Management Accounting & Applied Finance (1)

2019 (MAAF119)

Main exam
30 April 2019

Time allowed – Three hours

(plus 15 minutes reading time)

This open-book exam contains four (4) short-answer questions to a total of 80 marks

There is a present value table in the Appendix.

This paper contains 13 pages

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Chartered Accountants Program Management Accounting and Applied Finance

Question 1 (20 marks)

Note: All amounts are in Australian dollars. Ignore any goods and services tax (GST)
implications.

Background information
Active Sports is a retailer of sports footwear. The company is privately owned and operates
stores across Australia and New Zealand. All Active Sports shopfronts (stores) are rented.
The following information relates to Active Sports:
•• The company focuses on a specialist area of the footwear industry – that is, sports and
athletic footwear. Prior to 2015, Active Sports was one of the market leaders across
Australasia in retail sports footwear.
•• Sixty per cent (60%) of Active Sports’ shopfronts are located in suburbs where foot traffic
has reduced over the last five (5) years.
•• Active Sports only operates shopfronts (no online customer orders).
•• Customers are asked to complete an electronic survey as they exit the store. The survey
consists of three short questions that rate customers’ experience in-store.

Footwear retailers typically purchase a variety of footwear from wholesalers and manufacturers
to on-sell to consumers. Most footwear retailers sell their products from one or more shopfronts,
but some also sell their products online.
You are the business advisor for Active Sports. You have gathered the following key statistics
and information about the footwear retailing industry for the period of 31 December 2016 to
31 December 2018.
•• Online retail sales (from both online-only retailers and shopfronts that also offer online
options) have significantly increased.
•• Strong competition from department stores has forced most footwear retailers to reduce
prices. Department stores have extensively increased their footwear product range over the
past three (3) years.
•• Sports and athletic footwear trends are reflected in the industry-wide footwear trends.
•• Online-only retailers continue to expand their operations and have taken market share away
from shopfront retailers.
•• Consumers, particularly from the younger age group, have become more comfortable with
purchasing footwear products online.
•• Purchase (product) costs have declined over the past three years as footwear retailers have
increasingly sourced products directly from cheaper overseas manufacturers.

The chief executive officer (CEO) of Active Sports recently outlined to you the key success
factors for Active Sports, which included:
•• Ability to control stock on hand.
•• Location of stores – areas with high consumer traffic.
•• Staff numbers in stores – over the past three years, staff numbers in stores have increased to
support the required personalised service.

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Chartered Accountants Program Management Accounting and Applied Finance

Question 1 (cont.)

Part A (11 marks)

Your supervisor, the chief financial officer (CFO) of Active Sports, provided you with the draft
dashboard (refer Table 1) of Active Sports’ results and industry information.

Required
(a) Analyse the results from the draft dashboard of Active Sports. (7 marks)
(b) Determine and justify two (2) additional items that should be included in (4 marks)
the dashboard to support the usefulness of dashboard reporting for the CEO
and CFO.
11 marks

Part B (9 marks)
The annual budget preparation was initially delayed for the period 1 January 2019 – 31 December
2019. A draft budget (refer Table 2) has now been prepared for the CFO. The CFO has asked you
to review the draft. Your notes from a recent budget meeting identified the following points,
consisting of industry and company-specific information:
•• The total retail footwear industry forecast for growth is 1%.
•• The industry has low barriers to entry for online competitors. The online sector of the
footwear market is expected to grow 10% for the budget year.
•• No change expected in foreign exchange rates.
•• Spending on employee training is a high priority. The company recognises that employees
need exceptional interpersonal skills to support a positive customer in-store experience.
•• Fifty per cent (50%) of Active Sports stores will have new rental agreements during 2019.
•• No new stores are budgeted in 2019 for Active Sports.
•• Active Sports to commence an online offering during 2019.

