2 STRATEGIC MANAGEMENT (ar @ ap! C M A ACCOUNTING (BAF-601) ‘SEMESTER-6 Pakistan EXTRA ATTEMPT EXAMINATIONS, MAY 2016 Tuesday, the 17th May 2016 Sara Reading Tine 18 Minutes akan Te ane Maximum Marks: 100 RoltNe (Attempt all questions (i) Write your Roll No. in the space provided above, (ii) Answers must be neat, relevant and brief. It is not necessary to maintain the sequence (iv) Use of non-programmable scientific calculators of any model i allowed (¥) Read the instructions printed inside the top cover of answer script CAREFULLY before attempting the paper. (vi) In marking the question paper, the examiners take into account clarity of exposition, logic of arguments, effective presentation, language and use of clear diagram/ chart, where appropriate (vi) DONOT write your Name, Reg. No. or Roll No., or any itrelevant information inside the answer script (vii) _ Question Paper must be returned to invigilator before leaving the examination hall. DURING EXTRA READING TIME, WRITING IS STRICTLY PROHIBITED IN THE ANSWER SCRIPT EXAMINEES ARE ADVISED TO MANAGE SOLUTIONS/ ANSWERS WITHIN PROPOSED TIME. Marks Question No. 1 Proposed Time: Min. 75| Total Marks : 40 Office Equipment Masters (OEM) has been operating successfully for many years. When it was originally formed in the early 2000s, the company’s main business consisted solely of manufacturing and selling of photostat machines. From late 2005 onwards, the OEM operations expanded and became more complex due to the acquisition of a competitor's business of manufacturing computer accessories, ie., printers, tonners, key boards and mouse otc. After this acquisition, the owner of OEM, Mr. Faras Hameed, changed the structure of the company, and formed two main independent divisions i.e., Division *A’, for manufacturing the photostat machines and Division “B" for manufacturing computer accessories. Division A: Division “A” manufactures three different models of photostat machine, including its plastic bodies. ‘The main parts and software of photostat machines are different for all three models, but the plastic body is the same for all models. The head of Sales and Marketing depariment has provided the following budgeted sales figures for the next five years: Years Budgeted Sales (Units) 2017 “42,000 2018 43,000 2019 51,000 2020 58,000 2021 61,000 The machine which is used to manufacture the plastic bodies must be replaced, because it has ‘completed its useful life and cannot be repaired. Management is considering the purchase of an automatic machine to replace the old machine. The new machine would be purchased at a price of Rs. 91,200,000. There will be a 3% discount if payment is made within 10 days. The company's policy is to avail all purchase discounts. The freight inward on machine would be Rs. 1,061,000, and installation costs would total Rs. 2,210,000, The machine would be purchased at the end of current year (2016) and placed into service on January 01, 2017. Estimated economical life of machine is 5 years, 25% initial depreciation allowance for tax purpose would be available in the first year, remaining costs would be depreciated ‘on reducing balance method @ 15%. This machine is expected to sell at the end of its economical life (2021) for Rs. 12,000,000. SMAEAE-May 2016 1016 PTOThe new machine would result in 28% cost reduction in direct labour as well as variable overhead. There will be an additional one-time permanent decrease in working capital requirements of Rs. 250,000, resulting from a reduction in direct material inventories. This working capital reduction would be recognized in the analysis at the time of machine acquisition. The old machine has completed its economical life and carry tax wiritten down value of Rs. 100,000 and it can be sold for a salvage amount of Rs. 200,000. The Production Manager of OEM suggested that the bodies of photostat machines can be purchased from an outside supplier instead of replacing the old machine. If the bodies of photostat machines are purchased, the old machine would be sold for Rs. 200,000 as already stated above. ‘One supplier has quoted a price of Rs. 2,700 per body of photostat machines. The current manufacturing cost of photostat machine bodies is as follows: Rupees Direct material ‘800 Direct labour 1,000 Variable overhead 600 Fixed overhead: ‘Supervision 200 Facilities 500 General 400 Total manufacturing cost per unit Division “A” employs a plant wise fixed overhead rate in its operations. If the bodies of machines are purchased