Advanced Performance Mgmt. - SQB

ACCA
PAPER P5
ADVANCED PERFORMANCE MANAGEMENT
STUDY QUESTION BANK
For Examinations to June 2015
©2014 DeVry/Becker Educational Development Corp. All rights reserved. (i)
Ali ARAJ - sweatboy01@gmail.com

No responsibility for loss occasioned to any person acting or refraining from action as a result of any
material in this publication can be accepted by the author, editor or publisher.
This training material has been prepared and published by Becker Professional Development
International Limited:
16 Elmtree Road
Teddington
TW11 8ST
United Kingdom
Copyright ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

The trademarks used herein are owned by DeVry/Becker Educational Development Corp. or their
respective owners and may not be used without permission from the owner.
No part of this training material may be translated, reprinted or reproduced or utilised in any form either
in whole or in part or by any electronic, mechanical or other means, now known or hereafter invented,
including photocopying and recording, or in any information storage and retrieval system without
express written permission. Request for permission or further information should be addressed to the
Permissions Department, DeVry/Becker Educational Development Corp.
Acknowledgement
Past ACCA examination questions are the copyright of the Association of Chartered Certified
Accountants and have been reproduced by kind permission, with amendments where necessary to
accommodate changes in the syllabus.
(ii) ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

STUDY QUESTION BANK – ADVANCED PERFORMANCE MANAGEMENT (P5)
CONTENTS
Question Name Page Answer Marks Date worked
STRATEGIC PERFORMANCE MANAGEMENT
1 Antonio 1 1001 15
2 St Margaret’s Hospital 1 1002 20
3 INA Co (ACCA D03) 2 1003 20
PERFORMANCE MANAGEMENT AND CONTROL
4 ZBB – Four Statements 3 1005 15

5 Master Budget 3 1007 10
6 Usefulness of Budgeting 3 1009 15
7 Inherent Weakness (ACCA J05) 3 1010 20
BUSINESS STRUCTURE
8 2B Value Chain 4 1012 25
EFFECT OF INFORMATION TECHNOLOGY
9 Bank Operations (ACCA J96) 5 1014 8

10 CAET-IT 5 1014 20
OTHER ENVIRONMENTAL AND ETHICAL ISSUES
11 D Logging 7 1016 25
EXTERNAL INFLUENCES ON ORGANISATIONAL PERFORMANCE
12 News For You 8 1019 20

13 Monopoly 9 1021 9
14 Newco 9 1022 25
15 Healthfoods (ACCA J07) 10 1025 20
16 Equine Management Academy (ACCA J10) 11 1026 25
PERFORMANCE MEASUREMENT INFORMATION SYSTEMS
17 Management Information Systems 13 1028 20

18 Management Accounting System (ACCA J03) 13 1029 20
19 Polyside University 14 1032 13
INFORMATION RECORDING AND REPORTING
20 Rockingham Hospital 16 1035 17
PERFORMANCE HIERARCHY
21 TDM Co 17 1037 15
22 Squeeky Clean 18 1038 8
23 Bean Counters 19 1039 6
24 Mission Statements (ACCA D02) 19 1040 20
25 Motor Car Manufacturers (ACCA J03) 19 1041 11
26 Healthy Eating Group (ACCA D07) 21 1043 20
©2014 DeVry/Becker Educational Development Corp. All rights reserved. (iii)

ADVANCED PERFORMANCE MANAGEMENT (P5) – STUDY QUESTION BANK
STRATEGIC PERFORMANCE MEASURES IN PRIVATE SECTOR
27 Success Education Centre (ACCA PP D07) 22 1045 20

28 Taliesen (ACCA J05) 23 1047 20
DIVISIONAL PERFORMANCE EVALUATION
29 Divisional Assessment 25 1049 28

30 Babblings (89) Co 26 1052 20
31 Meldo Division & Kitbull 27 1057 20
32 Toutplut 28 1059 20
TRANSFER PRICING
33 Black and Brown 29 1061 22

34 RJ Business Consulting (ACCA D04) 31 1063 15
NOT FOR PROFIT ORGANISATIONS
35 Focus 31 1064 15
36 Housing Department (ACCA J10) 32 1065 20
NON FINANCIAL PERFORMANCE INDICATORS AND QUALITY
37 Sharpe Telecomunications Co (DipFM D05) 32 1066 20

38 Quris Co (DipFM J06) 33 1068 20
39 Calton Co 34 1071 30
40 Better Electricals Group (ACCA J10) 36 1073 20
HUMAN ASPECTS OF PERFORMANCE MANAGEMENT
41 Directors Share Options (DipFM D08) 37 1075 20

42 Team Bonus 38 1076 15
43 Dysfunctional Behaviour 38 1077 20
44 Easdon Co (DipFM D06) 38 1079 20
ALTERNATIVE VIEWS OF PERFORMANCE MANAGEMENT
45 Balanced Scorecard 39 1080 15

46 Ambleford College 39 1081 10
47 BLA Co (ACCA D03) 40 1082 20
48 Bettaserve Co (ACCA PP D07) 41 1086 25
49 Superior Business Consultancy (ACCA J10) 43 1088 35
50 Spare for Ships Company (ACCA J10) 44 1091 20
51 Plantaganet Co 45 1093 10
COMPLEX BUSINESS STRUCTURES AND CORPORATE FAILURE
52 Meta-com 47 1094 10
CURRENT DEVELOPMENTS
53 Environmental management accounting 47 1095 20
(iv) ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

FURTHER PRACTICE QUESTIONS
54 Structure (ACCA D98) 48 1097 15

55 GMB Co (ACCA D07) 48 1098 20
56 There 4 U Company (ACCA J09) 49 1100 20
57 Superior Software House (ACCA D08) 51 1102 25
58 Specialist Clothing Company (ACCA J06) 52 1105 20
©2014 DeVry/Becker Educational Development Corp. All rights reserved. (v)

Present Value Table
Present value of 1 i.e. (1 + r)–n

where r = discount rate
n = number of periods until payment
Discount rate (r)

Periods
(n) 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909 1
2 0.980 0.961 0.943 0.925 0.907 0.890 0.873 0.857 0.842 0.826 2
3 0.971 0.942 0.915 0.889 0.864 0.840 0.816 0.794 0.772 0.751 3
4 0.961 0.924 0.888 0.855 0.823 0.792 0.763 0.735 0.708 0.683 4
5 0.951 0.906 0.863 0.822 0.784 0.747 0.713 0.681 0.650 0.621 5
6 0.942 0.888 0.837 0.790 0.746 0.705 0.666 0.630 0.596 0.564 6
7 0.933 0.871 0.813 0.760 0.711 0.665 0.623 0.583 0.547 0.513 7
8 0.923 0.853 0.789 0.731 0.677 0.627 0.582 0.540 0.502 0.467 8
9 0.914 0.837 0.766 0.703 0.645 0.592 0.544 0.500 0.460 0.424 9
10 0.905 0.820 0.744 0.676 0.614 0.558 0.508 0.463 0.422 0.386 10
11 0.896 0.804 0.722 0.650 0.585 0.527 0.475 0.429 0.388 0.350 11
12 0.887 0.788 0.701 0.625 0.557 0.497 0.444 0.397 0.356 0.319 12
13 0.879 0.773 0.681 0.601 0.530 0.469 0.415 0.368 0.326 0.290 13
14 0.870 0.758 0.661 0.577 0.505 0.442 0.388 0.340 0.299 0.263 14
15 0.861 0.743 0.642 0.555 0.481 0.417 0.362 0.315 0.275 0.239 15
(n) 11% 12% 13% 14% 15% 16% 17% 18% 19% 20%
1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833 1
2 0.812 0.797 0.783 0.769 0.756 0.743 0.731 0.718 0.706 0.694 2
3 0.731 0.712 0.693 0.675 0.658 0.641 0.624 0.609 0.593 0.579 3
4 0.659 0.636 0.613 0.592 0.572 0.552 0.534 0.516 0.499 0.482 4
5 0.593 0.567 0.543 0.519 0.497 0.476 0.456 0.437 0.419 0.402 5
6 0.535 0.507 0.480 0.456 0.432 0.410 0.390 0.370 0.352 0.335 6
7 0.482 0.452 0.425 0.400 0.376 0.354 0.333 0.314 0.296 0.279 7
8 0.434 0.404 0.376 0.351 0.327 0.305 0.285 0.266 0.249 0.233 8
9 0.391 0.361 0.333 0.308 0.284 0.263 0.243 0.225 0.209 0.194 9
10 0.352 0.322 0.295 0.270 0.247 0.227 0.208 0.191 0.176 0.162 10
11 0.317 0.287 0.261 0.237 0.215 0.195 0.178 0.162 0.148 0.135 11
12 0.286 0.257 0.231 0.208 0.187 0.168 0.152 0.137 0.124 0.112 12
13 0.258 0.229 0.204 0.182 0.163 0.145 0.130 0.116 0.104 0.093 13
14 0.232 0.205 0.181 0.160 0.141 0.125 0.111 0.099 0.088 0.078 14
15 0.209 0.183 0.160 0.140 0.123 0.108 0.095 0.084 0.074 0.065 15
(vi) ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

Annuity Table
1  (1  r )  n
Present value of an annuity of 1 i.e.
r
where r = discount rate

n = number of periods
Discount rate (r)
Periods
(n) 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%
1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909 1
2 1.970 1.942 1.913 1.886 1.859 1.833 1.808 1.783 1.759 1.736 2
3 2.941 2.884 2.829 2.775 2.723 2.673 2.624 2.577 2.531 2.487 3
4 3.902 3.808 3.717 3.630 3.546 3.465 3.387 3.312 3.240 3.170 4
5 4.853 4.713 4.580 4.452 4.329 4.212 4.100 3.993 3.890 3.791 5
6 5.795 5.601 5.417 5.242 5.076 4.917 4.767 4.623 4.486 4.355 6
7 6.728 6.472 6.230 6.002 5.786 5.582 5.389 5.206 5.033 4.868 7
8 7.652 7.325 7.020 6.733 6.463 6.210 5.971 5.747 5.535 5.335 8
9 8.566 8.162 7.786 7.435 7.108 6.802 6.515 6.247 5.995 5.759 9
10 9.471 8.983 8.530 8.111 7.722 7.360 7.024 6.710 6.418 6.145 10
11 10.37 9.787 9.253 8.760 8.306 7.887 7.499 7.139 6.805 6.495 11
12 11.26 10.58 9.954 9.385 8.863 8.384 7.943 7.536 7.161 6.814 12
13 12.13 11.35 10.63 9.986 9.394 8.853 8.358 7.904 7.487 7.103 13
14 13.00 12.11 11.30 10.56 9.899 9.295 8.745 8.244 7.786 7.367 14
15 13.87 12.85 11.94 11.12 10.38 9.712 9.108 8.559 8.061 7.606 15
(n) 11% 12% 13% 14% 15% 16% 17% 18% 19% 20%
1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833 1
2 1.713 1.690 1.668 1.647 1.626 1.605 1.585 1.566 1.547 1.528 2
3 2.444 2.402 2.361 2.322 2.283 2.246 2.210 2.174 2.140 2.106 3
4 3.102 3.037 2.974 2.914 2.855 2.798 2.743 2.690 2.639 2.589 4
5 3.696 3.605 3.517 3.433 3.352 3.274 3.199 3.127 3.058 2.991 5
6 4.231 4.111 3.998 3.889 3.784 3.685 3.589 3.498 3.410 3.326 6
7 4.712 4.564 4.423 4.288 4.160 4.039 3.922 3.812 3.706 3.605 7
8 5.146 4.968 4.799 4.639 4.487 4.344 4.207 4.078 3.954 3.837 8
9 5.537 5.328 5.132 4.946 4.772 4.607 4.451 4.303 4.163 4.031 9
10 5.889 5.650 5.426 5.216 5.019 4.833 4.659 4.494 4.339 4.192 10
11 6.207 5.938 5.687 5.453 5.234 5.029 4.836 4.656 4.586 4.327 11
12 6.492 6.194 5.918 5.660 5.421 5.197 4.988 4.793 4.611 4.439 12
13 6.750 6.424 6.122 5.842 5.583 5.342 5.118 4.910 4.715 4.533 13
14 6.982 6.628 6.302 6.002 5.724 5.468 5.229 5.008 4.802 4.611 14
15 7.191 6.811 6.462 6.142 5.847 5.575 5.324 5.092 4.876 4.675 15
©2014 DeVry/Becker Educational Development Corp. All rights reserved. (vii)

(viii) ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

Question 1 ANTONIO
Antonio owns an ice cream shop in the coastal town of Camberwick Bay. He is disappointed by the
performance of the shop, as he feels that in spite of his hard work, his profits are too low.
He has managed to obtain some industry benchmarks for ice cream retailers from a government
sponsored benchmarking service, and now wishes to compare his own performance against the
benchmarks.
The industry benchmarks are as follows:
Metric Industry average

Gross profit margin 68%
Total expenses/ revenue 88%
Labour cost/ revenue 19%
Rent/ turnover 16%
Antonio has provided you with the following extracts from his income statement for the most recent
year:
$
Revenue 250,000
Cost of sales 110,000
–––––––
Gross profit 140,000
Labour costs 15,000
Rent 60,000
Other expenses 15,000
–––––––
Profit before tax 50,000
–––––––
Antonio works full time in the shop, and only hires a part time assistant to help him. If Antonio were to
charge his time to the business at the industry labour rate, he estimates that the cost would be $45,000.
Antonio makes the ice cream himself, from locally produced milk and cream. Because it is freshly
made, any ice cream not sold the same day has to be disposed of.
Required:
(a) Assess the performance of Antonio’s business against the benchmarks, suggesting areas
where Antonio needs to look for improvements. (8 marks)
(b) Discuss the usefulness of this benchmarking exercise to Antonio, and suggest what might
be the next step in helping him to improve the performance of his business. (7 marks)
(15 marks)
Question 2 ST MARGARET’S HOSPITAL
St Margaret’s hospital is a hospital specialising in ear, throat and nose operations. The hospital has a
mix of private fee paying patients and patients whose treatment is paid for by the state health care
system. The mission of the hospital is “To provide high quality health care to all patients.” Any surplus
made by the hospital is donated to an organisation that specialises in medical research.
The Hospital is managed by an executive committee which comprises of CEO, a finance director and a
chief surgeon. The long term strategy of the hospital is set and monitored by a board of trustees, who
meet four times a year to review the performance of the hospital and to review the strategy.
©2014 DeVry/Becker Educational Development Corp. All rights reserved. 1

Due to the growth in the number of patients, the hospital is now operating at capacity and waiting lists
for operations are becoming too long. The trustees are meeting to discuss the situation. One of the
trustees had an informal conversation with one of the accountants who worked in the hospital. The
accountant told him “We should only treat private patients, and should stop taking patients funded by
the state health care system. We make a surplus on private patients, while we only break even on state
funded patients.
The trustees are concerned that the performance report that they are provided with does not consider a
broad enough group of stakeholders, and would like advice on how performance management can be
related to the needs of stakeholders. They have asked you to provide them with some examples for
discussion at their next meeting.
Required:
(a) Two important stakeholder groups of the hospital are patients and medical staff (doctors and
nurses).
For each of these two groups, identify three objectives (what do they want) from the
hospital, and for each objective, suggest a key performance indicator that would
measure how well the hospital is performing in relation to that objective. (12 marks)
(b) Discuss the suggestion of the accountant that the hospital should stop treating state
funded patients. Your discussion should consider the ethics of this statement. (8 marks)
(20 marks)
Question 3 INA CO
INA Co manufactures and distributes generic paper-based products and currently has annual revenue of
$100 million.
At present, the management of INA Co are uncertain whether the purchasing department is maximising
its potential in terms of purchasing efficiency and effectiveness.
The management are currently considering the introduction of a system of benchmarking to measure
the performance of the purchasing department.
Required:
(a) Explain the term “benchmarking” and briefly discuss the potential benefits that can be
obtained as a result of undertaking a successful programme of benchmarking. (6 marks)
(b) Describe how a system of benchmarking could be introduced to measure the

performance of the purchasing department. (8 marks)
(c) Discuss the problems that the management of INA Co might encounter in implementing
a system of benchmarking and recommend how such problems should be successfully
addressed. (6 marks)
(20 marks)
2 ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

Question 4 ZBB – FOUR STATEMENTS
Discuss the following propositions about the concept of zero-base budgeting (ZBB).
(a) ZBB is a theoretical idea of interest to the academics, but of no practical use to the
businessmen of today. (6 marks)
(b) It is quite preposterous even to consider the implementation of a system of ZBB in a

period when management’s time and costs are consistently under review, and companies
cannot afford to waste resources. (3 marks)
(c) ZBB has some justification in central and local government, where controls on costs are
essential, but very little in private industry, where market forces impose their own
limitations. (3 marks)
(d) ZBB will never replace the traditional flexible budget, which is based on the practical
realities of the present rather than overturning the established budgetary system.
(3 marks)
(15 marks)
Question 5 MASTER BUDGET
A budgetary planning and control system may include many individual budgets which are integrated
into a “master budget”.
Required:
Outline and briefly explain with reasons the steps that should normally be taken in the
preparation of master budgets in a manufacturing company. Indicate the main budgets which
you think should normally be prepared.
(10 marks)
Question 6 USEFULNESS OF BUDGETING
(a) Describe FOUR ways in which budgeting may be viewed as a useful management
accounting technique. (4 marks)
(b) Discuss why an activity based budgeting system may be viewed as more useful than a
traditional incremental budgeting system. (5 marks)
(c) Suggest reasons for the view that the major annual budget preparation exercise may not
be an effective use of business resources. (6 marks)
(15 marks)
Question 7 INHERENT WEAKNESSES
Better budgeting in recent years may have been seen as a movement from “incremental budgeting” to
alternative budgeting approaches.
However, academic studies (e.g. Beyond Budgeting – Hope & Fraser) argue that the annual budget
model may be seen as (i) having a number of inherent weaknesses and (ii) acting as a barrier to the
effective implementation of alternative models for use in the accomplishment of strategic change.

Required:
(a) Identify and comment on FIVE inherent weaknesses of the annual budget model
irrespective of the budgeting approach that is applied. (8 marks)
(b) Discuss ways in which the traditional budgeting process may be seen as a barrier to the
achievement of the aims of EACH of the following models for the implementation of
strategic change:
(i) Benchmarking;
(ii) Balanced scorecard; and
(iii) Activity-based models. (12 marks)
(20 marks)
Question 8 2B VALUE CHAIN
2B is a medium-sized retailer of sports equipment and leisure clothing. 2B was established in 1987,
and currently operates from three retail shops in town centre locations.
The management team of 2B is very careful about how it recruits staff. In addition to the specific skills
required to do the job, any applicant must also have a “passion” for sport. This has resulted in 2B
gaining a reputation for excellent customer service and enthusiastic staff. A large proportion of staff
time is also devoted to training, both on the product range and customer service techniques. According
to a recent survey conducted by the store managers, the customers believe that 2B employees are
“helpful and knowledgeable”. The customers also praised the 2B shops for being “well designed” and
said that it was “very easy” to find what they were looking for.
Another feature of 2B that is appreciated by the customers is the range of goods stocked. By
developing close relationships with the major manufacturers of sports goods and clothing, 2B is able to
stock a far wider range of items than its rivals. Control of this inventory was made easier, last year, by
the development of a sophisticated computerized inventory control system. Using the system, any
member of staff can locate any item of stock in any of the shops or the warehouse. If the required item
is not “in stock” at 2B, it is also possible to automatically check the availability of stock with the
manufacturer.
At a recent management meeting, one of the store managers suggested that 2B could consider
developing its very basic website into one capable of e-retailing. At present, the website only gives the
location of stores and some very basic details of the range of inventory carried. Although the
development of the website would be expensive, the managers have decided to give the suggestion
serious consideration.
Required:
(a) Using the value chain model, explain those activities that add value in the 2B
organisation, BEFORE the e-retail investment. (10 marks)
(b) Identify those activities in the value chain of 2B that may be affected by the e-retail
investment, explaining whether the value added by each of them may increase or
decrease as a result of the e-retail investment. (15 marks)
(25 marks)

Question 9 BANK OPERATIONS
A bank has a section of its business which has two functions:
(1) Answering credit control queries from customers both by telephone and in writing;
(2) Investment business queries involving responding by telephone and in writing about surrender
values, assignment of policies and maturity value quotations.
The staff are arranged in four workgroups, one for each of four geographical areas. Each workgroup
consists of 30 employees plus supervisor. Each employee is expected to answer telephone enquiries
and a proportion of written enquiries for both credit control and investment business.
Flexi-time working is allowed and considerable overtime is paid in addition to a basic salary payment.
There is a high backlog of written enquiries and customers have been complaining about poor telephone
response times and quality of response. High staff turnover exists and staff morale is low. As
management accountant you are part of a team required to investigate and report on performance
measurement and effectiveness of operations.
Required:
Explain, giving examples of their incidence in the provision of the above services, any THREE of
the following:
(i) Intangibility;
(ii) Heterogeneity;
(iii) Simultaneity;
(iv) Perishability.
(8 marks)
Question 10 CAET-IT
CAET-IT provides electronic components for the Information Technology (IT) industry. The company
has three main operational departments: Sales, Accounts and Dispatch. Computer systems are used in
all three departments. There are no links between the three computer systems.
A brief description of each department is given below. The main information flows between the three
departments are shown in Figure 3.
Sales
The company currently has eight clerks handling telephone and faxed orders. Each has a workstation
linked to a small minicomputer operating in the UNIX environment.
Orders are only received by telephone or by fax. All order details are entered onto the computer
system. A formal order confirmation is raised and faxed to the customer. At the end of the day a Daily
Sales List, listing all orders received that day, is raised and sent to the Dispatch department.
The software used in Sales is a standard package bought five years ago. It stores customer account
details. Order confirmations are only sent out if the customer is not on a credit stopped list. The
system also holds product details because orders have to be priced and checked for stock availability.
Order confirmations are dispatched only if the products required are in stock. There are procedures for
dealing with out of stock items.
Details about dispatched and invoiced orders are received from the Dispatch and Accounts departments
and are used to update the order details on the computer system.

Dispatch
The Dispatch department has a single PC operating in a Windows environment. The dispatch
department software was written by a local software supplier and installed last year.
Dispatch receives the Daily Sales List from Sales and enters the order details into their system. The
system stores these details on an Order data file.
One of the functions of the Dispatch software is to produce a standard Dispatch Note. This function
uses information from the Order data file as well as using information stored on Product and Customer
data files maintained in the Dispatch system. The Product and Customer data files are updated
periodically with details of new customers, change of address of customers, insertion and deletion of
products etc. Three copies of the Dispatch Note are produced. One copy is used by dispatch staff to
pick the goods and is subsequently stored in the department. A second copy is sent with the goods to
the customer and the third copy is sent to the Accounts department for invoicing purposes.
At the end of the day a Daily Dispatch List is sent to Sales listing the orders dispatched that day. This
information is used by the Sales department to enter the dispatch date of the order on their computer
system.
The quantity of each product in stock is held on both the Dispatch and Sales computer systems. It is
generally accepted that the Dispatch system has the accurate figures (as they have access to the physical
stock). Consequently, Dispatch periodically prints out the current stock position on their computer
system and sends it to Sales so that they can check and update their stock details.
ACCOUNTS
Statement
Dispatch Note (copy 3)
Invoice
Dispatch Note (copy 2)

DISPATCH CUSTOMER
Daily Dispatch List Telephone/fax orders

Current Stock Position
Daily Sales List Faxed order confirmation
SALES
Stopped List Daily Invoiced List
Figure 3
Main information flows at CAET-IT
Accounts
The computer system used in Accounts is a three-user Linux based PC network bought ten years ago.
The software is a standard accounts and invoicing system, supporting sales, purchase and general
ledgers.

The copy of the Dispatch Note received from Dispatch is used to enter details into the accounts system.
An invoice is raised and sent to the customer. Many customers pay on statement and so a weekly
statement is also produced. Payment details are entered into the system and the accounts software
maintains standard aged debtors and account details. Customers in arrears with their accounts are
placed on a stopped list. A copy of this stopped list is sent to Sales who enter this information into their
system. It is used in determining the credit-status of the customer.
Accounts also send a Daily Invoiced List to Sales who use it to record, in their system, that an order has
been invoiced.
The integration project
A recent consultant’s report identified the lack of integration of information systems as a major
organisational weakness. Consequently, the company has appointed an Information Systems (IS)
manager with the responsibility for justifying, defining and acquiring a new integrated information
system. The company does not plan to employ any other IS staff. If the project is agreed, the system
will be a bespoke development by an external software house.
CAET-IT employs an internal auditor who ensures that component manufacture complies with
international standards. It has been agreed that the internal auditor will assist the IS manager in the
integration project.
Required:
(a) The IS manager of CAET-IT has to produce a business justification for the integration
project. This business justification will include a cost-benefit analysis of the proposed
project.
Briefly describe FOUR potential benefits to CAET-IT, of acquiring an integrated

information system. (12 marks)
(b) The initial set-up costs of the project and the net cash flow for each year of the project are
two pieces of information that the IS manager must collect or calculate to undertake the cost
benefit analysis required by the company.
(i) List further pieces of information the IS manager must collect or calculate to
complete the cost-benefit analysis required by the company. (4 marks)
(ii) Explain the disadvantages of the CAET-IT cost-benefit policy. (4 marks)
(20 marks)
Question 11 D LOGGING
D is an international logging company, which cuts down timber and supplies sawmills where the timber
is seasoned and then cut to appropriate sizes for use in a range of industries. D will work with any
timber, ranging from softwoods used in construction or paper manufacture to exotic hardwoods used in
expensive furniture. Its usual approach is to secure the rights from a landowner or in some cases a
national government, to cut timber. This can often involve the payment of large initial cash deposits to
these suppliers, money which D usually borrows. A logging team then cuts down the trees as quickly
as possible and hauls the timber to a convenient river where it is floated to a sawmill. Moving on
rapidly to the next site, the loggers usually leave considerable surface damage behind them.

Since an increasing proportion of the company’s work has been in the tropical rainforest, it has recently
come under pressure from environmental groups protesting that it is not socially responsible to act in
this way. Whilst the softwood forests can be regenerated in a couple of decades by replanting,
hardwoods in tropical forests take far longer to mature.
The Chief Executive of the company has argued that he is not concerned about these protests since, as
far as he is concerned, the company always acts ethically as it has the agreement of the national
government in any country in which the company operates.
A recent development in the timber industry has been the harvesting of timber from the bottom of
reservoirs which have been created by flooding valleys. Although the capital equipment required for
this approach is significantly more expensive than that used in conventional logging, the operating costs
are lower. Waterlogged trees in reservoirs have balloons attached, are cut, float to the surface and are
towed to a sawmill. The underwater process is quieter and less disruptive to wildlife and the
environment.
It has been estimated that there are over half a billion trees, or 20 years’ supply, submerged in
reservoirs across the world, but it can take considerable research and expense to find them. As long as
the timber has remained submerged deeply enough, it is of the same quality as timber harvested from
the land. There is currently only one company conducting underwater logging, although a number of
other companies are also considering this development.
Some of the Board of Directors feel that D should pursue this underwater approach and abandon land-
based logging. The Chief Executive and one other director feel that the underwater approach carries
too high a risk.
Required:
(a) (i) Briefly explain the differences between business ethics and corporate social
responsibility (CSR) (5 marks)
(ii) Discuss the CSR issues relating to D’s business and how the company might
improve its CSR position. (8 marks)
(b) With reference to D, evaluate the two approaches to logging and recommend which you
think is most appropriate for D. (12 marks)
(25 marks)
Question 12 NEWS FOR YOU
News For You (NFY) operates a chain of newspaper stands and sweet shops in the Albion, and is
considering the possibility of expanding their business across a wider geographical area. The business
was started in 2001 and annual revenues grew to $10 million by the end of 2004. Between 2004 and
2009 revenue grew at an average rate of 2% per year.
The business still remains under family control, but the high cost of expansion via the purchase or
building of new outlets means that the family would need to raise at least $2 million in equity or debt
finance. One of the possible risks of expansion lies in the fact that both tobacco and newspaper sales
are falling. New income is being generated by expanding the product range stocked by the stores to
include basic foodstuffs such as bread and milk. NFY purchases all of its products from a large
wholesale distributor. This is convenient, but the wholesale prices leave NFY with a relatively small
gross margin. The key to profit growth for NFY lies in the ability to generate sales growth, but the
company recognises that it faces stiff price competition from large food retailers.

In planning its future, NFY was advised to look carefully at a number of external factors that may affect
the business including government economic policy. In recent months the following key economic data
has been published:
(i) The bank base rate has been reduced from 5% to 4.5%, and the forecast is for a further 0.5%
reduction in six months.
(ii) The annual rate of inflation is now 1.2%, down from 1.3% in the previous quarter, and 1.7%
12 months ago. The rate is now at its lowest for 25 years, and no further falls in the rate are
expected over the medium/long term.
(iii) Personal and corporation tax rates are expected to remain unchanged for at least 12 months.
(iv) Taxes on tobacco have been increased by 10% over the last 12 months, although no further
increases are anticipated.
(v) The government has initiated an investigation into the food retail sector, focusing on the
problems of “excessive” profits on certain foodstuffs created by the high prices being charged
for these goods by the large retail food stores.
Required:
(a) Explain the relevance of each of the items of economic data listed above to News For
You. (10 marks)
(b) Explain whether News For You should continue with their expansion plans. Clearly
justify your arguments for or against the expansion. (10 marks)
(20 marks)
Question 13 MONOPOLY
Two important elements in the economic and financial management environment of companies are the
regulation of markets to discourage monopoly and the availability of finance to fund growth and
development.
Required:
Outline the economic problems caused by monopoly and explain the role of government in
maintaining competition between companies.
(9 marks)
Question 14 NEWCO
Newco is a recently privatised company that supplies energy to the general public. One of the
objectives underlying Newco’s change of ownership was that it would be enabled to set its own goals
and targets without reference to third parties.
The chief executive of Newco has publicly stated that the aim of the business will be “to supply the best
possible service to the greatest number of consumers at the cheapest possible cost”. It is believed that
the cheapest possible cost will only be achieved by the introduction of a number of changes to improve
operating efficiency.

The holders of this view are, like the chief executive himself, people who have been brought into
Newco during the last two or three years. This group is small in numbers but seems to be very
influential. They have had extensive experience in private sector businesses where strict internal
control and sophisticated management accounting systems were in place. This is not the situation in
Newco, where there are a number of disparate and sometimes contradictory control systems in use.
Required:
(a) State the extent to which the chief executive’s aim is compatible with the interests of the
shareholders. (9 marks)
(b) Show what contribution the management accountant could make towards assessing
whether the aim has been achieved. (8 marks)
(c) Discuss how, and by whom, the success of Newco will be evaluated and the role the
management accountant could play in these evaluations. (8 marks)
(25 marks)
Question 15 HEALTHFOODS CO
Healthfoods Co (HFL) is a well-established company which markets fruit and vegetables under their
“Good Health” brand name at each of its 6 outlets in the country of Ateland. During recent years HFL
has marketed organically grown fruit and vegetables. The directors are now planning to market organic
mushrooms which have a unique eating quality and will be the most nutritious mushrooms available on
the market.
The finance director has collated the following information regarding the proposed introduction and
sale of organic mushrooms in Ateland:
(1) HFL will purchase the organic mushrooms from Orgmush Co (OML) and sell them at each of
its 6 outlets in Ateland. Sales volumes of organic mushrooms are expected to be at the same
level at each outlet.
(2) OML, which is the only grower of this particular type of organic mushroom in Ateland, has
offered HFL a choice of four different contracts in respect of the forthcoming year. OML has
the capacity to produce 360,000 kilograms of organic mushrooms for each of the 6 outlets.
The cost incurred by HFL in respect of organic mushrooms will vary according to contract
size, as shown in the following table:
Contract Number of kilograms Cost per kilogram

$
A 160,000 4.45
B 240,000 3.70
C 280,000 3.55
D 360,000 3.35
Note: The same contract type must be chosen for each outlet.
(3) HFL will charge $5.50 per kilogram for all sales of organic mushrooms.
(4) Any unsold produce will be sold to the Animal Farm Group for $0.25 per kilogram.
(5) HFL must decide in advance of the forthcoming year which size of contract to enter.

(6) HFL uses acclaimed dieticians, international athletes or international film stars to promote its
products via television advertisements and has estimated the following probability
distribution of advertisements to be held during the forthcoming year:
Category of advertisement: %
Acclaimed dietician 20
International athlete 40
International film star 40
Market research has indicated that where an acclaimed dietician appears in an advertisement, HFL can
be reasonably assured of selling 160,000 kilograms of mushrooms per outlet and where an international
athlete appears in an advertisement then 234,000 kilograms of mushrooms per outlet will be sold. HFL
expects to sell 360,000 kilograms of mushrooms per outlet when an international film star appears in an
advertisement.
Required:
(a) Using expected values, advise HFL regarding which contract should be entered into with
OML.
Your answer should show the expected annual contribution from each contract. (12 marks)
(b) Determine whether your decision in (a) would change if you were to use each of the
Maximin and Minimax regret decision criteria.
Your answer should be supported by relevant workings. (6 marks)
(c) Briefly discuss why the directors of HFL might choose contract D irrespective of
whether or not contract D would have been selected using expected values as per part
(a). (2 marks)
(20 marks)
Question 16 EQUINE MANAGEMENT ACADEMY
The Equine Management Academy (EMA) which was founded twenty years ago is a privately owned
organisation located in Hartland, a developing country which has a large agricultural sector and where
much transportation is provided by horses. EMA operates an Equine College which provides a range of
undergraduate and postgraduate courses for students who wish to pursue a career in one of the
following disciplines:
Equine (Horse) Surgery

Equine Dentistry, and
Equine Business Management.
The Equine College which has a maximum capacity of 1,200 students per annum is currently the only
equine college in Hartland.
The following information is available:
(1) A total of 1,200 students attended the Equine College during the year just ended. . Student
mix and fees paid were as per the following table:
Student category % of total number of students Fee ($) per student, per annum
Surgery 30 12,000
Dentistry 25 10,000
Business Management 45 6,000

(2) Total operating costs (all fixed) during the year amounted to $6,500,000.
(3) Operating costs of the Equine College are expected to increase by 4% during the current year.
This led to a decision by the management to increase the fees of all students by 5% with
effect from the first day of the current year. The management expect the number of students
and the mix of students during the current year to remain unchanged from those of the year
just ended.
(4) EMA also operates a Riding School at which 240 horses are stabled. The Riding School is
open for business on 360 days per annum. Each horse is available for four horse-riding
lessons per day other than on the 40 days per annum that each horse is rested (i.e. not
available for the provision of riding lessons). During the year just ended, the Riding School
operated at 80% of full capacity.
(5) Horse-riding lessons are provided for riders in three different skill categories. These are
“Beginner”, “Competent” and “Advanced”.
During the year just ended, the fee per riding lesson was as follows:
Skill category of horse rider Lesson mix Fee ($) per lesson
Beginner 50% 15
Competent 25% 30
Advanced 25% 50
(6) Total operating costs of the Riding School (all fixed) amounted to $5,750,000 during the year
just ended.
(7) It is anticipated that the operating costs of the Riding School will increase by 6% in the
current year. The management have decided to increase the charge per lesson, in respect of
“Competent” and “Advanced” riders by 10% with effect from the first day of the current year.
There will be no increase in the charge per lesson for “Beginner” riders.
(8) The lesson mix and capacity utilisation of the Riding School will remain the same during the
current year as it was in the year just ended.
Required:
(a) Prepare a statement showing the budgeted net profit or loss for the current year.
(7 marks)
(b) Some time ago the government of Hartland, which actively promotes environmental
initiatives, announced its intention to open an academy comprising an equine college and
riding school. The management of EMA are uncertain of the impact that this will have on the
budgeted number of students and riders during the current year, although they consider that
due to the excellent reputation of the instructors at the riding school capacity utilisation could
remain unchanged, or even increase, in spite of the opening of the government funded
academy. Current estimates of the number of students entering the academy and the average
capacity utilisation of the riding school are as follows:
Equine College Riding School

Student Fees Probability Capacity Probability
utilisation
No change 0·20 90% 0·10
Decrease by 10% 0·60 80% 0·60
Decrease by 20% 0·20 70% 0·30

Required:
(i) Prepare a summary table which shows the possible net profit or loss outcomes,
and the combined probability of each potential outcome for the current year.
The table should also show the expected value of net profit or loss for the year;
(9 marks)
(ii) Comment briefly on the use of expected values by the management of EMA;
(3 marks)
(iii) Suggest three reasons why the government of Hartland might have decided to
open an academy comprising an equine college and a riding school. (6 marks)
(25 marks)
Question 17 MANAGEMENT INFORMATION SYSTEM
During 2000 a printing company designed and installed a Management Information System that met the
business needs of a commercial environment which was characterised at that time by:
 a unitary structure with one profit centre;

 central direction from senior managers;
 100% internal resourcing of ancillary services;
 the employment exclusively of permanent full-time employees;
 customers holding large stocks who accepted long delivery times;
 most of the work was concerned with long print runs for established large publishing houses.
A radical change in the business environment has resulted in the following outcomes:
 the development of a divisionalised structure with four profit centres that utilise each other’s
services;
 empowerment of team leaders and devolved decision making;
 considerable outsourcing of activities;
 a significant proportion of the employees work part-time and/or on temporary contracts;
 customers now commonly operate JIT systems requiring immediate replenishment of stocks;
 the typical customer requires specialist low volume but complex high value printing.
Required:
Recommend the significant changes in the Management Information System that would probably
be required to meet the needs of this new situation. Explain the reasons for your
recommendations.
Note: your answer does not require a consideration of technical matters. (20 marks)
Question 18 MANAGEMENT ACCOUNTING SYSTEM
“A competent management accounting system should endeavour to enhance the performance of a

company. It should, in particular, consider the behavioural consequences of the system.”
Required:
(a) Explain why it is necessary when designing a management accounting system to

consider the behavioural consequences of its application. (5 marks)

(b) Explain the potential behavioural issues that may arise in the application of
performance monitoring, budgeting and transfer pricing and suggest how problems may
be overcome. (15 marks)
(20 marks)
Question 19 POLYSIDE UNIVERSITY
Polyside University has an income of about $50 million a year. It provides full-time three-year
undergraduate degree programmes and one-year postgraduate courses in a wide range of subjects. Each
subject is studied in one of the seven schools within the university.
Some members of Polyside’s academic board, the main decision-making body of the university, have
expressed concern about income determination, student admissions, the current management
organisation and the management reports produced by the university. They believe that the current
systems in these areas are not enabling the academic board of Polyside to make optimal decisions about
resource allocation in the university.
Income determination and student admissions
Undergraduates
All undergraduate programmes are funded by central government through the local education
authorities (LEAs). The government sets a total quota of students Polyside may recruit to all its
undergraduate courses, and funds each student for a specific amount. These amounts are then paid to
Polyside by the students’ LEA each term. If Polyside does not fill its quota of students, it loses the
funding associated with those students. If Polyside recruits more than its quota of students, it does not
obtain any extra funding from the government for the additional students. It is therefore important that
Polyside meets its quota of undergraduate applications. Polyside has met its quota in only one of the
past four years. If a student drops out of a course, the government, through the LEA, stops payment of
tuition fees from the end of the term in which the student has left.
By mid-August of the year of entry, when high school exam results are known, Polyside has normally
filled between 20% and 35% of its undergraduate quota. The balance of places is filled through the
“clearing system” during late August and September, when there is much competition between
universities for students. In this period intensive marketing campaigns are conducted by each of the
schools in the university, there are many enquiries for places, and application forms are sent out.
However, there are no systems in place to monitor how effective recruitment is in this important period
and there is therefore much uncertainty about exact student numbers until courses commence in
October each year.
There is often a high drop-out rate in undergraduate courses at the end of year 1, and a few students
drop out in the following years. Sometimes direct entrants into year 2 fill the empty places after year 1.
Postgraduates
Postgraduate students pay their own fees termly. There are no government restrictions on how many
may be recruited. There has been a growth in the number of postgraduate students at Polyside over the
last few years, but there has been a growing problem with late or non-payment of postgraduate tuition
fees.