Required
(a) Analyse the draft budget for the year ended 31 December 2019. (7 marks)
(b) The CEO queried why an incremental budget process was not used.
Assess the appropriateness of applying an incremental budget methodology (2 marks)
for the budget for year ended 31 December 2019.
9 marks

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 Table 1: Draft dashboard
Item 31.12.2018 % of Revenue % change 31.12.2017 % of Revenue % change 31.12.2016 % of Revenue

Main exam
Actual from 2017 to Actual from 2016 to Actual  
2018 2017

Operating revenue $62,048,000 100.0 (3.54) $64,322,000 100.0 (3.33) $66,540,000 100.0

Cost of goods sold $29,783,000 48.0  6.46 $31,839,000  49.5    4.68 $33,403,000  50.2

Gross profit $32,265,000 52.0  (0.67) $32,483,000  50.5  (1.97) $33,137,000  49.8
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Operating expenses      
Question 1 (cont.)

Wages and training $13,890,000 22.4 (5.00) $13,229,000 20.6 (1.73) $13,004,000 19.5

Advertising and marketing $602,000 1.0 (193.66) $205,000 0.3 (1.49) $202,000 0.3

Other operating expenses $13,318,000 21.5 (4.24) $12,776,000 19.9 (1.08) $12,639,000 19.0

Total operating expenses $27,810,000 44.8  (6.10) $26,210,000  40.7  (1.41) $25,845,000  38.8

Profit before tax and  $4,455,000  7.2 (28.98) $6,273,000   9.8 (13.97) $7,292,000  11.0
interest

( ) = unfavourable

Retail footwear industry

demographics

People aged 15 to 34 33.6% 31.5% 30.0%

People aged 35 to 54 38.7% 39.8% 41.0%

People aged 55 and over 27.7% 28.7% 29.0%

100.0% 100.0% 100.0%

Retail footwear industry $3,436,000,000 $3,442,000,000 $3,280,000,000  

revenue

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Management Accounting and Applied Finance
Chartered Accountants Program Management Accounting and Applied Finance

Question 1 (cont.)
Table 2: Draft budget
Item 31.12.2019 % of revenue % change 31.12.2018 % of revenue

Budget from 2018 to Actual

2019

$’000   $‘000

Operating revenue 66,098 100.0 6.53 62,048 100.0

– Stores 63,454 96.0 2.27 62,048 100.0

– Online 2,644 4.0 NA – 0.0

Cost of goods sold 31,066 47.0 (4.31) 29,783 48.0

Gross profit 35,032 53.0  8.58 32,265 52.0

Operating expenses  

Rent (stores and 8,840 13.4 0.00 8,840 14.2

warehouses)

Wages and training 13,050 19.7 6.05 13,890 22.4

Advertising and 602 0.9 0.00 602 1.0

marketing

Website 498 0.8 0.00 498 0.8

Other 3,961 6.0 0.48 3,980 6.4

Total operating 26,951 40.8  3.09 27,810 44.8

expenses

Profit before tax and  8,081 12.2 81.39  4,455  7.2

interest

( ) = unfavourable

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Chartered Accountants Program Management Accounting and Applied Finance

Question 2 (20 marks)

Note: Ignore any goods and services tax (GST) implications.

Background information
Kelly’s Olive Oil (KOO) is a food import business which has been operating for 20 years.
During its peak, KOO imported a wide range of food items. Inventory is purchased from
overseas. Terms of trade across all purchases are currently 44 days.
The business has since shifted its focus to health food products, which have become popular to
consumers due to their benefits to human health. Of all the health food products it carries, olive
oil has been one of KOO’s leading products. Inventory days are 58 days.
KOO has three customer categories – supermarket chains, catering and restaurants (which
includes cafes). Some of the olive oil products are purchased in bulk consignments (i.e. 20-litre
oil products which are repackaged into 2-litre containers). This is only sold to catering and
restaurant customers. Each supermarket chain has a central warehouse for receiving all of their
deliveries. The terms of credit varies, but debtors are currently 36 days.
The olive oil market has been booming over the last two years. However, industry forecasts
warn of rising competition and a slowing market as more olive oil substitutes become available
to consumers.
You are the business advisor for KOO, reporting directly to Kelly, KOO’s chief executive officer
(CEO). Kelly wants to review the forecast profitability of the three customer categories. You
have collected the following information:

Customer profitability information

Supermarket Catering Restaurants Total
chains

Sales $17,100,000 $4,200,000 $4,900,000 $26,200,000

Gross profit $7,250,000 $1,900,000 $2,400,000 $11,550,000

Common selling, general and $4,200,000

administration (SG&A) costs

Other SG&A costs:

Repackaging N/A 40% 60% $1,200,000

Delivery trips quantity 156 382 1,142 1,680

Delivery trips $2,385,600

Order processing quantity 710 590 3,100 4,400

Order processing $316,800

Number of customers 3 15 72 90

Ten per cent (10%) of the common SG&A costs are to be allocated to the customer groups on the
proportion 55% to Supermarkets, 25% to Catering and 20% to Restaurants (an estimate based on
time factors). The remaining 90% of the common SG&A have no cost driver.

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Chartered Accountants Program Management Accounting and Applied Finance

Question 2 (cont.)

Part A (12 marks)

Required
(a) Calculate the customer profitability of each of the three (3) customer (7 marks)
categories using customer profitability analysis (based on the ABC principles).
Show all workings.
(b) Outline two (2) key drivers of profitability from the overhead costs for the (2 marks)
highest profitability customer group from your calculations in (a).
(c) The CEO had earlier made the comment: ’If any customer categories are
showing a loss position, we must stop dealing with that category. This will
improve our profitability and ensure a sustainable future’.
Evaluate this comment (ignore your calculations completed for (a) above). (3 marks)
12 marks

Part B (4 marks)
Kelly has advised you of a significant marketing campaign that is about to happen. She wants
you to assist her to understand its impact on working capital. If successful the campaign will
result in the following:
•• A 10% increase in sales volume. Higher safety stock levels will be required as the CEO
considers the increase could be greater than 10% and does not want any ’lost sales’.
•• A large new customer, who will be granted credit terms of 60 days.
•• An increase in the range of inventory items, all sourced from a new overseas supplier, with
a requirement for KOO to make payment upon confirmation of order.

KOO’s net working capital days are 50 days.

Required
Explain the impact for KOO of a successful marketing campaign on each
component of working capital in days, including the net working capital days.
4 marks

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Question 2 (cont.)

Part C (4 marks)
A local packaging company has approached Kelly with a proposal to do the repackaging of
KOO’s 20 litre products. They have come to Kelly because they have spare capacity as they have
recently lost a client due to a product recall dispute. The price from the packaging company is
favourable when compared to the costs incurred by KOO for repacking the products.

Required
Discuss four (4) relevant issues (financial and non-financial) that need to be
considered by KOO from the local packaging company’s proposal above.
4 marks

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Question 3 (20 marks)

You are a Chartered Accountant working in the consulting division of a public practice. Nick
Group (NG) is one of your firm’s clients.

Background information – Nick Group

Nick Group is a prominent grower and wholesaler of non-organic fruit and vegetables in
Australia. The wholesale side of the business distributes all the produce that NG grows, as well
as produce grown by other growers.

Profitability
NG’s main customers (making up 96% of its revenue) are four large nationwide supermarkets.
These customers have been placing increasing pressure on NG to reduce its prices.
Recently, the supermarkets have started to bypass NG’s wholesale operations by purchasing
directly from other growers, putting downward pressure on NG’s prices. This, together with
increases in freight costs, have depressed NG’s profit margins.

Water
Prices for some farm inputs, such as irrigation water, have increased over the past five years.
The availability of water has been a major industry concern (i.e. both the supply and cost
factors) for the last five years. The chief executive officer of NG has recently admitted in a public
forum that NG has made little progress in developing water recycling initiatives.

Wastage factor
All growers of fruit and vegetables have a standard wastage factor, that is, the proportion of
produce that does not meet the required standard. Currently NG has an eight per cent (8%)
average wastage factor across all produce.