from outside supplier, the salary and benefits of one supervisor of Rs. 2,400,000 per ‘annum which is included in the fixed overhead budget, would be eliminated. There would be no changes in the other cash and non-cash items, included in fixed overhead, except depreciation on the new machine. Office Equipment Masters is subject to 34% income tax bracket. Management ‘assume that all annual cash flows and tax payments occur at the end of the year and company uses a 14-percent after tax discount rate. Division B: Division “B" of OEM manufactures computer accessories. The divisional management is considering the purchase of an automated machine for manufacturing its newly introduced “Inkjet J26" Printer. The machine will start ts operations in early 2017. The Divisional Controller estimates that if the machine is purchased, one position will be eliminated, yielding a cost savings for wages and employees benefits. However, the machine would require additional supplies, and more power ‘would be required to operate the machine. The cost savings and additional costs, based on current year's (2016) prices are as follows: Rupees ‘Wages and employee benefits of one postion eliminated 168,000 Cost of additional supplies 9,000 Cost of additional power 13,000 The new machine will be purchased and installed at the end of 2016 at a net cost of Rs. 212,000. If the new machine is purchased, it would be depreciated for tax purposes on rates as mentioned above for Division “A”. This machine is expected to be sold at the end of ts economical life in 2020 for Rs. 80,000. The Division “B" compensates for inflation in capital expenditure analysis by adjusting the expected cash flows by an estimated price level index. The adjusted real after tax cash flows are then discounted using the real discount rate. The estimated year end index values for each of the nex! five years are as follows: Years 2016 2017 2018 2019 2020 2021 Year-end-Priceindex 1.00 108 1.17 126 136 147 ‘The company's after tax nominal discount rate is 14% and rate of inflation is expected to be 7% over the next four years. Corporate tax rate is expected to be the same as mentioned above. SWAEAE May 2016 2016 MarksRequired: (a) Calculate the net present value of the estimated after tax cash flows of Division ‘A’ and decide whether company should purchase bodies of photostat machines from an external supplier or purchase the new automatic machine to manufacture the photostat machine bodies. {b) Explain why some companies calculate the payback period of an investment in addition to determining the net present values. (Refer Division A) (c) Between what two consecutive whole number amounts is the discounted payback period (DPP) for the new machine? (Refer Division A), (d) Prepare a schedule showing the net after tax annual real cash flows for the automatic machine, under consideration by Division “B” (e)_ What discount rate should Division “B’ use in its discounted-cash-flow analysis? Question No. 2 Proposed Time: Min. 30| Total Marks : 16 Innovative Builders (IB) is the pioneer in the construction of light and heavy gauged steel structure {or buildings and sheds in Pakistan. The company is engaged in this business since 2011. IBS has received an enquiry from a big super market in Karachi, to build a heavy gauge steel structure shed of 300 tons for their customer's car parking. Mr. Adeeb, owner of the company has been asked to ‘submit a fixed price quotation for building work required by the super market. IB's Accountant has ‘compiled the following figures for preparing quotatior Direct materia Galvanized pre-painted steel (140 tons @ Rs. 120 per kg) 16,800 Prime quality steel (160 tons @ Rs. 100 per kg) 16,000 Other direct materials (nuts, bolts, washers, and self-driling screws) 1,500 Labour — Skilled (28,600 hours @ Rs. 200 per hour) 5,720 Labour — Un-skiled (20,000 hours @ Rs. 50 per hour) 1,000 Other costs: Scaffolding, excavator, crane and lifter rent Depreciation of general purpose machinery General overheads (28,600 hours @ Rs. 50 per hour) Feasibility reports (plans and drawing cost) Total cost Markup @ 20% Suggested price of the project Additional Informatior (The contract requires 140 tons of Galvanized pre-painted steel, 100 tons of Galvanized pre- painted steel is already in inventory and 40 tons will have to be purchased. This material is in regular use of the company and if this is not used in this project, company can easily use it in another project. The 100 tons in inventory