Management organisation
Each of the seven schools at Polyside is run by a school board, which consists of four members of the
academic staff, a director, a manager and three administrators for the school. Each school board is
responsible for all student admissions and ensuring the receipt of postgraduate fees. It maintains a
school-based information system to record all student admission data and fees due and paid by
postgraduates. The school board is in charge of appointing lecturers and authorises expenditure in the
school.
There is a small university central administration function which deals with the university’s cleaning,
catering, maintenance and learning resources. There is a central accounting function, which deals with
university salaries, all payments to suppliers, receipts from LEAs, the banking of postgraduate tuition
fees and the accounting for all university income and expenditure. The actual costs of these two central
functions are allocated to each of the schools during the year as a proportion of the school’s revenue.
Each school board reports termly to the academic board of the university. Their reports cover academic
matters of course quality and administration. The academic board consists of the Vice Chancellor (the
“managing director”), seven academic representatives and the seven heads of school. It meets once a
term. There is a finance committee which reports to the academic board. The Vice Chancellor is
chairman of the finance committee.
Currently the only management information about the whole university is provided by the central
accounts function to monthly finance committee meetings. This information is a detailed monthly and
cumulative, actual and budgeted, analysis of university income and expenditure. A report of the total
number of students on each course within the university is also compiled from information provided by
each of the schools. Due to the delay in receiving this information from the schools, this management
information is produced three weeks after the month end, and even later in the key admission period of
August/September. Each term one cumulative analysis of income and expenditure is provided for
notification to the academic board.
The breakdown of Polyside’s budgeted income and expenditure for the year to 31 July 20X7 was as
follows:
Income % Expenditure %
Government funds 55 Direct lecturing costs 60
Tuition fees (net of bad debts) 37 Administration and accounting costs 40
Other income 8
Over 80% of expenditure comprises fixed costs. In recent years the university has moved to appointing
lecturers on temporary annual contracts.
Required:
(a) Recommend to the Vice Chancellor, with reasons, how Polyside could change and
improve its current structure for providing management information. (3 marks)
(b) Recommend to the Vice Chancellor what management reports the finance committee
should receive to help Polyside monitor and improve its performance in income
determination, student admissions and debt collection.
For each report that you recommend, specify in detail what information it should
contain, who should prepare it, its frequency and why it would be useful for Polyside.
(10 marks)
(13 marks)

Question 20 ROCKINGHAM HOSPITAL CO
A new private hospital of 100 beds was opened to receive patients on 2 January 20X1 although
many senior staff members, including the supervisor of the laundry department, had been in situ for
some time previously. The first three months were expected to be a settling-in period, the hospital
facilities being used to full capacity only in the second and subsequent quarters.
On 1 May 20X1 the supervisor of the laundry department received her first quarterly performance
report from the hospital administrator, together with an explanatory memorandum. Copies of both
documents are set out below.
The supervisor had never seen the original budget, nor had she been informed that there would be a
quarterly performance report. She knew she was responsible for her department and had made every
endeavour to run it as efficiently as possible. It had been made clear to her that there would be a
slow build-up in the number of patients accepted by the hospital and so she would need only three
members of staff, but she had had to take on a fourth during the quarter due to the extra work. This
extra hiring had been anticipated for May, not late February.
Rockingham Private Patients Hospital Co
Memorandum
To All department heads/supervisors

From Hospital administrator
Date 30 April 20X1
Attached is the quarterly performance report for your department. The hospital has
adopted a responsibility accounting system so you will be receiving one of these
reports quarterly. Responsibility accounting means that you are accountable for
ensuring that the expenses of running your department are kept in line with the
budget. Each report compares the actual expenses of running your department for
the quarter with our budget for the same period. The difference between the actual
and forecast will be highlighted so that you can identify the important variations
from budget and take corrective action to get back on budget. Any variation in
excess of 5% from budget should be investigated and an explanatory memorandum
sent to me giving reasons for the variations and the proposed corrective actions.

Performance report – Laundry department
Three months to 31 March 20X1
Actual Budget
Variation %
(over) variation
under
Patient days 8,000 6,500 (1,500) (23.0)
Weight of laundry processed (kilos) 101,170 81,250 (19,920) (24.5)
———– ——— ——— ——–
Department expenses $ $ $ %
Wages 4,125 3,450 (675) (19.5)
Supervisor salary 1,490 1,495 5 –
Washing materials 920 770 (150) (19.5)
Heating and power 560 510 (50) (10.0)
Equipment depreciation 250 250 – –
Allocated administration costs 2,460 2,000 (460) (23.0)
Equipment maintenance 10 45 35 78.0
——— ——— ——— ——–
9,815 8,520 (1,295) (15.0)
——— ——— ——— ——–
Comment. We need to have a discussion about the over-expenditure of the

department.
Required:
(a) Discuss in detail the various possible effects on the behaviour of the laundry supervisor
of the way that her budget was prepared, and the form and content of the performance
report. (10 marks)
(b) Re-draft, giving explanations, the performance report and supporting memorandum in
a way which, in your opinion, would make them more effective management tools.
(7 marks)
(17 marks)
Question 21 TDM CO
The managing director of TDM Co has recently returned from a conference entitled “Strategic planning
in the new millennium”. Whilst at the conference she attended a session on “corporation mission
statements”. She found the session very interesting but it was rather short. She now has some
questions for the management accountant.
“What does ‘corporate mission’ mean? I don’t see how it fits in with our strategic planning process.”
“Where does our mission come from and what areas of corporate life should it cover?”
“Even if we were to develop one of these mission statements, what benefits would the company get
from it?”

Required:
Prepare a report which answers the managing director’s questions.

(15 marks)
Question 22 SQUEEKY CLEAN
Squeeky Clean Co makes detergent for washing clothes. The company makes two products –
traditional washing powder, and supertablets.
The directors of the company prepared a five year plan which forecast an annual operating profit of $80
million by the end of year 5. Year 3 of this plan, in which the company made an operating profit of $75
million, has just finished. The directors have asked you to perform a reforecast, to see if the target of
$80 million will be achieved in Year 5.
Information relating to Year 3 is as follows:
Powder Supertablets Total

Sales (kgs) 10,000,000 5,000,000
Contribution per kilo $6 $7
Total contribution ($000) 60,000 35,000 95,000
Fixed costs (20,000)
––––––
Operating profit 75,000
––––––
You have had discussions with the director of sales and marketing. He tells you that sales of Powder in
Year 5 are likely to be the same as in Year 3 and he will not increase advertising on this product. As far
as the Supertablets are concerned, he has identified two options:
Option 1: No additional advertising. Sales of Supertablets will increase by 5% per year in each year.
Fixed costs will remain unchanged.
Option 2: An additional $1 million per year would be spent on advertising the Supertablets. If this
happens, he believes that sales of Supertablets would increase by 10% per year in both years. Other
fixed costs would remain unchanged.
Required:
Calculate the operating profit that would be achieved in Year 5 under each of the two options,
and determine the value of the profit gap that would occur, (if any).
Note: Ignore inflation.

(8 marks)

Question 23 BEANCOUNTERS CO
Beancounters Co is a medium sized accountancy firm based in Homeland. The firm wishes to improve
its performance management system and has decided to adopt a critical success factor approach. It will
identify a small number of critical success factors, and one or two key performance indicators for each
factor, that could be used to monitor the firm’s performance.
Homeland is a successful industrial nation, and the accounting profession in that country has a long and
successful history. Recently, however, some high profile corporate scandals have led many in the
business community of Homeland to question the value of the audit, one of the main sources of income
of all accounting firms, including Beancounters Co.
There are four large International Accounting firms that focus their attention on the large multi
nationals. Medium-sized firms such as Beancounters Co focus on the growing medium-sized, mainly
owner managed businesses that require audit, tax advice and some consultancy. These firms tend to be
very cost conscious. The strategy of Beancounters Co has been to differentiate itself by providing real
value added to its audit clients.
The economy of Homeland is emerging from a long recession following the credit crunch of 2008, but
there are signs that bank lending to small and medium sized businesses is starting to grow.
Required:
(a) Based on the information above, identify two critical success factors that are relevant to
Beancounters Co from each of the following sources:
(i) Industry factors;

(ii) Competitive strategy;
(iii) The external environment. (3 marks)
(b) For each critical success factor identified, suggest a key performance indicator that
could be used to assess the performance of Beancounters Co. (3 marks)
(6 marks)
Question 24 MISSION STATEMENTS
(a) Explain the role and content of a Mission Statement. (5 marks)
(b) Explain how a Mission Statement could contribute towards the planning and
performance measurement process. (9 marks)
(c) Identify the potential problems arising from using a Mission Statement to manage
performance. (6 marks)
(20 marks)
Question 25 MOTOR CAR MANUFACTURER
A motor car manufacturer has been specialising in the production and sale of one model of car. The
model is somewhat dated, and the current sales forecast indicates that the sales will decline from the
current levels over the next three years. Carbon monoxide emission regulations will prevent the model
being manufactured and sold after the end of the third year.
The company’s profit forecasts for the following years are: $140 million in the next year, $48 million
the following year and a loss of $44 million in the final year of production.

Managing Director is unhappy with the profit forecasts above and believes that the company has the
potential to increase the profit to $280 million in each of the next three years. The Managing Director
has undertaken a strategic review and developed the following strategies:
Strategy 1
A marketing proposal will enable the company to enter a new overseas market with the result that the
total (including the overseas market) sales level will be stabilised at 160,000 cars per year. This will
result in profits of $156 million per year for the next three years, if this strategy is implemented alone.
Strategy 2
A re-design of the car will enhance its sales appeal and will permit the company to increase its selling
price. This will lead to profits of $205 million per year for the next three years, if this strategy is
implemented alone.
Strategy 3
A radical cost reduction programme will improve efficiency and lower all variable costs. This will lead
to profits of $217 million per year for the next three years, if this strategy alone is implemented.
If all three strategies are implemented simultaneously, the anticipated profits would be $312.8 million
per year for the next three years, due to synergies between the strategies.
Required:
(a) Explain how “Gap Analysis” can be used to assist a company to plan the achievement of
its strategic profit objective. Illustrate your answer by completing the diagram below,
adding lines for each of the following situations:
(i) Strategy one is implemented

(ii) Strategy two is implemented
(iii) Strategy three is implemented
(iv) All three proposed strategies are implemented.
$m Profit
280
Desired
140
utcome
$280m
Current
forecast
$140m
Year
Now Next
year
(7 marks)

(b) Describe the major external environmental factors that need to be considered in
assessing the success of the three strategies. (4 marks)
(11 marks)
Question 26 HEALTHY EATING GROUP
The directors of The Healthy Eating Group (HEG), a successful restaurant chain, which commenced
trading ten years ago, have decided to enter the sandwich market in Homeland, its country of operation.
It has set up a separate operation under the name of Healthy Sandwiches Co (HSC). A management
team for HSC has been recruited via a recruitment consultancy which specialises in food sector
appointments. Homeland has very high unemployment and the vast majority of its workforce has no
experience in a food manufacturing environment. HSC will commence trading at the start of next year.
The following information is available:
(1) HSC has agreed to make and supply sandwiches to agreed recipes for the Superior Food
Group (SFG) which owns a chain of supermarkets in all towns and cities in Homeland. SFG
insists that it selects the suppliers of the ingredients that are used in making the sandwiches it
sells and therefore HSC would be unable to reduce the costs of the ingredients used in the
sandwiches. HSC will be the sole supplier for SFG.
(2) The number of sandwiches sold per year in Homeland is 625 million. SFG has a 4% market share.
(3) The average selling price of all sandwiches sold by SFG is $2.40. SFG wishes to make a
mark-up of 331/3% on all sandwiches sold. 90% of all sandwiches sold by SFG are sold
before 2 pm each day. The majority of the remaining 10% are sold after 8 pm. It is the
intention that all sandwiches are sold on the day that they are delivered into SFG’s
supermarkets.
(4) The finance director of HSC has estimated that the average cost of ingredients per sandwich is
$0.70. All sandwiches are made by hand.
(5) Packaging and labelling costs amount to $0.15 per sandwich.
(6) Fixed overheads have been estimated to amount to $5,401,000 per year. Note that fixed
overheads include all wages and salaries costs as all employees are subject to fixed term
employment contracts.
(7) Distribution costs are expected to amount to 8% of HSC’s revenue.
(8) The finance director of HSC has stated that he believes the target sales margin of 32% can be
achieved, although he is concerned about the effect that an increase in the cost of all
ingredients would have on the forecast profits (assuming that all other revenue/cost data
remains unchanged).
(9) The existing management information system of HEG was purchased at the time that HEG
commenced trading. The directors are now considering investing in an enterprise resource
planning system (ERPS).
Required:
(a) Using only the above information, show how the finance director of HSC reached his
conclusion regarding the expected sales margin and also state whether he was correct to
be concerned about an increase in the price of ingredients. (5 marks)
(b) Explain FIVE critical success factors to the performance of HSC on which the directors
must focus if HSC is to achieve success in its marketplace. (10 marks)

(c) Explain how the introduction of an ERPS could impact on the role of management
accountants. (5 marks)
(20 marks)
Question 27 SUCCESS EDUCATION CENTRE
The Success Education Centre (SEC), which commenced trading in 20Y8, provides tuition for students
preparing for accountancy examinations in Homeland. In 20X0, SEC established a similar semi-
autonomous operation in the neighbouring country of Awayland. Divisional managers have no control
over acquisition and financing policy with regard to operations under their control.
Financial data (all stated on an actual basis) for the two divisions for the two years ended 31 December
20X1 and 20X2 are as follows:
Income statement 20X1 20X2

Homeland Awayland Combined Homeland Awayland Combined
$000 $000 $000 $000 $000 $000
Revenue 4,500 1,000 5,500 5,000 1,300 6,300
Salaries 1,500 600 2,100 1,575 630 2,205
Tuition materials & consumables 500 150 650 510 155 665
Other operating costs 1,000 300 1,300 1,040 300 1,340
––––– ––––– ––––– ––––– ––––– –––––
3,000 1,050 4,050 3,125 1,085 4,210
––––– ––––– ––––– ––––– ––––– –––––
Marketing 250 75 325 300 100 400
Interest (Group) 150 125
Depreciation and amortisation 350 50 400 350 100 450
––––– ––––– ––––– ––––– ––––– –––––
600 125 875 650 200 975
––––– ––––– ––––– ––––– ––––– –––––
3,600 1,175 4,925 3,775 1,285 5,185
––––– ––––– ––––– ––––– ––––– –––––
Profit 900 (175) 575 1,225 15 1,115
––––– ––––– ––––– ––––– ––––– –––––
Summarized statement of financial position
20X1 20X2
Non-current assets 2,750 250 3,000 2,750 500 3,250
Net current assets 750 150 900 1,315 200 1,515
––––– ––––– ––––– ––––– ––––– –––––
3,500 400 3,900 4,065 700 4,765
10% Loan stock 1,500 1,250
––––– –––––
2,400 3,515
––––– –––––
Capital and reserves 2,400 3,515
––––– –––––
Required:
(a) Provide an assessment of the financial performance of SEC and of the respective
contributions of the operations in Homeland and Awayland during the two years ended
30 December 20X2. (8 marks)

(b) Discuss FOUR items of additional information that would be required in order to
provide a more comprehensive assessment of the financial performance of each
operation. (4 marks)
(c) Discuss FOUR factors that should be taken into consideration when assessing the
comparative financial performance of the two operations. (4 marks)
(d) Discuss FOUR advantages of using Earnings Before Interest, Taxation, Depreciation
and Amortisation (EBITDA) as a measure of financial performance. (4 marks)
(20 marks)
Question 28 TALIESIN CO
Taliesin Co manufactures a range of ice-cream based confectionery products, which it sells to national
supermarket chains that market the products under their own brand labels. The board of directors is
committed to a policy of achieving growth. However because the company is a relatively small player
in the industry the board of directors is focused solely on internal development as opposed to growth by
acquisition and has further agreed that it wishes to confine operations to the home market.
Summary financial statements for the year ended 31 May 20X2 together with prior year comparative
figures are as follows:
Income statement
20X2 20X1
$000 $000
Sales (note 1) 48,000 40,000
Cost of sales (note 2) 28,800 24,000
–––––– ––––––
Gross Profit 19,200 16,000
Operating expenses 10,200 8,000
Interest 1,000 0
Depreciation 4,000 4,000
–––––– ––––––
Net Profit 4,000 4,000
–––––– ––––––
Statement of financial position
20X2 20X1
$000 $000
Noncurrent assets (net book value) 42,000 40,000
Net Current Assets 24,000 12,000
–––––– ––––––
Total Assets less Current Liabilities 66,000 52,000
Loan Finance 10,000 –
–––––– ––––––
Net Assets 56,000 52,000
–––––– ––––––
Capital Employed:
Ordinary Share Capital ($1 each) 30,000 30,000
Retained Earnings 26,000 22,000
–––––– ––––––
Capital Employed 56,000 52,000
–––––– ––––––

Other information relating to Taliesin Co is as follows:
(1) Sales information in respect of the years ended 31 May 20X2 and 20X1 is as follows:
20X2 20X1
Sales revenue $000 $000
1 June–30 November 33,300 26,000
1 December–31 May 14,700 14,000
(2) Cost of sales information:

20X2 20X1
$000 $000
Materials 9,360 7,800
Labour 4,620 4,200
Manufacturing overheads 14,820 12,000
–––––– ––––––
Cost of sales 28,800 24,000
(3) Other Information:

20X2 20X1
Number of employees:
Permanent 204 200
Temporary 288 240
Number of customers 5 6
Number of new products introduced 6 5
(i) Temporary employees are hired on a full-time basis between 1 June and 30
November in each year. They were paid at the same rate as permanent employees.
(ii) Six new product lines were launched during the year ended 31 May 20X2. The
manufacture of each new product line required an investment in capital equipment
of $1 million.
Required:
(a) Using the above information, appraise the performance of Taliesin Co during the year
ended 31 May 20X2 and evaluate the extent to which the objective of growth has been
achieved. (11 marks)
(b) Explain the major benefits of pursuing a policy of internal development. (4 marks)
(c) Explain how the use of activity-based techniques may benefit Taliesin Co. (5 marks)
(20 marks)

Question 29 DIVISIONAL ASSESSMENT
(a) Define the following.
(i) Decentralisation;
(ii) Divisionalisation;
(iii) A division;
(iv) Responsibility accounting;
(v) A cost centre;
(vi) A revenue centre;
(vii) A profit centre;
(viii) An investment centre;
(ix) Return on investment (for a division);
(x) Residual income (for a division). (10 marks)
(b) “Before the performance of a divisional manager can be measured or controlled, a framework
of reference in which it can be measured and controlled has to be explicitly stated.”
Required:
Identify the factors which should be clearly analysed before measurement and control of
a division’s performance can be computed. (6 marks)
(c) In answer to the question “What is success?” JR replied “Earning a profit”. Therefore it
follows that the larger the profit, the more successful the divisional performance.
Required:
Briefly discuss any reservations you have concerning the above statement. (5 marks)
(d) Two-Minds Co has made the following information available.
Division A Division B
Divisional investment $200 $5,000
Division profit $20 $410
Cost of capital is 8%
Ignore taxation.
Required:
(i) Evaluate the performance of division A and division B.

(ii) Re-evaluate the situation given that the cost of capital is:
(1) 6%;
(2) 10%. (7 marks)
(28 marks)

Question 30 BABBLINGS (89) CO
Babblings (89) Co has decentralised its operations into autonomous product divisions. All divisional
managers are responsible for all aspects of the operations of their divisions, including revenue,
expenditure, the financing and acquisition of assets, and general cash management. Head office,
nevertheless, reserves the right to make such charges on a division as it deems necessary.
The performance of divisions and of divisional managers is measured on the basis of their return on
investment (ROI) before taxation.
Division X was set up in 20X0 and is managed by Mr Mouth. It is required to produce a rate of return
of 20% per year. Division Y has been in existence for 20 years and is managed by Mr Blab. Because it
sells a much older product and is in a less risky line of business, the required rate of return is only 16%.
The company’s average cost of capital on the same basis is 18%.
Both Mr Mouth and Mr Blab were appointed on 1 January 20X1 on four year service contracts. As
these contracts will shortly be due for renewal, the performance of these two managers over their first
three years of employment is to be evaluated in order to determine the need for revision of the
remuneration clauses in their contracts.
The financial results of the two divisions for the years 20X1 to 20X3 are given below.
Division X Division Y
20X1 20X2 20X3 20X1 20X2 20X3
$000 $000 $000 $000 $000 $000
Estimated industry sales 10,000 15,000 17,000 31,000 34,000 42,000
–––––– –––––– –––––– –––––– –––––– ––––––
Division
Sales 1,100 1,700 3,350 3,300 3,500 3,600
–––––– –––––– –––––– –––––– –––––– ––––––
Direct labour 165 240 430 730 720 790
Direct materials 110 160 320 370 480 510
Plant, equipment depreciation 50 68 97 6 6 7
Plant leases 22 41 54 – – 13
Factory rent – – – 20 20 20
Maintenance and repairs 35 38 52 115 130 142
Energy costs 50 79 112 70 80 81
Indirect production overheads 100 142 205 377 369 372
Research and development 63 67 89 15 10 12
Advertising, sales promotion 78 81 147 193 211 215
Other committed costs 178 231 349 699 714 620
Other managed costs 104 113 315 330 310 298
Head office allocated costs 110 340 840 330 350 360
–––––– –––––– –––––– –––––– –––––– ––––––
Total costs 1,065 1,600 3,010 3,255 3,400 3,440
–––––– –––––– –––––– –––––– –––––– ––––––
Net profit 35 100 340 45 100 160
–––––– –––––– –––––– –––––– –––––– ––––––

20X1 20X2 20X3 20X1 20X2 20X3
Assets employed $000 $000 $000 $000 $000 $000
Fixed (net book value) 500 700 900 50 45 47
Current 500 500 800 450 465 433
–––––– –––––– –––––– –––––– –––––– ––––––
1,000 1,200 1,700 500 510 480
–––––– –––––– –––––– –––––– –––––– ––––––
Liabilities
Long-term loans 90 460 560 – – –
Current 35 70 170 50 60 80
–––––– –––––– –––––– –––––– –––––– ––––––
125 530 730 50 60 80
–––––– –––––– –––––– –––––– –––––– ––––––
Return on net investment 4% 15% 35% 10% 22% 40%
–––––– –––––– –––– –––––– –––––– ––––––
Required:
(a) Comment on the appropriateness of ROI as the measure of division and manager
performance under the circumstances given in the question, and suggest and illustrate a
possible alternative to the ROI method of evaluation giving reasons in support of your
suggestions. (8 marks)
(b) Compare the performance of the two divisions, stating which manager and which
division appears to have achieved the better performance, and calculating those
financial ratios that you feel will be of assistance. (8 marks)
(c) Discuss briefly the need for different performance measures for division and manager
evaluation. (4 marks)
(20 marks)
Question 31 MELDO DIVISION & KITBUL
(a) Meldo division is part of a vertically integrated group where all divisions sell externally and
transfer goods to other divisions in the group. Meldo divisional management performance is
measured using controllable profit before tax as the performance measurement criterion.
Required:
(i) Show the cost and revenue elements that should be included in the calculation
of controllable divisional profit before tax. (4 marks)
(ii) Discuss ways in which the degree of autonomy allowed to Meldo division may
affect the absolute value of controllable profit reported. (6 marks)
(b) Kitbul divisional management performance is measured using controllable residual income as
the performance criterion.
Required:
Explain why the management of Kitbul division may make a different decision about an
additional investment opportunity where residual income is measured using:
(i) Straight-line depreciation or

(ii) Annuity depreciation based on the cost of capital rate of the division.
Use the following investment information to illustrate your answer.
Investment of $900,000 with a three year life and nil residual value.
Net cash inflow each year of $380,000.
Cost of capital is 10%. Imputed interest is calculated on the written-down value of the
investment at the start of each year. (10 marks)
(20 marks)
Question 32 TOUTPLUT INC
The managers of Toutplut Inc were surprised at a recent newspaper article which suggested that the
company’s performance in the last two years had been poor. The CEO commented that revenues had
increased by nearly 17% and pre-tax profit by 25% between the last two financial years, and that the
company compared well with others in the same industry.
Income Statement
$ Million
20X1 20X2
Revenue 326 380
Pre-tax accounting profit 67 84
Taxation 23 29
––– –––
Profit after tax 44 55
Dividends 15 18
––– –––
Retained earnings 29 37
Extracts from the statement of financial position for the year ended 31 December
20X1 20X2
Non-current assets 120 156
Net current assets 130 160
––– –––
250 316
Financed by:
Shareholders’ funds 195 236
Medium and long-term bank loans 55 80
––– –––
250 316
Other information:
 Toutplut had non-capitalised leases valued at $10 million at the start of 20X1 and
20X2. Ignore any adjustments to profit relating to these leases for the purposes of
calculating EVATM
 Capital employed (equity plus debt) per the statement of financial position at the
end of 20X0 was $223 million.
 The company’s pre-tax cost of debt was estimated to be 9% in 20X1, and 10% in
20X2.

 The company’s cost of equity was estimated to be 15% in 20X1 and 17% in 20X2.
 The target capital structure is 60% equity, 40% debt.
 The effective tax rate was 35% in both 20X1 and 20X2.
 Other non-cash expenses were $10 million per year in both years.
 Interest expense was $4 million in 20X1 and $6 million in 20X2.
Required:
(a) Estimate the Economic Value Added (EVATM) for Toutplut Inc for both 20X1 and 20X2.
State clearly any assumptions that you make. (9 marks)
(b) Explain EVATM and comment on the relationship between EVATM and net present value.
(5 marks)
(c) Briefly explain two advantages and two disadvantages of EVATM. (6 marks)
(20 marks)
Question 33 BLACK AND BROWN
Black and Brown are two divisions in a group of companies and both require intermediate products,
Alpha and Beta, which are available from divisions A and B respectively. Black and Brown divisions
convert the intermediate products into products Blackalls and Brownalls respectively. The market
demand for Blackalls and Brownalls considerably exceeds the production possible, because of the
limited availability of intermediate products Alpha and Beta. No external market exists for Alpha and
Beta and no other intermediate product market is available to Black and Brown divisions.
Other data are as follows:
Black division
Blackalls Selling price per unit $45

Processing cost per unit $12
Intermediate products required per unit
Alpha 3 units
Beta 2 units
Brown division
Brownalls Selling price per unit $54

Processing cost per unit $14
Intermediate products required per unit
Alpha 2 units
Beta 4 units
A division
Alpha Variable cost per unit $6

Maximum production capacity 1,200 units
B division
Beta Variable cost per unit $4

Maximum production capacity 1,600 units

The solution to a linear programming model of the situation shows that the imputed scarcity value
(shadow price) of Alpha and Beta is $0.50 and $2.75 per unit respectively, and indicates that the
intermediate products be transferred such that 200 units of Blackalls and 300 units of Brownalls are
produced and sold.
Required:
(a) Calculate the contribution earned by the group if the sales pattern indicated by the
linear programming model were implemented. (3 marks)
(b) Where the transfer prices are set on the basis of variable cost plus shadow price, show
detailed calculations for the following.
(i) The contribution per unit of intermediate product earned by divisions A

and B.
(ii) The contribution per unit of final product earned by Black and Brown
divisions. (4 marks)
(c) Comment on the results derived in (b) above and on the possible attitude of
management of the various divisions to the proposed transfer pricing and product
development policy. (6 marks)
(d) In the following year the capacities of divisions A and B have each doubled and the following
changes have taken place.
(1) Alpha. There is still no external market for this product, but A division has a large
demand for other products which could use the capacity and earn a contribution of
5% over cost. Variable cost per unit for the other products would be the same as for
Alpha and such products would use the capacity at the same rate as Alpha.
(2) Beta. An intermediate market for this product now exists and Beta can be bought
and sold in unlimited amounts at $7.50 per unit. External sales of Beta would incur
additional transport costs of 50 cents per unit which are not incurred in inter-
divisional transfers.
The market demand for Blackalls and Brownalls will still exceed the production availability
of Alpha and Beta.
(i) Calculate the transfer prices at which Alpha and Beta should now be offered to
Black and Brown divisions in order that the transfer policy implemented will
lead to the maximisation of group profit.
(ii) Determine the production and sales pattern for Alpha, Beta, Blackalls and
Brownalls that will now maximise group contribution, and calculate the group
contribution thus achieved. It may be assumed that divisions will make
decisions consistent with the financial data available. (9 marks)
(22 marks)

Question 34 RJ BUSINESS CONSULTING GROUP
The Information Technology division (IT) of the RJ Business Consulting Group provides consulting
services to its clients as well as to other divisions in the group. Consultants always work in teams of
two on every consulting day. Each consulting day is charged to external clients at $750 which
represents cost plus 150% profit mark up. The total cost per consulting day has been estimated as being
80% variable and 20% fixed.
The director of the Human Resources (HR) division of RJ Business Consulting Group has requested the
services of two teams of consultants from the IT division on five days per week for a period of 48
weeks, and has suggested that she meets with the director of the IT division in order to negotiate a
transfer price. The director of the IT division has responded by stating that he is aware of the
limitations of using negotiated transfer prices and intends to charge the HR division $750 per consulting
day.
The IT division always uses “state of the art” video-conferencing equipment on all internal
consultations which would reduce the variable costs by $50 per consulting day. Note: this equipment
can only be used when providing internal consultations.
Required:
(a) Calculate and discuss the transfer prices per consulting day at which the IT division
should provide consulting services to the HR division in order to ensure that the profit
of the RJ Business Consulting Group is maximised in each of the following situations:
(i) Every pair of consultants in the IT division is 100% utilised during the required 48-
week period in providing consulting services to external clients (i.e. there is no
spare capacity).
(ii) There is one team of consultants who, being free from other commitments, would
be available to undertake the provision of services to the HR division during the
required 48-week period. All other teams of consultants would be 100% utilised in
providing consulting services to external clients.
(iii) A major client has offered to pay the IT division $264,000 for the services of two
teams of consultants during the required 48-week period. 12 marks)
(b) Briefly explain THREE limitations of negotiated transfer prices. (3 marks)
(15 marks)
Question 35 FOCUS
(a) Discuss ways in which benchmarking may be used by an organisation as part of a

performance measurement and improvement focus. (6 marks)
(b) “The measurement of performance in a not-for-profit organisation may have value for money
as its focus.”
Expand on this statement incorporating comments on economy, efficiency and

effectiveness into your answer.
Note: You should select a not-for-profit situation of your own choosing as the basis of your
discussion. (9 marks)
(15 marks)

Question 36 HOUSING DEPARTMENT
A local government housing department (LGHD) has funds which it is proposing to spend on the
upgrading of air conditioning systems in its housing inventory.
It is intended that the upgrading should enhance the quality of living for the occupants of the houses.
Preferred contractors will be identified to carry out the work involved in the upgrading of the air
conditioning systems, with each contractor being responsible for upgrading of the systems in a
proportion of the houses. Contractors will also be required to provide a maintenance and operational
advice service during the first two years of operation of the upgraded systems.
Prior to a decision to implement the proposal, LGHD has decided that it should carry out a value for
money (VFM) audit.
You have been given the task of preparing a report for LGHD, to help ensure that it can make an
informed decision concerning the proposal.
Required:
Prepare a detailed analysis which will form the basis for the preparation of the final report. The
analysis should include a clear explanation of the meaning and relevance of each of (i) to (iii)
below:
(i) VFM audit (including references to the roles of principal and agent). (6 marks)
(ii) Economy, efficiency and effectiveness as part of the VFM audit. (6 marks)
(iii) The extent (if any) to which each of intangibility, heterogeneity, simultaneity and
perishability may be seen to relate to the decision concerning the proposal, and any
problems that may occur. (8 marks)
Note: Your analysis should incorporate specific references to examples relating to the upgrading
proposal.
(20 marks)
Question 37 SHARPE TELECOMMUNICATIONS CO
You are a consultant with QA Management Consultants. One of your clients is Sharpe
Telecommunications Co (STL).
The company manufactures telecommunications equipment. Having been finance director for the last
four years, Gillian Sharpe has recently taken over as managing director.
Gillian believes that there is an increasing threat from competitors. She has discussed this with the
management team, most of who have been with STL for more than 10 years. The management team
acknowledges the need for change, but no definite proposals have been put forward. Gillian has asked
you to work with her and the management team to develop an action plan.
Your notes of a recent meeting with Gillian and the management team include the following points:
(i) Customers are demanding quicker responses to orders.

(ii) While STL has a good reputation for quality, this is a function of good quality control at the
end of the production process. Very few units are returned by customers, but the quality
control department can reject as much as 4·5% of products produced. Rejected products can
invariably be reworked so that they meet the required standards.
(iii) Staff regard the quality control department as the guardian of quality standards.
(iv) To date, the management style has been “top-down”. Many of the 185 production staff have
been with STL for more than eight years, and are highly skilled.
(v) The production process is currently organised on a product basis, with a linear process used to
produce each product. Staff will often switch between product lines to cover holidays and
absences or to achieve specific production deadlines.
(vi) Profit margins have declined by 1.7% in the last year, due to an increase in costs. Due to
STL’s ability to manage the quality of products delivered to the customer, it has been possible
to increase sales prices by 4.3%. The cost of rework has been identified as the key factor in
the erosion of the sales margin.
You have suggested to Gillian that business process re-engineering, and specifically a move to cellular
manufacturing, should be considered. In making this suggestion, you observed that this would almost
certainly lead to the flexibility demanded by customers as well as a reduction in costs.
Gillian remarked that it will be important that all employees, starting with the management team, are
convinced that these outcomes can be achieved. To that end, she has asked you to prepare a report to
the management team that provides an overview of your suggestions, and clearly links the expected
benefits to the initiatives.
Required:
Prepare a report to the management team that briefly:
(a) Explains the nature of business process re-engineering in general, and cellular
manufacturing in particular; (6 marks)
(b) Outlines the benefits which STL could expect if cellular manufacturing is introduced;
(4 marks)
(c) Explains how a quality improvement programme is likely to lead to improved margins
for STL; and (4 marks)
(d) Suggests three benefits which will accrue to the production staff if your suggestions are
implemented. (6 marks)
(20 marks)
Question 38 QURIS CO
You have recently been appointed to the post of business development manager in Quris Co. The
company has been a manufacturer of components used in the electronics industry for over 25 years.
The product range is based on a number of different standard designs, but customers frequently request
minor changes to the standard designs to facilitate their specific requirements.
The company is organised as a traditional hierarchy, and product quality is managed on the basis of
statistical control.

