Part I Multiple Choice Questions

1) Corise's Cola was to manufacture 500 cases of cola next week. The accountant provided
the following analysis of total manufacturing costs.

Variable Coefficient Standard Error t-Value

Constant 115 82.73 1.39
Independent variable 230 105.50 2.18
r2 = 0.82

What is the estimated cost of producing the 500 cases of cola?

A) $115,115
B) $57,730
C) $24,380
D) $9,744
Answer: A
Explanation: A) y = $115 + ($230 × 500) = $115,115

2) Net initial investment includes ________.

A) depreciation on new equipment, cash outflow for working capital, and after-tax cash inflow
from disposal of the old equipment
B) cash outflow to purchase new equipment, depreciation on new equipment, and after-tax
cash inflow from disposal of the old equipment
C) cash outflow to purchase new equipment, cash outflow for working capital, and after-tax
cash inflow from disposal of the old equipment
D) cash outflow to purchase new equipment, cash outflow for working capital, and
depreciation on new equipment
Answer: C

Dynondo Incorporated planned to use materials of $12 per unit but actually used materials of
$13 per unit, and planned to make 1,500 units but actually made 1,800 units.

3) The flexible-budget variance for materials is ________.

A) $1,500 favorable
B) $1,800 unfavorable
C) $1,500 unfavorable
D) $1,800 favorable
Answer: B
Explanation: B) ($13 − $12) × 1,800 = $1,800 U

4) ________ categorizes costs related to customers into different cost pools on the basis of
either different classes of cost drivers or different degrees of difficulty in determining the
cause-and-effect (or benefits-received) relationships.
A) Customer-profitability analysis
B) Customer revenues
C) Customer cost hierarchy
D) Price discounting
Answer: C

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5) Life-cycle budgeting and life-cycle costing help highlight ________.
A) an increase in customer-service costs due to using inferior materials
B) high production costs caused by a complex design
C) large ordering costs due to the great number of component parts used
D) an increase in annual operating income resulting from the new product
Answer: D

6) Which of the following statements is true of the methods for allocating joint costs?
A) Under the cause-and-effect criterion, the physical-measure method is highly desirable.
B) Byproducts are never excluded from the denominator used in the physical-measure method.
C) The NRV method is never used when the selling prices of joint products vary frequently.
D) The sales value at splitoff method follows the benefits-received criterion of cost allocation.
Answer: D

7) Which of the following best describes a transfer price?

A) It is the price charged by an organization when it transfer goods to another organization in
lieu of services provided by it.
B) It is the price that is to be used while calculating revenue from sales to customers for tax
purposes.
C) It is the price that is charged by a department of an organization when it sells its goods to
its competitors.
D) It is the price one subunit charges for a product or service supplied to another subunit of the
same organization.
Answer: D

8) Springfield Corporation, whose tax rate is 30%, has two sources of funds: long-term debt
with a market value of $6,000,000 and an interest rate of 8%, and equity capital with a market
value of $15,000,000 and a cost of equity of 12%. What is Springfield's weighted average cost
of capital (WACC)?
A) 9.17%
B) 9.57%
C) 10.17%
D) 11.17%
Answer: C
Explanation: C) Weighted average cost of capital (WACC) = [($6,000,000 × (1 - 0.3) × (.08))
+ ($15,000,000 × .12)] / ($6,000,000 + $15,000,000) = 10.17%

9) Under economic-order-quantity decision model, it is assumed that ________.

A) the quantity ordered can vary at each reorder point
B) demand, ordering costs, and carrying costs are uncertain
C) the purchasing cost per unit is affected by the order quantity
D) no inventory stockouts occur
Answer: D

10) The reciprocal allocation method ________.

A) is the most widely used because of its simplicity
B) requires the ranking of support departments in the order that the allocation is to proceed
C) highlights the complete reciprocated costs of support departments and how these costs
differ from budgeted or actual costs of the departments
D) allocates support-department costs to other support departments and to operating
departments in a sequential manner that partially recognizes the mutual services provided
among all support departments
Answer: C

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Part II Questions
Question 1
Goldfarb's Book and Music Store has two service departments, Warehouse and Data Center.
Warehouse Department costs of $350,000 are allocated on the basis of budgeted warehouse-hours.
Data Center Department costs of $150,000 are allocated based on the number of computer log-on
hours. The costs of operating departments Music and Books are $250,000 and $300,000, respectively.
Data on budgeted warehouse-hours and number of computer log-on hours are as follows:

Production
Support Departments Departments
Warehouse Data Center
Music Books
Department Department
Budgeted costs $350,000 $150,000 $125,000 $150,000
Budgeted warehouse-hours NA 500 1,000 1,500
Number of computer hours 200 NA 800 1,000

1) Using the direct method, what amount of Warehouse Department costs will be allocated to
Department Books?
A) $140,000
B) $210,000
C) $150,000
D) $175,000
Answer: B
Explanation: B) Warehouse Department costs allocated to Department Books = 1,500 / (1,000 + 1,500) ×
$350,000 = $ 210,000

2) Using the direct method, what amount of Data Center Department costs will be allocated to
Department Music?
A) $150,000
B) $66,667
C) $83,333
D) $60,000
Answer: B
Explanation: B) Data Center Department costs allocated to Department Music = 800 / (800 + 1,000) ×
$150,000 = $66,667

3) Calculate total costs for music and books departments with reciprocal costs.

W = 350,000 + 200/(200+800+1000)*D
D = 150,000 + 500/(500+1000+1500)*W

W=371,186
D=211,864

Music department = 125,000 + 1000/3000*371,186 + 800/2000*211864 = 333,474

Book department = 150,000 + 1500/3000*371,186 +1000/2000*211,864 = 441,525

Question 2
a) Ethics for management accountant
Please briefly give examples of internal problems faced by management accountants.

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Answer
Padding expense accounts
Theft in the workplace
Inflating profits on financial reports
Violating a firm’s purchasing policies
Understating or postponing recognition of costs to achieve higher bonuses or make the
financial statements look better
Using company assets for personal use

The business professional should consider the following courses of action:

Step 1: Discuss the problem with an immediate supervisor (higher management levels should
be approached only when the supervisor is involved).

Step 2: Confidentially use an objective advisor, if needed, to help clarify the issues.

Step 3: Resign from the organization and submit an informative report to an appropriate
representative of the organization (after exhausting all levels of internal communication

Transfer price
Olive branch Company recently acquired an olive oil processing company that has an annual
capacity of 2,000,000 liters and that processed and sold 1,400,000 liters last year at a market
price of $4 per liter. The purpose of the acquisition was to furnish oil for the Cooking
Division. The Cooking Division needs 800,000 liters of oil per year. It has been purchasing oil
from suppliers at the market price. Production costs at capacity of the olive oil company, now
a division, are as follows:

Direct materials per liter $1.00

Direct processing labor 0.50
Variable processing overhead 0.24
Fixed processing overhead 0.40
Total $2.14

Management is trying to decide what transfer price to use for sales from the newly acquired
company to the Cooking Division. The manager of the Olive Oil Division argues that $4, the
market price, is appropriate. The manager of the Cooking Division argues that the cost of
$2.14 should be used, or perhaps a lower price, since fixed overhead cost should be
recomputed with the larger volume. Any output of the Olive Oil Division not sold to the
Cooking Division can be sold to outsiders for $4 per liter.

Required:
a. Compute the operating income for the Olive Oil Division using a transfer price of
$2.14.

b. What transfer price(s) do you recommend? Compute the operating income for the
Olive Oil Division using your recommendation.

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Answer:
a)
Sales:
External (1,200,000 × $4) $4,800,000
Internal (800,000 × $4) 3,200,000 $8,000,000
Cost of goods sold:
Variable (2,000,000 × $1.74) $3,480,000
Fixed (2,000,000 × $0.40) 800,000 4,280,000
Operating income $3,720,000

b)
Due to current demand in excess of the capacity, the Olive Oil Division should not be penalized by
having to sell inside. All sales equivalent to the current external demand of 1,400,000 liters should be at
the market price.

Current external demand 1,400,000

Current internal demand 800,000
Total demand 2,200,000
Capacity 2,000,000
Excess demand 200,000
Internal demand 800,000
Noncompetitive internal demand 600,000

Sales:
External (1,200,000 × $4) $4,800,000
Internal (200,000 × $4) 800,000
Internal (600,000 × $2.14) 1,284,000 $6,884,000

Cost of goods sold:

Variable (2,000,000 × $1.74) $3,480,000
Fixed (2,000,000 × $0.40) 800,000 4,280,000
Operating income $2,604,000

Question 3
Evergreen Company Limited (“E Ltd”) is engaged in the manufacture and sale of
paper, such as containerboard, in China. The operation is quite labour intensive.
Raw materials for manufacturing paper consist of pulp and recycled paper, and for E
Ltd, these account for 10% and 90% of the raw material cost respectively.