were purchased earfier in the year at Rs. 120 per kg. The current replacement cost of this type of steel is Rs. 130 per kg, The contract requires 160 tons of Prime quality steel, 90 tons of this material is already in inventory and 70 tons will have to be purchased from the market, The 90 tons in inventory were, purchased earlier in the year at Rs. 100 per kg. The current replacement cost of this type of steel is Rs. 96 per kg. If the steel in inventory is not used on this job, company is confident that it will be able to use them in later years. (Note: 1 ton = 1,000 kgs) SMAEAE-May 2016 30f6 Marks 18 03 12 03 PTO)) Other materials will be purchased as required and the amounts shown above represent the purchase price, (ii) Mr. Adeeb will need to be on site while the manufacturing of shed work is in progress. He, therefore, intends to do 500 hours of the skilled work himself. The remaining skilled labor will be hired on hourly basis. The current cost of skilled workers is Rs. 200 per hour. if the company does not undertake the building work for this customer, Mr. Adeeb can either work as a skilled worker for another project at a rate of Rs. 200 per hour or spend 500 hours, urgently required to repair his own house. He has recently had a quotation of Rs. 125,000 for labor to repair his house. (iv) Mr, Adeeb employs 10 unskilled workers on contract guaranteeing them a 40 hours week at Rs. 50 per hour. These unskilled laborers would be idle for 12 weeks and can be diverted to the proposal under consideration. (¥) Scaffolding is the estimated cost of hiring scaffolding and other machinery. (vi) Mr. Adeeb estimates that the project will ake 25 weeks to complete. This represents 25 weeks’ straight line depreciation on the equipment used. If the equipment is not used on this job it will remain idle for the 25 week period. In either case, its value at the end of the 25 week period will be identical. (vil) General overheads represent the rental cost of Mr. Adeeb’s storage yard. if he does not undertake the above job he can rent out his yard at a rent of Rs. 80,000 per week for the 25 week period. (vill) Feasibility report cost is the cost of plans and designing that Mr. Adeeb has already drawn for the project, Required: Using relevant costing principles, calculate the minimum price that Mr. Adeeb could quote for the customer's shed work, by allowing 30% markup on cost. Question No. 3 Proposed Time: Min. 18| Total Marks : 08 Division “A of XYZ Ltd., a trading company, operating in Faisalabad Pakistan. Company currently has capital employed ‘of Rs. 1,200,000 and earns an annual profit (after depreciation) of Rs. 240,000. Finance Director of the company is considering an investment of Rs. 120,000 in an asset which will have a tvelve-year life with no residual value and will eam a constant annual profit after depreciation of Rs. 21,360. The company's cost of capital is 17%. Required: Caloulate the following: (a) The return on divisional investment before and after the new investment. {b) The divisional residual income before and after the new investment and its impact on cost of capital. Question No. 4 Proposed Time: Min. 30| Total Marks : 18 {a) Electromagnetic Ltd., is manufacturing and selling two electrical products: ‘Plug’ and ‘Pin’, at a selling price of Rs. 30 and Rs. 40 respectively. Due to tough competition in the market, margins are very low, therefore, management has decided to increase the margins by selling high volume of both products and achieving economies of scale in the fixed manufacturing cost. This would be possible by launching a cost reduction program and reducing the present annual fixed expenses of Rs. 855,000, allocated as Rs. 632,060 to ‘Plug’ and Rs. 222, 940 to ‘Pin’. The following sales strategy has been outlined for the coming year: ‘+ Budgeted sales for the year will be Rs. 2,700,000 in case of Plug’ and Rs. 1,870,000 in case of ‘Pin’ ‘+ The selling price of 'Plug’ and ‘Pin’ would be reduced by 10% and 15% respectively. SMAEAE-May 2016 40f6 Marks 16 03 05+ Break-even is planned at 70% of total sales of each product. * Profit for the year to be achieved is planned at Rs. 259,200 in case of ‘Plug’ and Rs. 93,500 in case of Pin’. Required: Calculate the following (i) Number of units to be sold of Plug’ and ‘ Units to be sold during the year. ) Product-wise reduction in fixed expenses as envisaged by the cost reduction program. in’ to break-even as well as the total number of, {b) Pan Crockery is expert in manufacturing