Industry growth
The fruit and vegetable growing and wholesale industries have benefitted from increases in
household disposable income, which has contributed to the growth in sales of higher value fruit
and vegetables, such as organic produce.
Free trade agreements with China, South Korea and Japan are anticipated to contribute to the
industry’s revenue growth, particularly for produce such as mangoes, which often sell at a
premium in these markets.
As consumer preferences shift towards convenience and dining-out experiences, the number of
food service establishments such as cafes, restaurants and fast food outlets typically increases.
A greater number of these food service establishments tend to boost demand for wholesale fruit
and vegetables.

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Question 3 (cont.)
Goals
NG’s goals for the current year include:
•• Achieving greater yield and better quality of produce for each hectare farmed.
•• Using fewer inputs and reducing environmental impact.

To achieve these goals, NG will:

•• Use only carefully selected crop nutritional elements (fertiliser) to enhance crop growth
and, where practical, use organic and biological crop nutritional inputs.
•• Eliminate or reduce the migration of applied pesticides (which are sprayed on the crops)
beyond farm boundaries.
•• Increase its use of nutrients that are derived from alternative products such as organic
manures and plants residues. Currently, the fertilisers that NG uses are non-organic
products.
•• Reduce water inputs (through efficient water use) and ensure the availability of water, with
a particular focus on water recycling.

The chief executive (CE) of NG has requested your input.

Required
(a) Develop and justify four (4) non-financial KPIs that will enable NG to measure (8 marks)
whether it has achieved its goals.
(b) Describe six (6) weaknesses or threats that NG faces. (6 marks)
(c) (i) Identify one (1) strategy that NG is currently pursuing (based on Porter’s (6 marks)
generic strategies). Justify your response.
(ii) Advise NG's chief executive officer of two (2) different generic strategy
options (from Porter’s generic strategies) that NG could pursue.
(iii) Justify your advice for each of these two (2) options.
20 marks

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Question 4 (20 marks)

Background
You are a Chartered Accountant. One of your clients, Anastasia, is a physiotherapist as well as a
Pilates instructor. She noticed that many of the people she was working with had poor posture
caused by the use of mobile phones and laptops.
Recognising a need for posture correctors, Anastasia established a company called Anastasia’s
Posture Correctors (APCs) and developed a posture corrector in 2015. In 2016, APCs engaged
a factory in Hamilton, New Zealand to manufacture the posture correctors. Anastasia has
continually worked with the manufacturer to improve the design of the existing posture
corrector as well as create new designs.
Anastasia owns 100% of the equity of the company, which is comprised of 3,000 shares.
The shares have been valued recently by a Chartered Accountant at $3 million. The business
currently owes $5.7 million to SBA Bank. Of this amount, $2 million is due to be repaid in one
month, while the remaining balance is due to be repaid in two years’ time.
The following information relate to APCs:
•• Current equity beta is 1.6.
•• Risk-free rate is 1%.
•• Average return of all ordinary shares listed on the New Zealand Exchange (NZX) is 7%.
•• Weighted average cost of capital (WACC) is 7.62%.
•• Company tax rate is 28%.

Part A (10 marks)

SBA Bank is concerned with APCs’ high level of gearing and would like to see it reduced.
Anastasia’s cousin, Marie, has offered to repay $2 million of the bank debt in exchange for 2,000
new APCs shares to be issued to her. Should Marie's offer be accepted, the bank would reduce
the interest rate on APCs’ remaining debt from the current 8.4% to 8.2%.

Required
(a) Calculate APCs’ cost of equity before and after the proposed capital (4 marks)
restructure, using the capital asset pricing model (CAPM).
(b) If Anastasia accepts Marie's offer, calculate APCs’ new weighted average cost (2 marks)
of capital (WACC).
(c) Explain why the restructure has caused the WACC to change. (2 marks)
(d) Advise Anastasia whether Marie's offer should be accepted. Justify your (2 marks)
advice.
10 marks

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Question 4 (cont.)

