as whole if the airplane Brakes are sold for Rs 50.00? Show your calculations clearly. c. Assume you are the manager of Brake Division. If Electrical Division supplies you X52 at the price of Rs 7.50 only, will you still like to sell the Brakes to airplane manufacturer at Rs 50.00? Why or why not? d. Assume the Electric Division does not accept the demand of Brake Division to supply X52 at Rs 5.00; however, the Brake Division can get a similar product at this price from outside supplier. Is it advisable to accept the supply from outside supplier? Analyze from the point view of Brake Division as well the company as a whole. e. If Electric Division is not working at full capacity because of demand constraints, will you change your answer to above (d)? If yes, why? What advice will you give to the company in this case? Show your calculations clearly.