crockery items. Pan Crockery makes and sells three products, A, B and C. The products are sold in the proportions i.e., A: B: C = 3:2:3. The organization's fixed costs are Rs. 130,000 per month. Other details of the products are as follows: Rs. per Unit Product Selling Price Variable Cost a 33 24 B 28 24 c 4 22 Required: The organization wishes to eam a profit of Rs. 108,000 next month. Calculate the required sales value of each product in order to achieve this target profit. Question No. § Proposed Time: Min. 30| Total Marks : 18 (a) Identify four practical limitations of linear programming? {b) ABC Company has two divisions, Division “A” and Division “B". Division “A” produces standardized rechargeable torch batteries which it sells to outside customers and transfers to Division “B” when needed. Division "B” produces rechargeable torches in different sizes and sells in the market, Division “A’ manufactures and sells torch batteries as per below details: ‘Capacity in units 70,000 Selling price to outside customers (Rs. per unit) 120 Variable cost (Rs. per unit) 65 Fixed cost (based on capacity) (Rs. per unit) 36 Division “B" can use the battery produced by Division “A” in its medium size torches. The Division “8” is currently purchasing 25,000 batteries per year from an extemal supplier at a cost of Rs. 116 per unit, The Divisional Managers have full control over the commercial policy of their respective Divisions. Required: (i) Calculate acceptable range of transfer price between the two divisions, if division "A" has excess production capacity (li) Suppose Division "A" is operating at its full capacity to satisfy the demand of its outside customers, determine the acceptable range of transfer price between the two divisions. SMAEAE-May 2016 50f6 Marks 04 06 08 03 04 PTOMarks (lil) Assume again that Division “A” is operating at its full capacity to satisfy the demand of extemal customers, however, in case of intemal transfer variable selling cost will be reduced by Rs. 7 per unit. Determine the acceptable range of transfer price belween the ‘two divisions, 4 (iv) Explain the potential benefits of operating a transfer pricing system within a divisionalized company. 03, THE END PRESENT VALUE FACTORS Year| 8% | 6% | 7% | 8% | 9% | 10% 11% | 12% | 13% | 14% | 15% | 16% | 17% | 18% | 49% | 20% 4 |0.952|0:943) 0935/0926 0917] 0.909) 0.901 0.893 0.885 | 0877) 0870/0862) 0.855 0.847 0.840 0833) (0.907 /0890) 0873| 0857 0842) 0.826| 0812/0797) 0783/0769) 0756) 0.743|0731 (0718 0.708 0604 (0.864| 0840) 0816 | 0784 0772|0.751/ 0731 |0712| 0663/0675) 0.858 | 0.641 | 0.624 0.608 | 0583 0576) (0.823 0782) 0763| 0735] 0708] 0.683) 0.659 |0.636| 0613/0592) 0572/0552 | 0534 0.516 0.490 0482) (0784/0747) 0713| 068i | 0850] 062%) 0.589 |0.567| 0543/0519) 0.497 0.476 [0456 0.437 0.419 0402) (0.746 [0,705) 0.666) 0.690 0.596| 0.564) 0.535 0.507] 0.480 | 0.456) 0.432| 0.410 0.390 0.370) 0.362 0335) (0711 [0.665] 0623/0563 0547] 0513) 0.482 |0.452| 0.425 | 0.400, 0.376 0.354/ 0.339 0.314| 0.206 0270) 0.77 0.627) 0.582] 0'540/ 0.502| 0.467) 0.434] 0.404| 0.376 | 0.351) 0327 0.305] 0.285 |0.266 | 0.240 |0.233) (0.846 0592) 0544| 0500 | 0.460|0.424| 0391 |0.361) 0333/0308) 0284) 0.263] 0-243 [0.225 | 0.208 0.194 ‘410 [0.844] 0558) 0508) 0.463] 0.472/ 0.386) 0.352 | 0.322) 0295] 0.270| 0.247 0.727 |0.208|0191/ 0.176|0.162 (CUMULATIVE PRESENT VALUE FACTORS Year| 8% | 6% | 7% | 8% | 9% | 40% | 11% | 12% | 13% | 414% | 45% | 16% | 17% | 18% | 49% | 20% 1 |0.952| 0943) 0935/0926) 0917| 0.909) 0.901 |0.893| 0885/0877) 0.870/0.862|0.855 0.847 0.840 0833) 1859) 1.833) 1808) 1783) 1.759|1.736) 1713) 1600) 1868) 1647) 1.826 1.605 1.885 1560/1547 1528 2.723 |2673) 2624] 2577 | 2531] 2487) 2.444|2.402| 2.364 | 2322) 2283) 2.246 | 2.010 2.174) 2.140 2.106) 3.546 [3.465] 3.387 | 3312/3240] 3.170) 3.102 |3037| 2974) 2.914 2856 2.798 | 2749 2.600) 2600 | 2580) 4328 | 4212) 4100| 3983) 3890) 379%) 3.696 5605] 3517/3435 3352) 3.274/3 199 3.127 | 3068/2991 5.076 | 4917) 4767| 4623) 4.486| 4356) 4.231 |4.111| 3.908 | 3.880) 3.784] 3.685 | 3.580 3.408] 3.410 3.326) 5.786 5582) 5389| 5.206 6033] 4868) 4712 |4564| 4423/4286) 4 160/ 4039/3922 3812/3706 | 3605) 6.463 |6 210) 5971| 5.747 6535] 5.336) 5.146 4968| 4709| 4630) 4.487) 4344/4207 4.078 | 3954/3837) 7.108 | 6802) 6516] 6.247 | 5995] 5.759|§ 537/628) 5.132] 4945 4772) 4607 4451 4303] 4163 | 4031 40 |7.722|7 360) 7.024) 6710| 6.4186 145| 5.889 5.650) 5 426] 5.716 5019) 4833) 46504434) 4339) 4.192 SMM-EAE-May 2016 60f6