ACCA F5 Performance Management - 2010 - Study text - Emile Woolf Publishing
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Answers
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The maximum price that the London centre would be willing to pay is £1,200,
which is the cost of using an external trainer.
It would be in the best interests of the company as a whole to use the
Liverpool trainers to work for Liverpool clients, earning a contribution of £900
per day, rather than use them in London to save net costs of £750 per day
(£1,200 – £200 – £250).
The transfer price should be set at £1,350 per trainer day. At this rate, the
London centre will use external trainers, and all the Liverpool trainers will be
used in Liverpool.
58 Shadow price
(a) The shadow price of the special chemical is the amount by which total
contribution would be reduced (or increased) if one unit less (or more) of the
chemical were available.
1 kilogram = 1,000 grams; therefore one kilogram of special chemical will
produce 100 tablets (1,000/10 grams per tablet).
Shadow price of the chemical $
Sales value of 100 tablets (× $10)
1,000
Further processing costs in B (× $2)
200
800
Variable cost of making the chemical in A 500
Shadow price per kilogram of chemical 300
(b) The special chemical does not have an intermediate market.
The ideal transfer price for A is therefore any price above the variable cost
of making the chemical, which is $500 per kilogram.
The ideal transfer price for B is anything below the net increase in
contribution from processing a kilogram of the chemical. This is $1,000 –
$200 = $800 per kilogram.
There is no single ideal price. Any price in the range above $500 and below
$800 should make the managers of both profit centres want to produce up
to the capacity in division A.
A transfer price in the middle of the range, say $650, might be agreed.
(c) The transfer price is needed to share the profit from selling the tablets between
divisions A and B. It is an internally negotiated price. Changing the price will
not affect the total profit for the company as a whole, provided that division A
produces the chemical up to its production capacity.
The transfer price itself should not be used as a basis for judging performance.
Having agreed a transfer price, key financial measures of performance will be
control over costs for division A and control over costs and the selling price
for tablets for division B.
(The divisions are profit centres, and so the performance of the divisional
managers should not be assessed on the basis of ROI or residual income.)
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59 Bricks
(a) Profit statements
(i) Operating at 80% capacity
Transfer price $200
Transfer price $180
Group
X
Group
Y
Total
Group
X
Group
Y
Total
Sales:
External 180
240
420
180 240 420
Transfers
120
-
0
108 - 0
Total 300
240
420
288 240 420
Costs
Transfers
-
(120)
0
- (108) 0
Variable (112)
(36)
(148)
(112) (36) (148)
Fixed (100)
(40)
(140)
(100) (40) (140)
Total (212)
(196)
(288)
(212) (184) (288)
Profit 88
44
132
76 56 132
(ii) Operating at 100% capacity
Transfer price $200
Transfer price $180
Group
X
Group
Y
Total
Group
X
Group
Y
Total
Sales:
External 180
320
500
180 320 500
Transfers 200
-
0
180 - 0
Total 380
320
500
360 320 500
Costs
Transfers -
(200)
0
- (180) 0
Variable (140)
(60)
(200)
(140) (60) (200)
Fixed (100)
(40)
(140)
(100) (40) (140)
Total (240)
(300)
(340)
(240) (280) (340)
Profit 140
20
160
120 40 160
Answers
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(b) The effect of a change in the transfer price from $200 to $180 will result in
lower profit for Group X and higher profit for Group Y, but the total profit for
the company as a whole will be unaffected.
A reduction in the transfer price to $180 (or possibly lower) is recommended,
because this is the price at which Group Y can buy the materials externally. At
any price above $180, Group Y will want to buy externally, and this would not
be in the interests of the company as a whole.
Significantly, at a transfer price of both $200 and $180, Division Y would suffer
a fall in its divisional profit if it reduced the selling price of bricks to $0.32 and
increased capacity by 400,000 bricks each month. A reduction in price would
be in the best interests of the company as a whole, because total profit would
rise from $132,000 per month to $160,000.
(c) Ignoring the transfer price, the effect on Division Y of reducing the sale price
of bricks to $0.32 would be to increase external sales by $80,000 and variable
costs in Division Y by $24,000 (400 tonnes × $60). Cash flows would therefore
improve by $56,000 per month. To persuade Division Y to take the extra 400
tonnes, the transfer price should not exceed $140 ($56,000/400). This is below
the current external market price, although there is strong price competition in
the market.
The transfer price for Division X should not be less than the variable cost of
production in Division X, which is $70 per tonne.
However, if the transfer price is reduced to $140 per tonne or less, Division X
might try to sell more materials in the external market, by reducing the selling
price.
It would appear that although the ideal transfer price might be $140 or below,
this will not be easily negotiated between the group managers. An imposed
settlement may be necessary. Intervention by head office might be needed to
impose a transfer price, and require Division Y to reduce its sales price to
$0.32.
