Thursday, December 5, 2019
Analyzing The Profit Percentages In Proposal
Question: 1. Bonza Handtools Ltd. manufactures a popular power drill suitable for the home renovator. Financial and other data for this product for the last twelve months are as follows : Sales 20000 units Selling price $130 per unit Variable manufacturing cost $50 per unit Fixed manufacturing costs $400000 Variable selling and administrative cost $30 per unit Fixed selling and administrative costs $300000. The directors of Bonza Ltd. want to try to increase the profitability of this product and invited senior staff to suggest how this might be done. Three suggestions have been received. The accountant, Jan Rossi, believes that a price increase of $10 per unit is the best way to boost profits. She would spend an additional $125000 on national advertising and contends, that if this is done, sales volume would not drop appreciably from last year. The production manager, Tom Tune, thinks that an improved quality product could increase sales volume by 25% if accompanied by an advertising campaign costing $50000 aimed at tradespeople as well as home renovators. The improved quality would add $5 per unit to the variable cost. Mr Tune believes that the price should not be increased. The sales manager, Mary Watson, wants to undertake a promotion campaign where a $10 rebate is offered on all drills sold during the three months beginning 1 April. Normally 6000 units are sold during that period and Ms Watson believes that this could be boosted to 10000 units if an advertising campaign costing $40000 were launched late in March. You have been asked by the Bonza board to comment on each of these three proposals. Draft a report in response to this request. You are not asked to make an outright choice, but rather to analyse the potential strengths and weaknesses. The sales volumes forecast by each staff member should be treated as estimates only and your report should examine the effects of variations in actual sales from these forecasts. Give figures to support your comments and mention qualitative factors that may also be involved. 2.The Tassie Company estimates that next year it will manufacture and sell 150000 units of its product. On the basis of that level of activity, it has budgeted for the following costs and prices per unit: Direct Material Cost $2.50 Direct Labour Cost 3.00 Variable Factory Overhead 1.50 Fixed Factory Overhead 2.00 Manufacturing Cost 9.00 Variable Selling and Administrative Cost 2.00 Fixed Selling and Administrative Cost 1.50 Total Cost/p 12.50 20% Mark-up 2.50 Selling Price $15.00 The Company has an opportunity to bid for the supply of an additional 40000 units of its product to a government department. No sales commission (variable selling and admin. cost) is involved and no additional fixed costs will be incurred. Give a reasoned opinion on the level of the bid that should be made in each of the following two circumstances: (i) The capacity of the Tassie Company's factory is 200000 units per year. (ii) The capacity of the factory is only 180000 units per year. 3.Critically discuss the following statements: Word limit for Question 3 - 750 words a budget is a forecast of what is expected to happen in a business during the next year budgets are okay but they stifle all initiative. No manager would work for a business that applies control through budgets. any sensible person would start with the sales budget and build up the other budgets from there. a budget trying to be realistic will not motivate best performance. only adverse variances are worth investigating, because favourable variances, by definition, must be good. 4. ABC Ltd makes trailers. It receives a special order to produce 350 trailers for a local retail outlet. The order will take 2,100 kg of material that costs $16.10 per kg and will require 1,400 direct labour hours and 525 machine hours. The following are the expected/budgeted annual costs for ABC Ltd: Direct labour $327,600 Direct labour hours 25,795 Direct materials $193,200 Indirect costs $98,400 Machine hours 9,840 Required: Calculate the overhead allocation rate: note that the process is labour-intensive Calculate the total costs of the special order Calculate the cost of the special order if ABC Ltd uses machine time as the basis for allocating overheads Calculate the minimum price per trailer that ABC Ltd could accept. Explain how segmented overhead cost pools and activity based costing can assist accurate costing for pricing purpose (200 words) 5. Write around 500 words explaining how segmenting the overheads can help in allocating overhead costs to individual jobs or services. You must support your discussion by real world examples and acknowledge the source of your information (referencing). Answer: (1)Proposal 1 Particulars Amount ($) New sales price 140 per unit Total sales 2800000 Old sales Price 130 per unit Total sales 2600000 Profit on old sales price Total sales 2600000 Variable manufacturing cost 1000000 Fixed manufacturing cost 400000 Variable selling