The company has a good reputation for quality and customer service, but in recent years has been
struggling to match the levels of quality and service achieved by its competitors on a regular basis.
One of your key tasks in the immediate future is to achieve the changes that will be necessary to
improve the company’s competitive position.
One of the directors of Quris has suggested that the company should consider introducing just-in-time
(JIT), and you have been asked to advise the board on the implications of this suggestion.
Required:
(a) Outline the key elements of the just-in-time philosophy and differentiate between just-
in-time purchasing and just-in-time production. (8 marks)
(b) Discuss how the culture of the company is likely to change as a result of introducing JIT.
(6 marks)
(c) Indicate three problems which are likely to arise if the company introduces JIT, and
suggest how these may be overcome. (6 marks)
(20 marks)
Question 39 CALTON CO
Calton Co makes and sells a single product. The existing product unit specifications are as follows:
Direct material X 8 square metres at $4 per square metre

Machine time 0.6 running hours
Machine cost per gross hour $40
Selling price $100
Calton Co is required to fulfil orders for 5,000 product units per period. There are no stocks of product
units at the beginning or end of the period under review. The stock level of material X remains
unchanged throughout the period.
The following additional information affects the costs and revenues.
(1) 5% of incoming material from suppliers is scrapped due to poor receipt and storage
organisation.
(2) 4% of material X input to the machine process is wasted due to processing problems.
(3) Inspection and storage of material X costs 10 pence per square metre purchased.
(4) Inspection during the production cycle, calibration checks on inspection equipment, vendor
rating and other checks cost $25,000 per period.
(5) Production quantity is increased to allow for the downgrading of 12.5% of product units at the
final inspection stage. Downgraded units are sold as “second quality” units at a discount of
30% on the standard selling price.

(6) Production quantity is increased to allow for returns from customers which 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 per unit and are
re-sold 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 and other claims by customers are estimated at 3% of sales revenue from
standard product sales.
(8) Machine idle time is 20% of gross machine hours used (i.e. running hours = 80% of gross
hours).
(9) Sundry costs of administration, selling and distribution total $60,000 per period.
(10) Calton Co is aware of the problem of excess costs and currently spends $20,000 per period in
efforts to prevent a number of such problems from occurring.
Calton Co is planning a quality management programme which will increase its excess cost prevention
expenditure from $20,000 to $60,000 per period. It is estimated that this will have the following
impact:
(1) A reduction in stores losses of material X to 3% of incoming material.
(2) A reduction in the downgrading of product units at inspection to 7.5% of units inspected.
(3) A reduction in material X losses in process to 2.5% of input to the machine process.
(4) A reduction in returns of products from customers to 2.5% of units delivered.
(5) A reduction in machine idle time to 12.5% of gross hours used.
(6) A reduction in product liability and other claims to 1% of sales revenue from standard product
sales.
(7) A reduction in inspection, calibration, vendor rating and other 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 required per product unit to 0.5 hours.
Required:
(a) Prepare summaries showing the calculation of the following.
(i) Total production units (pre-inspection).

(ii) Purchases of material X (square metres).
(iii) Gross machine hours.
In each case the figures are required for the situation both before and after the implementation
of the additional quality management programme, so that the orders for 5,000 product units
may be fulfilled. (10 marks)

(b) Prepare profit and loss accounts for Calton Co for the period showing the profit earned
both before and after the implementation of the additional quality management
programme. (10 marks)
(c) Comment on the relevance of a quality management programme and explain the
meaning of the terms “internal failure costs”, “external failure costs”, “appraisal costs”
and “prevention costs”, giving examples of each, taken where possible from the
information in the question. (10 marks)
(30 marks)
Question 40 BETTER ELECTRICALS GROUP
The Better Electricals Group (BEG) which commenced trading eight years ago manufactures a range of
high quality electrical appliances such as kettles, toasters and steam irons for domestic use which it sells
to electrical stores in Voltland.
The directors consider that the existing product range could be extended to include industrial sized
products such as high volume water boilers, high volume toasters and large steam irons for the hotel
and catering industry. They recently commissioned a highly reputable market research organisation to
undertake a market analysis which identified a number of significant competitors within the hotel and
catering industry.
At a recent meeting of the board of directors, the marketing director proposed that BEG should make an
application to gain “platinum status” quality certification in respect of their industrial products from the
Hotel and Catering Institute of Voltland in order to gain a strong competitive position. He then stressed
the need to focus on increasing the effectiveness of all operations from product design to the provision
of after sales services.
An analysis of financial and non-financial data relating to the application for “platinum status” for each
of the next three years is contained in the appendix.
The managing director of BEG recently returned from a seminar, the subject of which was “The Use of
Cost Targets”. She then requested the management accountant of BEG to prepare a statement of total
costs for the application for platinum status for each of the next three years. She further asked that the
statement detailed manufacturing cost targets and the costs of quality.
The management accountant produced the following statement of manufacturing cost targets and the
costs of quality:
Year 1 Year 2 Year 3

Forecast Forecast Forecast
$m $m $m
Variable manufacturing costs 8,400 10,500 12,600
Fixed manufacturing costs 3,000 3,400 3,400
Prevention costs 4,200 2,100 1,320
Appraisal costs 800 700 700
Internal failure costs 2,500 1,800 1,200
External failure costs 3,100 2,000 980
–––––– –––––– ––––––
Total costs 22,000 20,500 20,200
–––––– –––––– ––––––

Required:
(a) Explain how the use of cost targets could be of assistance to BEG with regard to their
application for platinum status. Your answer must include commentary on the items
contained in the statement of manufacturing cost targets and the costs of quality
prepared by the management accountant. (8 marks)
(b) Assess the forecasted performance of BEG for the next three year period with reference
to the application for “platinum status” quality certification under the following
headings:
(i) Financial performance and marketing;

(ii) External effectiveness; and
(iii) Internal efficiency. (12 marks)
(20 marks)
Appendix
“Platinum status” quality certification application – Relevant statistics

Forecast Forecast Forecast
Total market size ($m) 300 320 340
BEG – sales ($m) 24 30 36
BEG – total costs ($m) 22 20·5 20·2
BEG – sundry statistics:
% of products achieving design quality standards and
accepted without further rectification 92 95 99
Rectification claims from customers ($m) 0·96 0·75 0·1
Cost of after sales rectification service ($m) 1·8 1·05 0·8
% of sales meeting planned delivery dates 88·5 95·5 99·5
Average cycle time:
(customer enquiry to product delivery) (days) 49 45 40
Product enquiries not taken up by customers
(% of enquiries) 10·5 6 3
Idle capacity of manufacturing staff (%) 12 6 1·5
Note: Year 1 is the next financial year, year 2 the year following year 1 and so on.
Question 41 DIRECTORS SHARE OPTIONS
The use of share options to reward the directors of companies has been a source of considerable
controversy over the years. Peter Drucker, an eminent management thinker, has been a vociferous
critic of this practice and has referred to it as ‘an encouragement to loot the corporation’.
Required:
(a) Describe the main features of directors’ share options. (4 marks)
(b) Discuss the advantages and disadvantages of share options as a basis for rewarding
directors. (16 marks)
(20 marks)

Question 42 TEAM BONUS
A company operates a team-based approach to the implementation of its strategy. One team is
responsible for the selling of after-sales service to customers who have purchased a range of products,
and for the implementation of this after-sales service.
The company intends to introduce a team bonus in addition to the basic salary. The bonus will be
determined by a formula that takes into account the after-sales service revenue ($) achieved and the
level of customer complaints about the service.
Required:
Explain the meaning of each of the following and discuss their application in the context of the
team bonus:
(a) Agency theory. (5 marks)

(b) Expectancy theory. (5 marks)
(c) Hard accountability. (5 marks)
(15 marks)
Question 43 DYSFUNCTIONAL BEHAVIOUR
Excessive focus on specific performance measures may lead to dysfunctional behaviour by employees.
Examples of problems which may occur are:
(i) Short-termism (myopia)

(ii) Tunnel vision
(iii) Over-simplification of the meaning of specific measures
(iv) Deliberate distortion (“gaming”)
Required:
(a) Expand briefly on each of the above problems, giving a specific example to illustrate
how each may occur. (12 marks)
(b) Name and comment on any FOUR actions which may be implemented in order to
overcome problems in the operation of a performance measurement system. (8 marks)
(20 marks)
Question 44 EASDON CO
Easdon Co is a fast-growing electronics business that is committed to maximising shareholder value.

The directors intend to float the company on the London Stock Exchange in the near future and, as part
of the preparation process for this event, are considering changes to the directors’ incentive plan. To
date, the directors have received bonuses based on annual growth in earnings per share. It has been
suggested, however, that it would be more appropriate to use either total shareholder return (TSR) or
economic value added (EVA®) as a basis for their reward.
Required:
(a) Briefly state the key characteristics that should be possessed by a measure that will be
used to provide an appropriate basis for rewarding directors. (4 marks)

(b) Discuss the problems of using annual growth in earnings per share as a basis for
rewarding the directors. (4 marks)
(c) Critically evaluate the separate use of:

(i) TSR and;
(ii) EVA®,
as a basis for rewarding the directors of Easdon Co. (12 marks)
(20 marks)
Question 45 BALANCED SCORECARD
Discuss the advantages which may be claimed for Kaplan and Norton’s balanced scorecard as a
basis for performance measurement over traditional management accounting views of
performance measurement. Your answer should include specific examples of quantitative
measures for each aspect of the balanced scorecard.
(15 marks)
Question 46 AMBLEFORD COLLEGE
Ambleford College is a private school for children aged 11 to 18. The mission of the school is as
follows: “We exist to give an education which includes, but goes beyond academic excellence, to
provide the boys and girls with a compass for life.” The school is a non-profit organisation and any
financial surplus that it generates is used to provide a limited number of bursaries that enable children
from less affluent families to attend the school for substantially reduced fees.
The school is managed by a head teacher and a committee of governors, which meets every quarter to
review the progress of the school. In order to monitor the progress of the school, a balanced scorecard
model has been designed which includes three perspectives, and within each perspective, a number of
metrics have been identified to measure the performance:
Perspective Measure
Value for money Level of fees benchmarked against peers
Annual surplus
Academic excellence Average grades in final exams

Percentage of alumni gaining a place at University
Range of activities Average hours spent per week on organised activities
Required:
Evaluate the balanced scorecard of Ambleford College.

(10 marks)

Question 47 BLA CO
BLA Co is a design consultancy that provides advice to clients regarding property maintenance and
improvements. Three types of consultant are employed by BLA Co. These are:
(1) Architectural consultants who provide advice with regard to exterior building improvements.
(2) Interior design consultants who provide advice regarding interior design, and
(3) Landscape consultants who provide advice regarding landscaping of properties and garden
design improvements.
BLA Co does not undertake building work on behalf of its clients and will only recommend contractors
that undertake the three types of work when requested to do so by its clients. The following
information is relevant:
(i) Each consultation, other than those detailed in notes (iv) and (v), is charged at a rate of $150
per consultation.
(ii) The consultants are each paid a fixed annual salary of $45,000. In addition they receive a
bonus of 40% of the fee income generated in excess of budget. The bonus is shared equally
among the consultants employed by BLA Co on 31 October in the year to which the bonus
relates.
(iii) Other operating expenses (excluding the salaries of the consultants) were budgeted at
$2,550,000 for the year to 31 October 20X1. The actual amount incurred in respect of the
year to 31 October 20X1 was $2,805,000, which excludes payments to subcontractors per
note (vii) below.
(iv) In an attempt to gain new business, consultants may undertake consultations on a “no-fee”
basis. Such consultations are regarded as Business Development Activity by the management
of BLA Co.
(v) Consultants will sometimes undertake remedial consultations with clients who experience
problems at the time when work commences on each client’s site. Remedial consultations are
also provided on a non-chargeable (i.e. “no fee”) basis.
(vi) In November 20X0, BLA Co purchased “state of the art” business software for use by its
consultants in simulating design improvements. The software was used throughout the year
by consultants who specialise in landscape and garden design. It is now planned to introduce
the use of the software by the other categories of consultant in BLA Co.
(vii) BLA Co has a policy of maintaining staff at a level of 45 consultants on an on-going basis,
irrespective of fluctuations in the level of demand. Also, BLA Co has retained links with
retired consultants and will occasionally subcontract work to them at a cost of $150 per
consultation, if current full-time consultants in a particular category are fully utilised. During
the year ended 31 October 20X1 subcontractors only undertook non-chargeable client
consultations.

BLA Co
Sundry statistics for year ended 31 October 20X1
Budget Actual
Number of consultants by category:
Exterior design 18 15
Interior design 18 18
Landscape & garden design 9 12
Total client enquiries:
New business 67,500 84,000
Repeat business 32,400 28,000
Number of chargeable client consultations:
New business 24,300 22,400
Repeat business 16,200 19,600
Mix of chargeable client consultations:
Exterior design 16,200 13,830
Interior design 16,200 17,226
Landscape and garden design 8,100 10,944
Number of non-chargeable client consultations
undertaken by BLA consultants:
Number of business development consultations 1,035 1,200
Number of remedial consultations 45 405
Number of non-chargeable client consultations
undertaken by subcontractors: 120
Other statistics:
Number of complaints 324 630
Required:
(a) Fitzgerald and Moon have suggested that business performance should be measured in a
number of ways.
Using FIVE different performance indicators and the quantitative data contained above,
comment on the performance of BLA Co. (15 marks)
(b) Briefly discuss THREE factors that should be considered in the determination of
expected standards in a performance measurement system. (5 marks)
(20 marks)
Question 48 BETTASERVECO
Bettaserve Co has identified and defined a market in which it wishes to operate. This will provide a
“gold standard” focus for an existing range of services. Bettaserve has identified a number of key
competitors and intends to focus on close co-operation with its customers in providing services to meet
their specific design and quality requirements. Efforts will be made to improve the effectiveness of all
aspects of the cycle from service design to after-sales service to customers. This will require inputs
from a number of departments in the achievement of the specific goals of the “gold standard” range of
services. Efforts will be made to improve productivity in conjunction with increased flexibility of
methods.
An analysis of financial and non-financial data relating to the “gold standard” proposal for each of the
years 2010, 2011 and 2012 is shown below.

Required:
(a) Prepare an analysis (both quantitative and discursive) of the “gold standard” proposal
for the period 2010 to 2012. You should use the information provided in the question,
together with the data in Schedule 1 below. Your analysis should include the following:
(i) A definition of corporate “vision or mission” and consideration of how the
proposal may be seen as identifying and illustrating a specific sub-set of this
“vision or mission”. (5 marks)
(ii) Discussion and, where possible, quantification of the proposal in both
marketing and financial terms. (5 marks)
(iii) Discussion of the external effectiveness of the proposal in the context of ways in
which each of Quality and Delivery are expected to affect customer satisfaction
and hence the marketing of the product. (5 marks)
(iv) Discussion of the internal efficiency of the proposal in the context of ways in
which the management of each of Cycle Time and Waste are expected to affect
productivity and hence the financial aspects of the proposal. (5 marks)
(b) Discuss the links, both vertical and horizontal, of the performance measures investigated
in (a). The discussion should include comment on the hierarchy and inter-relationships
between the measures, including internal and external aspects of the expected trends in
performance.
Note: a diagram may be used to illustrate the links, together with relevant discussion. (5 marks)
(Including 2 professional marks)
Schedule 1
“Gold Standard” proposal – estimated statistics
2010 2011 2012
Total market size ($m) 240 250 260
Bettaserve – sales ($m) 30 36 40
Bettaserve – total costs ($m) 28.2 25.448 25.1
Bettaserve – sundry statistics:
Services achieving design quality standards
(%) and accepted without further rectification 95 97 98
Rectification claims from customers ($m) 0.9 0.54 0.2
Cost of after sales rectification service ($m) 3 2.5 2
Sales meeting planned completion dates (%) 90 95 99
Average cycle time: (customer enquiry
to service finalisation) (weeks) 6 5.5 5
Service enquiries not taken up by customers
(% of enquiries) 7.50 5.00 2.50
Idle capacity of service personnel (%) 10 6 2
Analysis of total cost: $000 $000 $000

Target cost – variable 12,000 14,400 16,000
Target cost – fixed 4,000 4,000 5,000
Internal failure costs 3,200 1,840 1,050
External failure costs 4,000 2,208 1,050
Appraisal costs 1,000 1,000 1,000
Prevention costs 4,000 2,000 1,000
Total cost 28,200 25,448 25,100
(25 marks)

Question 49 SUPERIOR BUSINESS CONSULTANCY
The Superior Business Consultancy (SBC) which is based in Jayland provides clients with consultancy
services in Advertising, Recruitment and IT Support. SBC commenced trading seven years ago and has
grown steadily since then.
The following information, together with that contained in the appendix, is available:
(1) Three types of consultants are employed by SBC on a full-time basis. These are:
Advertising consultants who provide advice regarding advertising and promotional activities
Recruitment consultants who provide advice regarding recruitment and selection of staff, and
IT consultants who provide advice regarding the selection of business software and technical
support.
(2) During the year just ended, each full-time consultant was budgeted to work on 200 days. All
consultations undertaken by consultants of SBC had a duration of one day.
(3) During their 200 working days per annum, full-time consultants undertake some consultations
on a “no-fee” basis. Such consultations are regarded as Business Development Activity
(BDA) by the management of SBC.
(4) SBC also engages the services of subcontract consultants who provide clients with
consultancy services in the categories of Advertising, Recruitment and IT Support. All of the
subcontract consultants have worked for SBC for at least three years.
(5) During recent years the directors of SBC have become increasingly concerned that SBC’s
systems are inadequate for the measurement of performance. This concern was further
increased after they each read a book entitled “How to improve business performance
measurement” which was written by Ino Itall, a business analyst of worldwide repute.
Required:
Prepare a report for the directors of SBC which:
(i) discusses the importance of non-financial performance indicators (NFPIs) and

evaluates, giving examples, how a “balanced scorecard” approach may be used to
improve performance within SBC; (13 marks)
(ii) contains a calculation of the actual average cost per chargeable consultation for both
full-time consultants and separately for subcontract consultants in respect of each of the
three categories of consultancy services during the year just ended ; (7 marks)
(iii) suggests reasons for the trends shown by the figures contained in the appendix; (5 marks)
(iv) discusses the potential benefits and potential problems which might arise as a
consequence of employing subcontract consultants within SBC. (6 marks)
Professional marks will be awarded in Question 1 for appropriateness of format, style and structure of
the report. (4 marks)
(35 marks)

Appendix
SBC – Relevant actual and forecast statistics
Year Current Following

just ended year year
Actual Forecast Forecast
Number of full-time consultants by category:
Advertising 20 20 20
Recruitment 30 25 20
IT Support 50 50 50
Salaries per full-time consultant ($):

Advertising 40,000 40,800 40,800
Recruitment 35,000 35,700 35,700
IT Support 30,000 30,600 30,600
Number of chargeable consultations (total demand):

Advertising 4,200 4,100 4,000
Recruitment 6,250 5,750 5,000
IT Support 10,250 10,500 10,000
Per cent of chargeable days spent on Business

Development Activity (%):
Advertising 7 8 10
Recruitment 22 22 25
IT Support 12 13 14
Cost per consultation undertaken by subcontract consultants ($):
Advertising 300
Recruitment 220
IT Support 200
Other operating costs ($000):

Full-time consultants 1,075 1,050 1,270
Subcontract consultants 125 270 182
Question 50 SPARE FOR SHIPS COMPANY
The Spare for Ships Company (SFS) has a specialist machining facility which serves the shipbuilding
components market. The current job-costing system has two categories of direct cost (direct materials
and direct manufacturing labour) and a single indirect cost pool (manufacturing overhead which is
allocated on the basis of direct labour hours). The indirect cost allocation rate of the existing job-
costing system is $120 per direct manufacturing labour-hour.
Recently, the Visibility Consultancy Partnership (VCP) proposed the use of an activity-based approach
to redefine the job-costing system of SFS. VCP made a recommendation to retain the two direct cost
categories. However, VCP further recommended the replacement of the single indirect-cost pool with
five indirect-cost pools.
Each of the five indirect-cost pools represents an activity area at the manufacturing premises of SFS.
Each activity area has its own supervisor who is responsible for his/her operating budget.

Relevant data are as follows:
Activity area Cost driver used as allocation base Cost allocation rate ($)
Materials handling Number of components 0·50
Lathe work Number of cuts 0·70
Milling Number of machine hours 24·00
Grinding Number of components 1·50
Inspection Number of units inspected 20·00
SFS has recently invested in “state of the art” IT systems which have the capability to automatically
collate all of the data necessary for budgeting in each of the five activity areas.
The management accountant of SFS calculated the manufacturing cost per unit of two representative
jobs under the two costing systems as follows:
Job order 973 Job order 974

$ $
Current costing system 1,172·00 620·00
Activity-based costing system 1,612·00 588·89
Required:
(a) (i) Compare the cost figures per unit for Job order 973 and Job order 974
calculated by the management accountant and explain the reasons for, and
potential consequences of, the differences in the job cost estimates produced
under the two costing systems; (8 marks)
(ii) Explain two potential problems that SFS might have experienced in the
successful implementation of an activity-based costing system using its recently
acquired “state of the art” IT systems. (4 marks)
(b) “The application of Activity Based Management (ABM) requires that the management of SFS
focus on each of the following:
(i) Operational ABM;

(ii) Strategic ABM;
(iii) The implicit value of an activity.”
Required:
Critically appraise the above statement and explain the risks attaching to the use of
ABM. (8 marks)
(20 marks)
Question 51 PLANTAGENET CO
Plantagenet Co, whose financial year ends on 31 October, owns one department store located in a
busy shopping centre in a large city.
The shop has four operating departments – fashions, sports, household and electrical, and customer
restaurant. There are also two service departments – staff canteen and administration.

Rent, rates and other fixed overheads for the year to 31 October 2009 were $400,000, and the
relevant contributions by the six departments were as follows:
$000
Operating departments
Fashions 240
Sports 200
Household and electrical 600
Customer restaurant 80
Service departments
Staff canteen (20)
Administration (100)
In reviewing performance for the previous 12 months, the chairman suggests that the control system
needs tightening up and that, consequently, overheads should be allocated to the four operating
departments. He argues that this should make it easier to assess their individual performances. In
particular, he is concerned at the customer restaurant’s low overall margin on sales and wonders
whether it might be better to close it down and expand the store’s other departments into the floor
space thus released.
The managing director thinks it would be a good idea to tighten up the control system in this way.
He suggests that the $400,000 of rent, rates and other fixed overheads should be allocated to the six
departments according to floor space occupied; and the revised staff canteen loss and administration
costs be apportioned to the four operating departments according to the number of personnel
employed. He points out that, in this particular case, the effect is the same regardless of whether the
step or reciprocal method is used. Moreover, similar departmental profit figures can be derived, first
by allocating rent, rates and other fixed overheads according to floor space occupied, and then by
aggregating administration and staff canteen costs and apportioning them to the four revenue-
generating departments.
The profit/ (loss) of the four operating departments after making such allocations are as follows for
the year to 31 October 2009:
$000
Fashions 83
Sports 90
Household and electrical 477
Customer restaurant (50)
The finance director is less sure about the wisdom of making such allocations and of trying to
evaluate the different parts of the business as though they were completely separate.
Required:
Write a brief report critically examining the proposals of the chairman and managing director.
In so doing, refer specifically to the relevance of overhead allocation in the circumstances
described for decision-making, motivating departmental managers and assessing performance.
(Calculations relating to the allocation of overheads are not required.)
Ignore taxation and external reporting requirements. (10 marks)

Question 52 META-COM
Meta-com operates a mobile telephone network in the country of Ruritania. The company has a license
from the government to operate such a network for the next 20 years. There are two other mobile
phone providers operating in Ruritania. The government of Ruritania has indicated that it will not issue
any further licenses to operate mobile networks until Meta-com’s license expires.
There are ten million citizens in Ruritania. Currently only two million have mobile phones, but this is
expected to increase to five million in five years. Meta-com currently has a market share of only 25%,
but due to aggressive marketing, the company’s share of the market is growing rapidly at the expense of
the second largest provider.
The market for mobile phones is very competitive and consumers can switch freely between providers.
Under government regulations in Ruritania, users have the right to keep their existing telephone number
even if they switch to a new provider.
Mobile telephone companies in Ruritania are facing indirect competition from companies offering
“voice over IP” services, which allow users to make calls via the internet for very low prices.
The services that Meta-com offers are the traditional mobile phone voice service, which accounts for
70% of the company’s revenues. It is estimated that this represents 25% of the market share of voice
calls. The company launched its WAP service two years ago. This allows users to access the Internet
through their mobile phones, and users are charged based on the volume of data they download. Meta-
com is ahead of its competitors in this area. Only one of its competitors offers this service, and they
only started one year ago. It is estimated that Meta-com has 70% of the market for non-voice services
in Ruritania.
The majority of Meta-com’s costs are made up of staff costs, depreciation and amortisation of the
network and licenses and advertising expenses. There are many advertising agencies in Ruritania.
Required:
Discuss the competitive nature of the mobile telephone market in Ruritania using Porter’s five
forces model.
(10 marks)
Question 53 ENVIRONMENTAL MANAGEMENT ACCOUNTING
(a) Explain the term “environmental management accounting” and the benefits that may
accrue to organisations which adopt it. (6 marks)
(b) Identify and explain four categories of environmental cost. (8 marks)
(c) Explain the following environmental management accounting tools:
(i) Input/output analysis

(ii) Lifecycle costing
(iii) Activity based costing (6 marks)
(20 marks)

Question 54 STRUCTURE
“The structure and operation of a management accounting system may be influenced by internal and
external factors. Accountability perspectives and contingency theory may provide relevant areas of
focus when considering internal and external factors.”
Required:
Discuss the above statement with particular reference to:
(i) Accountability; and
(ii) Contingency theory.
(15 marks)
Question 55 GMB CO
GMB Co designs, produces and sells a number of products. Functions are recognised from design
through to the distribution of products. Within each function, a number of activities may be
distinguished and a principal driver identified for each activity.
Each sales order will normally comprise a number of batches of any one of a range of products. The
company is active in promoting, where possible, a product focus for design, dedicated production lines
and product marketing. It also recognises that a considerable level of expenditure will relate to
supporting the overall business operation.
It is known that many costs may initially be recognised at the unit, batch, product sustaining (order) or
business/facility sustaining (overall) levels. A list of expense items relating to Order Number 377 of
product Zeta is shown below. The methods of calculating the values for Order Number 377 shown
below are given in brackets alongside each expense item. These methods also indicate whether the
expense items should be regarded as product unit, batch, product sustaining (order) or business/facility
sustaining (overall) level costs. The expense items are not listed in any particular sequence. Each
expense item should be adjusted to reflect its total cost for Order Number 377.
Order Number 377 comprises 5,000 units of product Zeta which will be provided in batches of 1,000
product units.
Order Number 377

$
Production scheduling (rate per hour × hours per batch) 60,000
Direct material cost (per unit material specification) 180
Selling – batch expediting (at rate per batch) 60,000
Engineering design & support (rate per hour × hours per order) 350,000
Direct labour cost (rate per hour × hours per unit) 150
Machine set-up (rate per set-up × number of set-ups per batch) 34,000
Production line maintenance (rate per hour × hours per order) 1,100,000
Business/facility sustaining cost (at 30% of all other costs) 1,500,000
Marketing (rate per visit to client × number of visits per order) 200,000
Distribution (tonne miles × rate per tonne mile per batch) 12,000
Power cost (rate per Kilowatt hour × Kilowatts per unit) 120
Design work (rate per hour × hours per batch) 30,000
Administration – invoicing and accounting (at rate per batch) 24,000

Required:
(a) Prepare a statement of total cost for Order Number 377, which analyses the expense
items into sections for each of four levels, with sub-totals for each level where
appropriate. The four levels are:
(i) Unit-based costs;
(ii) Batch-related costs;
(iii) Product sustaining (order level) costs; and
(iv) Business/facility sustaining (overall level) costs. (5 marks)
(b) Identify and discuss the appropriateness of the cost drivers of any TWO expense values
in EACH of levels (i) to (iii) above and ONE value that relates to level (iv).
In addition, suggest a likely cause of the cost driver for any ONE value in EACH of
levels (i) to (iii), and comment on possible benefits from the identification of the cause of
each cost driver. (10 marks)
(c) Discuss the practical problems that may be encountered in the implementation of an
activity-based system of product cost management. (5 marks)
(20 marks)
Question 56 THERE 4 U COMPANY
There 4 U Company (T4UC) commenced trading three years ago. It was founded by Ken Matthews,
who is the managing director of T4UC.
The initial aim of T4UC was to provide “good quality” repairs and servicing to customers with
domestic central heating systems and domestic “white goods” (white goods are items such as washing
machines, tumble dryers, dishwashers, refrigerators and freezers).
T4UC provides contract services on an annual basis to individual customers who require insurance
covering the repair and servicing of their central heating systems and domestic white goods. T4UC
charge an annual contract fee and undertake all client repair and servicing requirements without further
charge.
Ken, who has a very strong background in sales and marketing, recruited engineers who came from a
variety of engineering backgrounds.
Initial growth was prolific with Ken being very successful in establishing a good-sized customer base
within the first two years of the business. Ken believes that staff utilisation is the key driver of T4UC’s
profitability.
T4UC set up a website where clients could access product manuals and other diagnostic data as well as
being able to book an appointment with a service engineer.
The following data is available for the first three years of the business:
Year Year 1 Year 2 Year 3

Number of contracted clients 13,000 15,000 14,800
Number of visits to contracted clients 23,400 30,000 32,000
Number of clients gained via recommendation 200 100 5
Number of telephone calls for product
support received 52,500 62,000 59,500
Number of telephone calls for product
support answered 52,000 60,000 58,000
Number of product support issues resolved
by telephone 46,800 51,000 46,400

At the end of year 3 Ken became anxious regarding the fact that the growth in the customer base had
stopped and that a number of clients had chosen not to renew their contracts with T4UC. In view of
these facts, Ken undertook an extensive survey of the customers who had entered into contracts with
T4UC since it commenced trading.
Ken received the following comments, which were representative of all other comments that he
received.
“T4UC ought to adopt a “right first time” mentality.”
“I booked an engineer for last Monday who never arrived but two engineers turned up on Tuesday!”
“You send me a different engineer each time to inspect my central heating system. Some are here for
an hour and yet others are here for the whole day and some of those even have to come back the next
day.”
“Your people never seem to have the required parts with them and have to come back the next day!”
“An engineer arrived at my home to repair my washing machine but the required parts which were
shipped to my home direct from the manufacturer arrived three days later! I’ve heard that “Appliances
R Us” is the best organisation in your service sector and that they provide a much more efficient service
than T4UC and unlike T4UC is always contactable on a 24 hours basis during every day of the year!
When I have tried to contact you on Saturdays and Sundays I have often given up out of sheer
frustration!”
Ken also obtained the following data from the “Centre for Inter-Firm Comparison”.
T4UC Appliances R Us Industry average

Customer satisfaction rating (%) 65 92 75
Remedial visits (%) of client visits 8 1 4
Cost per client per visit ($) 150 75 100
Client to staff ratio 250:1 200:1 225:1
Ken undertook further investigations that revealed remedial visits were frequently due to staff servicing
appliances with which they were not completely familiar.
Required:
(a) Describe the Six-Sigma methodology for the improvement of an existing process.
(8 marks)
(b) Explain how the above-mentioned problems at T4UC could be analysed and addressed
using the Six Sigma methodology. Your answer should include suggestions regarding
additional activities that should be undertaken in order to improve the performance of
T4UC. (12 marks)
(20 marks)

Question 57 SUPERIOR SOFTWARE HOUSE
The Superior Software House (SSH) commenced trading on 1 December 20Y8 in the country of
Bonlandia. SSH develops bespoke software packages on behalf of clients. When requested to do so,
SSH also provides training to clients’ staff in the use of these software packages. On 1 December
20X0, the directors of SSH established a similar semi-autonomous operation in Karendia. All software
packages are produced in Bonlandia and transferred to Karendia at cost plus attributable overheads.
There is no mark-up on the software packages transferred from Bonlandia to Karendia.
Karendia is a country in which the structure of industry has changed during recent years. There has
been a major shift from traditional manufacturing businesses to service orientated businesses that place
a far greater emphasis on the use of business software.
The operational managers in both Bonlandia and Karendia have no control over company policies in
respect of acquisitions and financing.
The operational manager of Bonlandia receives a bonus of 40% of his basic salary for meeting all client
delivery deadlines in respect of Karendia. At a recent meeting he instructed his staff to “install client
software by the due date and we’ll worry about fixing any software problems after it’s been installed.
After all, we always fix software problems eventually”. He also stated “it is of vital importance that we
grow our revenues in Karendia as quickly as possible. Our clients in Karendia might complain but they
have spent a lot of money on our software products and will not be able to go to any of our competitors
once we have installed our software as all their businesses would suffer huge disruption”.
Financial data (all stated on an actual basis) in respect of the two divisions for the two years ended 30
November 20X1 and 20X2 are as follows:
Summary Income Statements
Bonlandia Karendia Combined Bonlandia Karendia Combined

20X2 20X2 20X2 20X1 20X1 20X1
$000 $000 $000 $000 $000 $000
Revenue 14,600 2,800 17,400 14,000 2,000 16,000
–––––– –––––– –––––– –––––– –––––– ––––––
Salaries 4,340 1,248 5,588 4,000 1,200 5,200
Software & consumables 2,040 486 2,526 2,000 450 2,450
Other operating costs 2,880 654 3,534 2,800 600 3,400
–––––– –––––– –––––– –––––– –––––– ––––––
9,260 2,388 11,648 8,800 2,250 11,050
–––––– –––––– –––––– –––––– –––––– ––––––
Marketing 2,392 600 2,992 2,100 400 2,500
Interest (Group) 850 900
Depreciation and amortisation 400 160 560 400 100 500
–––––– –––––– –––––– –––––– –––––– ––––––
2,792 760 4,402 2,500 500 3,900
–––––– –––––– –––––– –––––– –––––– ––––––
Total costs 12,052 3,148 16,050 11,300 2,750 14,950
–––––– –––––– –––––– –––––– –––––– ––––––
Profit/(loss) for the period 2,548 (348) 1,350 2,700 (750) 1,050
–––––– –––––– –––––– –––––– –––––– ––––––

Statements of financial position
Bonlandia Karendia Combined Bonlandia Karendia Combined

20X2 20X2 20X2 20X1 20X1 20X1
$000 $000 $000 $000 $000 $000
Assets
Non-current assets 9,000 1,600 10,600 8,000 1,000 9,000
Current assets 4,550 1,000 5,550 5,000 800 5,800
–––––– –––––– –––––– –––––– –––––– ––––––
Total assets 13,550 2,600 16,150 13,000 1,800 14,800
–––––– –––––– –––––– –––––– –––––– ––––––
Equity and liabilities
Share capital and reserves 9,150 7,800
Non-current liabilities
Long-term borrowings (Group) 4,000 4,500
Current liabilities 2,400 600 3,000 2,000 500 2,500
–––––– ––––––
Total equity and liabilities 16,150 14,800
–––––– ––––––
Required:
(a) Assess the financial performance of SSH and its operations in Bonlandia and Karendia
during the years ended 30 November 20X1 and 20X2.
Note: you should highlight additional information that would be required in order to provide a
more comprehensive assessment of the financial performance of each operation. (14 marks)
(b) Discuss the statements of the operational manager of Bonlandia and assess their
implications for SSH. (4 marks)
(c) Assess the likely criteria that would need to be satisfied for software to be regarded as
“quality software”. (4 marks)
(d) Suggest a set of SIX performance measures that the directors of SSH could use in order
to assess the quality of service provided to its clients. (3 marks)
(25 marks)
Question 58 SPECIALIST CLOTHING COMPANY
The Specialist Clothing Company (SCC) is a manufacturer of a wide range of clothing. Its operations
are organised into five divisions, which are as follows:
(i) Fashion;
(ii) Industrial;
(iii) Leisure;
(iv) Children;
(v) Footwear.
The Fashion division manufactures a narrow range of high quality clothing that is sold to a leading
retail store, which has branches in every major city in its country of operation. The products have very
short life cycles.