Paper F5: Performance management
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Paper F5
Performancemanagement
i
Index
A
ABC
advantages 28
disadvantages 28
ABC-based variances 274
Abnormal gain 234
Absorption costing 12
Absorption rates 13
Accounting rate of return (ARR) 345
Acid test ratio 320
Activity based budgeting 170
Activity based costing (ABC) 12, 18
Additive model 210
Adverse variances 241
Attainable standards 231
Avoidable costs 118
B
Backflush accounting 45
Balanced scorecard approach 327
Bank overdraft balance 319
Bargaining process 181
Basic standards 231
Behavioural aspects of budgeting 179
Behavioural aspects of performance
reporting: reward systems 398
Behavioural aspects of standard costing 306
Behavioural problems with reward systems 401
Benchmarking 313, 391
Bottlenecks 55
Bottom-up budgeting 165
Budget bias 180
Budget manual 157
Budget process: stages 158
Budget slack 167, 180, 401
Budget: preparing 157
Budgetary control 240
Budgetary systems 164
Budgeted income statement 163
Budgeting 154
C
Capacity variance 257
Coefficient of determination r
2
204
Competitive benchmarking 313
Competitiveness 336
Competitors 396
Complementary products 110
Constraints 55, 69
Constraints on a graph 72
Continuous budget 166
Control reporting 228
Controllability 310
Controllable profit 343
Conversion costs 46
Correlation 200
Correlation coefficient 200, 203
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Cost drivers 20
Cost estimation 186
Cost gap 33
Cost leadership market strategy 110
Cost plus pricing 103
Cost pools 21
Cost variances 240
Cost/sales ratios 318
Cost-based pricing methods 102
Cost-benefit analysis for variance
investigation 279
Critical success factors or CSFs. 311
Cumulative average time per unit 215
Current ratio 320
Current standards 231
Customer perspective 327
Customer satisfaction 332
CVP analysis 17
Cycle time 333
D
Debt ratios 321
Decentralisation 342
Decentralisation of authority 342
Decision package 167
Decision-making: marginal costing 63
Delivery 333
Demand and supply 86
Demand curve 95
Demand equation 95
Depreciation: ROI 356
Deprival value 121
Differential cost 117
Differential pricing 111
Dimensions of performance 336
Direct labour budget 162
Direct labour cost variance 246
Direct labour efficiency variance 247
Direct labour rate variance 246
Direct materials price variance 243
Direct materials usage budget 161
Direct materials usage variance 244
Divisional autonomy 367
Divisional performance evaluation 342
Dual price 79
Dual pricing 380
E
Economy 389
Effectiveness 389
Efficiency 389
Efficiency variance 257
Elastic demand 92
Estimates based on judgement and
experience 213
Ex ante standard 289
Ex post standard 289
Expected values 138
Expected values (EVs) in budgeting 220
External considerations 394
External intermediate market 372, 374
F
Favourable variances 241
Feasible area (or feasible region) 74
Feedback 172
Feed-forward control 172
Financial performance indicators 311, 314
Financial perspective 328
Financial risk 320
Fitzgerald and Moon 335, 336, 385
Fixed budgets 174
Fixed overhead efficiency and capacity
variances 257
Fixed production overhead cost variances 254
Fixed production overhead expenditure
variance 255
Fixed production overhead volume variance 255
Flexed budgets 174
Flexibility 332, 336
FPIs for measuring financial risk 320
FPIs for measuring liquidity 318
FPIs for measuring profitability 315
Full cost plus pricing 102
Functional budgets 159
G
Gaming 399
Gearing ratio (leverage) 322
Goal congruence 154, 180
Index
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Goldratt: Theory of Constraints 56
Gross profit margin 317
H
High/low analysis 186
I
Ideal standards 231
Ideal transfer price 368
Idle time and standard costs 235
Idle time variance 248, 269
Imposed budgets 182
Imputed interest 351
Incentives 181
Incremental budgeting 166
Incremental cost 99, 117
Incremental revenue 99
Inelastic demand 92
Innovation 336
Innovation and learning perspective 328
Interdependence between variances 278
Interest cover ratio 322
Internal benchmarking 313
Internal perspective 327
Inventory in throughput accounting 53
Investigating variances 276
Iso-contribution lines 75
J
JIT environment 307
Joint product further processing decisions 133
Just-in-time (JIT) purchasing 45
Just-in-time JIT) production 45
Just-in-time production systems 45
K
Key performance indicators 324
Key performance indicators (KPIs) 311
Key risk indicators (KRIs) 311
L
Learning curve 214
formula 217
graph 216
variances 273
Life cycle costing 39
Limiting factor decisions 64, 68
Line of best fit 200
Linear programming 68
graphical solution 72
Linear regression analysis 195
forecasting 206
Liquidity 318
Liquidity ratios 319
Long-term performance 311
Lynch and Cross 332
M
Make-or-buy decisions 125
Marginal cost 97
Marginal cost plus pricing 105
Marginal costing 16
Marginal costing for decision-making 63
Marginal revenue 96
