SUGGESTED SOLUTIONS AAM3781- Test1 06 March 2017

Examiner: FM Kapepiso

Question 1: (20 marks)

1.1. The relevant cost of the 10 kg is the possible saving that would result, if it were used as a
substitute for material Y (replacement cost of Y less modification cost of X)
10 kg x (N$6- N$2) = N$40

1.2. The relevant cost of the 100 hours is the variable cost plus the penalty fee
(100 hrs x N$15) + N$1000 =N$2500

1.3. Constraint: A restriction or limitation on the resources available. A constraint is something

that prevents the organization from meeting their sales demand and consequently has an
impact on the profitability of the organization.
Identify the constraint
Calculate the contribution margin for one unit and divide by the amount of
scarce resource needed to produce that unit.
Compare or rank all possible uses of the scarce resource.
The one that results in the largest Utilization Contribution Margin (UCM) per
scarce resource is the best possible use of that scarce resource.
Calculate how the constrained resources will be utilized
Calculate the total profit generated in terms of the sales mix calculated in step 4

1.4. In decision making, variable costs are those costs which vary between different course of
action and which are represented by future cash flows.
Variable costs tend to be relevant costs: decisions are likely to change activity levels/
production volumes and variable costs will therefore, by definition, change.
Fixed costs, on the other hand, are not usually assumed to be relevant costs: many are
committed as a result of long-term decisions taken in the past and cannot easily be
changed.
Moreover, many fixed costs are not cash flows and are therefore not relevant costs.
Depreciation is an example
It is true to say that fixed costs are always non-relevant costs, however a decision may
cause activity levels to fall outside the relevant range for which the cost remain fixed.
For example, if production levels are increased by 20% an additional supervisor may
have to be employed.
Alternatively a fixed cost may be a differential fixed cost, which is a cost that is incurred
only if one course of action is taken in preference to another. Differential fixed costs are
relevant costs.
(MAX 3 MARKS)

1.5. It can only apply to a single product or a single mix of a group of products
Break even chart may be time consuming
Selling price, variable cost per unit and total fixed cost remain unaffected by increase or
decrease in sales volume.
Firm is able to sell more units without affecting the cost structure.
In multi-product situations, product mix is known in advance and remains constant.
Costs can be accurately classified in to fixed and variable categories.
(MAX 4 MARKS)
Question 2: (20 marks)

2.1. You might decide that there are two decision variables in the problem, the quantity of X
and the quantity of Y to make each week. If so, begin by letting these be X and Y
respectively.
You might also readily recognize that the aim should be to maximize the total weekly
contribution, and so the objective function should be expressed in terms of maximizing
the total contribution from X and Y.
The contribution per litre from X and Y cannot be calculated because the operating costs
are expressed in terms of processing hours. Therefore, the decision variables should be
processing hours in each process, rather than litres of X and Y. if we let the processing
hours per week for process1 be P1 and the processing hours per week for process 2 be
P2, contribution is calculated as follow as well as objectives and constraints.

Process Process
1 N$ per 2 N$ per
hour hour
Revenue:
X (15 x N$18) 270 (20 x N$18) 360
Y (20 x N$24) 480 (10 x N$24) 240
750 600
Less: Variable costs
Material A (20 x N$5) 100 (30 x N$5) 150
Material B (10 x N$8) 80 (20 x N$8) 160
Operating cost 500 680 230 540
Contribution 70 60
(16 ticks x 1/3=5 marks calculating contribution)

Objective (MAX) Z= 70P1 + 60P2

Subject to constraints
20P1 + 30P2 2700 (material A supply)
10P1 + 10P2 2000 (material B supply)
P1 + P2 120 (total maximum time)
P2 80 (maximum time for P2)
P1, P2 0
Draw a graph and shade feasible solution region? (5 marks)
Corner point method
P1 P2 Contribution (Z)=70P1
+60P2
A 120 0 70(120)+60(0)=8400
B 12 40 70(88)+60(30)=7960
C 16 80 70(16)+60(80)=5920
D 0 80 70(0)+60(80)=4800
E 0 0 70(0)+60(0)=0

Optimal product mix = P1 =120 and P2 = 0

Maximum profit= 70(120) + 60(0) = 8400

---END---