The Industrial division manufactures a wide range of clothing, which has been designed for use in
industrial environments. In an attempt to increase sales volumes, SCC introduced the sale of these
products via mail order with effect from 1 June 20X2.
The Leisure division manufactures a narrow range of clothing designed for outdoor pursuits such as
mountaineering and sky diving, which it markets under its own, well-established “Elite” brand label.
The Children division manufactures a range of school and casual wear, which is sold to leading retail
stores.
The Footwear division manufactures a narrow range of footwear.
The management accountant of SCC has gathered the following actual and forecast information relating
to the five divisions. Assume that the most recent financial year ended on 31 May 20X3:
Year ending 31 May 20X1 20X2 20X3 20X4 20X5

Actual Actual Actual Forecast Forecast
Fashion
Market size ($m) 200.0 240.0 280.0 305.0 350.0
Revenue ($m) 10.0 14.4 22.4 30.5 35.0
Industrial
Market size ($m) 150.0 158.0 166.0 174.0 182.0
Revenue ($m) 5.0 5.1 5.2 5.3 5.4
Leisure
Market size ($m) 20.0 20.5 21.0 21.5 21.8
Revenue ($m) 13.6 14.2 14.7 15.0 15.2
Children
Market size ($m) 60.0 70.0 80.0 90.0 100.0
Revenue ($m) 2.0 2.1 2.2 2.3 2.4
Footwear
Market size ($m) 20.0 20.2 20.4 20.6 21.0
Revenue ($m) 0.50 0.52 0.54 0.52 0.50

The management accountant has also collated the following information relating to the market share
held at 31 May 20X3 by the market leader or nearest competitor in the markets in which each division
operates:
Division (%) Market share held by
market leader/nearest competitor
Fashion 8
Industrial 15
Leisure 70
Children 28
Footwear 33
Required:
(a) Use the Boston Consulting Group matrix in order to assess the competitive position of
SCC. (10 marks)
(b) Advise the management of SCC of THREE strategies that should be considered in order
to improve the future performance of SCC. (6 marks)
(c) Discuss TWO limitations of the Boston Consulting Group matrix as a strategic planning
tool. (4 marks)
(20 marks)

Answer 1 ANTONIO
(a) Assessment of Antonio’s performance against the industry
Antonio is right to be concerned about the performance of his business. After adding a
notional cost for Antonio’s time to labour costs, the business has a total expense to revenue
ratio of 98%, compared to an industry benchmark of 88% (see Appendix).
The biggest concern appears to be the gross profit margin, which for Antonio is only 56%
compared to the industry average of 68%. If Antonio were to achieve a margin of 68%, his
gross profit would rise to $170,000, an increase of $30,000. A higher profit margin could be
achieved either by increasing the selling price of the ice creams, or reducing the cost of
manufacturing. Given that the ice cream is homemade, it may be possible to increase the
selling price and market it as a premium product. It would be necessary to assess the impact
that this would have on demand.
As far as reducing cost of sales, there may be ways that Antonio could make his production
more efficient. Being freshly made, there may be high levels of waste for unsold ice cream,
for example, so a more accurate forecasting model could help to ensure that he does not
overproduce.
Labour cost as a percept of revenue is higher than benchmarks. Antonio should consider
whether he could reduce the amount of time that he uses an assistant for. Similarly, the rent
as a portion of turnover appears high. This may be because he is paying higher rent per
square metre than the benchmarks. It may not be possible to do much about this, as it is
important to have well positioned premises to attract customers. The high ratio may also
reflect poor level of sales per square metre. It would be useful to have information about the
industry average for this.
(b) Usefulness of the benchmarking exercise
The exercise has been a useful preliminary exercise in benchmarking, and has identified that
there may be a performance gap between Antonio and the industry. However, the information
is not sufficiently detailed, and does not therefore identify the cause of the gaps. In the case
of the gross profit margin for example, information about industry prices and costs per litre of
ice cream would help to identify why Antonio’s gross profit margin is low.
Benchmarking should be more than an exercise in comparing metrics – it can also provide an
opportunity for organisations to learn how best practice organisations achieve superior
performance. This important aspect of benchmarking is missing from the exercise carried out
above.
Benchmarking may not take into account differences in the organisations being compared.
For example, demand for ice cream in Camberwick Bay may be very different from the
industry average, and will also be affected by the level of demand. Similarly, rent and labour
costs will vary from location to location, so the comparison with industry averages may not
be a valid one.
As a next step, Antonio could consider finding a successful ice cream retailer in another
location, which is not therefore a competitor of Antonio’s, and obtain their agreement to
benchmark his performance against theirs. Not only would more detailed information be
obtained, both organisations could learn best practices from each other which would enable
them to identify how to improve – for example better ways of forecasting demand.

On a local level, Antonio could visit his competitors’ shops and find out what prices they are
charging. He should also consider experimenting with his own price – finding out what
impact an increase in his prices would have on demand.
Appendix
In order to make Antonio’s business more comparable with the benchmarks, a notional salary of
$45,000 has been added to labour costs, in respect of Antonio’s own time. The income statement now
becomes:
$
Revenue 250,000
Cost of sales 110,000
–––––––
Gross profit 140,000
Labour costs 60,000
Rent 60,000
Other expenses 15,000
–––––––
Profit before tax 5,000
–––––––
Calculating the relevant metrics and comparing them to the benchmark gives the following:
Metric Antonio Industry average

Gross profit margin 56% 68%
Total expenses/ revenue 98% 88%
Labour cost/ revenue 24% 19%
Rent/ turnover 24% 16%
Answer 2 ST MARGARET’S HOSPITAL
(a) Stakeholder objectives and key performance indicators
(i) Patients
Objective Key performance indicator

Successful operations Number of remedial operations (as a percentage of total
operations)
Number of patients readmitted for recurring problem
within three months (as a percentage of patients treated)
Low waiting time Waiting time (measured as number of days from being
referred to the hospital until the operation is performed)
Cleanliness of hospital (hygiene) Ranking by inspectors
Responsiveness of staff Patient surveys

(iii) Medical staff
Objective Key performance indicator

Reasonable working hours Average hours worked per week
Appreciation from patients and Rankings from staff surveys

managers
Competitive remuneration Salary benchmarking against average for industry
(b) Statement of the accountant
From a financial point of view, the accountant may be correct. However, his statement fails
to recognise that the hospital’s objectives are far broader than simply making a financial
surplus.
The mission of the hospital is “To provide high quality health care to all patients”, which
suggests that all patients deserve this care, regardless of how their treatment is financed.
While it is true that the hospital has reached capacity, and that it is necessary to find a way of
rationing the services of the hospital, management need to identify a more appropriate method
of doing this – perhaps based on how serious the conditions of the patients are.
Answer 3 INA CO
(a) Benchmarking
Benchmarking has been defined as “the establishment, through data gathering, of targets and
comparators through whose use relative levels of performance (and particularly areas of
underperformance) can be identified. By the adoption of identified best practices it is hoped
that performance will improve.”
A major problem facing the management of INA lies in the accessing of information
regarding the activities of a competitor firm that may be acknowledged to display best
practice. Internal benchmarking (i.e. using another function within the same firm as the
standard) can help in the avoidance of the problems of information access, but that clearly
limits the scope of what can be achieved. The most common approach is process
benchmarking, where the standard of comparison is a “Best Practice” firm which may be
entirely unconnected with the benchmarking organisation and not even operating within the
same industry.
In this case the company is concerned with the processes by which its purchasing department
establish and achieve targets. It is highly probable that the best yardstick for comparison
would appear to be another organisation that is highly regarded for its management of such
activities.
The objective is to improve performance. This is best achieved by means of the sharing of
information which should prove of mutual benefit to both parties to the benchmarking
programme. As a result of receiving new information each party will be able to review their
policies and procedures. The very process of comparing respective past successes and
failures can serve as a stimulus for greater innovation within each organisation.

To evaluate the operational performance of the purchasing department team the main
contribution of benchmarking will be to establish a basis for targets which reflects the
performance of an organisation which displays “Best Practice” with regard to purchasing
activities. As a direct consequence of a comparison of existing standards with the “Best
Practice” organisation, managers can focus upon areas where improvements can be achieved
and evaluate measures to help attain those improvements.
A principal benefit that will be derived by INA as a result of undertaking a successful

programme of benchmarking will be the identification of areas where cost savings are
possible. Hence the levels of cost of sales and operating expenses can be reduced leading to
increased profitability. Another benefit will be the setting of more realistic purchasing targets
that will result in improved budgeting. The improved performance of the purchasing
department personnel will serve as a better platform for the introduction of initiatives such as
performance related pay for the personnel within the purchasing department.
(b) Benchmarking the purchasing department
It is critical that detailed planning of the work to be undertaken takes place if the programme
of benchmarking is to be successful. In order to collectively benchmark the purchasing
department as a whole, the company must first review and assess current practices. Of
fundamental importance to the programme is the need to define measurable targets and
determine how those targets are going to be measured in quantitative terms. This is critical
since benchmarking will be ineffective without a reliable form of measurement. Appropriate
targets for use within INA might relate, for example, to the cost of sales as a percentage of
turnover, costs of inventory, amount of discounts obtained, the number of stock-outs, the
number of “emergency” orders placed, the costs per order, the overall costs of the purchasing
department.
At the outset it should be acknowledged that there is a need to incur significant costs in terms
of management time that needs to be invested in the benchmarking programme. However it is
quite possible that considerable benefits will be realised as a result of the comparison of the
activities of the purchasing department with that of an organisation that exhibits “Best
Practice” in terms of purchasing efficiency and effectiveness. During the preliminary stages
of the programme, the company will need to give detailed consideration as to how the
benchmarking exercise is to be conducted. The fundamental aim of the programme will be to
obtain comparative information in order that performance indicators may be developed. In
turn, these will be used to identify areas in which improvements can be obtained with
resultant cost savings.
With all this preparation complete, the company will then need to not only identify a “Best
Practice” firm against which to benchmark, but having done so it must be able to persuade
that firm to collaborate in the benchmarking programme and in particular to share
information. This is not an easy task to accomplish, as many organisations are reluctant to
reveal confidential information to present or potential competitors.
Once the exercise is complete INA will benefit from improved levels of efficiency and
effectiveness within the purchasing department, via better management information. In
particular, improved visibility of costs incurred by the company will facilitate better decision-
making.

(c) Problems inherent in benchmarking
There are a number of potential problems inherent in undertaking a programme of

benchmarking. There needs to exist a sufficient incentive for the respective parties to share
information to their mutual benefit, as the success of the benchmarking programme is
dependent upon obtaining accurate information about the comparator organisation.
Moreover, it is essential that the business functions being benchmarked are similar enough to
facilitate meaningful comparisons. The value of the exercise must be sufficient to justify the
cost involved. Also, it is inevitable that behavioural issues will need to be addressed in any
benchmarking programme. This is especially the case if incentive schemes are in existence
and management may measure members of the purchasing department against each other.
Tactful management of the introduction of a benchmarking programme is essential.
Management should give priority to the need to communicate the reasons for undertaking a
programme of benchmarking in order to gain the full co-operation of the personnel within the
purchasing department whilst reducing the potential level of resistance to change.
Management need to handle the ethical implications relating to the introduction of
benchmarking in a sensitive manner and should endeavour, insofar as is possible, to provide
reassurance to the members of the purchasing department that their status, remuneration and
working conditions will not suffer as a consequence of the benchmarking programme.
Answer 4 ZBB – FOUR STATEMENTS
(a) ZBB is purely theoretical
Generally it seems unjust to discuss zero-base budgeting (ZBB) as a theoretical idea in two
senses:
(1) The technique is clearly documented;
(2) There is evidence that it has been successful in practice.
ZBB, it is largely agreed, was introduced initially in the United States by Peter Pyrrh of Texas
Instruments, who has subsequently written at length on the subject. Its essential feature is that
there is a departure from the status quo concept, in which the level of current spending is
taken as justifying the activity which is in receipt of the allocated resources.
Departmental managers are required to describe the nature, purpose and goals of their
departments in such a way that outside observers can understand the importance of the
department to the company. Alternative ways of providing the service in question should
then be considered, and the possibility of providing a lower level of service, or a lower quality
of service, should be envisaged. Finally, priorities will need to be considered, and
authorisation will be given for relevant activities with a view to necessary goal achievements
and the available resources.
Thus the technique, albeit a different approach from the usual assumption that the current
level of spending is acceptable and only increases need to be justified, is certainly not a
theoretical idea, and when considering its practical use it has proved of some benefit to the
businessman.
Admittedly the level of utilisation in the UK is limited, but the technique has permeated to the
highest levels of the United States government. Around twenty US states make use of the
technique, and ex-President Carter, whilst the Governor of Georgia, introduced such a system
there and subsequently brought the idea to the White House. Stanford University is another
significant advocate of ZBB.

In this country an experiment at an English polytechnic reportedly yielded significant

benefits. A London-based pharmaceutical company has also resolved to identify areas for
ZBB implementation. However, it must be said that so far there has been nothing more than
scattered examples.
In conclusion, it seems unjust to suggest that ZBB is a theoretical idea, of interest to

academics but of no practical use to businessmen of today. The technique is tried and tested
in the practical world, and has generally proved to be at least a qualified success wherever it
has been introduced.
(b) Implementing ZBB wastes resources
It seems rather dubious to argue that the moment when management’s time and costs are
consistently under review is the wrong time to introduce ZBB. Indeed, considering that the
technique is specifically designed to assign priorities and assess the desirability of the level of
spending, it could be argued that this would be the best time to introduce such a system.
In terms of opposition to ZBB, the introduction of such a system is bound to impose

considerable strains on management’s time, and implementing such a system will inevitably
cost money. However, in an area where management cannot afford to waste resources, a
system which intends to assess priorities for those resources, and which forces managers to
justify their activities would be a desirable development.
Indeed, times of economic recession are the best occasions for considering ZBB, for such
times force companies to examine themselves and their activities in any event. Companies
which streamline and consider carefully their strategy, as regards hopefully better times
ahead, may emerge stronger and better placed to take advantage of opportunities in the future.
In conclusion, the statement seems to misinterpret ZBB in assuming that it is likely to be a

drain on resources. Initially this may prove to be the case, but the long-term gains may well
have much more to offer.
(c) ZBB is no use in private industry
In a practical sense ZBB has been most to the fore in central and local government. Cynics
might argue that this is because they are the only organisations with the time and resources to
devote to such projects, whilst suggesting that they are the areas where spending for
spending’s sake, and the assumption that the current level of spend is per se justified, are rife.
In the private sector it is obvious that the influence of the market is more prominent, and this
will impose its limitations. However, particularly in non-productive departments, studies
have suggested that there is a tendency towards mushrooming of costs, along with managers
engaging in empire-building. Additionally, there is often an over-emphasis on the quality of
the service provided, and a lack of awareness of the needs of the enterprise. Certainly in
many instances a less extensive more cost-effective service may give greater benefit to the
organisation as a whole, even if not, at least at first sight, to the departmental manager
involved.
Overall it can be said that ZBB has been and is likely to be most regularly encountered in the
public sector, but this is not to say that it cannot be of use, particularly on a selective basis, in
the private sector.

(d) ZBB will not replace flexible budgeting
This comment is based on a fundamentally wrong assumption: that ZBB is intended to

replace the flexible budget. Indeed, flexible budgeting will remain, and will be used after the
ZBB exercise has been carried out.
It is unquestionably true that a well-set flexible budget does concentrate on the practical
realities of the present, although the flexible element in itself is designed to react to changes
in that situation. Equally, however, ZBB is also based on the present, and even tries to ignore
the past by beginning from a zero base, therefore perhaps resulting in a more objective
approach to the subsequent flexible budgeting process.
Overall this comment cannot be said to be justified, showing a lack of understanding of the
use of ZBB and greatly underestimating its practicability.
Answer 5 MASTER BUDGET
Tutorial note: Steps in preparation of master budgets including the main budgets normally prepared.
(1) Company objectives and policies
These should already exist because they tend to be medium or long term in nature. It is
necessary to check that they are valid and do not need updating. If objectives or policies do
not exist, then it is an essential prerequisite to budgetary planning that they are established –
preferably in writing.
(2) Up-to-date organisation chart
The current organisation structure should be reflected in organisation chart(s) and an

organisation manual. Responsibilities attached to the positions in the structure need to be
clearly defined so that managers are aware of the scope of the budgets that they are setting for
the next budget period.
(3) Establish principal (limiting) budget factor
The principal or limiting budget factor is one that predominates to such an extent that all
budgets are influenced by it. Finance may limit the extent of the company’s activities, or the
level of sales likely to be attained in the budget period. The sales forecast is a common
starting-point in the budgetary planning process.
(4) Sales forecast
This would be issued by the marketing function and would be broken down into:
(i) Major products or product groups;

(ii) Geographical sales areas;
(iii) Months or quarters over the budget period.
All other elements in the process of developing master budgets either exist to support sales or
are a consequence of the level of sales.
(5) Production budget
The production budget would be developed to meet the sales forecast period by period in the
year, taking into account stock-holding policies for both work in progress and finished goods
inventory. This would be done in terms of the physical units involved at this stage.

(6) Material purchases budget
This budget would be developed, in physical unit terms, from the input requirements into the
manufacturing cycle and from the raw material stock-holding policy. This would be the area
of responsibility of the purchasing manager.
(7) Factory cost budgets
From the production budget in unit terms, budgets would be developed separately for all
manufacturing cost elements – materials, labour and the range of factory overheads.
(8) Cost of goods sold budget
This budget is developed from the previous steps and involves the valuation of inventory.
(9) Selling, administration and other expenses budgets
Budgets would be developed separately for all service function costs. These would cover
such activities as personnel and training, finance and accounting, management services
including computer service department, marketing and administration.
(10) Capital expenditure budget
This budget is not directly related to operating activities within the budget period. The
expenditure on fixed assets needs to be very carefully controlled.
(11) Research and development (R&D) budget
This is another area of budgetary planning that needs careful control, because the expenditure
on R&D activities in the budget period will not relate directly to the operating activities in the
factory at the same time.
(12) Master budgets
The master budgets developed for the whole company from the main budgets previously
described would be:
(i) Cash budgets;

(ii) Budgeted profit and loss account;
(iii) Budgeted balance sheet.
These would be broken down over the sub-periods within the budget year as appropriate. In
the case of cash budgets, these would be prepared for each month or even each week within
the budget period showing the forecast cash balance or overdraft position at the period end.
Cash management is an important element in the overall control of working capital within a
manufacturing company.
The steps and procedure outlined which lead to the preparation of master budgets would be contained in
a budget manual, which would include detailed instructions and pro-forma documentation. Budgets
should be set by the appropriate managers throughout the company and this process needs to be very
carefully co-ordinated by a budget committee and/or a budget controller. In addition, the budget
accountant will have a co-ordinating and evaluative role at all stages in the budgetary planning cycle.
Tutorial note: As with all discussion questions, planning is important. This plan is often assisted by
“chopping up the question”. It asks for (a) steps taken (with reasons) and (b) main budgets that would
be prepared. It is also important to look for any practical context in which a question has been set; in
this case the wording merely includes “... in a manufacturing company ...” which serves to make
preparation of an answer easier.

Answer 6 USEFULNESS OF BUDGETING
(a) Usefulness management accounting technique
Budgeting may be viewed as of use in planning, co-ordination, control, motivation and

performance evaluation.
As a planning aid, the budgeting process allows for the quantification of the business plan.
Alternative planning scenarios may be examined and a “what-if” analysis applied. This feed-
forward view will enable a proposed plan to be compared with the level of achievement
which is required in order to provide the level of return required by the organisation. If
necessary amendments can be made in order that the agreed plan will achieve the required
level of return.
The co-ordination of business activities will be aided through the budgeting process. Areas
of imbalance (e.g. between production capacity available and that required to satisfy demand)
may be identified and investigated. The co-ordination process will also avoid individual
members of management making planning decisions which are sub-optimal for the business
as a whole.
The control of business activities will be aided through the comparison of actual results
against the budget plan. The variances may be investigated and corrective action taken. This
process may be enhanced through the application of a flexible budgeting approach.
The budget should act as a motivating device. This should be enhanced through the feeling
of involvement which participation in the budgeting process will promote. Management is
more likely to identify and work toward achieving, targets which it has agreed in advance.
Budgets may be used as a base against which to measure actual performance. The measures
may be quantitative in both monetary and non-monetary terms. Examples might be the
monitoring of cash flow or the percentage of material losses incurred. The trend of variances
between budget and actual may be monitored to help identify whether an “in control” or “out
of control” situation exists.
Tutorial note: Alternative relevant uses and comment would be accepted.
(b) Activity based budgeting
Advantages claimed for the use of activity based budgeting include the following:
 Resource allocation is linked to a strategic plan for the future, prepared after
considering alternative strategies. Traditional budgets tend to focus on resources
and inputs rather than on objectives and alternatives.
 New high priority activities are encouraged, rather than focusing on the existing
planning model. Activity based budgeting focuses on activities. This allows the
identification of the cost of each activity. It also allows the ranking of activities
where financial constraints limit the range of activities which may be achieved.
 There is more focus on efficiency and effectiveness and the alternative methods by
which they may be achieved. Activity based budgeting assists in the operation of a
total quality philosophy.
 It avoids arbitrary cuts in specific budget areas in order to meet the overall financial
targets. Non-value added activities may be identified as those which should be
eliminated.

 It tends to increase management commitment to the budget process. This should be

achieved since the activity analysis enables management to focus on the objectives
of each activity. Identification of primary and secondary activities and non-value
added activities should also help in motivating management in activity planning and
control.
(c) Reasons why annual budget preparation may not be an effective use of resources
Current investigation of budgeting indicates that some organisations claim that they have
abandoned the major annual budget preparation exercise. Arguments are put that a number of
adverse impacts resulting from the budget process may be stated.
Examples of such impacts are:
 Annual budgeting adds little value and takes up too much valuable management
time.
 Too heavy reliance on budgetary control in managing performance has an adverse
impact on management behaviour.
 The use of budgeting as a base for communicating corporate goals, setting
objectives, assisting continuous improvement, etc. is seen as contrary to its original
purpose as a financial control mechanism.
 Most budgets are not based on a rational causal model of resource consumption and
are, therefore, of little use in determining strategy.
 The process has insufficient external focus from which to derive targets or
benchmarks.
The argument may be put that increased focus on knowledge or intellectual capital through
competent managers, skilled workforce, effective systems, loyal customers and strong brands
is more likely to yield improved business effectiveness.
Tutorial note: This answer is more detailed than that expected from the average student. An
awareness of the problem and debate would suffice.
Answer 7 INHERENT WEAKNESSES
(a) Weaknesses of traditional budgeting processes
 Many commentators, including Hope and Fraser, contend that budgets prepared
under traditional processes add little value and require far too much valuable
management time which would be better spent elsewhere.
 Too heavy a reliance on the “agreed” budget has an adverse impact on management
behaviour which can become dysfunctional having regard to the objectives of the
organisation as a whole.
 The use of budgeting as base for communicating corporate goals, setting objectives,
continuous improvement, etc is seen as contrary to the original purpose of
budgeting as a financial control mechanism.
 Most budgets are not based on a rational causal model of resource consumption but
are often the result of protracted internal bargaining processes.
 Conformance to budget is not seen as compatible with a drive towards continuous
improvement.
 Budgeting has an insufficient external focus.

(b) Implementing strategic change
(i) Benchmarking
Benchmarks enable goals to be set that may be based on either external measures of “best
practice” organisations or internal cross-functional comparisons which exhibit “best practice”.
A primary aim of the traditional budgeting process is the setting of realistic targets that can be
achieved within the budget period. The setting of realistic targets means that the extent of
underperformance against “best practice” standards loses visibility, and thus short-term
financial targets remain the predominant focus of the traditional budgeting process. It is
arguable that because the budgetary reporting system purports to give managers “control”,
there is very little real incentive to seek out benchmarks which may be used to raise budgeted
performance targets. Much depends upon the prevailing organisational culture since
benchmarking may be viewed as an attempt by top management to impose impossible targets
upon operational managers. The situation is further exacerbated where organisations do not
measure their success relative to their competition.
(ii) Balanced scorecard
The Balanced scorecard is often misunderstood as a consequence of the failure by top

management to ensure that it is implemented effectively within the organisation. Thus it may
be viewed as the addition of a few non-financial measures to the conventional budget. In an
attempt to overcome this misperception many management teams now establish a
performance-rewards linkage based upon the achievement of Scorecard targets for the
forthcoming budget period. Unfortunately this can precipitate dysfunctional behaviour at
every level within the organisation.
Even in situations where the Scorecard has been well-designed and well-implemented it is
difficult for it to gain widespread acceptance. This is because all too often there exists a
culture which places a very high value on the achievement of the fixed annual targets in order
to avoid the loss of status, recognition and rewards.
A well-constructed Scorecard contains a mix of long-term and short-term measures and

therefore drives the company in the direction of medium-term strategic goals which are
supported by cross-functional initiatives. On the other hand, the budgeting process focuses
the organisation on the achievement of short-term financial goals supported by the initiatives
of individual departments. Budgets can also act as an impediment to the acceptance of
responsibility by local managers for the achievement of the Scorecard targets. This is often
the case in situations where a continued emphasis exists on meeting short-term (e.g. quarterly)
targets.
(iii) Activity-based models
Traditional budgets show the costs of functions and departments (e.g. staff costs and
establishment costs) instead of the costs of those activities that are performed by people (e.g.
receipt of goods inwards, processing and dispatch of orders, etc). Thus managers have no
visibility of the real “cost drivers” of their business. In addition, it is probable that a
traditional budget contains a significant amount of non-value-added costs that are not visible
to the managers. The annual budget also tends to fix capacity for the forthcoming budget
period thereby undermining the potential of Activity-based management (ABM) analysis to
determine required capacity from a customer demand perspective. Those experienced in the
use of ABM techniques are used to dealing with such problems, however their tasks would be
much easier to perform and their results made more reliable if these problems were removed.

Answer 8 2B VALUE CHAIN
(a) Porter’s value chain analysis
Porter developed his value chain to help enterprises analyse their resources to see which
activities contribute to the firm’s competitive advantage and in what way – whether they gave
rise to cost or quality advantages.
The value chain groups activities into primary and support activities:
FIRM INFRASTRUCTURE M
A
HUMAN RESOURCE MANAGEMENT
ACTIVITIES
R
SUPPORT
TECHNOLOGY DEVELOPMENT G
I
PROCUREMENT N
INBOUND OPERATIONS OUTBOUND SALES AND SERVICE

LOGISTICS LOGISTICS MARKETING
PRIMARY ACTIVITIES
Applying this model to 2B, the company’s competitive strategy of differentiation can be seen
to be supported by the following activities:
Inbound logistics
 Procurement – good relationships with suppliers allow 2B to offer a wider range of

products than competitors.
 Technology development – the computerised inventory system ensures that staff can
verify availability of goods quickly to be able to give customers accurate
information about how long it will take to source items not in that particular shop.
Operations
 HRM – the policy of only recruiting sporting enthusiasts gives a quality advantage
through excellent customer service.
 HRM – staff training results in very knowledgeable staff, again improving customer
service.
 The store design allows customers to find products very easily, giving a quality
advantage.
Marketing and sales
 Market research – the recent survey by store managers is indicative of a strong

customer focus.
 Technology development – the current website is very basic and does little more
than tell customers where stores are located and some details of products stocked.

(b) The main way e-retail investment will affect the value chain
Inbound logistics
 Procurement – the existing good relationships with suppliers will become even more
important as 2B will want to offer a wide range of products on its website.
 Technology development – the computerised inventory system will become more
important as 2B will want a facility on its website that allows customers to see
whether an item is “in stock” and estimated delivery times.
Operations
 HRM – the existing policy of recruiting sporting enthusiasts will not add any value
to online customers unless a help facility is available on the website for customers
to ask questions.
 With many websites, customers’ buying decisions are more likely to be influenced
by online product reviews by other customers and links to trade reviews. When
buying online, choice and price will become the new critical success factors.
 It may be that 2B can make some use of staff expertise by getting them to write
detailed descriptions of products and their suitability for use on the website.
 HRM – existing staff training will not add value to online sales, except where staff
need to be trained to process website inquiries.
 The store design will be of little relevance to online sales.
 Overall the operations value drivers will thus effectively contribute less to 2B’s
margin.
Marketing and sales
 Market research – the recent survey by store managers is indicative of a strong

customer focus. This will continue to be important as feedback will be needed on
the website. The website itself can be used to gain information on customers
through the use of customer histories, profiling, cookies and surveys.
 Technology development – the greatest improvement will occur with the website for
obvious reasons.
Summary
The main problem facing 2B is that its competitive advantage of differentiation through
enhanced customer service and choice will count for little on the website.
Customers will compare prices between websites and buy the cheaper goods, once they know
what they want. Even if 2B offers a very helpful online diagnostic service to help customers
decide what to buy, there is nothing to stop customers then buying the product from a cheaper
website.
2B will thus be under pressure to drop prices on the website to be competitive. This could
seriously undermine shop sales as customers might go into the shop for advice and then
expect 2B to match its web prices in store.

Answer 9 BANK OPERATIONS
(i) Intangibility: in a service business it is less likely that there will be a single measurable
output object. In the bank example, the helpfulness of employees or the speed of response to
enquiries may influence the customer perception of the output quality and quantity.
(ii) Heterogeneity: the standard of performance in providing the service may vary. This is
particularly so where there is a high labour input as in the bank example. It may be difficult
to compare the performance of employees through time or with each other. Efforts should be
made to specify a standard of performance which should be aimed for in both tangible and
intangible aspects of the service. For example reply to written queries within 48 hours or
telephone call-back within one hour for awkward telephone queries.
(iii) Simultaneity: this refers to the production and consumption of a service being at the same
time. There is no opportunity to check it before delivery to the customer. In the bank
example this applies to the telephone queries. Responses to written queries could be checked,
however, before being sent out.
(iv) Perishability: services cannot be stored. This causes problems where there is a fluctuation in
demand. A surge in telephone enquiries may swamp the system. A surge in written queries
could probably be overcome through overtime working of the employment of temporary staff.
Answer 10 CAET-IT
(a) Potential benefits
Six potential benefits are listed below. The first three benefits are obvious from the case
study and should be described by most competent candidates. The last three benefits require a
more careful consideration of the case study information and an understanding of order
processing and accounts systems.
Information will only have to be held once
For example, information on products and customers is stored in both the Sales and Dispatch
departments. There is evidence that the information between the two departments is
inconsistent, hence the need for Dispatch to produce a regular print-out of the current stock
position so that Sales can check and update its stock details. In the integrated system, all
departments will share the same information. This should ensure that data will be consistent
and unnecessary duplication will be eliminated.
Inter-communication between departments will be reduced
Many of the current inter-department data flows are caused by the need to provide
information for the department to update its own records. For example, the Sales department
receives the Daily Dispatch List from Dispatch in order to enter the dispatch data of the order
in its own computer system. This would not be necessary in an integrated system where
every department shares the same order file details. Thus many inter-department flows will
be eliminated and data entry will be reduced, resulting in fewer transcription errors.

Integrated hardware and software environment
The company currently has three different operating environments. Sales have a Linux-based
minicomputer, Accounts a three user Linux network and Dispatch a single user Windows
machine. Hence there are three different Operating Systems with different commands and
interfaces. The software also comes from different sources and there is a mixture of a
bespoke system (in Dispatch) and standard packages. The integration project provides the
opportunity to standardise on hardware and software, providing an up-to-date, consistent
operating environment.
Better operational information
The information necessary to make appropriate operational decisions is currently distributed

between the departments. For example, in the current system the order confirmation is
dispatched if the product is in stock (according to the information held in the Sales
department). It is possible that the order, once it is received in Dispatch, cannot be fulfilled
because the actual stock figure is different and is insufficient to fulfil the order. It is also
likely that, on some occasions, orders are not processed because the product appears to be out
of stock (according to Sales department figures) when it is actually not.
Improved cash flow
In the current system, orders cannot be invoiced until they have been dispatched. This may be
because there is some inconsistency between Sales and Dispatch stock figures and hence the
invoice is only raised for actual dispatched goods. In the integrated system the Sales
department will have access to the same (up-to-date) information as the Dispatch department
and hence can reserve stock against the order. This should guarantee that the stock is
available and so an invoice can be raised on receipt of order. This should lead to earlier
payment and hence improved cash flow.
Faster service to customers
In the current system Dispatch receives the Daily Sales List at the end of the day and so they
cannot pick and dispatch the goods until the next working day. In the integrated system
goods can be dispatched on the same day. This will provide faster customer service and may
lead to increased orders from satisfied customers.
(b) Cost-benefit
(i) Additional information
To undertake the cost-benefit analysis required by the company the IS manager will have to
determine:
The initial set-up costs of the project
The costs (e.g. maintenance and other operational costs) for each year of the project. The
benefits (in financial terms) for each year of the project
The net cash flow for each year of the project
The discount factor used by the company and the discount rates for each year of the project.
The discounted cash flows for each year of the project
The cumulative cash flow for each year of the project (as this will determine the payback
period).

The following example shows a cost-benefit analysis using these principles. It is shown to
help the reader. It was not required in the examination.
Example (with a discount rate of 10%)
Year 0 DCF Cumulative

(Initial set-up costs of the project) $200,000 1 000 $200,000 –200,000
Costs Benefits Net cash flows
Year 1 20,000 70,000 50,000 0.909 45,450 –154550
Year 2 20,000 90,000 70,000 0.826 57,820 –96730
Year 3 20,000 90,000 70,000 0.751 52,570 –44160
Year 4 10,000 90,000 80,000 0.683 54,640 +10480
In this example, the project pays back in Year 4 of the project. Hence, using the criteria used
by CAET-IT, this project would not be sanctioned.
(ii) Disadvantages
The problem of valuing benefits
Some of the benefits may be relatively easy to quantify (e.g. time and paper savings).
However, other benefits (particularly those arising from better management information and
management control) may be more difficult to quantify accurately. For example, what is the
value of orders not confirmed by Sales because they believed that goods were not in stock?
Similarly, what is the cost of Dispatch having to apologise to Customers for the non-delivery
of goods promised by Sales?
Does not take into account cash flows beyond the end of the payback period
The time to payback method does not consider cash flows after the payback period. Using the
discounting principle in conjunction with the payback method means that projects will be
difficult to justify. Most costs will occur at the beginning of the project, while significant
benefits will only accrue in later years and these may be heavily discounted (depending on the
discount rate). This appears to be the case in the integration project where annual benefits
and costs are fairly stable.
Answer 11 D LOGGING
(a) CSR
(i) Ethics and CSR
Ethics is the study of determining right from wrong behaviour. Business ethics relates to the
application of ethical values to business behaviour. In the same way that individuals have
ethical values and are expected to follow those values, so organisations are now also expected
to have ethical values.
As with individual ethics, business ethics goes beyond legal requirements indicating a higher
moral standard than simply “following the law”. There will be situations where an
organisation follows the law, but ethical action means doing something more than this. This
indicates that ethical actions are to some extent discretionary, in that the organisation does not
have to take ethical action. However, expectations on the organisation from other sources
(e.g. customers, suppliers and employees) also indicate that ethical action is normally
expected of a company.

Many ethical dilemmas involve a conflict of interest between stakeholder groups. For
example, a firm could increase profits for shareholders by exploiting the workforce in a third
world country where human rights legislation is less stringent. This may not be illegal but
would be considered by many to be unethical.
Corporate social responsibility is one aspect of business ethics and is concerned specifically
with the ways in which an organisation exceeds the minimum obligations to stakeholders
specified through regulation and corporate governance. Organisations are encouraged to
produce a CSR report detailing their behaviour in this respect.
(ii) D’s CSR issues
The Chief Executive of D is wrong to suggest that as long as D operates within the law, then
this means that it is acting ethically. The main CSR issues relating to D are as follows:
Deforestation
 Deforestation can have a dramatic negative effect on local wildlife, the lifestyle and
livelihood of indigenous tribes as well as increasing the risk of mudslides when it
rains.
 On a global level the loss of tropical rainforest reduces the planet’s ability to absorb
C02, thus increasing the rate of global warming.
 It is thus unethical for D to make profits at the expense of local residents without
making any attempt to clean up or rectify the mess created.
 Even though D may be acting within the law it could suffer from the adverse
publicity being generated, so should implement plans for some regeneration post-
logging (e.g. working with the local government to replant areas).
Use of hardwoods
 While the use of hardwoods is not illegal, there is widespread concern that forests
will not have time to recover and that, ultimately species will be lost.
 D should investigate which hardwood trees are considered most at risk and see if it
is feasible to leave them unfilled when logging an area.
Use of rivers for transportation
 The use of rivers for transporting the logs could cause pollution and erosion,
threatening riverside settlements and local wildlife.
 D should investigate the impact of different volumes of logs on local rivers and
consider staggering moving the logs if necessary.
Winning contracts
 While making large initial payments to Governments may be normal business

practice, some may consider this to be tantamount to bribery and thus unethical.
 D should disclose amounts paid to ensure full transparency.

(b) Logging strategies
Arguments in favour of switching to the underwater approach
 D’s ethical reputation will be greatly enhanced if it is seen to be taking a moral lead
in this respect.
 At some stage in the future legislation regarding logging may be tightened. A move
into underwater logging counters this threat and starting to switch now allows D to
develop expertise and gain critical mass ahead of competitors.
 Once the machinery has been bought, operating costs will lower. In any case the
machinery can potentially be used for up to twenty years in which to generate a
return.
 There will be less damage to local wildlife, other than perhaps to fish.
 There will be considerably less disruption to local citizens as any major

environmental damage would have already occurred when the reservoir was created
in the first place.
 There will be a reduced impact on global warming as the trees concerned are no
longer removing greenhouse gasses from the atmosphere.
Arguments in favour of continuing with land-based logging
 The existing method is probably much cheaper. A switch to underwater logging

may make D’s wood too expensive unless an environmental premium can be
charged.
 Only a limited range of woods may be available underwater. The current scheme
allows D to meet all market needs.
 A switch to underwater logging would necessitate considerable investment in the

required machinery and training.
 The outflow of water from many reservoirs is carefully controlled. It may not be
feasible to try to transport the volume of logs involved downstream via controlled
gates and sluices.
Recommendations
 It is recommended that D takes a lead in investigating underwater logging and starts

to switch methods where particularly exposed to negative criticism, such as the
felling of tropical hardwoods.