Market conditions 396
Market penetration 41
Market penetration prices 109
Market share variance 299
Market size variance 299
Market skimming 41
Market skimming prices 109
Market-based approaches to pricing 94
Mark-up pricing 105
Master budget 159
Materials mix 282
Materials mix variance 282
Materials wastage in standard costing 234
Materials yield variance 282
Maximax decision rule 149
Maximin decision rule 150
Measure fixation 398
Measuring performance 310
Medium-term performance 311
Minimax regret decision rule 150
Minimum pricing 111
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Misrepresentation 399
Monopoly pricing 87
Monte Carlo simulation modelling 142
Motivation 182
Moving averages 207
Multiple objectives 386
Myopia 398
N
Negative correlation 202
Negotiated transfer prices 381
Net profit margin 317
New product development 33
Non-financial performance indicators (NFPIs)
324
Normal loss and abnormal loss 233
Not-for-profit organisations 384
Notional interest 351
O
Objective function 68
One trigger point 49
Operating statement 263
Operational benchmarking 313
Operational variances 289, 290
Opportunity cost pricing 111
Opportunity costs 119
Ossification 399
Outsourcing 125
Overhead costs 21
Overhead variances 254
P
Participative budgets 182
Pay-off matrix 139
Pay-off table 139, 148
Percentage annual growth in sales 315
Perfect negative correlation 201
Perfect positive correlation 201
Performance and participation in
target-setting 401
Performance measurement in
service industries 335
Performance pyramid 332
Performance rewards 399
Periodic budget 165
Planning framework 154
Planning variance 290, 289
Political influence 388
Price discrimination 111
Price elasticity of demand 91
Price variance 243
Pricing decisions 86
Probabilities 138
Product differentiation 109
Product life cycle 40, 89
Product life cycle costing 39
Product lines 110
Production budget 161
Productivity 332
Profit (financial performance) 336
Profit margin 316
Profit table 148
Profit-maximisation, MR = MC 97
Profit-maximising model 94
Proportional model 212
Purchases budget 162
Q
Quality 325, 333, 336
Quantitative measures of efficiency 391
Quick ratio 320
R
Ratio analysis 314
Regression analysis 195
Regression analysis formulae 196
Relevant cost pricing 111
Relevant costing 116
Relevant costing applications 125
Relevant costs 63, 120
Relevant costs labour 122
Relevant costs materials 120
Relevant costs overheads 124
Residual income (RI) 351
Index
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Resource utilisation 336
Responsibility 310
Return on Investment (ROI) 345
Return on investment (ROI) pricing 106
Reward systems 400
Rewards for performance 339
Risk 136
Risk averse decision maker 137
Risk neutral decision maker 137
Risk preference 137
Risk-seeking decision maker 137
ROI: investment decisions 347
Rolling budget 166
S
Sales budget 161
Sales price variance 259
Sales variances 259
Sales volume variance 260
Sales volume variance in standard
marginal costing 265
Scarce resources 64
Scattergraphs 201
Seasonal variations 209
Sensitivity analysis 144
Service industries 335
Setting standards 231
Shadow prices 79
Short-term performance 311
Shutdown decisions 131
Simulation 142
Simultaneous equations 77
Single limiting factor 64
Slack 79, 84
Spreadsheet model 145, 159
Spreadsheets in budgeting 220
Stakeholders 387, 394
Standard costing 227
Standard costs 226, 240
Standard costs in a rapidly-changing
environment 308
Standard marginal costing 265
Standards of performance 338
Standards: reviewing 232
Statistical control charts 278
Sub-optimisation 180, 398
Sunk costs 118
T
Target costing 32, 41
Theory of Constraints 55
Throughput 52
Throughput accounting 51
Throughput accounting ratio 56
Throughput productivity 57
Time series analysis 205
Top-down budgeting 164
Total direct materials usage variance 282
Total fixed overhead cost variance 254
Total Quality Management (TQM) 307
Total variable cost variance 241
Total variable production overhead cost
variance 250
Traceable profit 343
Transfer price
full cost plus 379;
incremental cost plus 379
market price 378
variable cost plus 379
Transfer pricing 360
practice 378
Transfer pricing at cost plus 364
Transfer pricing at market price 365
Transfers at cost 361
Transfers: opportunity cost of 369
Trend line 206
Trigger points 47
Tunnel vision 398
Two trigger points 47
Two-part transfer prices 380
U
Uncertainty 136
Uncertainty in budgeting 220
Uncorrelated 202
Under- and over-absorption 14
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V
Value for money 389
Variable production overhead
efficiency variance 251
Variable production overhead
expenditure variance 250
Variances and controllability 228
Variances
idle time 269
learning curve 273
waste 268
Volume discounting 111
W
Waste 233, 333
Waste and variances 268
What if analysis 222
What if…? analysis 144
Y
Yield variances 282
Z
Zero based budgeting (ZBB) 167