ACCA - P5 Study text - Emile Woolf INT - 2010
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Practice questions
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49 Total quality
(a) List the key aspects of Total Quality Management (TQM).
(b)
What are quality-related costs? What is the TQM approach to quality-related
costs, and how does this differ from the more traditional approach to these
costs?
(c)
List the key aspects of just-in-time (JIT) management
(d)
Briefly explain the nature of activity based management (ABM).
50 Poole Company
Poole Company makes and sells a single product. The existing product
specifications are as follows:
Material X
8 square metres at $4 per square metre
Machine time 0.6 running hours
Other machine costs $40/hour
Selling price $100
Poole Company needs to fulfil orders for 5,000 units per period. There will be no
change in inventory level during the period.
The following Information is available about performance before the introduction of
a TQM programme:
(1) 5% of incoming material from suppliers is scrapped due to poor receipt and
storage.
(2) 4% of material input to the machine process is wasted in process.
(3) Inspection and storage of material cost $0.10 per metre.
(4) Inspection during the cycle costs $25,000 per period.
(5) Production is increased to allow for the downgrading of 12.5% of units at the
final inspection phase. Downgraded units are sold as ‘second quality’ units at
a discount of 30% of the final selling price.
(6) Production is increased to allow for returns from customers. These are
replaced free of charge. Returns are due to specification failure and account
for 5% of units initially delivered to customers. Replacement units incur a
delivery cost of $8 per unit. 80% of the returns from customers are rectified
using 0.2 hours of machine running time and are resold as ‘third quality’
products at a discount of 50% on the standard selling price. The remaining
returned units are sold as scrap for $5 per unit.
(7) Product liability claims are estimated at 3% of sales revenue from standard
product sales.
(8) Machine idle time is 20% of gross machine hours used.
(9) Sundry costs of administration, selling and distribution total $60,000 per
period.
(10) Poole Company is aware of these excess costs and currently spends $20,000
per period to prevent them from happening.
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Poole Company is planning a quality management programme that will increase its
cost prevention expenditure from $20,000 to $60,000 per period. The estimates of
performance levels after the TQM programme are as follows:
(1) A reduction in stores losses of material to 3%.
(2) A reduction in the downgrading of products inspected to 7.5%.
(3) A reduction in material losses in the process to 2.5% of input to the machine
process.
(4) A reduction in returns of products from customers to 2.5% delivered.
(5) A reduction in machine idle time to 12.5% of gross hours used.
(6) A reduction in product liability claims to 1% of sales revenue.
(7) A reduction in inspection checks by 40% of the existing figure.
(8) A reduction in sundry administration, selling and distribution costs by 10% of
the existing figure.
(9) A reduction in machine running time per unit of product to 0.5 hours.
Required
(a) Prepare summaries showing total units, purchases of material and gross
machine hours:
(i) before implementation of the TQM programme, and
(ii) after implementation of the TQM programme.
(b) Prepare income statements for the period both before and after
implementation of the TQM programme.
51 Target cost
A company has designed a new product that it would like to introduce to the
market. It has spent $250,000 on the design work so far. A market research report
has indicated that the product will have a life of four years, and at a selling price of
$35 per unit, annual sales would be as follows:
Year Sales
units
1 40,000
2 60,000
3 50,000
4 20,000
It has been estimated that to produce the new product, annual fixed production
costs (all cash flows) will increase by $200,000, and the variable cost per unit will be
$10.
Other cash flows for the project will be:
Capital expenditure of $1,400,000 at the beginning of the project. There will be a
residual value of $600,000 from this investment at the end of Year 4.
Practice questions
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An investment of $400,000 will be required in working capital. This will be
recovered at the end of Year 4.
Expenditure on advertising will be required, as follows:
Year Advertising costs
$
0 800,000
1 600,000
2 400,000
3 200,000
Required
(a) Calculate the expected NPV of the project to launch the new product, if the
company’s cost of capital is 12%.
(b)
Calculate the target cost for the product that is needed to achieve a return of 12%
on investment, and calculate the size of the current cost gap.
52 Cost and quality
Explain briefly how each of the following management accounting techniques can
be used to analyse the relationship between cost and quality:
(1) Total Quality Management (TQM)
(2) Activity Based Costing (ABC)
(3) Balanced scorecard
(4) Just in Time management (JIT)
(5) Value analysis
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Paper P5
Advanced performance management
Q&A
Answers
Contents
Page
ABC and other accounting methods
1 LardCompany 492
2 LCCompany 493
3 Throughput 494
4 Throughput ratio 496
5 Backflush 496
Accounting for decision making
6 Villaco 497
7 Shortages 498
8 ProductB22 500
Decision making with risk and uncertainty
9 Payofftable 50
10 GrabCompany 502
Quantitative techniques in budgeting
11 Learning 503
12 Greenears 504
13 Regression 505
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Discounted cash flow (DCF) and long-term
decisions
14 Replacementproduct 506
15 Probabilities 508
16 Sensitivity 509
17 TheJinCompany 510
Introduction to strategic management accounting
18 Growthobjective 512
19 Gapanalysis 513
Budgets and alternative budgeting models
20 Zerobasedbudgeting 515
Economic, fiscal and environmental factors.