Answer 12 NEWS FOR YOU

(a) Relevance of the economic data
Economic opinion on the effect of an interest rate change upon NFY may vary. Keynesian
economists believe that if base rate (and other interest rates) fall then the demand for money
will rise, and this will in turn lead to an increase in consumer demand. Unfortunately,
however, even if NFY accept the argument that the recent drop in the base rate will increase
demand, it is unlikely to have any significant impact on their particular business. Sales are
likely to remain unchanged because newspapers and small confectionery items are low cost
purchases, often bought on impulse. Interest rate movements will not make such items
suddenly affordable where before they were not.
Monetarists believe that the level of demand in the economy is unaffected by interest rates.
As already suggested, in the case of this particular business, this is likely to be true. NFY
needs to think about other ways in which the interest rate change might affect their business,
and particularly its impact on business costs.
If the company has an overdraft facility, then the cost of borrowing will have been reduced.
At the same time the expansion plans require the business to raise $2 million, and changes in
interest rates affect the cost of all types of capital-loans and equity. Corporate borrowing
rates are generally linked to the prevailing base rate, with companies paying a premium above
base for the loan. The drop in rates will therefore affect the return that may be earned on the
proposed expansion. If NFY appraise their investment by the use of Discounted Cash Flow
analysis, then the fall in the cost of capital which has resulted from the drop in the base rate,
will mean that a lower discount rate can be applied to the forecast cash flows. A lower rate of
discount, ceteris paribus, will result in a higher Net Present Value for any given proposal.
Keynesian economists do not, however, agree that changes in interest rates affect corporate
investment decisions. They argue that investments are dependent more upon the level of
business confidence. It may be possible to suggest that NFY see the fall in the base rate as
stimulating general economic confidence, and hence they are more confident about the future
of their particular business, and so regardless of any changes in the cost of capital, they are
more willing to undertake the expansionary investment.
The figures on the rate of inflation are useful to NFY because they can directly affect profit
and cash flow forecasts. A rise in the rate of inflation can indirectly lead to a rise in interest
rates in order to curb demand, resulting in the business being affected on two fronts. The cash
and profit impact of inflation will be to a large degree dependent on the relative rates of
increase in wages, the cost of wholesale supplies for the shop, and the prices that NFY can
charge its customers. The quoted rate of inflation is very low at just over 1% per year, and
although the rate is not expected to fall any further, its current level is unlikely to have a
dramatic effect on the ability of the business to trade profitably. The greater risk for the
business may come from the problem that because inflation is so low, customers are not
prepared to tolerate any price rises at all, and NFY may become more vulnerable to loss of
business to the large food stores which can draw away customers via price cutting campaigns.
Personal and corporation tax rates are relevant to the owners of NFY because they will affect
the net gain to the business that may be generated by expansion. As with interest rates, tax
rates can affect personal spending patterns, and therefore affect the turnover of a particular
business. NFY, however, is unlikely to have a business which is sensitive to tax rates,
because its products are basic essentials and low cost items. Nonetheless, the information that
tax rates will remain unchanged is useful because it allows the business to be certain of the
amount of tax relief that may be available on loan finance, and the relief that equity investors
may claim for investing in a small unquoted company. This information may be useful in
deciding whether or not to go ahead with the expansion, because it may affect the relative cost
and availability of capital.

The changes in taxes on tobacco may be expected to have had a significant effect on NFY
because it is one of the relatively high value products sold by the stores. The question
indicates that tobacco sales have been falling, but it is unclear whether this drop is linked to
the 10% rise in tax over the last twelve months, or simply a result of the population becoming
more health conscious and so buying fewer cigarettes. If customers are price sensitive in their
purchasing of tobacco, NFY may once again find itself vulnerable to competition from the
food retailers which can exercise greater buying power and sell similar products at lower
prices. The high cost of these items also means that stocking costs are high, and if stock
turnover is reduced because of tax increases, then the amount of working capital required by
NFY will rise.
The investigation into the food sector may prove to be detrimental to NFY if it serves to
initiate a price war amongst the retailers, all of whom will be anxious to prove that they look
after their customers. The business grew very quickly between 2001 and 2003 but since then
turnover has increased by just 2% per year, and the owners must be concerned that further
growth potential is limited, at least within the existing outlets. Moving into the sale of basic
foodstuffs has been used as a strategy to compensate for loss of sales in other products such as
tobacco, but these days in many countries a large proportion of people do their food shopping
in large retail outlets. By expanding their product range, NFY has also created for itself
another set of competitors in the form of food retailers. The only way in which the business
may gain from this investigation is if it also covers food wholesaling, and the result is a drop
in the prices that NFY have to pay for their stock.
(b) Arguments in favour of the expansion
 The figures on turnover suggest that there is only limited opportunity for the
business to continue to grow organically. The business is seeking to replace sales of
tobacco and newspapers with sales of foods, but as suggested in answer to (a), the
potential of this side of the business may be limited. NFY may be advised to grow
their sales via the acquisition of new outlets instead.
 If NFY are being forced into paying relatively high prices for supplies from a local
wholesaler, then expansion may allow them to gain more bargaining power, and
purchase at reduced rates from a national wholesale chain. Increased size will offer
the opportunity to take advantage of possible economies of scale via bulk ordering.
In this way, margins could be widened and the overall business made more
profitable.
 With a larger number of stores covering a wider geographic area, NFY will be able
to broaden the nature of their business base, so that they are less vulnerable to
regional economic trends.
Arguments against any expansion
 The potential to increase sales substantially via food sales is very limited. The
majority of people purchase most of their food from larger stores, and will only use
a local shop for small low cost items where it is not worthwhile making a special car
journey to the supermarket for just one or two products. It is unlikely that it is
possible to run a profitable business based on this type of sales.

 The widespread ownership of televisions and access to differing forms of mass

media communications is likely to mean that fewer people will purchase
newspapers on a daily basis. This is particularly true of those papers which are also
published in electronic form. Many newspaper stands are dependent for the bulk of
their sales upon customers who come into the shop to buy a newspaper and then
purchase additional items at the same time. If customers do not come in for the
paper, then the associated sales income will also be lost. Expanding a business
where there is such a risk of demand falling away may be regarded as very risky.
 The information in the text suggests that the competitive environment for NFY is
becoming much tougher on a number of different fronts simultaneously, with rising
excise duties, powerful food retailers and a reduction in tobacco and newspaper
purchases. Expansion usually occurs because a business is very confident of the
future, but in this case it is questionable whether NFY has much about which to be
confident.
It would therefore seem to be advisable for NFY to postpone their expansion plans, and
perhaps look at ways of using their existing outlets to sell very different products thereby “re-
inventing” their business, perhaps by moving completely away from confectionery and into,
for example, video rental.
Answer 13 MONOPOLY
Many governments consider it necessary to prevent or control monopolies
A pure monopoly exists when one organisation controls the production or supply of a good that has no
close substitute. In practice, legislation may consider a monopoly situation to occur when there is
limited competition in a particular market. For example, UK legislation considers a monopoly to occur
if an organisation controls 25% or more of a particular market.
Governments consider it necessary to act against an existing or potential monopoly because of the
economic problems that can arise through the abuse of a dominant market position. Monopoly can lead
to economic inefficiency in the use of resources, so that output is at a higher cost than necessary.
Further inefficiency can arise as a monopoly may lack the incentive to innovate, to research
technological improvements, or to eliminate unnecessary managers, since it can always be sure of
passing on the cost of its inefficiencies to its customers. Inefficiencies such as these have been seen as
major problems in state-owned monopolies and have fuelled the movement towards privatisation in
recent years. It has been expected that the competition arising following privatisation will lead to the
elimination of these kinds of inefficiency.
Monopoly can also result in high prices being charged for output, so that the cost to customers is higher
than would be the case if significant competition existed, allowing monopolies to generate monopoly
profits.
The government can prevent monopolies occurring by monitoring proposed takeovers and mergers, and
acting when it decides that a monopoly situation may occur. This monitoring is carried out in the UK
by the Office of Fair Trading, which can refer takeovers and mergers that are potentially against the
public interest to the Competition Commission for detailed investigation. The Competition
Commission has the power to prevent a proposed takeover or merger, or to allow it to proceed with
conditions attached (e.g. disposal of a portion of the business) in order to preserve competition.

Answer 14 NEWCO
(a) Compatibility with shareholders’ interests
At first glance the statement of the chief executive of Newco would appear to indicate a
preoccupation with customer satisfaction. Certainly the aim of the business can be seen to
have a strong marketing orientation. The Chartered Institute of Marketing has defined
marketing as being “The management process that identifies, anticipates and supplies
customers’ requirements efficiently and profitably”.
However, whilst the business aim has a distinct marketing orientation, it is a means to an end
as opposed to an end in itself, since the cornerstone upon which financial management theory
is founded is that maximisation of shareholders’ wealth is principal among the objectives of a
profit-seeking organisation.
Presumably the chief executive will have given due consideration to the possible problems
which can arise when a marketing orientated objective, such as that contained in his public
statement, draws management attention away from the end objective of maximisation of
shareholders’ wealth. It will often be the case that in public utilities such as Newco,
shareholders will also be customers, and thus it is important to reconcile the interests of these
two groups.
Where expenditure is incurred to raise levels of service quality within Newco, customers will
arguably be more satisfied than previously. However, unless this cost increase is passed on to
the customer, this enhancement of service quality will be detrimental upon the profitability of
the organisation and lead to a lowering of the return earned on shareholders’ funds, which
may cause varying degrees of dissatisfaction amongst the shareholders.
Where a well-conceived and properly executed cost reduction programme is utilised, both
shareholders and customers should derive benefits. However, management must bear in mind
that both good planning and execution are essential if such a scheme is to prove mutually
beneficial to both parties, since, for example, excessive cost cutting may reduce levels of
service offered by Newco with the result that customers seek an alternative source of supply.
In circumstances where high quality service is provided to customers at “the cheapest possible
price”, it is likely that a “win-win” relationship will be enjoyed by both shareholders and
customers alike.
(b) Management accountant’s role in assessment
Management accounting systems should collect and analyse strategically significant

information on a regular basis. In facilitate the evaluation of progress towards established
business objectives, management accounting systems need to be able to satisfy a wide range
of information needs.
This is particularly the case in organisations such as Newco where the objectives, as stated by
the chief executive, can be seen to be non-quantifiable.
The management accountant should endeavour to ensure that the management accounting
system of Newco meets the needs of its users. With reference to the stated objectives, the
management accountant should seek to make available information regarding the competitive
standing of Newco within the marketplace in which it operates.

Wherever possible the management accountant should attempt to ensure that quantifiable
goals are set, since their attainment or otherwise is readily apparent, whereas by way of
contrast the extent to which non-quantifiable goals are accomplished is by definition (or lack
thereof!) inherently more difficult to evaluate.
The management accountants within Newco will need to give due consideration as to what
constitutes the most appropriate indicators of the extent to which the stated objectives have
been achieved.
Certainly, as regards the “greatest number of customers”, market share is a useful indicator of
the degree to which this objective has been attained. The rate of growth in Newco’s customer
base should be compared with that of the total market within which Newco operates (i.e. the
energy market) to ascertain whether the growth in the number of Newco’s customers
compares favourably or otherwise with that of its competitors.
To evaluate progress against supplying “the best possible service”, Newco’s management
accountants should use a range of information which the management accounting system
needs to be able to produce on a regular basis.
Newco’s management accounting system should be capable of capturing information

concerning the costs of service quality which will normally entail two sets of costs.
The first is the cost of quality assurance the total of which will increase as the activities and
functions concerned with the attainment of quality increase.
The second concerns the costs of the provision of a failed or “inferior” service such as repairs
to customers’ equipment and, in the extreme example, reduced further sales.
The management accountants within Newco can assist in the decision-making processes
concerned with striking what can often prove to be a delicate balance between the cost and
value of quality assurance.
To evaluate quality measures such as customer satisfaction the management accountants

should utilise information such as the number of complaints received during specified
periods.
In addition, well-designed customer feedback reports sent direct to Newco’s customer

services department would provide a useful indication as to the customers’ perception of the
quality of the service with which they had been provided.
The assessment of whether Newco is able to supply “the best possible service ... at the
cheapest possible cost” is difficult to perform (if not impossible!) in the absence of previously
determined standards which would serve to provide a useful indication as to what level of cost
can be justified as appropriate to the circumstances of Newco. Hence, it would appear that
the Newco’s management accountants should seek to ensure that such indicators are
established in order to provide a more sophisticated approach to the evaluation of the extent to
which this objective has been attained.
(c) Evaluation of the success of Newco
The success of Newco will be evaluated by those who have purchased shares in the recently
privatised company. Both private and institutional investors will be particularly interested in
the level of profitability achieved by Newco, as well as being eager to satisfy themselves that
Newco has a healthy financial position.

To this end shareholders will use ratio analysis with a primary focus upon profitability and
liquidity in order to evaluate the performance of the company.
The financial community will also closely monitor the performance of Newco. This
interested group will be keen to obtain information regarding the profitability of the
organisation as well as details of its cost base.
Recent privatisations within the United Kingdom have given rise to greater public awareness
of (and interest in!) the views of those who both support and oppose privatisation.
Whilst profitability remains a primary concern of such groups, there is also strong regard for
levels of service quality. Such groups will also be keen to gain information regarding the
number of jobs created or lost as a direct consequence of the privatisation of Newco.
Service levels and their related costs will be the main interest of the customers of Newco. It
is likely that a public body analogous to OFTEL in regard to the telecommunications industry
will be formed to monitor the quality of service offered by organisations such as Newco.
The government, in advocating such privatisations, will wish to see that wider share
ownership and increased profitability via a more economic cost base feature among the
benefits which accrue from a privatisation, such as that in question.
Finally, those firms involved within the energy industry as a whole will be interested in the
post-privatisation fortunes of Newco, since the privatisation may well have spin-off effects
across the industry, in particular, those which supply energy to others.
The management accountant should seek to ensure that information which is made available
to the aforementioned groups is pertinent to their needs.
To satisfy a diverse range of information needs it is essential that suitable performance

measures are utilised by the management accountant.
Where appropriate, a range of statistical information should be used to supplement the

“standard” information contained within contemporary financial reports of reporting entities.
Indicators of levels of service quality available from organisations such as Newco should be
provided to facilitate an assessment of the non-financial performance of the company.
To this end the number of complaints received and the number of equipment failures, together
with mean waiting times after notification of the occurrence of such a failure, would be
extremely useful.
Tutorial note: Your answer should indicate an appreciation of the conflict of interests which
may exist when shareholders and consumers are often one and the same! You should suggest
which performance measures would be appropriate to the circumstances of Newco and briefly
state why this is the case. You should avoid any over-emphasis regarding the interests of any
one particular interested party.

Answer 15 HEALTHFOODS CO
(a) Pay-off table
Purchase options
Demand Prob Contract A Contract B Contract C Contract D
Kgs Contribution EV Contribution EV Contribution EV Contribution EV
000 $000 $ $000 $ $000 $ $000 $000
160 0.20 1,008 201,600 72 14,400 (504) (100,800) (1,656) (331,200)
234 0.40 1,008 403,200 2,403 961,200 1,827 730,800 675 270,000
360 0.40 1,008 403,200 2,592 1,036,800 3,276 1,310,400 4,644 1,857,600
––––––––– ––––––––– ––––––––– –––––––––
1,008,000 2,012,400 1,940,400 1,796,400
––––––––– ––––––––– ––––––––– –––––––––
On the basis of expected values HFL should select Contract B under which 240,000
kilograms will be supplied during the forthcoming year which would give an annual expected
value of $2,012,400.
Note 1: Example of workings for the Pay-off table in part (a):
Assuming that Contract B was selected and subsequent demand was for 160,000 kilograms
the resultant contribution would be calculated as follows:
(160,000 × $5.50) – (240,000 × $3.70) = -$8,000

-$8,000 + (80,000 × $0.25) = $12,000
$12,000 × 6 = $72,000
(b) The minimum contribution for each possible decision
Contract Minimum contribution

$000
A 1,008
B 72
C (504)
D (1,656)
Applying a maximin approach to this decision would result in the selection of Contract A
under which 160,000 kilograms of organic mushrooms would be supplied to HFL.
Applying a minimax regret approach, the regret matrix would appear as follows:
Contract type A B C D
Demand per outlet 160,000 240,000 280,000 360,000
$000 $000 $000 $000
160,000 0 936 1,512 2,664
234,000 1,395 0 576 1,728
360,000 3,636 2,052 1,368 0
––––– ––––– ––––– –––––
Maximum regret 3,636 2,052 1,512 2,664
––––– ––––– ––––– –––––
Therefore, to minimise the maximum regret, Contract C, under which 280,000 kilograms of
organic mushrooms would be supplied to HFL, would be chosen.

(c) Reasons for selecting Contract D
The directors might select Contract D under which 360,000 kilograms of organic mushrooms
would be supplied to HFL for each outlet. This is the entire capacity of HFL which would
ensure that competitors would not be able to supply the same product and hence the
competitive advantage held by HFL might be preserved.
Answer 16 EQUINE MANAGEMENT ACADEMY
(a) Budgeted net profit or loss for the current year

$ $
Equine College
Fee income – (W1) Student category:
Surgery 4,536,000
Dentistry 3,150,000
Business Management 3,402,000 11,088,000
–––––––––
Operating costs (6,760,000)
–––––––––
Budgeted profit of Equine College 4,328,000
Riding School
Fee income Rider category:
Beginner 1,843,200
Competent 2,027,520
Advanced 3,379,200 7,249,920
–––––––––
Operating costs (6,095,000)
–––––––––
Budgeted profit of Riding School 1,154,920
–––––––––
Budgeted profit of EMA 5,482,920
–––––––––
WORKINGS
(1) Equine College fee income
E.g. Surgery
Number of students (30% × 1,200) 360
Fee per student 12,000 × 1·05 ($) 12,600
Budgeted fee income ($) 4,536,000
(2) Riding School fee income
Number of Charge Fee income

lessons per lesson
$ $
240 horses × 4 per day × 320 days × 80% = 245,760
Beginner (50%) 122,880 15 1,843,200
Competent (25%) 61,440 (30 × 1·1) = 33 2,027,520
Advanced (25%) 61,440 (50 × 1·1) = 55 3,379,200
–––––––––
7,249,920
–––––––––

(b) (i) Summary of possible outcomes
Probability Probability
% change in Lesson Combined Equine Riding Total Net profit Expected
fee income capacity probability College School costs value of
revenue revenue net profit
$ $ $ $ $
90% 0·10 0·02 11,088,000 8,156,160 12,855,000 6,389,160 127,783
No change 0·20 80% 0·60 0·12 11,088,000 7,249,920 12,855,000 5,482,920 657,950
70% 0·30 0·06 11,088,000 6,343,680 12,855,000 4,576,680 274,601
Decrease 90% 0·10 0·06 9,979,200 8,156,160 12,855,000 5,280,360 316,822
by 10% 0·60 80% 0·60 0·36 9,979,200 7,249,920 12,855,000 4,374,120 1,574,683
70% 0·30 0·18 9,979,200 6,343,680 12,855,000 3,467,880 624,218
Decrease 90% 0·10 0·02 8,870,400 8,156,160 12,855,000 4,171,560 83,431
by 20% 0·20 80% 0·60 0·12 8,870,400 7,249,920 12,855,000 3,265,320 391,838
70% 0·30 0·06 8,870,400 6,343,680 12,855,000 2,359,080 141,545
––––– ––––––––
1·00 Expected value of profit = 4,192,872
––––– ––––––––
(ii) Comment on use of expected values
The use of expected values takes into account the relative likelihood of each of the possible
outcomes occurring. The expected value of $4,192,872 is not one of the potential outcomes
in the table, but is the weighted average of those outcomes. The use of expected values by the
management of EMA implies that they have a risk-neutral attitude. A risk neutral decision-
maker will ignore the variability in the range of potential outcomes and will be concerned
only with the expected value of outcomes.
(iii) Reasons for opening an academy
Possible reasons why the government of Hartland has decided to open an academy
comprising an equine college and a riding school are as follows:
EMA operated the only Equine College in Hartland and operated at full capacity during the
year just ended. This could well be an indication that the demand for equine specialists in
Hartland exceeds the available supply.
Much transportation in Hartland is provided by horses and this might therefore account for
the fact that the Equine College operated by EMA is currently operating at full capacity. It is
reasonable to assume that the more that horses are used for transportation then the greater will
be the need for specialists such as equine veterinary surgeons.
The government of Hartland “actively promotes environmental initiatives” and therefore it

might well be the case that it discourages the use of petrol and diesel propelled vehicles for
both social and business purposes.
Hartland is a developing country which has a large agricultural sector and therefore it is
probable that horses are used in day-to-day operations (e.g. farming).

Answer 17 MANAGEMENT INFORMATION SYSTEMS
Unitary to divisionalised structure
 Each division will now require its own accounts.
 There is now a need to assess the financial and non-financial performance of every division.
 Internal and external income will have to be identified – a cross charging/transfer pricing
system will have to be devised that ensures corporate goal congruence.
 Information concerning the various external markets is required to permit the performance of
a manager to be distinguished from the performance of the business unit managed.
Central direction to empowerment
 There may be a need to separate the transmission of strategic and operational information.
The empowered team leaders will not require strategic information, but principally, data
concerned with the day-to-day management of the business. Whereas the senior management
may now be able to dispense with information concerned with operational details.
 This may also require the development of new reporting formats that are understandable to
the team leaders. They may need even more detailed information at more frequent intervals
than was available previously.
 New control systems will be required to meet the needs of the newly empowered team leaders
and the senior management. The shift from a few too many decision makers will necessitate
control systems to ensure standardisation and consistency throughout the company.
Shift to outsourcing
 New information systems will be needed to facilitate access to the external providers of
services (e.g. approved contractor lists).
 Authorisation/approval systems need to be developed to ensure procedures are being adhered

to.
 Systems to monitor the price and quality of work undertaken by contractors will be needed.
 Financial appraisal systems may be installed to compare the “life” costs of alternative
suppliers in comparison with internal resourcing. If internal suppliers are permitted to bid for
work and compete against contractors, then there is a need for the costing systems to clearly
identify the activities driving costs.
Expansion in part-time and temporary employees
 The traditional personnel systems will need to adapt to the new situation.
 The employment of part-time staff to replace full timers will result in greater numbers of
employees, perhaps by a factor of two or three times. Can the existing system cope? Is there
sufficient storage and memory capacity?
 Part-timers and temporary staff tend to stay in jobs for shorter periods and hence creating
more activity within the personnel department. Once again can the system cope with the
additional workload?

 Long serving full-time employees will have more opportunity, and perhaps more incentive to
understand and use effectively a complex MIS. On the other hand, part-timers and temporary
staff will have less opportunity to “come to grips” with a complex system, therefore it may be
necessary to modify/simplify the systems to suit the new staffing situation.
Customers adopting JIT systems
 The company could previously operate with low or zero stocks, and therefore a small/simple
stock holding system might suffice. The advent of JIT for customers puts the onus on the
company to replenish stocks immediately. This will necessitate the installation of a larger,
accurate and responsive inventory system. The system adopted will need to provide
information concerning minimum stock levels, re-order cycles and Economic Order
Quantities. None of this information may have been required previously because stock levels
were not so business critical.
Long print runs to high value low volume
 The new customers will have more complex, individualistic and diverse requirements. The
established ordering and printing systems will need to be modified to manage the
heterogeneous business activity.
 High value business normally permits lower margins of error and deficiencies in quality
standards. This may entail close monitoring and low tolerance control systems being
installed.
Tutorial note: This list of issues is not exhaustive and therefore other considerations mentioned by the
candidates should be credited. The crucial requirement is to assess whether the examinees are thinking
coherently about the consequences on the organisation of the change in the business environment.
Answer 18 MANAGEMENT ACCOUNTING SYSTEM
(a) Consideration of behavioural consequences
The role of a management accountant is to provide information which can be used to assist
and guide management in the pursuit and achievement of organisational objectives. The
management information provided is read, interpreted and responded to by people within the
organisation, and their responses will determine the quality of the decisions made and the
extent to which corporate objectives are achieved. Management accountants should be aware
of this relationship and endeavour to ensure that the information that they supply is used in a
way that benefits their organisation. The design and operation of a management accounting
system should anticipate the behavioural consequences that are likely to arise as a result of its
activities. A management accountant who fails to consider these repercussions or denies
responsibility for them is likely to operate a dysfunctional system. This is most likely to
manifest itself in a failure to secure goal congruence between the interested parties. The
management accounting system will need to consider the particular culture of the
organisation, whether it has a hierarchical or democratic structure, its attitude towards
employee empowerment and the extent of delegated team decision making.
(b) Performance monitoring
There is a general acceptance of the idea that an organisation that monitors performance and
rewards individuals for “good performance” is more likely to encourage behaviour that is
consistent with the objectives of the organisation. This involves the organisation
“transmitting signals” to its people as to what it deems desirable activities and outcomes in
the workplace. This approach has resulted in such terms and activities as performance
monitoring, performance related pay, payment by results, bonus systems.

The reward for the achievement of desired outcomes could be money, promotion, job
security, preferred work activities, alternative work environments. Unfortunately this is a
very complex task and problems are likely to arise in a number of areas:
 It is very difficult in many work environments to measure individual performance –

and if you resort to team performance, it is difficult to gauge the contribution from
individual members.
 It is difficult to ensure that individual targets are not inconsistent with other
individuals or corporate objectives.
 Current measured performance may discourage consideration of longer term issues

that may have adverse repercussions.
 Can a performance monitoring system comprehensively measure the key variables?

For example, the desire to achieve greater volume/activity may be at the cost of
quality that is more difficult to identify and appraise.
 Measure fixation – concentrating on the measurement process and not on what

needs to be achieved.
 Misrepresentation – “creative” responses that give a favourable view of activities.
 Myopia – short sighted viewpoint with limited consideration to long term issues.
Tutorial note: Candidates would be given credit for illustrating these issues with specific
references to a work environment.
The problems highlighted above can be managed if the following points are considered:
 Do not underestimate the scale of the task in designing a performance monitoring

system.
 Consider the expectations and likely responses of all the parties concerned – take a
broad view.
 Ensure that the people designing and operating the system have a comprehensive
understanding of the organisation’s activities and the interrelationship between all
of the stakeholders.
 Ensure that all parties involved believe that they will be beneficiaries of the system.
 Be prepared to reappraise and modify – it is unrealistic to believe that it can be

perfected at the first attempt.
Budgeting
Adverse behavioural consequences of budgeting can arise from insufficient consideration

being given to the task during the planning stage. The targets set may be perceived as:
 Imposed;
 Complicated;
 Unfair;
 Irrelevant;
 Easy;
 Unachievable.

This is likely to foster the “them and us” syndrome and the consequential failure to achieve
goal congruence. These undesirable consequences may be avoided by consulting with all
interested parties, setting challenging but achievable targets, considering other people’s
perception of the targets and anticipating their likely responses. On the other hand, if budget
holders are given complete autonomy or are permitted to have a significant influence on
budgetary targets, they may be tempted to build in “slack” to give them an easy life which is
not in the interests of their organisation.
Having implemented the planning stage, attention is drawn towards control. Behavioural
problems can arise from:
 A failure to distinguish between controllable and non-controllable factors for each

particular budget holder – people will feel aggrieved for being accountable for what
they do not control.
 A failure to account for the changing circumstances that have arisen since the budget
was determined may require budget adjustments and/or a flexible budget approach.
 Failure to reward favourable variances – budget under spending that automatically
results in cuts in future budget provision merely encourages spending of the entire
budget, not something that should be encouraged.
 Budget constrained approach – a requirement to conform to budget may stifle
attempts at improvement.
 Insufficient participation in budgetary control and poor communication of the
reasons for change decisions may alienate staff.
Transfer pricing
Transfer pricing is primarily concerned with ensuring that semi-autonomous business units
behave in a way that contributes towards the achievement of corporate and not merely
divisional objectives. An effective transfer pricing system encourages divisional managers
with autonomous decision making authority to pursue the interest of the corporation
automatically whilst endeavouring to maximise the performance of their own business unit.
Their decisions are made with self (divisional) interest as the driving factor, but coincidentally
benefit the entire company. Effective transfer pricing systems consciously endeavour to
harness selfish divisional behaviour to induce decisions that foster goal congruence.
Problems can arise when inappropriate prices are set that result in “wrong signals” being sent
and non-optimal decisions being made:
 Too high a price may result in unused capacity, lost contribution, reduced incentive
to find external markets and unnecessary external sourcing from the buying division.
 Too low a price may result in “excessive” internal trading and a loss of valuable
external business.
To avoid these pitfalls the transfer pricing determination should consider:
 The cost behaviour (fixed and variable) of the different divisions.

 The adequacy of the information available to the divisions concerning both internal
and external prices.
 Both the short and long run consequences of the prices set – internal and external
markets and capacity levels.
 The degree of autonomy given to the divisions.

Answer 19 POLYSIDE UNIVERSITY
(a) Structure
 Reports are not frequent enough.
 In terms of the quantity of reports there are not enough of them.
 There is not enough provision of local school information to the central decision
making bodies, and reports are not timely enough.
 The seven schools should report directly to the finance committee. This will allow
full financial information to be made available for decision making.
 The central administration currently reports to no one. It should report to the

finance committee the state of overheads control.
 Meetings of the academic board and finance committee should be at least monthly.
In August/September the meetings should be more frequent. This will allow more
up to date information to be addressed.

(b) Management reports Marking

guide
Report/Information Preparer Frequency Usefulness
Income determination
(i) LEA grant analysis (@ $27.5m)
   Details of grants received/receivable by course* Individual  Monthly To identify shortfalls on Reports = 2

   No of existing students (Years 2–3) schools (October quotas
Preparer = ½
   No of new students (Year 1) July)
– accepted a place To establish the accuracy of Frequency = ½
– currently on a course  Weekly grant income received/
   Quota per course (August + receivable Usefulness = 1
   % of quota filled by current students September)
   Dropouts/vacant places by course
* Students on a course × Termly grant
(ii) Postgraduate tuition fee analysis (@ $18.5m) Reports = 1
Preparer = ½
 Details of fees received/receivable Individual Monthly To establish the level of fees
 No of existing post grads schools received/receivable for Frequency = ½
 No of post grads by course × Termly tuition fee comparison with
targets/budgets Usefulness = 1
Reports = 1
Other income analysis (@ $4m)
Preparer = ½
 Analysis of income by source Central Monthly To identify and analyse the
Frequency = ½
accounting various sources of income –
– local sponsorship function to compare with budgeted Usefulness = 1
– research income from external companies levels

Marking
Report/Information Preparer Frequency Usefulness guide
(iii) Student admission analysis
By course
Reports = 1½
   Government quotas Individual Monthly To clarify the up to date
   No of students accepting places schools situation on course Preparer = ½
   For courses with spare places availability
Frequency = ½
– no of unfilled places
– no of enquiries to date Focused marketing of poorly Usefulness = 1
– no of application forms sent/received attended courses can be
undertaken
(iv) Debtors (postgraduate) analysis Reports = 1½
Analysis of all fees due but unpaid by post grads Central Monthly To identify level of Preparer = ½
accounting outstanding debt and action
Frequency = ½
 name of student function undertaken to recover debts
 course Usefulness = ½
 amount outstanding
 action taken for recovery ————
Part (b)
Max 10 marks
————

Answer 20 ROCKINGHAM HOSPITAL CO
(a) Discussion of the behavioural effects of the performance report
The following features of the way in which the budget was prepared, and the form and
content of the performance report, might give rise to an adverse response from the laundry
supervisor.
(i) Lack of participation – the supervisor was not consulted over the preparation of
the budget and did not know that one was being prepared.
(ii) Unflexed budget – no attempt has been made to adjust budgeted costs in the
light of the increase in volume, presumably because the fixed and variable
elements of costs have not been established.
(iii) Uncontrollable costs included – the memorandum’s references to
“responsibility accounting” and “expenses of running your department” have
been ignored when producing the report which includes “allocated
administration costs” and “equipment depreciation”.
(iv) Fixed percentage for investigation – this may not be an ideal system for
deciding which variances should be investigated and which should not. It
seems an arbitrary figure and one which is being applied to all costs.
(v) Aggressive style – the memorandum has been presented in a somewhat
authoritarian style based solely on accounting information.
The effects that this might have on the behaviour of the supervisor include the following.
(i) Creating a negative attitude – a phrase which encompasses a whole range of

behavioural problems, such as dampening initiative (possibly leading to wrong
decisions such as not recruiting staff when needed), reducing co-operation and
communication between departments (particularly with the hospital
administrator), reducing morale within the department and giving rise to a lack
of commitment to the hospital.
(ii) Reduced performance – with the lack of co-operation mentioned it is less likely
that the supervisor will try to control or reduce costs. More effort will be put
into finding excuses for poor cost control or even attempting to falsify data
where possible.
(iii) Budget pressure – management could be said to be adopting a style of
management where obsession with the quarterly targets could lead to impaired
performance. Steps might be taken to ensure not that costs do not exceed a
budget, but rather to ensure that they do not fall below the budget – lest the
budget is pruned in the next quarter.
(iv) Wrong decisions – the possibility of wrong decisions being made through
“dampened initiative” has already been mentioned. However, the use of a fixed
percentage rule for investigating variances could also lead to wasted time
looking at variances. Such variances might be small in absolute terms, caused
by a poor budget, poor recording of costs or due to random fluctuations, and
such variances might not be worth investigating.
Research into these various behavioural effects and their possible causes has grown over
the years following earlier papers based more on surmise and opinion. It has been a
feature of much of the empirical work into the relationship between accounting and
behaviour that the results have produced conflicting conclusions on matters such as
management style, budgetary pressure, design of accounting measures and participation.

(b) Redrafted report and memorandum
Rockingham Private Patients Hospital Co
Memorandum
To Mrs A Brown, Laundry Supervisor

From BC Smith, Hospital Administrator
Date 30 April 20X1
As you know, the hospital has adopted a responsibility accounting system in order to ensure that each
department runs as efficiently as possible. To help the operation of such a system it will be useful for
you to receive some form of performance report each quarter, and I have attached my version of such a
report for the first quarter.
This first report is something of a trial run, since the first quarter was expected to be a settling-in period
and as such not typical, and this report, having been produced without consultation with department
heads or supervisors, may need modification. It will, when fully operational, act as a useful aid to cost
control and I am very keen that we should meet as soon as possible to discuss the form and content of
future reports.
This report shows the actual costs of running the department together with a budget based on the weight
of laundry processed. Variations from budget have been calculated and some marked as requiring your
attention. Such variations will be those which are large in terms of the total cost of the department and
of the actual cost incurred, bearing in mind expected variations in certain costs.
I will expect a quick response to such reports by way of an explanatory memorandum but any queries
over this or subsequent reports could be most easily sorted out by coming to my office.
Performance report – Laundry department

Three months to 31 March 20X1
Actual Flexed Variation Action

budget (over)/ needed
under
Patient days 8,000
———–
Weight of laundry processed (kgs) 101,170
———–
$ $ $
Wages (W1) 4,125 3,833 (292) None
Supervisor salary 1,490 1,495 5 None
Washing materials (W2) 920 959 39 None
Heating and power (W3) 560 572 12 None
Equipment maintenance 10 45 35 None
——— ——— ——–
7,105 6,904 (201)
——— ——— ——–
Comment: Congratulations on coping with the unexpected rise in volume. However, we must sort out
these budgets properly, particularly the wages budget.

The memorandum has been toned down a little, made more personal and an attempt made
to justify the purpose of the report and encourage co-operation in establishing a system of
cost control.
The report itself has been modified by eliminating uncontrollable elements (budgeted
activity levels and certain costs). The budget has been flexed by assuming that
(i) Wages are variable subject to staff being employed for whole weeks;
(ii) Materials are variable, and
(iii) Heating and power are 50% fixed and 50% variable (these arbitrarily proposed
figures would need to be established properly).
The report could have been less formally drawn up with the original budget shown,
together with calculations to indicate how it was flexed to take into account the actual
weight of laundry processed and variations laid out. In either case the hospital
administrator should highlight which variations are to be investigated and, with the flexed
budget, no such investigation is needed for the first quarter.
The performance report could also show various figures to assess efficiency, such as total
labour hours and number of washing loads. With additional information, price and usage
variances could be found for washing materials. Details of the use of laundry capacity
could be established by noting how much laundry was presented and how much processed,
as opposed to being sent outside.
WORKINGS
(1) Wages
$3,450  10/9 = $3,833
(2) Materials
101,170
$770  = $959
81,250
(3) Heating and power
101,170
$255 + $255  = $(255 + 317) = $572
81,250
Fixed Variable
Answer 21 TDM CO
REPORT
To The Managing Director
From The Management Accountant
Date Today
Subject Corporate mission statements
The corporate mission embodies the overall purposes of an organisation. A corporate mission
statement is formulated to express the company’s philosophy and should answer fundamental questions
such as Why does the company exist? Who will be served by and benefit from the company? What
products or services will be provided? The majority of mission statements are presented using general,
rather than detailed, concepts.

In order to prepare an effective strategic plan, the management must first address the organisation’s
mission. There is a certain amount of controversy regarding the point in the planning process at which
the mission statement is best formulated.
One view is that the mission statement is of such a fundamental nature that the strategic plan cannot be
prepared without reference to it.
Another view is that the mission statement is the end result of the strategic-planning process.
These opinions demonstrate how difficult it can be to differentiate between an organisation’s mission
and its objectives. The mission is a wide-ranging statement which presents the organisation’s raison
d’être in terms of its ability to satisfy some of society’s needs, whilst its objectives are the company’s
broad goals.
The mission statement is likely to be formulated by the company’s board of directors. Although it will
not be quantitative in nature, it will usually highlight several areas, including the following:
(a) The kinds of products and services the company aims to provide;
(b) The customers to be served;
(c) The markets in which the company anticipates operating;
(d) An overview of the company’s philosophy and the broad expression of its policies;
(e) The company’s attitude towards matters encompassing social obligations;
(f) The manner in which management wishes the firm to be perceived by the public.
The company would gain several benefits from the formulation of a mission statement. It would greatly
assist the decision-makers and those responsible for implementing the firm’s policies. The mission
statement also has an important role to play in helping management focus on fundamental issues in
terms of strategic planning, and in ensuring that the strategic plans do not conflict with the basic
purpose of the organisation.
The usefulness of a mission statement may be summarised as follows:
(a) All staff will gain an understanding of the firm’s purpose and philosophy.
(b) Expectations and attitudes within the firm will be expressed in terms of a long-range vision.
(c) The organisation will benefit from having a clear purpose, which should result in decisions
advantageous to the purpose of the company.
(d) The boundaries within which the company operates will be clearly laid down. This will assist
in developing co-ordinated plans.
(e) An unambiguous statement regarding the overall directions of the company should lead to
enhanced allocation of resources.
Answer 22 SQUEEKY CLEAN
Option 1 – calculation of operating profit in Year 5

Sales (kgs) 10,000,000 5,512,500 –
––––––
––––––

The original forecast of $80 million operating profits will not be met – there will be a gap of $1.412
million.
WORKING
Sales of supertablets would increase by 5% in each year, so the number of kgs sold in Year 5 would be
5 million × 1.05 × 1.05 = 5,512,500 kgs.
Option 2 – calculation of operating profit in Year 5

Sales (kgs) 10,000,000 6,050,000 –
––––––
––––––
The original forecast of $80 million operating profits will be exceeded in the case of option 2 – there
will be no gap.
WORKING
Sales of supertablets would increase by 10% in each year, so the number of kgs sold in Year 5 would be
5 million × 1.1 × 1.1 = 6,050,000 kgs.
Fixed costs will increase by $1 million per year due to the additional advertising costs.
Answer 23 BEANCOUNTERS
(a) Critical success factors
(i) Industry factors
 Staff with high ethical values.