Part B (6 marks)
It is now one year after APCs’ restructure and Anastasia has asked you to value the business.
You gather the following information:
•• Free cash flow for the next financial year is forecast to be $603,820 and is forecast to grow at
5% p.a. for the following two (2) years.
•• After three (3) years, APCs’ cash flow is forecast to grow at 1.5% p.a.
•• APCs’ WACC is currently 6%.

Required
(a) Calculate the enterprise value of APCs using an income-based approach. (4 marks)
(b) Outline two (2) concerns that a purchaser might have if it were considering (2 marks)
purchasing Anastasia’s APC shareholding (these concerns should not include
the accuracy of the valuation).
6 marks

Part C (4 marks)
Part C is not related to Parts A and B
Anastasia’s father, Sam Jones, owns a petrol station that has a convenience store attached to it.
Sam has asked you to prepare an income-based valuation for the business as he is considering
selling it. Sam has engaged you, as you have the necessary business valuation expertise. Sam
will base the selling price of the business on the valuation. Sam believes that a buyer would
accept the valuation of the business as it has been undertaken by a Chartered Accountant.
The following events are relevant to the valuation:
1. Sam has offered to pay you 5% of the valuation amount.
2. Sam has informed you that there is a crack in the underground storage tank, which will
require $50,000 to repair. He asks you not to include this in the valuation as the damage is
not visible.
3. When doing the valuation you find out that similar businesses are gradually introducing
’pay-at-pump’ facilities. Recent research indicates that ‘pay-at-pump’ results in a drop in
revenue of between 10% and 15% for the convenience stores. While Sam accepts that you
need to take this into account when forecasting the income of the convenience store, he has
requested that you do not mention this in the valuation report.
4. A potential buyer has approached you and asked if there is anything that Sam might have
revealed to you about the business that is not reflected in the valuation.

Required
Outline how you would respond for each of the four (4) events above, ensuring
that you do not breach the International Code of Ethics for Professional
Accountants.
4 marks

End of exam paper

A present value table is on the next page

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 Table 2: Present value of $1

Page FT-2
Periods 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% 22% 24% 26% 28% 30% 32% 40% Periods
1 0.980 0.962 0.943 0.926 0.909 0.893 0.877 0.862 0.847 0.833 0.820 0.806 0.794 0.781 0.769 0.758 0.714 1
2 0.961 0.925 0.890 0.857 0.826 0.797 0.769 0.743 0.718 0.694 0.672 0.650 0.630 0.610 0.592 0.574 0.510 2

Main exam
3 0.942 0.889 0.840 0.794 0.751 0.712 0.675 0.641 0.609 0.579 0.551 0.524 0.500 0.477 0.455 0.435 0.364 3
4 0.924 0.855 0.792 0.735 0.683 0.636 0.592 0.552 0.516 0.482 0.451 0.423 0.397 0.373 0.350 0.329 0.260 4
5 0.906 0.822 0.747 0.681 0.621 0.567 0.519 0.476 0.437 0.402 0.370 0.341 0.315 0.291 0.269 0.250 0.186 5
6 0.888 0.790 0.705 0.630 0.564 0.507 0.456 0.410 0.370 0.335 0.303 0.275 0.250 0.227 0.207 0.189 0.133 6
7 0.871 0.760 0.665 0.583 0.513 0.452 0.400 0.354 0.314 0.279 0.249 0.222 0.198 0.178 0.159 0.143 0.095 7
8 0.853 0.731 0.627 0.540 0.467 0.404 0.351 0.305 0.266 0.233 0.204 0.179 0.157 0.139 0.123 0.108 0.068 8
9 0.837 0.703 0.592 0.500 0.424 0.361 0.308 0.263 0.225 0.194 0.167 0.144 0.125 0.108 0.094 0.082 0.048 9
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10 0.820 0.676 0.558 0.463 0.386 0.322 0.270 0.227 0.191 0.162 0.137 0.116 0.099 0.085 0.073 0.062 0.035 10
11 0.804 0.650 0.527 0.429 0.350 0.287 0.237 0.195 0.162 0.135 0.112 0.094 0.079 0.066 0.056 0.047 0.025 11
Present value table