Pricing strategy
21 Marginal 515
22 MC=MR 516
23 SnapCompany 517
24 Bridgecompany 518
Performance measurement systems
25 Responsibility 519
26 CrosstreetsHotel 520
Measuring performance
27 Threeservices 522
28 Privatemedicalpractice 524
29 Traintimes 525
30 Non‐financialperformance
measurements
525
31 Mission 526
32 Customerprofitability 527
33 RTC 528
34 Valueformoney 530
Answers
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Decentralisation and divisional performance
35 Decentralisation 531
36 WestDivision 532
37 Annuitymethod 533
38 Residual 533
39 Uncertain 535
Transfer pricing
40 Twodivisions 535
41 Trainingcompany 536
42 Shadowprice 538
43 Bricks 538
44 Internationaltransfers 540
45 LongandShort 541
Alternative views of performance measurement
46 Balanced 543
47 Pyramid 544
48 TheVetCentre 545
Developments in management accounting and
performance management
49 Totalquality 547
50 PooleCompany 549
51 Targetcost 550
52 Costandquality 551
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1 Lard Company
(a) (i) Budgeted cost: traditional absorption costing
It is assumed that the weighting of 1:2:3 applies to packaging materials,
but not to labour and overhead costs.
Packaging material
Output Material usage
Customer A 30,000 ×
1 = 30,000
Customer B 45,000 ×
2 = 90,000
Customer C 25,000 ×
3 = 75,000
Weighted units of material 195,000
Therefore, packaging material per weighted unit = $1,950,000/195,000 =
$10.
Labour and overheads
Total cost of labour and overheads (000s) = 350 + 30 + 500 + 60 = 940
Total units = (30,000 + 45,000 + 25,000) = 100,000.
Labour and overhead cost per unit = $940,000/100,000 = $9.40.
Budgeted average cost/unit
Customer A
Customer B Customer C
$
$ $
Material 10.0
20.0 30.0
Labour/overhead 9.4
9.4 9.4
Product cost/metre 19.4
29.4 39.4
(ii) Activity based costing analysis of labour and overhead costs
Receipts and
inspection
Storage
Packaging
$
$ $
Labour
Basic pay (20:10:70) 70,000
35,000 245,000
Overtime 15,000
6,250 8,750
Occupancy cost (20: 60: 20) 100,000
300,000 100,000
Administration cost (40: 10: 50) 24,000
6,000 30,000
209,000
347,250 383,750
Activity levels (cost drivers)
Customer Units
Receipts and
inspection
(hours)
Storage
(metres
2
)
Packa
g
in
g
(hours)
A 30,000
(× 6/60)
3,000
(× 0.3)
9,000
(× 36/60)
18,000
B 45,000
(
×
9/60)
6,750
(
×
0.3)
13,500
(× 45/60)
33,750
C 25,000
(
×
15/60
)
6,250
(
×
0.3)
7,500
(× 60/60)
25,000
16,000 30,000 76,750
Answers
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Customer Units
Receipts and
inspection
(hours)
Storage
(metres
2
)
Packa
g
in
g
(hours)
Cost $209,000 $347,250 383,750
Cost/unit of activity $13.0625
per hour
$11.575
per m
2
$5 per
hour
ABC-based costs
Customer A
Customer B Customer C
$
$ $
Material 10.00
20.00 30.00
Receipts ($13.0625/hour) 1.31
1.96 3.27
Storage ($11.575/m
2
) 3.47
3.47 3.47
Packing ($5/hour) 3.00
3.75 5.00
Product cost/unit 17.78
29.18 41.74
(b) Total costs per unit for Lard Company are not much different using activity
based costing than they are with traditional absorption costing. However,
ABC analysis allows management to look at the costs of overhead-related
activities. This may help them to control these costs, through better
management of these activities and the resources they use.
2 LC Company
(a)
Budgeted machine hours hours
Product V: 6,000 × 3
18,000
Product W: 4,000 × 4
16,000
Total budgeted machine hours 34,000
Budgeted production overheads $816,000
Absorption rate per machine hour $24
Product V Product W
$ $
Direct materials 20 60
Direct labour 50 40
Production overhead (3 hours/4 hours × $24)
72 96
Full production cost per unit 142 196
(b) Machine-related overhead costs:
Overhead cost per machine hour = $204,000/34,000 hours = $6 per machine
hour
Set-up related overhead costs:
Overhead cost per set-up = $280,000/(18 + 32) = $5,600 per set-up.
Purchasing-related overhead costs:
Cost per purchase order = $332,000/(48 + 112) = $2,075 per order.
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Overhead cost analysis Product V Product W
Total
cost
Cos
t/
unit
Total
cost
Cost
/
unit
Overheads: $
$
$ $
Machine-
related (18,000 × 6)
108,000
18.0
(16,000 × 6)
96,000 24.0
Set-up
related (18 × 5,600)
100,800
16.8
(32 × 5,600)
179,200 44.8
Purchasing-
related (48 × 2,075)
99,600
16.6
(112 × 2,075)
232,400 58.1
308,400
51.4
507,600 126.9
Unit costs V
W
$
$
Direct materials 20.0
60.0
Direct labour 50.0
40.0
Production overhead 51.4
126.9
Full production cost per unit 121.4
226.9
(c) ABC analysis could be used by LC Company to analyse the profitability of
Products V and W. Using ABC, the overhead cost per unit of W is much
higher than with traditional absorption costing, and the cost per unit of V is
less. This is because Product W has a relatively large amount of setup activity
and purchasing-related activity.
Management could look at the reasons why Product W needs so many setups
and purchase orders, and by trying to reduce the resources used up by these
activities, it might be possible to reduce the costs (and increase the
profitability) of Product W.
3 Throughput
(a) Marginal costing approach
Profit will be maximised by producing output to maximise the contribution
per machine hour (contribution per unit of limiting factor).
Product X Product Y
Contribution per unit $6 $7
Machine hours per unit 1.5 hours 2 hours
Contribution per machine hour $4 $3.50
Priority for manufacture 1
st
2
nd
Profit will be maximised by making and selling 8,000 units of Product X in
each period (maximum sales demand). This will require 12,00 machine hours.
The remaining 20,000 machine hours should be used to make and sell 10,000
units of Product Y.