 Acceptable level of risk of incorrect audit opinions or incorrect advice.
(ii) Competitive strategy
 Staff and partners with a wide range of experience.

 Audit methodology that focuses on understanding the business.
(iii) External environment
 Competitiveness.
 Ability to obtain new recruits as economy grows.
(b) Key performance indicators
 Ethical values of staff – number of cases of breach of ethical standards by staff.

 Level of risk – number of litigation cases against the firm.
 Range of experience – total number of years’ experience of all professional staff.
 Audit methodology – feedback from clients.
 Competitiveness - % of tenders that are won.
 Ability to obtain recruits – number of applications per vacancy.

Tutorial note: The solution above is not the only solution. Other sensible suggestions would
be equally relevant.
Answer 24 MISSION STATEMENTS
(a) Role and content of a Mission Statement
A Mission Statement describes the organisation’s basic function in society. What is it trying
to accomplish? The elements of a Mission Statement might include:
Purpose: Why does it exist? A company exists primarily to create wealth for its shareholders
whereas a hospital exists to care for the sick.
Strategy: It may specify the business that the organisation is in, the product and service areas
it is going to operate and the necessary competences that need to be present.
Values and Culture: It may state the beliefs, ethical standpoints and principles under which
activity is to be carried out.
The statement can range from short snappy sentences (“Absolutely, Positively, Overnight” for
a parcel courier service) to a page long description of business intentions (for, example, for
public sector organisations). Whatever the length, it should guide all employees at all levels
to work collectively towards the achievement of the corporate mission – “a guiding light”.
It may attempt to incorporate several of the stakeholders (e.g. shareholders, customers,

employees), and increasingly, the environment.
(b) How a Mission Statement contributes to planning and performance measurement
The Mission Statement provides:
 a framework within which the plans must be developed;

 a focus on strategies;
 a screening device for unacceptable projects, practices and activities;
 a communication device to establish a common acceptable corporate culture.
This framework should impact upon both high level strategic plans (e.g. what areas of
business are acceptable), and on operational planning decisions such as sources of supply and
the way customers are dealt with by staff.
In terms of the owners, the statement may incorporate a broad intention to enhance
shareholder wealth.
 This then needs to be converted into specific goals (e.g. to provide a return on
investment and/or increase share value).
 Then measurable targets will be developed (e.g. 20% return on investment annually
and/or a share price increase of 5% in excess of the industry average)/
 To achieve the required 20% return on investment may necessitate the profit margin
on sales to be 43%.
The mission statement will therefore result in the cascading down of increasingly more
detailed plans and targets. These targets will be set for the corporate entity, business sub-
units and individuals. They will provide the basis of the performance measurement when
they are compared with the outcomes.

Good performance might be concerned with the extent that the mission is being achieved, as
the organisation never gets there; it is more of a journey that should be pursued. Performance
is concerned with assessing the extent that a desire, goal, objective or target has been
achieved – a comparative judgement. To what extent have we achieved what was set out to
be done?
(c) Potential problem areas
Potential problem arising from using a Mission Statement to manage performance include:
 The wording of the statement may be rather vague and abstract and therefore
provide limited assistance in developing strategies.
 The content of the statement may provide the management with non-congruent
goals. For example, maximising shareholder wealth may conflict with any ethical
statements made in the mission. Trade-offs between quantifiable financial targets
and non-quantifiable goals complicate the assessment of managerial performance.
 The potential for inconsistent goal setting can occur between departments, differing
managerial levels and over time – the Mission Statement is occasionally regarded
by employees as “political window dressing” and does not in their view reflect
actual company strategy and the actions of management – this may result in adverse
behavioural consequences.
 The statement does not normally stipulate a time horizon for the achievement of the
mission – problems arise in assessing how well the organisation is doing.
Answer 25 MOTOR CAR MANUFACTURER
(a) Gap Analysis

Gap Analysis is concerned with the gap between the forecast position from continuing with
current activities and the position that the organisation desires. It is not the gap between the
current position and the forecast position. The Managing Director is unhappy with the current
profit/ (loss) forecast of $140m next year, $48m the following year and $(44)m in the final
year. The strategies outlined will enable a profit of $312·8m to be achieved in the next year.
Each strategy contributes towards filling the gap:
$312.8m – $140m = $172.8m
The desired position for next year is to achieve more than double the current profit estimate of
$140m (i.e. in excess of $280m). Gap analysis can be illustrated with the following diagram.

$m Profit
312.8
Synergy gain
298 $14.8m
Str 3
extra $77m
Str 2
extra $65m
Desired
Str 1
outcome
extra $16m
$280m
Current
forecast
$140m
Year
Now Next
year
Increase in profit from separate strategies
The increase in profit for next year from each of the three strategies can be seen by comparing
the current forecast profit of $140m to the forecast for each strategy.
$m
Strategy 1 16
Strategy 2 65
Strategy 3 77
–––
Total increase in profit 158
–––
The increase in profit from the implementation of 3 strategies simultaneously –
312.8 – 140 = $172.8m
A net increase of $14.8m when they are combined together.
There is a synergy between the three strategies that provides a contribution greater than the
sum of their parts.
(b) External environment factors
The financial performance of the company will be influenced by the economic, financial,
legal and social environment within which it operates. There is a range of non-controllable
factors that will have a significant impact upon the performance that the company achieves.
Therefore an assessment of the success of the strategies will require these factors to be
considered.
 The general level of economic activity – is it a period of growth or contradiction?

 The presence of local economic factors that make the situation particularly
favourable or difficult (e.g. the availability of skilled labour).
 Interest rate movements and the debt structure of the company. A heavily indebted
company during times of rising interest rates will be operating in a particularly
difficult financial environment.

 Strategy 1 depends upon the success in entering a new overseas market. The
condition of the overseas economy and exchange rate movements will be
particularly vital to the success of this strategy.
 Government policy towards car ownership can have a significant influence on the
performance of the company – taxation, safety and environmental legislation, policy
towards traffic congestion – all these have the potential to impact on car sales.
 Competitors – they are unlikely to be passive and will take counter measures to
maintain their market share in response to the strategies.
This list is illustrative and is obviously not exhaustive and alternative approaches are
acceptable (e.g. candidates may refer to PEST analysis).
Answer 26 HEALTHY EATING GROUP
(a) Expected sales margin

$000
Revenue 45,000
Materials 17,500
Packaging 3,750
Distribution 3,600
Fixed costs 5,401
––––––
Total costs 30,251
Profit 14,749
Profit/sales (%) 32.8%
Target rate of return (%) 32%
Target return ($000) 14,400
$000
Materials can increase by the excess profit over budget 349
Material costs could increase to 17,849
Therefore increase 1.99%
Based on the information provided an expected return on sales amounting to 32.8% of

revenue would be made in which case the statement made by the finance director was correct.
The finance director was correct to be concerned with an increase in the cost of all ingredients
as the return % is very sensitive to an increase in the price of ingredients purchased by HEG,
as material costs cannot rise in price by more than $349,000 which represents an average
increase amounting to 1.99%.
(b) Critical success factors
Product quality
The fact that the production staff has no previous experience in a food production
environment is likely to prove problematic. It is vital that a comprehensive training
programme is put in place at the earliest opportunity. HSC need to reach and maintain the
highest level of product quality as soon as possible.
Supply quality
The quality of delivery into SFG supermarkets assumes critical significance. Time is literally of
the essence since 90% of all sandwiches are sold in SFG’s supermarkets before 2 pm each day.
Hence supply chain management must be extremely robust as there is little scope for error.

Technical quality
Compliance with existing regulations regarding food production including all relevant factory
health and safety requirements is vital in order to establish and maintain the reputation of
HSC as a supplier of quality products. The ability to store products at the correct temperature
is critical because sandwiches are produced for human consumption and in extreme
circumstance could cause fatalities.
External credibility
Accreditation by relevant trade associations/regulators will be essential if nationwide
acceptance of HSC as a major producer of sandwiches is to be established.
New product development

Whilst HSC have developed a range of healthy eating sandwiches it must be recognised that
consumer tastes change and that in the face of competition there will always be a need for a
continuous focus on new product development.
Margin
Whilst HSC need to recognise all other critical success factors they should always be mindful
that the need to obtain the desired levels of gross and net margin remain of the utmost
importance.
Tutorial note: Only five critical success factors were required. Alternative relevant
discussion and examples would be acceptable.
(c) Role of management accountants
The introduction of ERPS has the potential to have a significant impact on the work of
management accountants. The use of ERPS causes a substantial reduction in the gathering
and processing of routine information by management accountants.
Instead of relying on management accountants to provide them with information, managers

are able to access the system to obtain the information they require directly via a suitable
electronic access medium.
ERPS integrate separate business functions in one system for the entire organisation and
therefore co-ordination is usually undertaken centrally by information management specialists
who have a dual responsibility for the implementation and operation of the system.
ERPS perform routine tasks that not so long ago were seen as an essential part of the daily
routines of management accountants (e.g. perpetual inventory valuation). Therefore if the
value of the role of management accountants is not to be diminished then it is of necessity that
management accountants should seek to expand their roles within their organisations.
The management accountant will also control and audit the ERPS data input and analysis.
Hence the implementation of ERPS provides the management accountant with an opportunity
to change the emphasis of their role from information gathering and processing to that of the
role of advisers and internal consultants to their organisations. This new role will require
management accountants to be involved in interpreting the information generated from the
ERPS and to provide business support for all levels of management within an organisation.

Answer 27 SUCCESS EDUCATION CENTRE
(a) Assessment of financial performance

20X1 20X2
Homeland Awayland Combined Homeland Awayland Combined
% growth in sales revenue 11.1% 30% 14.5%
Sales margin before interest (%) 20 (17.5) 13.2 24.5 1.2 19.7
Return on capital employed (%) 18.6 26.0
Earnings before interest, depreciation
and amortisation ($000) 1,125 1,690
Fixed asset turnover ratio 1.6 4.0 1.8 1.8 2.4 1.9
Debt: Equity ratio 62.5 35.6
Gearing ratio 38.4 26.2
Sales revenue
Revenue in Homeland increased by 11.1% whereas in Awayland it increased by 30% which is

excellent bearing in mind that operations only commenced in 20X0. The overall growth in
revenue achieved during 20X2 amounted to a healthy 14.5%.
Profits
The operation in Homeland has achieved an increase of 36% in net profit which is an
excellent result given the operation only commenced during 20Y8. The operation in
Awayland made a very small profit of $15,000 in 20X2 compared with a loss of $175,000 in
20X1. The overall profit of SEC has increased from $575,000 to $1,115,000, an increase of
93.9%. Non-operating costs have increased from $475,000 (20X1) to $525,000 (20X2), an
increase of 10.5%. It is worth noting that interest payable has fallen by $25 million which is a
direct result of the repayment of $250,000 of loan stock. The increased amount of marketing
expenditure has enabled both operations to achieve substantial growth in turnover. EBITDA
rose from $1,125 million to $1,690 million.
Costs
Tuition materials and consumables costs have only increased by 2% and 3.3% respectively in
Homeland and Awayland. Bearing in mind that revenue of each operation has increased
substantially then it is highly probable that SEC are benefiting from economies of scale that
exist with regard to the provision of tuition materials and consumables. Salaries have
increased by 5% in both Homeland and Awayland. Other operating expenses have increased
by 4% in Homeland and remained static in Awayland which shows excellent cost control.
Fixed asset utilisation
The 20X2 utilisation ratios of Homeland and the overall business remain at a similar level to
those of 20X1 with the exception of that of Awayland which has fallen from 4 times to 2.4
times. However, this is acceptable given that operations in Awayland have only been recently
established. It might well be the case that, for example, recently acquired buildings may not
yet have been brought fully into use or perhaps were acquired towards the end of 20X2.
Awayland is clearly in a rapid-growth phase hence the need for such investments in fixed
assets.

(b) Additional information for a comprehensive assessment
It would be useful to have data relating to 20X0 in order to observe a three year trend for
Homeland and the full picture of Awayland. This would enable a much better assessment of
current performance and the identification of significant factors that have arisen during the
past four years.
It would be extremely useful to have competitor information in order to assess relative market
share and establish how they are performing in the Homeland and Awayland markets
compared with SEC.
It is clear that long-term borrowing has decreased during 20X2 and that SEC has sufficient
cash flow to be repaying loan stock.
However, it would be useful to have a detailed breakdown of the working capital of each
operation to confirm this.
It would also be useful to have future market and financial projections in respect of operations
in Homeland and Awayland which should reflect the actual results achieved in 20X1 and
20X2.
(c) Factors to be considered when assessing comparative financial performance
The following factors may need to be taken into account in an assessment of the comparative
financial performance of the two divisions.
 The size of each market;

 The number of competitors in each market;
 The different types of service provision (e.g. frequency and modes of course
delivery) available from competitors;
 The strength of the SEC brand;
 The availability of resources within each country, in particular, suitably qualified
lecturers.
(d) Advantages of using EBITDA
 EBITDA is easy to calculate and understand.
 The use of EBITDA (earnings before interest, taxation, depreciation and

amortisation) will focus management attention on cash flow from operations and
hence is a measure of underlying performance.
 Whilst taxation and interest payable remain important considerations in essence

they represent distributions to the government (taxation) and a charge for financing.
Neither taxation nor interest payable is relevant to the underlying success of the
business of SEC.
 EBITDA is a useful measure of the managerial performance in situations like that of

SEC where managers have no control over acquisition and financing policy since it
excludes costs associated with assets (depreciation and goodwill) and debt finance
(interest).

Answer 28 TALIESIN CO
(a) Performance appraisal
The overall performance of Taliesin during the year ended 31 May 20X2 can be measured by
its Return on Capital Employed (ROCE) as follows:
20X2 20X1
Profit Before Interest 5,000 4,000
=
Total Assets less Current Liabilities 66,000 52,000
7.58% 7.69%
A figure of 7·58% is not good especially when Taliesin has borrowed money at 10% for
further development. 7·58% is a slight fall from 20X1. Since this information was available
at the start of the 20X2 financial year, the directors should have reconsidered their objective
of growth.
Sales have increased by 20% over the previous year. There is a considerable variation in the
sales achieved by Taliesin in the different halves of their accounting year. This variation in
seasonal demand required the hiring of a secondary core work force for the period 1 June – 30
November during each financial year. Most of the growth in sales revenue occurred during
the first half of the year ended 31 May 20X2.
Cost of sales has remained constant at 60% of sales. It is interesting to note that the
composition of cost of sales has changed during the year and management attention should be
focussed on this in order to ascertain the reasons for this change. The material percentage
content of cost of sales has remained constant whereas labour has decreased. Manufacturing
overheads comprise the majority of cost of sales in 20X2 (51·5%). This is an increase of
1·5% over 20X1.
20X2 20X1
% of cost of sales: % of cost of sales:
Materials 32.5 32.5
Labour 16.0 17.5
Overheads 51.5 50.0
––––– –––––
100.0 100.0
––––– –––––
Whilst the gross profit percentage has remained constant at 40% the net profit percentage has
reduced from 10% to 8.33%. In absolute terms, Taliesin has earned the same profit during the
year ended 31 May 20X2 as it did in the previous year. Operating costs have risen by 27.5%
over the previous year’s level. The company has also paid $1 million in interest on a loan
which was taken out during the year presumably to finance the plant and equipment required
to manufacture the six new products.
Details of the composition of net current assets are required in order to ascertain the liquidity
position of Taliesin and thereby gain a fuller picture of the financial position of Taliesin.
From the information provided it would appear that although sales increased by 20% over the
previous year’s level, Taliesin have lost a customer during the year ended 31 May 20X2. It is
quite conceivable that this only happened towards the end of the year and thus the income
statement might not fully reflect financial consequences of the lost customer. The loss of the
customer could well be highly significant since the company had only six customers at the
start of the year. It is highly probable, therefore, that each of the six customers, being
supermarkets, purchased in relatively large volumes and thus significant revenue may have
been lost. This will only become apparent during the next year but Taliesin should attempt to
find a new customer to replace the lost customer as soon as possible.

Growth may only have been achieved by introducing new products. There may be a limit to
the number of times that this can be done effectively. It has already been noted that the six
new products have led to a loan, the cost of which exceeds the return generated by Taliesin.
(b) Benefits of pursuing a policy of internal development
The major benefits of pursuing a policy of internal development that may accrue to Taliesin
are as follows:
 By confining their activities to its internal environment the company avoids the
need to manage the integration of businesses which is necessitated by an
acquisition. Management teams, when considering the acquisition of another
organisation, very often underestimate the costs of integration.
 There is no need for the board of directors of Taliesin to familiarise itself with
different organisational and national cultures, values, etc, thereby avoiding many
potential problems.
 The board of directors of Taliesin is better able to control the activities of the
business and the need for more complex supply chains and strategic alliances with
foreign organisations is rendered unnecessary.
 All investments are made at market price whereas if the board of directors was to
attempt to grow the business acquisition then significant outlays would probably be
made in respect of purchased goodwill.
 As the organisation develops and expands, staff are provided with development and
learning activities that may precipitate an increase in the level of their commitment
to the organisation.
(c) Benefits of activity-based techniques
The usefulness of activity-based techniques is accentuated in situations where overheads

comprise a significant proportion of product costs. Manufacturing overheads comprise
30·9% of Revenue during the year ended 31 May 20X2. Traditional methods of allocating
overheads to products might result in product cost information which is misleading and
detrimental to managerial decision-making. Calculations of product costs are more prone to
error in situations where higher levels of overhead exist. The consequences can prove
disastrous, for example, in the under-pricing or over-pricing of products.
Since Taliesin is going to confine its activities to its home country it must be prepared to face
increased competition and this increases the need for greater visibility and more accurate
product cost information.
At present, Taliesin offers a range of products which is increasing in number and this may
lead to the need for a more detailed costing system. Traditional absorption systems might
well be inadequate as the number of product variants increases.
One would expect that each new product developed is more complex than its predecessors.
The company would probably start with simple Vanilla, then a few basic flavours but as
Taliesin has expanded one would expect it to take longer to originate and test new products
until they are ready to be introduced. It will probably take longer to mix the ingredients for a
run of each product.

These two, development and mixing ingredients, are examples of activities which arise when
new products are considered. If traditional absorption costing and budgeting are used based
on machine-time in production then the effect of these activities would be ignored.
In order to gain a full appreciation of the impact of new product introduction activity-based
techniques should be used to guide Taliesin into the easiest way to maintain its policy of
growth. It may be a better decision to expand abroad or into new markets at home with the
existing products than pursue growth by introducing new products to a dwindling number of
customers.
Although the composition of the customer base of Taliesin is not stated the scope of activity-
based techniques extends beyond products and services. For example, the application of
activity-based costing can provide vital information that enables management to undertake
customer profitability analysis, thereby further improving management decision-making and
operating performance.
Answer 29 DIVISIONAL ASSESSMENT
(a) Definitions
(i) Decentralisation is the devolution of authority to make decisions.
(ii) Divisionalisation is the delegation of profit responsibility.
Tutorial note: The terms “divisionalisation” and “decentralisation” are sometimes

used as if they were interchangeable. However, as seen by the definitions given
above, they are not synonyms.
(iii) A division can be defined as “a company unit headed by a person fully responsible
for the profitability of its operations, including planning, production, financial and
accounting activities, and which usually, although not always, has its own sales
force”. The division may be a unit of the parent company or it may be a wholly or
partially owned subsidiary.
Unfortunately there is no uniformity as to the way in which the word “division” is

used. In some companies it is used interchangeably with “department”. Usually a
business will be recognised as a division when it exercises responsibility for both
producing and marketing a product or a group of products.
(iv) Responsibility accounting is the structuring of performance reports addressed to

individual members of an organisation in a manner that emphasises the factors
controllable by them. Depending on the nature of the factors under the control of an
administration unit, responsibility accounting reports may be prepared for cost
centres, revenue centres, profit centres or investment centres.
(v) A cost centre has control over the incurrence of costs.
(vi) A revenue centre has control over revenues only.
Tutorial note: In practice, revenue centres are likely to be assigned responsibility

for the controllable costs they incur in generating revenues. However, where the
two items are appraised separately, the centres remain. On the other hand, if the
two are netted off and appraised together, the unit becomes a profit centre.
(vii) A profit centre has responsibility for the difference between revenues and
controllable costs.

Tutorial note: The term “profit centre” is often erroneously viewed as a synonym
for a decentralised sub-unit, whereas the type of centre relates to the degree of
freedom to make decisions.
(viii) An investment centre has responsibility for the relationship between its own profits
and the centre’s investment base. Hence, it encompasses the responsibility of a
profit centre plus a responsibility for the relationship between profits and
investment.
Divisional income
(ix) Return on investment =  100
Divisional investment
A charge for the

(x) Residual income = Divisional income – corporation' s investment
in the division
Divisional Company' s
= Divisional income – 
investment cost of capital
Tutorial note: Both measures can be used as:
(1) Ex-ante targets: to motivate divisional managers and to guide decision-making.

(2) Ex-post appraisal measures: to evaluate managerial and economic performance.
(b) Factors affecting divisional measurement and control
The measurement and control of divisional performance demands a clear analysis of the
following issues.
(i) The objectives of the division – a divisional manager cannot be expected to achieve
objectives which are not explicitly stated. These objectives will be of either a long
or short-term nature depending on the divisional manager’s freedom to make
decisions and the time scale over which the results from his actions are expected to
materialise. An implicit assumption in stating the objectives is that they are
attainable, as the best performance will not attain unrealistic objectives.
(ii) Controllable factors – the factors in divisional performance which are in the domain
of the divisional manager’s discretion. These factors will inevitably vary from
company to company affecting the divisional manager’s freedom to make decisions.
Controllability should also be interpreted with common sense, as no factor is ever
completely and absolutely controllable. Controllability basically means the ability
to influence an item of cost or revenue within limits; these limits may be very broad
or extremely narrow. The danger in putting too restrictive a definition on control is
that managers may not be held responsible for many sources of variances and
thereby make performance evaluation nonsensical.
(iii) Uncontrollable factors – the factors in divisional performance outside the divisional
manager’s domain but within the domain of central management decisions.
Once these factors have been clearly defined, a basis for measuring and controlling a
division’s performance will exist.

Organisations are run by people who do not necessarily have the same objectives or views.
Therefore conflicts can and do arise. For example, managers argue about the objectives
which should be adopted (e.g. short or long run, corporate versus divisional).
(c) Discussion of whether divisional profit equates with success
The statement given raises two major areas of doubt.
(i) Accounting profit as a measure. Accounting profit is not an exact measure:
 It can be manipulated by increasing or decreasing the deductible expenses,

realising or not realising assets which have risen in value over time, or by
implementing different accounting policies.
 It is very questionable whether accounting profit can be judged as a

relevant measure of performance when it does not reflect the economic or
“true” profit (i.e. the amount which is added to the discounted value of the
company as a whole for the period being measured). Hence, progress is
made towards maximising the company’s present value.
(ii) What is meant by “the larger the profit”? Profit as a measure by itself is an absolute
which bears no relation to the means of obtaining it. For example, one manager
with a larger absolute profit may have access to unlimited capital, whereas another
manager’s capital was rationed. A solution to this problem is ROI which relates the
income earned to the capital invested (or RI which takes into account the cost of
capital invested). However, they both have their merits and demerits.
(d) Two-Minds Co
(i) A division’s performance should be evaluated by reference to the objectives set and
the degree of freedom the division has to make decisions. From the two criteria
given (i.e. ROI and RI) it can be assumed that the objective is either to maximise
ROI or maximise RI. As no target has been given for either, in comparing the
divisions it is assumed that the larger the ROI or RI, the better the performance.
ROI 10% 8.2%
$ $
Profit 20 410
Less Interest on investment @ 8% (16) (400)
—— ——
Residual income 4 10
—— ——
According to the ROI criteria division A has performed better than division B.
However, this difference in performance ranking may occur because division A
rejects investment proposals that, while desirable from the firm’s viewpoint, would
reduce its ROI. Division B, on the other hand, may accept all proposals that meet
the firm’s investment criteria. Thus, the motivational aspect of ROI is dysfunctional
to the company as a whole.
According to the RI criteria division B has performed better than division A.

Therefore, in a situation where both divisional managers are motivated to accept
projects that meet the firm’s investment criteria (i.e. cost of capital), division B has
been more successful in finding profitable investments.

However, both divisions have shown a positive RI figure and therefore both
divisions have succeeded in investing in projects with returns higher than the
company’s cost of capital.
Tutorial note: The distinction between ROI and RI is similar to the distinction
between internal rate of return and net present value. Both RI and net present value
give explicit consideration to the size of the investment, while ROI and internal rate
of return are ratios that ignore size.
(ii) A change in the company’s cost of capital will only affect the RI figure; it has no
effect on the ROI computation. The revised residual income figures for cost of
capital at 6% and 10% respectively are as follows:
Cost of capital 6% $ $
Profit 20 410
—— ——
RI 8 110
—— ——
Cost of capital 10%
Profit 20 410
—— ——
RI – (90)
—— ——
Therefore, if the cost of capital for the company is lowered to 6%, division A’s
investment and division B’s residual income increase. However, the larger size of
the investment in division B results in a proportionally higher RI figure. On the
other hand, if the cost of capital is raised to 10%, division A is judged to be the
better performer. In this case division A’s RI is zero and that of division B is a loss
of $90.
Answer 30 BABBLINGS (89) CO
(a) Appropriateness of ROI for divisional and management performance
(i) Appropriateness of ROI
The ROI is regarded as being of only limited use in appraising the performance of a division
or a manager. As a relative measure it may be a useful calculation when appraising profit
centres but not, as here, investment centres. Limitations arise for the following reasons.
(1) Its use is inconsistent with a firm’s probable aim of profit maximising, since
divisions will wish to maximise profits relative to capital employed rather than in
absolute terms.
(2) It can lead to under-investment, since ROCE can be improved not only by
increasing profit but by reducing capital employed.
(3) There can be problems due to inconsistency in asset or profit measurement as

illustrated by points 1, 2 and 6 below.
(4) Behavioural problems may result for a lack of control over figures used.

The example shown can be used to illustrate these points.
(1) Division X has leased plant as well as purchasing plant. Division Y has no leased
asset, making a comparison difficult.
(2) Y has rented its premises, whereas X owns its property.
(3) Head office costs have been allocated, though the basis is not specified. These costs
are presumably not controllable by the division and do not necessarily reflect the
true value of the services or benefits received.
(4) The use of net book value for fixed assets may encourage under-investment. Y’s
assets would appear to be, on average, older and it is not clear whether consistent
depreciation policies have been adopted or whether “assets employed” represents
year-end figures or, more appropriately, average values.
(5) Long-term loans should be excluded from liabilities since they are a source of funds
rather than a component of net assets.
(6) It is not clear whether there has been consistent treatment of research and
development costs or advertising costs.
(ii) Alternative measures
The main suitable alternative to the ROI calculation is to find the residual income (RI) for
each division where Residual income = Net profit – Interest on divisional assets. This is an
absolute measure encouraging profitable investment, and its maximisation is consistent with
the company’s likely aim of profit maximisation.
The main problem of the measure is what rate of notional interest should be charged on
capital employed for reducing a division’s profits. In this case a rate consistent with the risk
of each division has been used and an attempt has been made to overcome some of the other
problems of the previous ROI figures.
20X1 20X2 20X3 20X1 20X2 20X3
$000 $000 $000 $000 $000 $000
Assets 1,000 1,200 1,700 500 510 480
Current liabilities (35) (70) (170) (50) (60) (80)
–––– –––– –––– –––– –––– ––––
Net assets 965 1,130 1,530 450 450 400
–––– –––– –––– –––– –––– ––––
Net profit 35 100 340 45 100 160
Head office costs 110 340 840 330 350 360
–––– –––– –––– –––– –––– ––––
145 440 1,180 375 450 520
Interest (W) (193) (226) (306) (72) (72) (64)
–––– –––– –––– –––– –––– ––––
Residual income (48) 214 874 303 378 456
–––– –––– –––– –––– –––– ––––

WORKING
Interest on net assets

20X1 20X2 20X3 20X1 20X2 20X3
Net assets ($000) 965 1,130 1,530 450 450 400
Risk-adjusted interest rate 20% 20% 20% 16% 16% 16%
Notional interest charge 193 226 306 72 72 64
Tutorial note: An attempt has been made to adjust for some of the difficulties in calculating
any performance measure as mentioned in (i) above. However, if more information had been
available, further adjustments could have been made. It is often suggested that replacement
cost of net assets is a more appropriate basis for calculating the notional interest charge.
(b) Evaluation of performance using financial ratios
Year Division X Division Y
(i) Market share
1,100 3,300
20X1 × 100 = 11.0% × 100 = 10.6%
10 ,000 31,000
1,700 3,500
20X2 × 100 = 11.3% × 100 = 10.3%
15,000 34,000
3,350 3,600
20X3 × 100 = 19.7% × 100 = 8.6%
17 ,000 42,000
(ii) Net profit percentage (based on profit before head office costs)
145 375
20X1 × 100 = 13.2% × 100 = 11.4%
1,100 3,300
440 450
20X2 × 100 = 25.9% × 100 = 12.9%
1,700 3,500
1,180 520
20X3 × 100 = 35.2% × 100 = 14.4%
3,350 3,600
(iii) Asset turnover (based on fixed assets plus net current assets)
1,100 3,300
20X1 = 1.1 = 7.3
965 450
1,700 3,500
20X2 = 1.5 = 7.8
1,130 450
3,350 3,600
20X3 = 2.2 = 9.0
1,530 400

(iv) Annual sales growth
1,700 3,500
20X2 – 1 = 54.5% – 1 = 6.1%
1,100 3,300
3,350 3,600
20X3 – 1 = 97.1% – 1 = 2.9%
1,700 3,500
(v) Gross profit percentage (using only direct labour and materials)
825 2 ,200
20X1 × 100 = 75.0% × 100 = 66.7%
1,100 3,300
1,300 2 ,300
20X2 × 100 = 76.5% × 100 = 65.7%
1,700 3,500
2 ,600 2 ,300
20X3 × 100 = 77.6% × 100 = 63.9%
3,350 3,600
(vi) Return on investment (excluding head office costs and long-term loans)
145 375
20X1 × 100 = 15.0% × 100 = 83.3%
965 450
440 450
20X2 × 100 = 38.9% × 100 = 100.0%
1,130 450
1,180 520
20X3 × 100 = 77.1% × 100 = 130.0%
1,530 400
Below are ratios additional to the six shown so far.
(vii) Gearing ratio
90
20X1 × 100 = 9.3%
965
460
20X2 × 100 = 40.7%
1,130
560
20X3 × 100 = 36.6%
1,530
(viii) Annual growth in residual income
20X2 $(214 – (48)) = $262 $(378 – 303) = $75
20X3 $(874 – 214) = $660 $(456 – 378) = $78

(ix) Reasons for choice of ratios
Market share has been found to:
(1) Assess each division’s performance relative to the market;

(2) Acquire some “scale factor” for each division;
(3) Determine how divisional sales have grown relative to the market.
Net profit percentage will show:
(1) How profitable are the divisions;

(2) How well each manager has controlled overheads.
Asset turnover may well be the ratio subject to the most “window-dressing”, and most
difficult to interpret given the leased assets and old assets, but still shows how each division is
generating sales from its asset base.
Gross profit percentage gives a further idea of the market in which each division operates,
measuring the gross mark-ups achieved. A less common set of figures based solely on
materials and labour costs has tried to eliminate the effects of different types of asset
acquisition.
The initial return on investment, a prime performance measure, suffered from several defects
and two of these have been ironed out by excluding head office costs and long-term loans.
In addition to the growth measures, the gearing ratio has been found to establish how the
divisions are managing their finances.
(c) Discussion of the need for different measures for division and manager
The two main purposes of performance measures are
(i) to assist in future decision-making; and

(ii) to improve performance through motivation.
The types of decisions to be made about a division and its manager differ, and therefore
different performance measures may be needed. Likewise it is sometimes suggested that
different staff are motivated in different ways and by setting various levels of standard; by the
same token managers may respond to different performance measures and to different targets
in a different manner.
Perhaps the main point at issue here is whether the manager of division X should be set a
higher target than the manager of division Y. The different risk of the two divisions is the
stated reason but it might also be useful to give Mr Mouth a sterner target to see if he can
“rise to the challenge”. Alternatively, one might have a cut-off RI or ROI for any division
but, if such a target is not achieved, a decision has to be made as to whether it is the fault of
the manager or of the division and the area in which it operates.
A manager may be assessed by reference to qualitative measures which would have little
significance for divisional performance. The division’s profitability might well be compared
with overall profitability of the company, whereas the manager’s profitability performance
could be compared with that of other firms in the same area or market.
If the manager has no control over investment policy, then RI is of less use in assessing his
performance and ROI could be used instead.

Some attempt should be made when a manager takes over a division to eliminate the effects
of inherited problems when evaluating his performance. In addition, costs may be incurred
which, whilst not directly under the control of a manager, may arise as a direct consequence
of a division’s operations. It could therefore be excluded from managerial performance
measures but included in divisional evaluation.
Answer 31 MELDO DIVISION & KITBUL
(a) Meldo division
(i) Summary calculation of controllable divisional profit
$
Sales to outside customers XX
Inter-divisional sales XX
––––––
XX
Less Variable cost of goods sold (XX)
Variable divisional expenses (XX)
––––––
Controllable contribution XX
Less Controllable divisional fixed overhead (XX)
––––––
Controllable profit before tax XX
––––––
(ii) Effect of degree of autonomy on controllable profit reported
The degree of autonomy allowed to a division will affect the extent to which divisional
management can control various aspects of income and expenditure. The ratio of inter-
divisional sales to external sales may be determined to a greater extent by divisional
management where an increased level of autonomy is given. Where internal sales are
transferred at prices lower than market price, a change in the mix of sales to an increased
proportion of inter-divisional sales will reduce the controllable divisional profit reported. The
degree of autonomy will also affect the transfer pricing policy of Meldo division. Where a
fully centrally directed policy is used, the transfer price may be as low as marginal cost where
Meldo division has spare capacity. This will reduce the reported profit at the division
transferring the goods. On the other hand where complete autonomy is given, Meldo division
may transfer at market price thus increasing its reported profit.
The variable cost of goods sold will also be affected by the degree of internal transfers of
components from other group divisions and the price paid for these. An increased level of
autonomy will allow the management at Meldo division to seek cheaper external sources of
components where internal transfer prices are high, thus improving the controllable profit
reported. The level of variable divisional expenses may vary because of the level of inter-
divisional sales on which sales and distribution costs may be incurred at a lower level that that
of external business. Hence the more autonomy that Meldo division management has to
decide on its own mix of sales, the greater the scope for change in the rate of variable
divisional expenses. The ability to adjust the level of divisional fixed expenses may also be
linked to the degree of autonomy allowed to divisional management. For example, the extent
to which the divisional management can control the level of major overhauls of machinery
will depend on the extent to which group management lay down specific levels which must be
adhered to.
Tutorial note: Other relevant illustrations would be accepted.

(b) Kitbul
Residual income may be calculated as net profit less imputed interest on capital employed.
For the three year period in the illustrative data the figures may be shown as follows:
(i) Using straight-line depreciation

$000 $000 $000
Investment balance at
beginning of year 900 600 300
––– ––– –––
Net cash inflow 380 380 380
Less Depreciation 300 300 300
––– ––– –––
Net profit 80 80 80
Notional interest on capital 90 60 30
––– ––– –––
Residual income (10) 20 50
––– ––– –––
(ii) Using annuity depreciation based on the cost of capital rate
$000 $000 $000

Investment balance at
beginning of year 900 628.1 329
_____ _____ _____
Net cash inflow 380 380 380
Less Interest on capital (90) (62.8) (32.9)
Depreciation (271.9) (299.1) (329)
_____ _____ _____
Residual income 18.1 18.1 18.1
_____ _____ _____
With annuity depreciation based on the cost of capital rate of 10%, this results in the
investment of $900,000 having an annual equivalent of $900,000/2.487 = $361,900 (approx).
This provides for both interest on capital and depreciation and leaves a residual income of
$18,100 in each of Years 1 to 3. The interest on capital is calculated for each year based on
the written-down value at the beginning of each year. For year 1, interest on capital =
$900,000 × 10% = $90,000. Hence the depreciation is shown in Year 1 as $361,900 –
$90,000 = $271,900. For Year 2, investment balance at the beginning of the year = $900,000
– $271,900 = $628,100. The interest on capital is then $628,100 × 10% = $62,800 (approx).
Similar calculations are then followed to the end of Year 3.
The above figures show that the investment opportunity is acceptable on a discounted future
earnings basis. NPV = $380,000 × 2.487 – $900,000 = $45,100 (approx).
The management of Kitbul division may decide to reject the investment where straight-line
depreciation is used because of the negative residual income of $10,000 in Year 1. This may
be particularly so where management wish to present the best possible figures in the short
term as part of obtaining a career move within the group. The annuity depreciation approach
avoids this problem and reports a constant residual income figure in each of Years 1 to 3.