12 0.788 0.625 0.497 0.397 0.319 0.257 0.208 0.168 0.137 0.112 0.092 0.076 0.062 0.052 0.043 0.036 0.018 12
13 0.773 0.601 0.469 0.368 0.290 0.229 0.182 0.145 0.116 0.093 0.075 0.061 0.050 0.040 0.033 0.027 0.013 13
14 0.758 0.577 0.442 0.340 0.263 0.205 0.160 0.125 0.099 0.078 0.062 0.049 0.039 0.032 0.025 0.021 0.009 14
15 0.743 0.555 0.417 0.315 0.239 0.183 0.140 0.108 0.084 0.065 0.051 0.040 0.031 0.025 0.020 0.016 0.006 15
16 0.728 0.534 0.394 0.292 0.218 0.163 0.123 0.093 0.071 0.054 0.042 0.032 0.025 0.019 0.015 0.012 0.005 16
17 0.714 0.513 0.371 0.270 0.198 0.146 0.108 0.080 0.060 0.045 0.034 0.026 0.020 0.015 0.012 0.009 0.003 17
18 0.700 0.494 0.350 0.250 0.180 0.130 0.095 0.069 0.051 0.038 0.028 0.021 0.016 0.012 0.009 0.007 0.002 18
19 0.686 0.475 0.331 0.232 0.164 0.116 0.083 0.060 0.043 0.031 0.023 0.017 0.012 0.009 0.007 0.005 0.002 19
20 0.673 0.456 0.312 0.215 0.149 0.104 0.073 0.051 0.037 0.026 0.019 0.014 0.010 0.007 0.005 0.004 0.001 20
21 0.660 0.439 0.294 0.199 0.135 0.093 0.064 0.044 0.031 0.022 0.015 0.011 0.008 0.006 0.004 0.003 0.001 21
22 0.647 0.422 0.278 0.184 0.123 0.083 0.056 0.038 0.026 0.018 0.013 0.009 0.006 0.004 0.003 0.002 0.001 22
23 0.634 0.406 0.262 0.170 0.112 0.074 0.049 0.033 0.022 0.015 0.010 0.007 0.005 0.003 0.002 0.002 0.000 23
24 0.622 0.390 0.247 0.158 0.102 0.066 0.043 0.028 0.019 0.013 0.008 0.006 0.004 0.003 0.002 0.001 0.000 24
25 0.610 0.375 0.233 0.146 0.092 0.059 0.038 0.024 0.016 0.010 0.007 0.005 0.003 0.002 0.001 0.001 0.000 25
26 0.598 0.361 0.220 0.135 0.084 0.053 0.033 0.021 0.014 0.009 0.006 0.004 0.002 0.002 0.001 0.001 0.000 26
27 0.586 0.347 0.207 0.125 0.076 0.047 0.029 0.018 0.011 0.007 0.005 0.003 0.002 0.001 0.001 0.001 0.000 27
28 0.574 0.333 0.196 0.116 0.069 0.042 0.026 0.016 0.010 0.006 0.004 0.002 0.002 0.001 0.001 0.000 0.000 28
29 0.563 0.321 0.185 0.107 0.063 0.037 0.022 0.014 0.008 0.005 0.003 0.002 0.001 0.001 0.000 0.000 0.000 29
30 0.552 0.308 0.174 0.099 0.057 0.033 0.020 0.012 0.007 0.004 0.003 0.002 0.001 0.001 0.000 0.000 0.000 30
35 0.500 0.253 0.130 0.068 0.036 0.019 0.010 0.006 0.003 0.002 0.001 0.001 0.000 0.000 0.000 0.000 0.000 35
40 0.453 0.208 0.097 0.046 0.022 0.011 0.005 0.003 0.001 0.001 0.000 0.000 0.000 0.000 0.000 0.000 0.000 40
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Financial tables
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