and administrative cost 600000 Fixed selling and administrative costs 300000 Total expenses 2300000 profit 300000 Profit % 11.53% Profit on new sales price Total sales 2800000 Variable manufacturing cost 1000000 Fixed manufacturing cost 400000 Variable selling and administrative cost 600000 Fixed selling and administrative costs 300000 Additional advertising expenses 125000 Total expenses 2425000 Profit 375000 Profit % 13.39 Proposal 2 Particulars amount ($) Total sales 2600000 Variable manufacturing cost 1100000 Fixed manufacturing cost 400000 Variable selling and administrative cost 700000 Fixed selling and administrative costs 300000 Advertising campaign 50000 Total expenses 2550000 profit 50000 Profit % 1.923077 Proposal 3 Particulars 3 month period 9 month period Sales (units) 10000 14000 Selling price per unit 120 130 Revenue 1200000 1820000 Variable manufacturing cost 50 50 Total variable manufacturing cost 500000 700000 Fixed manufacturing cost 400000 400000 Variable selling and administrative costs per unit 30 30 Total variable selling and administrative cost 300000 420000 Fixed selling and administrative costs 300000 300000 Profit 400000 Analysis On analyzing the profit percentages in proposal 1 it is seen that on increasing the selling price the company is able to incur 13% profit which more compared to the old selling price. However the expenses of the company are also increasing by 5% due to the additional advertising expenses of 125000. The second proposal however shows a decrease in the profit percentage by10% due to inclusion of advertising campaign expenses by 50000. Hence it is not an advisable option. In case of the third proposal no calculation can be shown because the sales manager makes a budgeted forecast of the sales units to increase by 400units if an advertising campaign is introduced. The adoption of all the three scenarios is possible in this case. The third scenario also focuses on the companys ability to increase the profit by 33% and the company can make sales for the reminder 9months. The suggestion regarding the promotional camping is beneficial for the company although the company will have to make hig h advertising expenses however the correct media exposure will be beneficial. 2. Particulars amount amount Sales units 150000 Selling price / unit 15 Total sales 2250000 Total cost per unit 12.5 Total cost 1875000 Profit 375000 Scenario 1: Particulars Amount Amount Sales units 150000 40000 Selling price / unit 15 15 Total sales 2250000 600000 Total cost per unit 12.5 10.5 Total cost 1875000 420000 Profit 555000 Scenario 2: Particulars Amount Amount Sales units 150000 30000 Selling price / unit 15 15 Total sales 2250000 450000 Total cost per unit 12.5 10.5 Total cost 1875000 315000 Profit 510000 As per both the scenarios it is seen that Tassie Company is able to increase the profit in the first scenario however according to the second scenario the rate of increment of profit is lower than the first scenario. 3. 1. A budget is a forecast of what is expected to happen in a business during the next year The budgets are the financial forecast of the business firms and the mangers in preparation of the budget develops future cash flows, balance sheet and income statement. This helps the companies to forecast and present the amount of assets, liabilities and cash flow the company is expecting to have in the coming 3 to 5years. Tsai (2010) opined that development of good financial budget helps in controlling of cash and make a financial position for the company. Moreover a budget is a plan that generates a vision for the company to achieve the forecasted financial position. 2. Budgets are okay but they stifle all initiative. No manager would work for a business that applies control through budgets The budgets are seen to provide the managers with indications as to the scopes of improvements and motivate them to make their performance better. Howver the managers are required to work and structure their objectives according to the forecasted budgeted figures. Hence Droms and Wright (2010) opined that the managers would not have any scope of showcasing any innovativeness within the business decisions if the works of the company are completely controlled by budgets. 3. Any sensible person would start with the sales budget and build up the other budgets from there According to Kuppapally (2010), the major limiting factor in every business is the sales or the revenue rates. Hence mangers should prepare the sales budget first. The right forecast of the sales budget will make the achievement of the other budgets easily. If the limiting budget factor that is the sales budget can be prepared then the other budgets can be created consistent with the sales budget. 4. A budget trying to be realistic will not motivate best performance The managers aims at establishing realistic budgets which will show the stringent business policies and cost reduction methods that should be incorporated in order to make the budget realistic. However these types of budget dose not encourage or provide motivation for performance because the stringent policies and the low sale rate will de motivate the performance level of the employees. 