Answer 32 TOUPLUT CO
(a) Economic Value Added

20X1 20X2
$ $
Profit before interest and tax 71 (67 + 4) 90 (84 + 6)
Add non-cash expenses 10 10
Less tax (Note 1) (24.4) (31.1)
——— ———
Net operating profit after tax 56.6 68.9
Less finance charge (11.34% × 233) (26.42)

(12.8% × 270) (34.56)
——— ———
Economic value added 30.18 34.34
——— ———
WORKINGS
(1) Tax charge
The tax charge given in the question is adjusted to take out the effect of the tax relief on
interest. This is simply the interest expense multiplied by the tax rate. This is because the
finance charge includes the after tax cost of interest so the net operating profit after tax shows
what the profit would have been had there been no interest expense.
20X1 20X2
$ $
Tax charge per question 23 29
Add tax relief on interest:
(4 × 35%) 1.4
(6 × .35%) 2.1
——— ———
Adjusted tax charge 24.4 31.1
——— ———
(2) Capital employed at the start of the year
20X1 20X2
$ $
Per statement of financial position (at end of previous year) 223 250
Add non-capitalised leased 10 10
Add non-cash expenses during 20X1 - 10
—— ——
Re stated capital employed at the start of the year 233 270
—— ——
(3) Weighted average cost of capital
The weighted average cost of capital is estimated using target capital structure:
20X1 (15% × 60%) + (9% (1 – 0.35) × 40%) = 11.34%

20X2 (17% × 60%) + (10% (1 – 0.35) × 40%) = 12.80%

(b) EVA and its relationship with net present value
Economic Value Added (EVA) aims to measure how much economic value a company has
produced during a period. The most important aspect of EVA is the capital charge.
Conventional profits do not take into account the cost of financing the assets needed to
generate the profits. The capital charge is taken by multiplying the capital employed by the
company (equity plus debt) by the weighted average cost of capital. To this extent, EVA is
similar in concept to Residual Income.
The profit figure used in the calculation of EVA also requires some explanation. Net
operating profit after tax shows how much profit would have been had the company been
entirely equity financed. Post-tax interest is therefore added back to profit after tax.
Other adjustments are made to profits and net assets. In particular, the proponents of EVA
believe that Accountants are too conservative when calculating profits. Value adding
expenditure such as development expenditure and advertising tend to be expensed in financial
reporting. However, such expenditure brings benefits in the future, so should be capitalised
rather than expensed.
If the EVAs for each year of an investment were summed over the entire life of the
investment and then discounted, the result, in theory, should equal the net present value of the
investment.
(c) Advantages and disadvantages of EVA
Advantages
 It measures the value added to an organisation after deducting a charge for the use
of capital made by that organisation.
 It may be consistent with the objective of maximising shareholder wealth.
 It can easily be communicated to, and understood by, managers and employees.
 It may be used to judge performance by managers, and linked to remuneration

schemes which reward the creation of value to the organisation.
Disadvantages
 Calculations are complicated and require many adjustments to accounting

information.
 It is normally historic. It does not help decide future investments and strategy.
 It may distort investment by favouring investments with relatively small capital

outlays, or relatively short time horizons. Such investments are likely to produce
higher EVAs in the near future.
 EVA comparisons between companies are not directly valid, unless an adjustment is
made for the relative size of companies.
 It usually relies on the capital asset pricing model (CAPM) for the estimate of the
weighted average cost of capital. CAPM is based upon restrictive assumptions and
may not accurately estimate the cost of capital.
 It is not suitable for young companies or financial institutions.

Answer 33 BLACK AND BROWN
(a) Group contribution (per units and in total)
Blackalls Brownalls
$ $ $ $
Selling price 45 54
Intermediate products used
Alpha (3: 2) 18 12
Beta (2: 4) 8 16
Processing costs 12 14
—— ——
(38) (42)
—— ——
Contribution/unit 7 12
—— ——
Group contribution ( 200) = 1,400 ( 300) = 3,600

——– ——–
In total 5,000
——–
(b) Divisional contribution
(i) Transfer price (VC + shadow price) supplying divisions

A B
$ $
Alpha (6 + 0.5) 6.5
Beta (4 + 2.75) 6.75
Less VC 6.0 4.00
—– ——
Contribution/unit 0.5 2.75
—– ——
(ii) Buying divisions

Black Brown
$ $ $ $
Sales price 45 54
Less Transfer price
Alpha (3: 2) 19.5 13
Beta (2: 4) 13.5 27
Processing cost 12.0 14
—— —
(45) (54)
— —
Contribution/unit  
— —
(c) Results and attitude of management of the various divisions
All contribution arises in the supplying divisions at the expense of the buying divisions. This
will be unacceptable to the buying divisions which will have an adverse effect on the
promotion of these two products.

(d) Revised contribution
(i) Transfer price
Variable cost + Opportunity cost

Transfer price = (or = Market clearing price)
Alpha = $6.00 + (5%  $6.00) = $6.30
Beta = $7.50 – $0.50 = $7.00
(ii) Contribution of end products in buying divisions
Black Brown
$ $ $ $
Selling price 45 54
Transfer price
Alpha (3: 2) 18.9 12.60
Beta (2: 4) 14.0 28.00
Processing cost 12.0 14.00
—— ——–
(44.9) (54.6)
—— ——
0.10 (0.60)
—— ——
Therefore do not produce Brown.
Strategy
Produce Black: Maximum possible?
Constraint?
Alpha 2,400 units/3 units/unit of Black = 800 units

Beta 3,200 units/2 units/unit of Black = 1,600 units
Therefore produce 800 units of Black plus sell the remaining 1,600 units of Beta externally.
Total contribution for group
$
800 units of Black  $7/unit (see part (a)) 5,600
1,600 units of Beta  $3/unit ($7 – $4) 4,800
———
Total group contribution 10,400
———

Answer 34 RJ BUSINESS CONSULTING GROUP
(a) (i) All consultants 100% utilised
The transfer price of $750 proposed by the IT division is based on cost plus 150% from which
it can be deduced that the total cost of a consulting day is (100/250) × $750 = $300. This
comprises $240 (80%) variable cost and $60 (20%) fixed cost. In this instance the transfer
price should be set at marginal costs plus opportunity cost. It is assumed in this situation that
transferring internally would result in the IT division having a lost contribution of $750 –
$240 = $510 per consulting day. The marginal cost of the transfer of services to the HR
division is $190 ($240 external variable costs less $50 saving due to use of internal video-
conferencing equipment). Adding the opportunity cost of $510 gives a transfer price of $700
per consulting day. This is equivalent to using market price as a basis for transfer pricing
where the transfer price is set at the external market price ($750) less any costs avoided ($50)
by transferring internally.
(ii) One team of consultants available
There is in effect no external market available for one of the required pairs of consultants
within the IT division and therefore opportunity cost will not apply and transfers should be
made at the variable cost per consulting day of $190. The other pair of consultants, who
would otherwise be 100% utilised in providing consulting services to external clients, should
be charged at a rate of $700 per day which represents marginal cost plus opportunity cost.
(iii) Major client will pay for two teams of consultants
The lost contribution from the major client amounts to $264,000/ (2 × 240) = $550 less
variable costs of $240 = $310 per consulting day. Thus, in this instance the transfer price
should be the contribution foregone of $310 plus internal variable costs of $190 making a
total of $500 per consulting day.
(b) Limitations of negotiated transfer prices
Negotiated transfer prices suffer from the following limitations:
 The transfer price which is the final outcome of negotiations may not be close to the
transfer price that would be optimal for the organisation as a whole since it can be
dependent on the negotiating skills and bargaining powers of individual managers.
 They can lead to conflict between divisions which may necessitate the intervention
of top management to mediate.
 The measure of divisional profitability can be dependent on the negotiating skills of

managers who may have unequal bargaining power.
 They can be time-consuming for the managers involved, particularly where large
numbers of transactions are involved.

Answer 35 FOCUS
(a) Benchmarking
Benchmarking enables organisations to learn about their own business practices and the best
practice of others. It will help an organisation to identify areas in which it is not
implementing best practice and to determine improvement programmes which will lead to the
achievement of and improvement upon current best practice.
Benchmarking should focus on areas which are of significant strategic importance to the
organisation. It will also be useful to target areas where it is envisaged significant
improvement can be made. This will maximise the benefit in the short term from available
resources for improvement. This is likely to create a positive motivational influence on staff
and improve their commitment to the benchmarking ethos.
Benchmarking may have one or more areas of focus. It may, for example, be internal in
nature where one internal unit (or division) learns from another. Alternatively it may be
external in focus. It may focus on best practice by competitors where this information can be
obtained. Again it may focus on customers by comparing current performance with the
expectations of the customer such as the percentage of faulty goods amongst those reaching
the customer.
(Alternative relevant discussion would be accepted.)
(b) Value for money
The absence of the profit measure requires an alternative focus in a not-for-profit

organisation. The principle of value-for-money implies that efforts must be made to ensure
that the available funds are spent in the provision of services in a way which maximises the
benefit to the users of the services. The value for money principle should be considered in
conjunction with economy; efficiency and effectiveness.
 Economy implies the principle of frugality. What is the least cost method of
providing a requirement?
 Efficiency implies the maximising of the output: input ratio.
 Effectiveness focuses on the achievement of the desired objectives through the

spending of the available funds.
The three measures may be in conflict with each other and may sometimes complement each
other. For example, purchasing a cheap version of an item (economy) may help maximise the
number of units which may be obtained for a given sum of money (efficiency). This may be
at variance with the desired objective of a high standard of performance from each of the
units (effectiveness).
An example from a housing department viewpoint could be the desire to improve the quality
of housing to occupants through a policy of installing double glazed windows. The purchase
of cheap window units (economy) may help increase the number of houses which can be
converted (efficiency). This could possibly lead to dissatisfaction through poor performance
of the units (e.g. high condensation and poor sound proofing) and hence the non-achievement
of improved quality of living (effectiveness).

Answer 36 HOUSING DEPARTMENT
(i) VFM audit
Value for money audits may be seen as being of particular relevance in not-for-profit
organisations where they are an important performance assessment tool. The VFM audit
focuses on the achievement of objectives of the organisation in a way that ensures the most
economic, efficient and effective manner. This may be complicated by the inter-relationship
of objectives.
In the scenario the principal objective is the provision of the upgrade of the air-conditioning
systems, ensuring that the quality of the system is satisfactory to LGHD. A subsidiary
objective is to ensure satisfaction of the occupants of the premises with the quality and ease of
use of the upgraded system.
An extension of the objectives is to ensure that the upgrade is seen to satisfy cost-benefit
criteria, both in terms of the upgrade and the subsequent maintenance and operational advice
to be provided by the contractors.
The principals are LCGD (as the provider of funds) and the house occupiers (as recipients of
the improved service).
The agents are the contractors who are tasked with the installation and maintenance of the
upgrade plus the advice to users (occupants) during the initial two year period.
(ii) Economy, efficiency and effectiveness
The focus on the achievement of the objectives of the proposed improvements will benefit
from consideration of the relevance of each of economy, efficiency and effectiveness. These
“3 Es” are likely to be seen as possibly being in conflict with each other in terms of the
achievement of objectives.
Economy will be seen as being achieved by aiming at minimising the average cost per house
for the upgrade and subsequent maintenance and advice. This may be aimed at choosing the
lowest quote per house for the proposed upgrades. A possible problem with this approach is
that the quality of the work done may be compromised resulting in dissatisfaction of
occupants.
Efficiency may be seen as the maximisation of the input/output ratio. In this exercise, this
may be measured through maximising the number of houses that can have the air-
conditioning upgrade with the funds available.
Effectiveness requires the achievement of the objectives (both principal and subsidiary) of the
proposal. This may be measured by focusing on factors such as:
 The quality of upgrade obtained;
 The level of improvement in air-conditioning achieved;
 The extent to which external noise is eliminated;
 Residents’ feedback indicates that the benefits will outweigh any inconvenience
caused by the upgrading work;
 LCGD considers that “value for money” has been achieved.

(iii) Characteristics of service
Intangibility in the context of the LGHD proposal relates to the likelihood that it is less likely
that there will be a single measurable output. The upgrading of the air-conditioning systems
is likely to require different amounts of input effort from one property to another. In addition,
the provision of maintenance and advice to occupiers over the first two years after the
upgrade is unlikely to be able to be valued with certainty. Intangible factors such as the
professionalism of the contractors may be difficult to value. Also the level of advice likely to
be sought by occupiers may vary considerably.
Heterogeneity refers to a possible variability in the standard of performance in the provision

of the service. The quality of advice given to house occupiers may vary according to the
expertise and/or level of commitment of the engineer giving the advice. Alternatively, the
engineer may be underperforming because of some work stress factor.
Simultaneity refers to the provision and consumption of the service coinciding and hence
making it difficult to apply all relevant checks and tests before its use. In the LGHD exercise,
it should be possible to test the quality of an upgrade before it is accepted by LGHD.
However, the provision of maintenance and operational advice will take place throughout the
two-year period after installation. This means that there should be some safeguard provisions
in the contract to ensure that deficiencies from the agreed maintenance and advice aspects can
be addressed as required.
Perishability refers to the inability to “store” the service in advance. A particular problem
may be where extreme weather conditions (hot or cold) lead to an overload of the air-
conditioning units. Will there be any provision in the contract to ensure that the contractors
will provide additional help – especially during the initial two year period?
Tutorial note: Alternative examples and comments would be accepted.
Answer 37 SHARPE TELECOMMUNICATIONS CO
To Management Team STL

From A Consultant
Re Business Process Re-engineering
Introduction
This report has been prepared to indicate the positive benefits which STL is likely to experience if
business process re-engineering (BPR) is introduced. The recommendations are based on the need of
the firm to achieve the following outcomes:
increased flexibility in responding to customer orders

reduced reworking, leading to
reduced costs.
There are a number of further benefits which are likely to be achieved, and these are discussed below
(see the section “Benefits”).
(a) Business Process Re-engineering (BPR)
BPR could be described as the fundamental redesign of the activities in a business so that new
methods of operation are developed. The objective of BPR is to deliver improved value to the
customer.

BPR is carried out by considering each process as if it were only now being initiated.
Consequently, the re-designed process is not affected by current practices. This means that
solutions are truly innovative.
As well as radically changing activities, BPR will lead to a change in the nature of
relationships, by requiring “traditional” boundaries to be dismantled. This arises because
BPR requires a focus on the required outcome, and seeks to remove any barrier to achieving
outcomes which meet with customer requirements.
A key element in this is the need for staff to be given (and accept) responsibility for whole
tasks, as opposed to parts of tasks.
In STL, we have noted:
 customers are demanding quicker responses to orders;

 a high level of re-work is required, leading to reduced profit margins;
 staff regard the quality control department as the guardian of quality standards;
 the benefit of a skilled and experienced workforce is undermined by the current
“product line” approach.
From the discussion above it can be seen that BPR addresses these issues, and it is therefore
reasonable to conclude that STL will derive considerable benefit from applying BPR.
Cellular manufacturing
Cellular manufacturing is a development of BPR. The key is to arrange production in a

manner that allows staff to become multi-skilled, rather than requiring a focus on one
specialised activity.
(b) Benefits
The following benefits can be expected from the introduction of cellular manufacturing:
(1) Because staff are multi-skilled, they will be more flexible in their work practices,
leading to improved production flows and allowing a move to just-in-time
manufacturing.
(2) Multi-skilled staff can accept responsibility for the whole task. This will facilitate a
change in the culture of the organisation, with each worker accepting responsibility
for the quality of their work.
(3) The fact that staff will be responsible for the whole task will reduce the level of
rework.
(4) The introduction of flexibility into the production process will allow just-in-time
manufacturing to be introduced. This will reduce lead times, assist in responding
more quickly to customer requirements, and will lead to a reduction in the level of
inventory held.
(5) The benefits noted at 4 above will lead to a reduction in costs.
(6) By recognising and making better use of staff skills and increasing the responsibility
of staff, the workforce should be better motivated. This will contribute to the
benefits noted above.
(7) The improved motivation and skills of the workforce are likely to lead to an
improvement in the quality of output.

(c) Quality improvement
A quality improvement programme is likely to improve margins by reducing the level of

rework. Every time an activity has to be repeated, STL incurs an additional, and unnecessary,
cost.
By allowing staff to fully utilise their skills, motivation will be improved. Staff who are
motivated will have a pride in their work. If this enhanced pride is part of a companywide
focus on quality, there will be a higher incidence of “getting it right first time”. These two
factors will contribute to a reduction in reworking.
As each member of staff will be responsible for the quality of their own work, any errors will
be corrected more quickly. This means that, even when rework is necessary, it will be less
than is currently required, as the errors will not have been compounded at successive stages of
production.
At present there is a considerable burden on the quality control function. Any unacceptable
production must be identified at the quality control stage. It is therefore possible that
defective items could be delivered to customers. This will lead to a reduction in reputation
and customer satisfaction. By achieving higher levels of customer satisfaction, STL will be in
a position to seek a “quality premium” in the selling price.
The combination of lower costs and premium prices will lead to improved margins.
(d) Benefits to staff
Staff will benefit as follows from the initiatives:
Greater job satisfaction as staff will be required to use a full range of skills, and will be
responsible for the whole task, rather than repeatedly carrying out
a single operation, job satisfaction will be improved.
Improved team spirit as production will be more collaborative, a supportive environment

will be fostered. This will facilitate team members supporting
each other, perhaps through sharing of skills. This will replace the
“inquisitive” nature of the current approach to quality control.
Improved remuneration the higher level of responsibility which staff will accept is likely to
lead to improved rates of pay.
Answer 38 QURIS CO
(a) Just in time (JIT)
Just in time (JIT) is often described as a management philosophy. Whilst there are
differences between just in time purchasing and just in time production, both are based on the
same key elements. These are:
Continuous improvement
While it is probably true that the ultimate goal of perfect quality every time is not sustainable,
the focus on continuous improvement is a key feature of just in time. By striving to match
supply and demand, and always seeking a better way of carrying out processes, an
organisation can get as close as possible to that ultimate objective.

Elimination of waste
Waste is defined as any activity which does not add value – as perceived by the customer.
One key area which is identified as waste is items held in stock. The traditional view is that
items in stock contribute to ensuring that customer demand can be met. The JIT view is that
items in stock are tying up resources that could be put to better use, and are only held due to
inefficiency.
Whole staff involvement
Based on the need for a product (or a service for that matter) to pass through various stages,
every individual involved in the process is a potential guardian of the philosophy or has the
potential to undermine it. For that reason all staff must be involved in the search for
continuous improvement. It is also worth noting that “all staff” means just that – not just
production staff.
Pull system
In a JIT system, activity only takes place when there is evidence of demand. Such evidence is
provided by a signal from the next stage of the process. This means that activity no longer
takes place because it was planned, or the output of the previous stage of the process has
“pushed” the need for the activity. Rather, activity takes place as a result of a “pull” from the
next stage.
Just in time purchasing is when purchasing is planned and executed to ensure that materials
are received when they are required. That is to say, receipt and usage coincide. Thus the
objective is to eliminate stock of raw materials.
Just in time production is a “pull” approach, as the need for production at each stage of the
process is driven (or pulled) by the demand from the next stage of the production process.
This means that stock of work in progress and finished goods is eliminated.
(b) Changes in the culture of the company
The culture of the company is likely to change in the following ways:
Customer focus
The focus of all the activities will be the customer. Production will take place in response to
customer demand, and this will help to ensure that customer satisfaction takes precedence
over all other objectives. It will also mean that it will be easier to respond to customer
requests for minor changes without causing serious disruption to the production process.
Quality
The need to respond quickly to customer demand will mean that quality will become of
critical importance. It will not be possible to respond to customer demand unless there is
certainty that quality can be maintained and enhanced. The goal of continuous improvement
must be accepted by all staff.
The approach to quality will become “right first time” as opposed to “right most of the time”
which characterises the traditional approach.

Employee involvement
By asking employees to ensure that quality standards are met and improved, they are asked to
expand the traditional boundaries of their role. This will mean that employee involvement in
all aspects of performance will increase, as employees recognise that their contributions are
valued.
Reduce in hierarchical authority
As employees become more involved, the traditional hierarchical lines of authority will
become less important, and employees will begin to exercise greater autonomy.
(c) Problems of JIT
While just in time brings numerous benefits, it is not without problems. These can be
summarised as:
Demand
For JIT to operate effectively, it must be possible to predict the level of demand and the
pattern of demand. Any unforeseen increase in demand may lead to stock outs with a
resulting fall in customer confidence. This will have a detrimental effect on future sales.
Disruption
As the JIT approach relies on predictability and certainty of delivery, any disruption in the
supply chain, or fall in quality will lead to stock outs.
Relationships
A key element in the stability discussed above is good relationships with employees. As
noted above, the introduction of JIT will lead to a change in culture within the company. It
may be that employees are either unable or unwilling to accept this change.
Prices
The JIT approach leads to more regular deliveries of smaller quantities. As suppliers will
normally attempt to minimise costs by encouraging larger orders, it is likely that a premium
will be charged to handle small orders, and to guarantee delivery.
Possible solutions to these problems are:
Demand
It may be the case that demand is more predictable than might be currently accepted.
Customers may welcome the opportunity to discuss the factors which drive demand, as this
may enable them to improve their own stock management processes. A thorough
investigation into the key factors which influence demand could be conducted to ascertain if it
is possible to predict demand with a degree of certainty.
Disruption
In some instances, disruption in the supply chain arises due to a lack of communication. It
may be possible to improve the flow in the supply chain by forming partnerships with
suppliers. Such partnerships can provide benefits to both parties, as they encourage a longer
term perspective.

Relationships
Like any other internal change, a shift to JIT must be carefully managed, and employees must
be fully informed of the reasons for, and the benefits of, any change. This will be most
effective if it is done in an atmosphere of openness and consultation.
Many companies have had the experience of opening consultation with employees and
finding that rather than resistance, they encounter enthusiasm, as employees are keen to be
trusted and wish to become involved in positive and beneficial change.
Prices
As discussed above consultation with suppliers may highlight mutual benefits, and may result
in lower (or indeed nil) price rises. If this is not the case, the associated costs and benefits
should be considered to assess whether there will be a net benefit to the company.
Answer 39 CALTON CO
(a) Projected data
(i) Total production units

Pre QMP Post QMP
Sales 5,000 5,000
(Returns 5% of sales) 250 (2½% of sales) 125
——– ——–
5,250 5,125
(Final inspection) 12½% of production 750 (7½% of prodn) 415.5
——– ——–
Production units 6,000 5,541
——– ——–
(ii) Purchases of material X
Material usage (m2) Pre QMP Post QMP

(× 8 m2/unit) 48,000 44,328
(Processing losses 4% of material input (mi)) 2,000 (2½ of mi) 1,137
——— ———
50,000 45,465
(Storage losses 5% of receipts) 2,632 (3% of receipts) 1,406
——— ———
Material usage 52,632 46,871
——— ———
(iii) Gross machine hours
Pre QMP Post QMP

Machine usage (× 0.6hrs/unit) 3,600 (× 0.5hrs/unit) 2,771
+ Work on 3rd quality units (80% × 250 × 0.2) 40 (80% × 125 × 0.2) 20
——– ——–
3,640 2,791
Idle time (20% of gross machine hours (mh)) 910 (12½% gross mh) 399
——– ——–
Gross machine hours 4,550 3,190
——– ——–

(b) Profit and loss accounts
Pre QMP
Costs $ Sales $
Fixed 1st quality (5,000  100) 500,000
Prevention 20,000 2nd quality (750  70) 52,500
Sundry 60,000 3rd quality (200  50) 10,000
Inspection 25,000 Scrap (50  5) 250
Variable
Inspection/storage (52,632  0.1) 5,263
Material  (52,632  4) 210,528
Machine hours (4,550  40) 182,000
Delivery costs (250  8) 2,000
Product liability claims
(3%  500,000) 15,000
Net profit 42,959
_______ _______
562,750 562,750
_______ _______
Post QMP
Costs $ Sales $
Fixed 1st quality (5,000  100) 500,000
Prevention 60,000 2nd quality (416  70) 29,120
Sundry 54,000 3rd quality (100  50) 5,000
Inspection 15,000 Scrap (25  5) 125
Variable
Inspection/storage (46,871  0.1) 4,687
Material  (46,871  4) 187,484
Machine hours (3,190  40) 127,600
Delivery costs (125  8) 1,000
Product liability claims
(1  500,000) 5,000
Net profit 79,474
_______ _______
534,245 534,245
_______ _______
(c) Quality management programme
The application of increased prevention costs prior to an actual operation in order to reduce
all other costs associated with quality.
Prevention costs Those costs associated with the application of a quality management
programme (e.g. training costs).
Appraisal costs Those costs associated with evaluating the levels of quality and
whether that quality conforms to internally or externally agreed
specifications (e.g. inspection checks).

External failure costs Those costs associated with a failure to reach a required
specification and identified after the product has been passed to the
customer (e.g. replacement costs). Additional delivery costs and
product liability claims.
Internal failure costs Those costs associated with a failure to reach a required
specification but identified in house prior to sale (e.g. lost material
which is scrapped). Downgrading of production units and
processing losses.
Answer 40 BETTER ELECTRICALS GROUP
(a) Use of cost targets
At present, the variable manufacturing costs are targeted to be at a level of 35% of sales
value. Fixed costs are expected to increase by $400,000 in 2012 which may be indicative of
an increase in the level of activity.
The use of cost targeting would necessitate comparison of current estimated cost levels
against the targets which must be achieved if the desired levels of profitability, and hence
return on investment, are to be achieved. Thus where a difference exists between the current
estimated cost levels and the cost target, it is essential that this gap be closed. The gap
between the cost targets and current expected cost levels regarding the application for
“platinum” status may be analysed into internal and external failure costs. Internal failure
costs arise when products or services fail to meet design quality standards and such failures
are detected before the product or service is passed to the customer. For example, incorrect
processing of customer orders prior to supplying goods or services to customers, excessive
idle capacity of personnel would constitute internal failure costs. External failure costs arise
after products or services have been passed to the customer and would include costs incurred
in order to address rectification claims from customers. Internal failure costs are expected to
fall from 21·92% of the cost target to 7·5% of the cost target in 2013. External failure costs
are expected to fall from 27·2% of cost target to 6·13% of cost target in 2013.
Prevention and appraisal costs are discretionary costs incurred by management in an attempt
to reduce the costs of internal and external failures. Prevention costs are incurred as a
consequence of management actions with regard to achievement of the desired quality
standards to enable the cost target to be achieved (e.g. the costs incurred in training sales
administration staff). Prevention costs are expected to fall from $4·2m in 2011 to $1·32m in
2013.
Appraisal costs are costs incurred in order to ensure conformance with agreed quality
standards. These would include costs incurred in ensuring quality negotiation procedures
with customers. Appraisal costs are expected to decrease by $100,000 to $0·7m in 2012 and
to remain at that level during 2013.
(b) Assessment of forecasted performance
(i) Financial performance and marketing
The application for “platinum status” quality certification may be measured in both financial
and marketing terms The net profit/sales percentage is expected to increase each year The
figures are 8·33%, 31·67% and 43·89% for 2011, 2012 and 2013 respectively (e.g. 2011 =
$2m/$24m) The profit increase is partly linked to the projected fall in quality costs, both costs
of conformance (appraisal and prevention) and costs of non-conformance (internal and
external failure) as shown in the appendix It is also linked to the increase in volume of
business as fixed costs have a reduced effect.

Will BEG achieve market growth and an improved market position? The projected sales in
the appendix shows growth of 25% in 2012 ($30m/$24m) and a further 20% in 2013
($36/$30m) In addition, market position is anticipated to improve, with a market share of 8%,
9·38% and 10·59% in years 2011, 2012 and 2013 respectively (e.g. 2011 = $24m/$300m).
(ii) External effectiveness
In order to achieve external efficiency BEG has to satisfy its customers. Customer
satisfaction may be defined as meeting customer expectations The quality of service provision
and delivery are operational criteria that can be used to monitor levels of customer
satisfaction The success will require an efficient business operating system for all aspects of
the cycle from product design to after sales service to customers Improved quality and
delivery should lead to improved customer satisfaction Schedule 1 shows a number of
quantitative measures of the expected measurement of these factors:
 Quality is expected to improve The percentage of products achieving design quality

standards is expected to rise from 92% to 99% between 2011 and 2013 In the same
period, rectification claims from customers for faulty work should fall from $0·96m
to $0·1m and the cost of after sales rectification service should fall from $1·8m to
$0·8m.
 Delivery efficiency improvement may be measured in terms of the increase in the

percentage of sales expected to meet planned delivery dates This percentage is
forecast to increase from 88·5% in 2011 to 99·5% in 2013.
(iii) Internal efficiency
Internal efficiency may be assessed by reference to flexibility and productivity Flexibility

relates to the business operating system as a whole whilst productivity relates to the
management of resources such as staff time This should be helped through reduced cycle time
and decreased levels of waste Once again the appendix shows a number of quantitative
measures of these factors:
 The average total cycle time from customer enquiry to delivery is forecast to reduce
from 49 days in 2011 to 40 days in 2013. This indicates both internal efficiency and
external effectiveness.
 Waste in the form of idle capacity of service personnel is expected to fall from 12%
to 1·5% between 2011 and 2013. Also, service enquiries not taken up by customers
are expected to fall from 10·5% of enquiries in 2011 to 3% of enquiries in 2013.
These are both examples of ways in which improved productivity may be measured.
Both will be linked to the prevention and appraisal costs, which are intended to
reduce the level of internal and external failure costs.
In conclusion, although the precise standards required to achieve “platinum” status quality
certification are not known, BEG has forecast vast improvements in several aspects of its
performance during the three-year period under review.
Tutor note: Additional points such as a reasoned conclusion on the overall forecasted
performance were credited.

Answer 41 DIRECTORS SHARE OPTIONS
(a) Main features
A share option scheme for the directors of a company gives them the right, but not the
obligation, to buy the company’s equity shares at an agreed price. A date, on or after which,
the option must be exercised is usually stated by the scheme. The exercise of the option is
often subject to the directors meeting certain performance targets, such as growth in earnings
per share.
Directors’ share options are a form of call option, which will only be exercised when the
market value of the shares exceeds the option price. These options differ from other options
insofar that the directors do not normally pay for the option rights, which are provided for
free. Furthermore, the share options cannot be traded and will normally be forfeited if the
director leaves office before the option can be exercised. Directors’ share options are
normally issued at the current market price of the underlying shares.
(b) Use of share options to reward directors
Advantages
 It will help to align the interests of directors with those of shareholders. Share
options provide directors with an incentive to increase the value of the company’s
shares, and thereby to increase the wealth of shareholders. This should help to
avoid the risk of directors pursuing their own interests at the expense of the
shareholders.
 By exercising an option and acquiring shares, the directors may identify more
closely with other shareholders. (This argument does depend, however, on the
directors keeping the shares acquired rather than selling them.)
 It may act as a useful retention tool. As directors’ share options are usually
forfeited when a director leaves office, the value of outstanding options may
provide a strong incentive to stay.
 When granted, share options involve no outlay for the company. If performance
targets are not met, or the share price does not perform well over the option period,
the option will be allowed to lapse and no cost will be incurred. If, however,
performance targets are met and the shares perform well, the options will be
exercised, and will provide a form of deferred payment to directors, which may be
particularly attractive to a company with cash flow problems.
Disadvantages
 Share option schemes do not normally differentiate between the performances

achieved by individual directors.
 If the share price falls significantly below the exercise price, the prospects of
receiving any benefits may become remote and their value as a form of incentive
will be lost.
 Share price movements may be beyond the control of the directors. Changes in the
economy or changes in demand may result in the directors being either under-
rewarded or over-rewarded for their efforts.

 The fact that directors are not normally expected to pay to acquire the option rights
means that there is no “downside” risk. In that sense, directors are not in a similar
position to the shareholders.
 A lack of “downside risk” may encourage directors to take risks that are not in the
interest of shareholders.
 When share options are exercised and the shares retained, the directors’ total wealth
may become highly concentrated.
This may encourage the directors to become risk averse, which may not, again, be in the
interests of shareholders.
 Share option schemes may create an undue focus on share price, which is only one
part of the shareholders’ total return.
It may lead the directors to restrict dividend payments so that profits are re-invested in order
to generate the share price growth.
 Share option schemes are open to abuse. This includes setting performance targets
that are too low to have any incentive effect, backdating share options to the lowest
price in a monthly period and re-pricing options when share prices fall.
In the UK, the Greenbury Report discouraged the use of share option schemes and a number
of large institutional investors have expressed their concern over their cost and effectiveness.
As a result their popularity is now in decline.
Answer 42 TEAM BONUS
(a) Agency theory
Agency theory considers the relationship between a principal and an agent. The problem is
how the agent can be motivated and monitored. The key requirements are that the agent must
have to account for his/her performance to the principal and that the principal must be able to
hold the agent to account. The agent performs a task through the application of judgement
and skill. The outcome depends on the efforts of the agent.
In the context of the team bonus, the team is the agent in selling and carrying out the after
sales service on behalf of the company (the principal). The bonus will be based on the after
sales service ($) achieved and the level of customer complaints. The level of bonus will be a
measure of the skill and effort of the team. Poor skill and effort will result in a low bonus. In
this way the agent is held to account by the company.
(b) Expectancy theory
Expectancy theory focuses on the view that the individual (or group) chooses to act on the
basis of a level of preference and expectation. Expectancy theory may be illustrated by the
formula:
Force or strength of motivation to do X = (Valence or strength of preference for

outcome Y) × (Expectation that doing X will result in Y)
In the bonus example: X = carrying out the sale and implementation of the after-sales service;
Y = the bonus which will be paid.

In considering the suitability of the bonus, it may be asked to what extent the team will be
motivated in maximising after sales service ($) and minimising customer complaints (X),
through the expectation of receipt of the bonus (Y). The level of motivation will be affected
by the strength of preference of the team for the bonus. If the bonus is an insignificant sum in
relation to the basic salary, there may be little strength of preference. If the bonus is a
significant sum there may be a high strength of preference.
(c) Hard accountability
Hard accountability may be viewed in the context of three specific areas. It will require (i)
the accounting for the numbers, (ii) ensuring the numbers are accounted for and (iii) the group
being held accountable for the events and circumstances leading to the numbers.
In the context of the bonus scheme hard accountability may be pursued through the following:
 Monitoring the value ($) of after sales service business obtained and the number and
type of customer complaints received about the service. The combination of these
in the bonus formula will determine its value.
 Reporting on the reasons “how” and “why” the figures leading to the bonus have
occurred. For example, will the promise of a specific quality of after sales service
lead to the achievement of $X of after sales service business (i.e. how)? Will a high
level of customer complaints occur through an inability to achieve the desired
quality of service when it is implemented and lead to a lower level of business (i.e.
why)?
 Deeming that the team is responsible for the events and circumstances leading to the
events which occur. For example the team is responsible where after sales business
is achieved through making unrealistic promises about the quality of the service. It
is also responsible where there is a failure to ensure that all team members are
adequately trained (leading to a high level of customer complaints).
The bonus data may be monitored on an on-going basis in order to determine whether the
structure of the bonus is ensuring that the accountability of the team is being equitably
reflected in the level of bonus paid.
Answer 43 DYSFUNCTIONAL BEHAVIOUR
(a) Problems
(i) Myopia
This assumes a short-sighted view leading to the neglect of longer-term objectives. For
example in the allocation of limited budget funds there may be undue focus on allocating
funds to help improve short-term performance measures, such as idle time percentages on
existing machinery or sales levels of a product which is in the declining phase of its life cycle.
A more useful allocation of budget funds may be on increased market research into new areas
of customer demand or on research and development work into improved methods of
production, perhaps focusing more on production layout dedicated to individual projects or
products.
(ii) Tunnel vision
This implies behaviour and activity in order to achieve specific performance indicators which
may not be effective. For example, machine output efficiency may be measured as the ratio
of output achieved (in standard hours of work) to total operating hours.

Efforts to improve this measure from (say) 95% to 99% may focus on increasing machine
speed in order to raise throughput rates. This may not be an effective course of action. The
increase of machine speed may create problems in maintaining the quality of output. This
could lead to greater losses in process and/or problems with the finished product when it
reaches the customer, resulting in returned goods and possibly the loss of future orders.
(iii) Over-simplification
Over-simplification of performance measures may lead to their misinterpretation. It may

involve failure to recognise the complexity of the environment in which the organisation
operates. A fall in the volume of sales for a product may be seen as an indication that greater
advertising effort is required. This interpretation ignores the likelihood that a number of other
factors both internal and external may be contributing to the fall (e.g. internal problems and
the quality of output, meeting delivery dates to customers and cultivating good relations with
customers). External problems may include increased competition through alternative
products or increased sales effort by competitors, as well as factors such as a downturn in the
level of purchasing power of customers or changing customer tastes.
(iv) Gaming
The deliberate distortion of a measure in order to gain strategic advantage may be resorted to
for a number of reasons. It may involve deliberate under-performing in order to avoid higher
targets being set for a future period. For example, the restriction of departmental consultancy
earnings in a university department in order that the target for next year will not be increased
and/or to hold back consultancy possibilities which are “in the pipeline” in order to create
slack.
(b) Actions to be implemented
Examples of actions which may be implemented in order to overcome problems in the

operation of a performance measurement system are as follows:
 Involvement of staff at all levels in the development and implementation of the

scheme. It is important that staff are willing to accept and work towards any
performance measures which are developed to monitor their part in the operation of
the organisation and the achievement of its objectives.
 A flexible approach to the use of performance measures. It is best to acknowledge

that they should not be relied upon exclusively for control. To some extent it should
be acknowledged that improved performance may be achieved through the informal
interaction of individuals and groups.
 Give careful consideration to the “dimensions of performance”. Action here may

include efforts to try and quantify all objectives.
 Such action should help to overcome a sub-optimal plan which omits some aspects
of what is required. Try also to focus on customer satisfaction. This will help to
ensure an external focus which is vital to the level of achievement and future
effectiveness of the organisation.
 Give consideration to the audit of the system. This may include expert external
review of the system. An “arm’s length” review will help avoid its incorporating
inefficiencies due to the views of those operating the system. In addition there
should be a careful audit of the data used. Any scheme is only as good as the data
analysis and how it is interpreted.