Peter Lee, E Ltd’s Chief Executive Officer, is planning to enter the pulp business.
This can be achieved either by building a new factory or acquiring a local pulp
company in China or Vietnam, depending on whether it is possible to get a licence
and meet the strict environmental rules in these countries. To assist Mr. Lee in
making a 5-year investment plan, his financial controller, Eagle Wong, provided him
with the financial data of the last four years and market statistics as follows:

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During a cocktail party, Mr. Lee told his business friends that he envisioned his
company becoming the second largest player in the market in the next five years and,
at the same time, to be regarded by the public as an environmentally responsible
corporation. His friends said that a Balanced Scorecard (BSC) system could help
him to realize his vision. Mr. Lee was puzzled by this idea. He thought that the
accounting system at his company currently provided enough information for control
and decision-making purposes and should be good enough to assist him to realise
the vision. He thought that investing in a BSC system would just be a doubling of
effort and a waste of money.

Required:
Assume that you are the financial manager of E Ltd, explain why a balanced scorecard is
useful and how it can designed.

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Question 4
Coldbrook Company has two sources of funds: long-term debt with a market and book value
of $15 million issued at an interest rate of 10%, and equity capital that has a market value of
$9 million (book value of $5 million). Coldbrook Company has profit centers in the following
locations with the following operating incomes, total assets, and current liabilities. The cost of
equity capital is 15%, while the tax rate is 30%.

Operating Income Assets Current Liabilities

Bish Bash
Falls $ 815,000 $ 3,750,000 $ 800,000
Brooksville $1,100,000 $ 5,000,000 $ 1,200,000
Stonybrook $2,450,000 $9,250,000 $3,180,000

What is the EVA for Bish Bash Falls, Brooksville and Stonybrook

Answer:
WACC = [(.10 × (1 - .30) × $15,000,000) + (0.15 × $9,000,000)]/$24,000,000 = 0.100
Bish Bash Falls ( ) = ($815,000 × (1 - .30)) - [0.100 × ($3,750,000 - $800,000)]
= $570,500 - $295,000 = $275,500

WACC = [(.10 × (1 - .30) × $15,000,000) + (0.15 × $9,000,000)]/$24,000,000 = 0.100

Brooksville ( ) = ($1,100,000 × (1 - .30)) - [0.100 × ($5,000,000 - $1,200,000)]
= $770,000 - $380,000 =$390,000

WACC = [(.10 × (1 - .30) × $15,000,000) + (0.15 × $9,000,000)]/$24,000,000 = 0.100

Stonybrook ( ) = ($2,450,000 × (1 - .30)) - [0.100 × ($9,250,000 - $3,180,000)]
= $1,715,000 - $607,000 =$1,108,000

Question 5

Grace Greeting Cards Incorporated is starting a new business venture and are in the process of evaluating its
product lines. Information for one new product, traditional parchment grade cards, is as follows:
• Sixteen times each year, a new card design will be put into production. Each new
design will require $600 in setup costs.
• The parchment grade card product line incurred $75,000 in development costs and
is expected to be produced over the next four years.
• Direct costs of producing the designs average $0.50 each.
• Indirect manufacturing costs are estimated at $50,000 per year.
• Customer service expenses average $0.10 per card.
• Current sales are expected to be 2,500 units of each card design. Each card sells for $3.50.
• Sales units equal production units each year.
Required:
a. What is the estimated life-cycle operating income for the first year?
b. What is the estimated life-cycle operating income per year for the years after the first year?
c. What is the total estimated life-cycle operating income?

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Answer:
a) Annual revenues (2,500 × $3.50 × 16) $140,000

Development costs $ 75,000

Setup costs ($600 × 16) 9,600
Direct manufacturing costs (2,500 × $0.50 × 16) 20,000
Indirect manufacturing costs 50,000
Customer service costs ($0.10 × 2,500 cards × 16) 4,000 158,600

Estimated life-cycle operating income (loss) for the first year $(18,600)

b) Annual revenues (2,500 × $3.50 × 16) $140,000

Setup costs ($600 × 16) $ 9,600

Direct manufacturing costs (2,500 × $0.50 × 16) 20,000
Indirect manufacturing costs 50,000
Customer service costs ($0.10 × 2,500 cards × 16) 4,000 83,600

Estimated life-cycle operating income (loss) for the first year $56,400

c) Estimated life-cycle operating income for all four years $150,600

(3 × $56,400 - $18,600)