5. Only adverse variances are worth investigating, because favorable variances, by definition, must be good The favorable variance is the excess amount that the company receives as a surplus over the budgeted amount. Hence when a company incurs favorable variance the investigation is not required. However for a favorable variance over a certain minimum level should be investigated to judge the flexibility of the budget (Tsai, 2010). 4 Case 1: Overhead allocation rate Particulars rate Labor hour rate 12.70014 Material cost 33810 Labor cost 17780.19 Indirect cost 98400 Other cost 6667.5 Overhead allocation rate 5.53 Case 2: Total cost of Special order Particulars Amount Material cost 33810 Labor cost 17780.19 Other cost 6667.5 Total cost 58257.69 Case 3: Total cost with machine hours Particulars Amount Material cost 33810 Labor cost 14000 other cost 5250 total cost 53060 Case 4: Minimum price per trailer Particulars Amount Total cost 58257.69 Total unit 350 Minimum Price per trailer 166.4505429 Case 5: Segmented overhead cost pools The segmentation of the overhead cost pools helps the managers to analyze the total overhead cost and also the source of the cost. In case of ABC analysis the cost pool method is essential for identifying the cost drivers of the indirect and direct material costs. Hence the segmentation of the costs using the cost pool method will help the companies to realize in which segment is the company incurring the higher amounts of cost an d what measures should be taken by the company to reduce the costs in order to make the profit and cash flow high (Kuppapally, 2010). 5. According to Coleman et al. (2010) allocation of overhead costs is important mainly for the firms having more than one product or activity or more than one operating department. The overhead cost allocation allows the manger to calculate the profitability of a product line separately and also determine the economic impacts of the various alternative policies and business plans. Moreover the allocation of overhead also helps the managers to charge the overheads specifically to the areas for which the costs are incurred. The concept of allocating overhead costs to the different departments is known as the departmentalization. For instance in an office the overhead costs are distributed according to the following departments namely service departments, purchasing department, shipping department, receiving department, personnel department and security department. Droms and Wright (2010) opined that different parameters are used for the allocation of the individual overheads. Indirect expense category Basis of distribution Rent Square feet Automotive Managers decision Land insurance Square feet and area Utilities and Machineries Horsepower per hours Managers salary Sales margin, number of employees Water and electricity charges Estimates usage Three different kinds of methods namely direct method, sequential method and reciprocal method may be used for the allocation of the overhead to the different departments. Andriani et al. (2010) opined that the Activity based costing (ABC) costing is used by the majority of the companies to allocate costs by using several cost pools organized according to the same type of activity. The following example shows the overhead cost allocation as per ABC costing. Problem: Particulars Amount ($) Total estimated overhead costs 8,000,000 Major types of departments Purchasing materials Setting up machines Running machines Assembling products Inspecting finished products Cost driver for each activity Purchasing materials Setting up machines Running machines Assembling products Inspecting finished products 10,000 requisitions 2000 setups 90,000hours 250,000 hours 20,000 hours Solution: Activity Cost driver Estimated costs (A) ($) Estimated cost driver activity (B) Predetermined overhead rate (A / B) Purchasing materials Purchase requisitions 1,200,000 10,000 $ 120 per requisition Setting up machines Machine setups 1,600,000 2,000 800 per set up Running machines Machine hours 2,700,000 90,000 30 per machine hour Assembling products Direct labor hours 1,500,000 2,50,000 6 per direct labor hour Inspecting finished products Inspection hours 1,000,000 20,000 50 per inspection hour Reference list Books Droms, W. and Wright, J. (2010).Finance and accounting for nonfinancial managers. New York: Basic Books. Kuppapally, J. (2010).Accounting for managers. India: PHI Learning Journals Andriani, Y., Kober, R. and Ng, J. (2010). Decision Usefulness of Cash and Accrual Information: Public Sector Managers Perceptions.Australian Accounting Review, 20(2), pp.144-153. Coleman, L., Maheswaran, K. and Pinder, S. (2010). Narratives in managers corporate finance decisions.Accounting Finance, 50(3), pp.605-633.. Tsai, H. (2010). Accounting essentials for hospitality managers.Current Issues in Tourism, 13(1), pp.93-95.