 Focus on key features necessary in the system. These may include: nurture a long-
term perspective among staff; hold down the number of performance measures to
allow focus on key areas; develop performance benchmarks which are independent
of past activity in order to focus on the way ahead and the achievement of plans for
the future.
Answer 44 EASDON CO
(a) Characteristics
The main characteristics that a measure to be used as the basis of an incentive plan should
possess are that it should:
 be consistent with the main business objectives;

 properly reflect the achievement and performance of the directors;
 be difficult to manipulate or distort in order to enhance the rewards received;
 help to align the interests of directors with those of the shareholders;
 be robust and not too dependent on particular operational or financing structures.
(b) Problems of using EPS
The use of earnings per share (EPS) has a number of drawbacks as a basis for rewarding
directors. In particular:
 growth in EPS is not necessarily consistent with the company’s stated objective of
maximising shareholder value;
 the profit figure on which EPS is based may be open to manipulation. For example,
it may be possible to boost short term earnings at the expense of long-term earnings
by reducing staff training, cutting back on development expenditure, etc;
 the EPS figure may change as a result of changes in the numbers of shares in issue;
 EPS fails to take risk into account. EPS can be increased by taking on more risky
ventures, which may not be in the long-term interests of shareholders;
 annual growth of EPS may provide too short a time period to assess performance.
(c) TSR and EVA®
Total shareholder return (TSR) is a commonly-used measure for rewarding the directors of
listed companies and for measuring wealth creation. It is based on the total returns received
by shareholders, in the form of dividends received and increases in share price, over a
particular time period. TSR is consistent with the stated objective of Easdon, and should help
to align the interests of directors with those of the shareholders. TSR is also a fairly robust
measure that can accommodate different operating and financing arrangements.
One of the main problems of TSR is that changes in the measure may be influenced by
factors, such as changes in the economic outlook, which may not be under the control of the
directors. Nevertheless, managers must manage within the economic environment with which
they are faced and must be assessed accordingly. Even where TSR is influenced by the
directors, it is likely to be impossible to attribute any changes to the efforts of particular
directors. The time period chosen for measuring changes in shareholder returns is important.
Easdon’s objective of maximising shareholder value is normally a long-term goal, and so
using a short time period, such as one year, would be inappropriate and may encourage
manipulation of the figures.

When using TSR, a suitable benchmark for evaluating performance should be employed. The
most appropriate is usually the returns from similar companies over the same time period,
although finding similar companies may be a problem.
EVA® is based on the idea that a company will increase shareholder wealth only when it
generates a profit after all the opportunity costs of capital has been taken into account. EVA®
for a period is derived as follows:
EVA® = Net operating profit after tax – (Capital invested × WACC)
EVA® is linked to the objective of shareholder value and should also help align the interests
of directors with those of the shareholders. Under EVA®, the basis for reward is usually
achievement during a particular financial year. However, to be consistent with the objectives
of the business, the incentive plan should be based on maximising EVA® over the longer
term.
To encourage a longer-term perspective, a company may decide not to pay the whole bonus
immediately. Instead, a portion may be credited to a “bonus bank” from which amounts can
be drawn down at a later date, subject to satisfactory future performance. Although EVA®
employs accounting profit for the period in the calculations, adjustments are made to derive a
measure that is closer to economic profit, which is seen as more authentic measure of
performance. EVA® generated during a particular period is rarely reported to shareholders,
who must rely on the remuneration committee for assurances that the directors are receiving
their just rewards.
Tutorial note: Although this question did not mention the term “value based management”,
EVA® and TSR are two methods that are commonly used in value based management
frameworks. Much of the discussion in this question is therefore relevant to value based
management too.
Answer 45 BALANCED SCORECARD
Robert Kaplan and David Norton carried out studies in several companies in the early 1990s. The
studies aimed at investigating the need to balance short-term financial performance with the drivers of
long-term growth opportunities. A number of advantages of the balanced scorecard over the traditional
major focus on financial performance may be suggested. These include:
 Traditional measures tend to be dominated by financial accounting requirements. For

example the need for inventory valuation, including WIP for balance sheet purposes. Also
the focus on short-term profit and ROI in order to ensure that short-term financial reporting
was favourably received by stakeholders. The balanced scorecard is more broadly based. It
argues that no single measure can provide a clear performance target or focus attention on
critical areas of the business.
 Traditional measures are mainly inward looking. The balanced scorecard is more broadly
based. It is more outward looking and focuses on comparisons with competitors in order to
establish best practice and ensure that change is implemented in order to achieve it. It
requires a balanced presentation of both financial and non-financial measures and goals.
 The balanced scorecard focuses to a greater extent than traditional measures on strategic
planning for the longer term. It attempts to identify the needs and concerns of customers and
the identification of new products and markets.
 The balanced scorecard attempts to overcome the over-emphasis of traditional measures on

the quantifiable aspects of the internal operations of a company expressed in financial terms.
It also considers a range of non-financial and qualitative measures.

The balanced scorecard views the business from four different perspectives which are internal business,
innovation and learning, customer and financial perspectives. The questions asked in relation to these
perspectives are:
 What processes must we excel at to achieve our customer and financial objectives?
 Can we continue to improve and create value?
 What do existing and new customers value from us?
 How do we create value for shareholders?
The balanced scorecard establishes goals for each of the four perspectives and provides measures that
should assist in movement towards these goals. Its focus is both internal and external. Examples of
measures that could be used are:
 Internal business perspective: cycle time, unit cost analysis including cost trends and
VA/NVA analysis, engineering efficiency,
 Innovation and learning perspective: Time to market for new products; number of new
products introduced.
 Customer perspective: % sales from new products, % on time deliveries, % orders from
enquiries, customer survey analysis.
 Financial perspective: overall measures such as profit, sales growth, ROI; liquidity measures
such as cash flow analysis; evaluation of new investment opportunities.
Tutorial note: Alternative relevant points and discussion would be accepted.
Answer 46 AMBLEFORD COLLEGE
The balanced scorecard of Ambleford College has three perspectives. The first perspective, value for
money is clearly important in a not-for-profit organisation. The value for money metrics, comparing
the fees against peers and looking at the total annual surplus, only provide a superficial assessment of
the value for money. More depth could be gained by using measures such as cost per teacher or cost
per student, which could be used to assess whether the level of spending was adequate.
Academic excellence is mentioned in the mission of the school, so it is appropriate that the second
perspective measures this. The measures themselves seem appropriate, although they can be criticised
for only focussing on final year students, so may not identify problems earlier in the lives of students,
before they reach the end of their school life.
Range of activities may be an important objective in a private school, so the third perspective appears
relevant. It is an area that can be difficult to measure. However the use of only one metric in this area
seems inadequate. The number of hours per week spent on activities does not provide any information
about the variety of activities available or whether or not the students enjoy them.
A big weakness of the balanced scorecard is that it does not attempt to measure the objective of “giving
boys and girls a compass for life”. While this objective is indeed difficult to measure, some attempt
should be made to measure it. One approach might be to measure the number of ex-pupils who attend
alumni events, or even a survey of alumni, including questions about whether they feel that the school
gave them a “compass for life”.

Answer 47 BLA CO
(a) Performance of BLA
The Fitzgerald et al framework proposes six dimensions of performance which are controlled
by service industries. Their propositions include that two of these, namely financial
performance and competitiveness are the “results” of actions previously taken and reflect the
success of the chosen strategy. The remaining four dimensions of quality, flexibility,
resource utilisation and innovation are factors that determine competitive success now and in
the future. The performance of BLA can now be analysed under this framework.
(i) Financial performance
Summary Income Statement for the year ended 31 October 20X1
Budget Actual
$000 $000
Fee income 6,075 6,300
Costs:
Consultants’ salaries 2,025 2,025
Bonus 90
Other operating costs 2,550 2,805
Subcontract payments 18
4,575 4,938
––––– –––––
Net profit 1,500 1,362
––––– –––––
It is clear that BLA has not performed as well as expected during the year to 31 October
20X1. Whilst client income is above budget, other operating expenses reached a level which
is more than 10% higher than the budget for the year, and thus it would be extremely useful to
have a more detailed breakdown of other operating expenses for the year. Consultants have
earned an aggregate bonus of $90,000 (42,000 – 40,500) × $150 × 40% in respect of activity
above budgeted levels. Payments to subcontractors amounted to $18,000. Actual profit
amounts to $1,362,000 against a budget of $1,500,000.
It would be extremely useful to see the results of the previous two years in order to assess
whether there are any discernible trends in revenues and costs. The budget for the following
year should be reviewed in the light of the actual performance of this year with particular
reference to checking the footing of the assumptions upon which it has been prepared.
(ii) Competitiveness
Competitiveness may be measured in terms of market share or sales growth and the relative
success in obtaining business from enquiries made by customers. The revenue of BLA for the
year to 31 October 20X1 is above budget.
Again it is desirable to see the results of recent years since it might well be the case that BLA
has achieved steady growth which is indicative of a high level of competitiveness in future
years. BLA provided 1,200 consultations on a no-fee basis with a view to gaining new
business. Also, during the year BLA consultants provided 405 non-chargeable “remedial”
consultations. Both of these non-chargeable activities might be viewed as initiatives to
increase future levels of competitiveness.

It is useful to look at the extent to which BLA were successful in converting the enquiries
received from both existing and new client enquiries into new business. The percentages are
as follows:
Budget Actual
Conversion rate from enquiries
New clients 36·0% 26·7%
Repeat clients 50·0% 70·0%
70% of enquiries from the existing client base resulted in additional consultancy work for
BLA. This is indicative of strong customer loyalty indicating that existing clients are satisfied
with the service provided. However, the company was unable to fare as well with regard to
enquiries from potential “first time” customers, only achieving a conversion ratio of 26·7%,
which is approximately 74% of the intended number of “first time” clients that were budgeted
for. This indicates that there is probably room for improvement in the ways in which BLA
deals with enquiries from prospective clients. The company should review its marketing
strategies with a view to improving its conversion ratio.
In absolute terms new business was approximately 7·8% below budget whereas repeat
business was 21·0% above budget.
As regards the nature of the chargeable activities undertaken by the consultants it can be seen
that Exterior design is 14·6% below budget, whereas Interior design and Garden design are
6·4% and 35·1% above budget.
(iii) Service quality
Quality of service is the totality of features and characteristics of the service package that bear
upon its ability to satisfy client needs. Flexibility and innovation in service provision may be
key determinants of service quality. To some extent the increase in the number of complaints
and non-chargeable consultations associated with the remedying of those complaints is
indicative of a quality problem that must be addressed. This problem needs to be
investigated. BLA only provides advice to clients and only recommends contractors when
asked to do so by clients. It would be interesting to see how many of the complaints related
to recommendations made by BLA. Assuming consultants could have otherwise undertaken
chargeable work, the revenue foregone as a consequence of the remedial consultations was
$60,750. Client complaints received during the year were nearly double the budgeted level.
Also the number of remedial consultations was 405 against a budgeted level of only 45,
which is exactly nine times higher than budget! Perhaps BLA should review and, if necessary,
limit the amount of remedial consultancy provided to any one particular client. The business
development consultations can be viewed as an innovative measure with a view to gaining
additional business. It is noticeable that during the year ended 31st October 20X1 retired
consultants working on a subcontract basis undertook 120 consultations, each of which was of
a non-chargeable nature. It is highly unlikely that the work undertaken by the retired
consultants was in nature of Business Development Activity as such work would invariably
be undertaken by the consultants employed on a full-time basis by BLA. Moreover, given
that the actual number of complaints during the year totalled 630 and that BLA consultants
themselves undertook 405 remedial consultations, it would be reasonable to assume that the
retired consultants undertook further remedial consultations and/or work that related to
complaints from clients.
It would be extremely useful to have a detailed analysis of the client complaints. BLA only
recommends contractors that undertake the three types of work when requested to do so by
clients. In this regard it is important to recognise that a potential problem often exists where
one party provides advice and another party is engaged to perform duties which relate to the
provision of that advice.

(iv) Flexibility
Flexibility may relate to the company being able to cope with flexibility of volume, delivery
speed or job specification. Hence, flexibility might be substantiated by looking at the mix of
work undertaken by the consultants during the year. The following table gives a comparison
of actual and budgeted consultations by category of consultant.
Consultations by category of consultancy service

Budget % Actual % Increase/
(decrease)
Exterior Design 40.0 32.9% (7.1%)
Interior Design 40.0 41.0% 1.0%
Garden Design 20.0 26.1% 6.1%
It is a deliberate policy of BLA to retain 45 consultants thereby maintaining flexibility to meet

increasing demand. The delivery speed will be increased as a consequence of the retention of
consultants. It would appear that a change has occurred in the mix of consultants which may
well be a response to changing market requirements. Again, it would be useful to see recent
year’s statistics in order to consider trends but notably garden design looks to be a growth
area hence the three new consultants recruited during the year. The mix of consultants should
be such that BLA can cope with a range of job specifications. The fact that links have been
retained with retired consultants will give an added dimension of flexibility in times of very
heavy demand upon its consultants.
(v) Resource utilisation
Resource utilisation measures the ratio of output achieved from those resources input. In this
scenario the mean number of consultations per consultant may be used as a guide.
Average consultations per consultant

Budget Actual Increase
/(decrease)
Exterior Design 900 922 2.4%
Interior Design 900 957 6.3%
Garden Design 900 912 1.3%
It is interesting to note that all categories of consultant are being utilised above budgeted
levels. Consequently an aggregate bonus amounting to $90,000 was paid in respect of the
year ended 31 October 20X1. There are potential problems if the quality of the service
provision is falling. In this regard it would be useful to have more detailed analysis of the
client complaints in order to ascertain whether a large proportion relate to any one category of
consultancy and/or contractor. BLA has adopted an innovative approach that requires
consultants to undertake non-chargeable business development consultations which have at
their heart the intention of generating new business. Hence in the immediate sense there is a
trade-off between resource utilisation and innovation.

(vi) Innovation
Innovation should be viewed in terms of its impact on financial performance,

competitiveness, service-quality, flexibility and resource utilisation in the short, medium and
long term. Certainly the non-chargeable activity in terms of “business development” is an
innovative feature within the business of BLA, as is the non-chargeable remedial consultancy
provided to clients who experience problems at the commencement of building works. The
acquisition of “state of the art” business software is by its very nature innovative. The result
of its use is reflected in the significant increase of 35·1% above budget achieved in garden
design consultations. This has probably enabled BLA to differentiate its services from those
of its competitors and enhance its reputation. Certainly the management of BLA will be
hoping for a similar increase in business as a consequence of the use of the software by its
external and interior design consultants. The management should ensure the introduction of
the software has not caused the increase in the number of complaints received.
(b) Determination of expected standards
In establishing targets, the importance of individuals taking ownership of the standards has
long been established: this is often facilitated by the adoption of a budgetary system based on
employee participation. This is also considered to be beneficial to the organisation since it
alleviates, or at the very least reduces, many of the dysfunctional consequences associated
with particular control models. In particular, managers who participate in the standard-setting
process are more likely to accept the standards set, feel less job-related tension and have
better relationships with their superiors and colleagues. Participation does, however, provide
opportunities for the introduction of budgetary slack in order that any subsequent monitoring
of activities presents a favourable outcome.
Budgets need to be realistic enough to encourage employees to perform, but not set at levels
so high that they are demodulated. The challenge to management lies in finding the balance
between what the company views as achievable and what the employee views as achievable
as this often proves to be a source of organisational conflict.
It is important that the standards of performance measurement chosen by management

facilitate a fair comparison across all similar business units and that equity is seen to prevail
in measuring the performance of those units. There may be circumstances where some
business units have an inherent advantage unconnected with their own deliberate initiatives.
For example, some business units will be subject to higher levels of environmental
uncertainty than others. In situations where higher levels of uncertainty exist, there will be a
need for greater reliance to be placed on subjective judgment in appraising performance, with
consequently less reliance being placed on objective, financial data. It would be inappropriate
and inequitable to measure the performance of two completely different business contexts in
an identical manner.

Answer 48 BETTASERVE CO
(a) “Gold standard” proposal
(i) Corporate “vision or mission”
Corporate vision may be seen as looking forward through the defining of markets and the
basis on which the company will compete. Bettaserve has defined the “gold standard”
proposal for one of its product ranges as a specific market opportunity. It envisages
competing through the identification of key competitors and by close co-operation with its
customers in providing services to meet their specific design and quality standards. The
corporate vision is seen as being achieved through a focus on internal efficiency and external
effectiveness. The “gold standard” proposal may be seen as illustrating a specific sub-set of
the corporate mission since it:
 has its own distinct business concept and mission – the “gold standard” focus;
 has identified the key competitors; and
 is a suitable area for the management of its own strategies – close co-operation with
customers and the provision of services to meet their design requirements.
(ii) Discussion or proposal
The “gold standard” proposal may be measured in both marketing and financial terms. Will it
achieve market growth and an improved market position? The projected sales (£m) in
schedule 1 shows growth of 20% in 2011 (£36m/£30m) and a further 11.1 % in 2012
(£40m/£36m). In addition, market position is anticipated to improve, with a market share of
12.5%, 14.4% and 15.4% in years 2010, 2011 and 2012 respectively (e.g. 2010 =
£30m/£240m).
The net profit/ sales percentage is also expected to increase each year. The figures are 6%,
29.3% and 37.25% for 2010, 2011 and 2012 respectively (e.g. 2010 = £1.8m/£30m). The
profit increase is partly linked to the projected fall in quality costs, both costs of conformance
(appraisal and prevention) and costs of non-conformance (internal and external failure) as
shown in Schedule 1. It is also linked to the increase in volume of business as fixed costs
have a reduced effect.
(iii) External effectiveness
The marketing success of the proposal is linked to the achievement of customer satisfaction.
The success will require an efficient business operating system for all aspects of the cycle
from service design to after sales service to customers. Improved quality and delivery should
lead to improved customer satisfaction. Schedule 1 shows a number of quantitative measures
of the expected measurement of these factors:
 Quality is expected to improve. The percentage of services achieving design

quality standards is expected to rise from 95% to 98% between 2010 and 2011. In
the same period, rectification claims from customers for faulty work should fall
from £0.9m to £0.2m and the cost of after sales rectification service should fall from
£3m to £2m.
 Delivery efficiency improvement may be measured in terms of the increase in the

percentage of sales expected to meet planned delivery dates. This percentage rises
from 90% in 2010 to 99% in 2012.

(iv) Internal efficiency
The financial success of the proposal is linked to the achievement of high productivity. This
should be helped through reduced cycle time and decreased levels of waste. Once again
Schedule 1 shows a number of quantitative measures of these factors:
 The average total cycle time from customer enquiry to delivery should fall from 6
weeks in 2010 to 5 weeks in 2012. This indicates both internal efficiency and
external effectiveness.
 Waste in the form of idle capacity of service personnel is expected to fall from 10%
to 2% between 2010 and 2012. Also, service enquiries not taken up by customers,
is expected to fall from 7.5% of enquiries in 2010 to 2.5% of enquiries in 2012.
These are both examples of ways in which improved productivity may be measured.
Both will be linked to the prevention and appraisal costs, which are intended to
reduce the level of internal and external failure costs.
(b) Links of performance measures
The analysis of the “gold standard” proposal shows a hierarchy of performance measures.
The performance pyramid shown below indicates how strategies to assist in the achievement
of corporate vision may be cascaded down through a number of levels. The analysis
discussed and evaluated in section (a) consists of a number of interrelated areas of focus. The
marketing and financial success of the proposal is the initial focus for the achievement of
corporate vision. Marketing and financial strategies must be formulated and inter-related.
They must be linked to the achievement of customer satisfaction and high productivity at the
next level in the hierarchy. Increased flexibility of methods should also be aimed for. This
should help (internally) in achieving improved productivity and also (externally) in an
improved level of customer satisfaction. High quality standards will improve customer
satisfaction and in turn will assist in market retention and growth.
As discussed in part (a), customer satisfaction may be achieved through a more detailed focus
on improved quality and delivery. Productivity may be improved through reductions in
service cycle times and waste elements.
1 VISION Corporate vision
2 Market Financial S.B.U’s
3 Customer Flexibility Productivity Business Operating

satisfaction Systems
4 Quality Delivery Cycle time Waste Depts

Answer 49 SUPERIOR BUSINESS CONSULTANCY
(i) To: The Directors

From: Management Accountant
Subject: Importance of NPIs and use of the Balanced Scorecard
Date: 13 June 20X0
The use of non-financial performance indicators (NFPIs) has become more widespread during
recent years to assess performance in organisations. This is largely attributable to the fact that
many important aspects of organisational performance cannot be measured in purely financial
terms. It follows that if performance measures are restricted to financial measures alone then
many important non-financial aspects of organisational performance may be ignored.
Furthermore there is a widely held view that “what gets measured gets done” and if
performance measures are restricted to financial measures alone then the focus of managers
will be myopic and consequently they may be motivated by the wrong stimuli. In the past the
important measure of performance have been financial in nature, with little or in extreme
cases no focus whatsoever, being given to other important aspects of performance Many
commentators have argued that financial measures encourage short-termism to the detriment
of the longer-term prospects of organisations.
Many NFPIs are “lead indicators” insofar as they give an indication of likely future financial
performance and therefore their measurement might reveal problems which might be
addressed by management in time to take remedial action.
Skill and care must be exercised by management in the selection of NFPIs given the vast
number of potential NFPIs in order to avoid an “information overload” which could be
damaging to an organisation.
The increasing attention given to NFPIs was a key factor in the development of Kaplan and
Norton’s “balanced scorecard” which proposed that business performance is reviewed from
four perspectives, these are:
The financial perspective – How does an organisation appear to the shareholders?

The customer perspective – How does an organisation appear to the customers?
The internal business perspective – What must an organisation excel at?
The innovation and learning perspective – Can an organisation continue to improve and create
value?
For each of the four perspectives goals and measures will need to be defined – typically five
measures for each perspective. The goals and measures are designed to focus attention on
important factors and precipitate improved organisational performance.
The internal logic of the balanced scorecard is that goal-setting originates with customers.
Then an organisation must determine what it must excel at in order to satisfy customer
expectations. The innovation and learning perspective contains goals which relate to how an
organisation will maintain progress and develop its processes, products and services. The
results from these three perspectives will be mirrored in the financial perspective.
The directors will need to agree the “vision” of the organisational strategy with middle
management and to ensure that the vision is also shared by all employees within the
organisation thereby creating an “understood environment”. The creation of such an
environment should ensure that sufficient attention is focused on all important factors within
the organisation’s environment which will lead to higher levels of profitability.

The following are possible measures that might feature within a balanced scorecard for SBC:
Customer perspective
% of sales from new clients

% of clients from whom repeat business is gained
Ratings from client satisfaction surveys
Internal business perspective
% of client projects completed on time and within budget

% of bids for new clients which are successful
% of employee time billed to clients
Innovation and learning perspective
% of time used for staff development

% of revenues earned from new products or services
Financial perspective
Growth in operating cash flow

Gross margin earned from clients
Percentage increase in operating costs
Expected value added (EVATM) generated in relation to the budget.
(ii) Average cost per chargeable consultation
Advertising Recruitment IT Support

Number of consultants 20 30 50
Salary ($) 40,000 35,000 30,000
Total salaries 800,000 1,050,000 1,500,000
Number of consultations per annum
(200 per consultant) 4,000 6,000 10,000
Business Development Activity (280) (1,320) (1,200)
–––––– –––––– ––––––
Chargeable days 3,720 4,680 8,800
Demand for chargeable consultations 4,200 6,250 10,250
–––––– –––––– ––––––
Subcontractor days 480 1,570 1,450
Cost per subcontractor day ($) 300 220 200
––––––– ––––––– –––––––
Cost of subcontractors ($) 144,000 345,400 290,000
––––––– ––––––– –––––––
Cost per chargeable consultation ($)
Full-time consultants Total salaries plus operating
costs/chargeable days 277·55 286·86 232·95
Subcontractors =
Cost of subcontractors/
number of subcontractors 335·71 255·71 235·71
Tutor note: Any reasonable method for allocating operating costs was given credit. Here,
chargeable days have been used but allocating by the number of consultants in each area or
the number of consultations (including BDA) were also accepted.

(iii) Reasons for trends
The figures contained in the appendix reveal a forecast reduction in level of total demand of
8% over the next two years. Specifically hard hit is the recruitment business with a fall of
20% over this period with the number of recruitment consultants dropping by 33%. The
figures also show that salary levels will remain constant from the current year to the
following. This may be due to reasons such as increased competition or an economic
downturn.
The forecast increase “across all activities” in days spent on Business Development Activity,
notwithstanding the projected fall in activity levels in the current and following years,
represent an attempt by SBC to broaden and/or retain its existing customer base.
(Additional points such as the increased use of subcontractors (based on answer to part (ii))
were also given credit.)
(iv) Employing subcontract consultants
Potential benefits
 Increased flexibility – the use of subcontract staff where own staff are unavailable
helps to avoid situations where SBC might otherwise have to cancel and/or
reschedule client activities which might lead to a loss of client goodwill or even
worse, the loss of clients
 The use of subcontractors might be necessitated by the lack of a particular expertise

among the full-time staff employed by SBC. Thus SBC can avoid being perceived
to be “turning away” business or providing services to clients which are not of the
required quality level, both of which might be harmful to its reputation
 The use of subcontractors might reduce the overall costs of SBC as it might well be
the case that the number of full-time staff employed within SBC would need to be
increased if subcontract staff were not available. Thus the fixed costs associated
with a fixed workforce would be higher and it is quite conceivable that some of the
full-time staff might have low utilisation ratios, particularly in times of low demand
by clients for the services offered by SBC.
Potential problems
 The use of subcontract staff might cause resentment by full-time staff within SBC
who might view the use of subcontractors as a lost opportunity to develop their own
skill bases
 Subcontractors might not identify with the corporate culture of SBC and hence
might operate in a way which is inconsistent with ways “things are done” within
SBC. This might create an inconsistent view of the SBC by clients who have
received services from both full-time consultants and subcontractors
 The fact that there are two completely different pay schemes operating might prove
problematic and cause dissatisfaction among full-time consultants and/or
subcontractors. For example full-time staff might consider that the rate paid per day
to subcontractors is too high thus giving rise to perceptions of inequity which might
damage the morale within SBC.
Tutor note: Professional marks were given under the following headings: format,
introduction, conclusion, use of subheadings, professional language and clarity. A
conclusion was not required as it is difficult to formulate for this diverse report but credit was
given where it was reasonably attempted.

Answer 50 SPARE FOR SHIPS COMPANY
(a) Costings
(i) Job card estimates
The differences in the reported cost estimates calculated under each of the two costing
systems are significant. This is especially the case with regard to Job order 973. The
management accountant’s calculations for the cost estimates produce the following
increase/(decrease) in reported costs:
Job order 973 Job order 974

$ $
Unit cost per job under existing system 1,172·00 620·00
Unit cost per job under activity based costing 1,612·00 588·89
Increase/(decrease) in reported cost 37·54% (5·02)%
Job order 973 shows an increase in reported cost of 37·54% [(1,612 – 1,172)/1,172] whereas
Job order 974 shows a decrease in reported cost of 5·02% [(88·89 – 620)/620].
A common occurrence when activity-based costing is implemented is that low-volume

products show an increase in their reported costs while high-volume products show decreases
in their reported costs. This is very much the case with regard to the products which are the
subjects of Job orders 973 and 974.
The reported costs also differ due to the following:
 Job orders 973 and 974 differ in the way they consume activities in each of the five
activity areas within SFS’s premises;
 The activity areas differ in their indirect cost allocation bases. In particular no
activity area uses direct labour hours as the basis of allocating indirect costs.
Two areas where the differences in reported product costs might be important to SFS are as
follows:
Product design – since it is more probable that those involved in the design of products will
find the results produced by the activity-based approach to be much more credible. This is
especially the case in a machine oriented environment where direct labour hours are unlikely
to be the major cost-driver. Activity-based costing can be of more assistance to product
designers and may signal areas where cost reductions can be achieved (e.g. using fewer cuts
on the lathe and/or reducing the number of machine hours required in the milling area).
Product pricing – the application of activity-based costing shows that the cost of Job order
973 is being understated while the cost of Job order 974 is being overstated. The
management of SFS should be aware of the danger of failing to recover the costs incurred on
Job order 973. Conversely, they may well be overpricing Job order 974 which might well
entail losing business to its competitors.

(ii) Activity-based costing system
Two problems SFS would have had to deal with in the successful implementation of an
activity-based costing system are as follows:
 initially it would be very time consuming to collect a large amount of data

concerning the activities relating to each job undertaken by SFS. Hence the cost of
buying, implementing and maintaining a system of activity-based costing is likely
to be significant.
 it would be vital to identify the real “cost-drivers” within the activity-based costing
system of SFS otherwise results given by the ABC system would be inaccurate
leading to incorrect decisions by management.
Tutor note: Additional credit was available for staff/culture issues which would be resolved
by adequate training and motivation to change.
(b) Application of ABM
Operational ABM is about “doing things right”. Those activities which add value to products
can be identified and improved. Activities that do not add value should be reduced in order to
cut costs without reducing product value. Where, for example, a product or service has been
estimated to require a longer activity time than other products or services then every effort
should be made to find ways of reducing the number of hours required.
Strategic ABM is about “doing the right things” using the ABC information to decide which
products to develop and which activities to use. It can focus on profitability analysis,
identifying which products/customers are the most profitable and for which sales volume
should be developed.
An activity may have implicit value not necessarily reflected in the financial value added to
any service or product SFS might decide to cut back on the level of expenditure involved in
servicing customers. This may lead to a poorer perceived value by customers of the service
provided by SFS with a consequent fall in demand.
There are risks attaching to the use of ABM insofar as ABM can give the wrong signals. For
example, a particularly pleasant work environment can help attract and retain the best staff,
but may not be identified as adding value in operational ABM. By the same token, a
customer that represents a loss based on committed activities, but that opens up leads in a new
market, may be identified as a low value customer by a strategic ABM process.
Tutor note: Other risks or potential problems were also accepted such as pricing errors
arising or the cost/benefit of such an expensive system.

Answer 51 PLANTAGENET CO
Report
To Chairman and Managing Director, Plantagenet Co

From Financial Accountant
Date 1 March 2010
Re Overhead allocation
(i) Introduction
You are considering improving the firm’s control system by allocating overheads to the four
operating departments. The following report considers these ideas, together with the
relevance of overhead allocation for decision-making, motivation and performance
assessment.
(ii) Overhead allocation and decision-making
Whilst there may be benefits in allocating service department costs to operational

departments, improved decision-making is not one of them. Decisions, such as whether or
not to close the customer restaurant, are best made using marginal costing information. An
allocation of overheads often confuses the true nature of cost functions, leading to erroneous
management decisions. The one decision that is often based on absorption costing
information is price determination, although in the case of a department store there may be
other more important determinants of price.
The decision over the customer restaurant should be made with an eye on the interdependence
of department sales. The customer restaurant could be seen as a loss leader. If the restaurant
is closed its small contribution will be lost, and it may be that the other departments will not
increase sales with the additional space.
One decision that might be faced as a result of adopting an allocation system is whether a
service should be provided internally or externally. If a departmental manager is charged
what is felt to be an excessive amount for a particular service, such as the staff canteen, there
may be a move to have this internal overhead cost replaced by an external supplier’s cost.
(iii) Overhead allocation and motivation
The main argument against cost allocation is that a manager’s performance will be assessed
by reference to costs not directly under his control. This is likely to be de-motivating to the
manager. The converse argument is made that, under these circumstances, the operating
department manager will extend his sphere of interest to try to exert some control over service
departments.
(iv) Overhead allocation and performance assessment
The performance of an operating department manager might well be clouded by the inclusion
of non-controllable costs. For the operating departments’ managers such an exercise would
highlight the cost of using the support services. However, by allocating costs, it may be that
the performance of service department managers fails to be assessed. One way of
overcoming this might be to adopt a transfer pricing system, rather than a cost allocation
system.
(v) Conclusion
For internal purposes there are more factors against allocation than in favour. The decision
over closing the customer restaurant should also be reviewed.

Answer 52 META-COM
Porter’s five forces model
In his article “Competitive Strategy” Michael Porter identified five forces which determine how
competitive an industry is. The five forces are as follows:
Threat of new entrants
The easier it is for new entrants to gain access to a market, the more competitive it will be. In the case
of Meta-com, mobile telephone companies require a licence from the government in order to operate.
The government has indicated that it will not issue any new licenses for at least another twenty years, so
in this respect Meta-com is safe from the threat of new entrants.
The power of buyers
The power of buyers is strong where there are a few small customers, and these are able to demand
lower price. The effect of this can be strongest where there are a large number of suppliers.
In the case of the market for mobile telephones, it is likely that there will be a large number of
customers, mostly individual customers. There may be some corporate customers, but even these are
unlikely to account for a large share of the existing 2 million mobile telephones in Ruritania. In
addition there are only three suppliers. Again, it is likely that the power of buyers in Ruritania is low.
The power of suppliers
The power of suppliers will be high where there are a small number of suppliers to the industry.
No information is given about the suppliers to the industry, other than the advertisers. However, the
mobile phone industry is not the type of industry that uses lots of materials as, for example, does a
manufacturing company, so the company is unlikely to be threatened by several suppliers.
The threat of substitutes
It is mentioned in the scenario that the company is suffering competition from companies offering
“voice over IP” services. These are not a direct substitute for mobile telephone services. The great
advantage of mobile telephones is the fact that they can be carried at all times. However, if there is a
large disparity between the price of making calls on a mobile and using voice over IP, people may try to
economise on the use of their mobile phones, so there will be some impact.
Competitive rivalry
Competitive rivalry appears to be high in the mobile telephone market due to the following factors:
 There are a small number of fairly equally balanced competitors.
 There is a lack of differentiation between the services they sell. Making a telephone call on
one company’s network is unlikely to be any different from making a call on another
company’s.
 The industry is likely to have high fixed costs or low variable costs. The cost to the company
of additional calls being made on the network is likely to be very small. As a result the
companies may be tempted to cut prices in order to win business of rivals.
 There are high exit barriers. It is unlikely that any of the three providers would leave the
market given that they are likely to have invested huge amounts in building up the networks.

These factors would lead to a high amount of competitive rivalry between the three companies. This
will be offset to some extent however, by the fact that the market is growing, and is expected to rise
from two million users to five million within five years. This increase in the market may reduce the
need for such strong competition, compared to a saturated market, where companies are competing only
for existing customers.
Answer 53 ENVIRONMENTAL MANAGEMENT ACCOUNTING
(a) Meaning of the term environmental management accounting
Environmental management accounting (EMA) involves the generation and analysis of both
financial and non-financial information in order to support internal environmental
management processes. It is complementary to the conventional management accounting
approach, with the aim to develop appropriate mechanisms that assist the management of
organisations in the identification and allocation of environmentally related costs.
Organisations that alter their management accounting practices to incorporate environmental

concerns will have greater awareness of the impact of environment-related activities on their
income statements and balance sheets. This is because conventional management accounting
systems tend to attribute many environmental costs to general overhead accounts with the
result that they are “hidden” from management. It follows that organisations which adopt
EMA are more likely to identify and take advantage of cost reduction and other improvement
opportunities. A concern with environmental costs will also reduce the chances of employing
incorrect pricing of products and services and taking the wrong options in terms of mix and
development decisions. This in turn may lead to enhanced customer value whilst reducing the
risk profile attaching to investments and other decisions which have long term consequences.
Reputational risk will also be reduced as a consequence of adopting (EMA) since

management will be seen to be acting in an environmentally responsible manner.
Organisations can learn from the Shell Oil Company whose experience in the much
publicised Brent Spar incident cost the firm millions in terms of lost revenues as a result of a
consumer boycott.
(b) Categories of environmental cost
The US Environmental protection agency introduced terminology that divides environmental

costs into the following four categories:
 Conventional costs having environmental relevance. These are costs that

management are aware of, but which may not be described as “environmental” in
traditional management accounts. They include costs of energy and other non-
renewable resources used by the organisation.
 Potentially hidden costs. Many environment related costs are hidden within general
overheads in conventional management accounting, so management are not aware
of them. In environmental management accounts, such costs would be shown
explicitly within the environmental management accounts. Typically these include
items such as fines for non-compliance with environmental regulations, costs of
monitoring pollution, and compliance costs.
 Contingent costs are contingent liabilities which an organisation may incur in the
future due to its current activities. These are usually items such as decontamination
costs that would be incurred at the end of the life of a factory.

 Image and relationship costs. These include the costs of maintaining a good
environmental image. For example, many oil companies spend considerable
amounts on advertising their responsible attitude to the environment. Costs of
external environmental reports may also appear within this category.
(c) Environmental management accounting tools
(i) Input/output analysis
Input/output analysis (also referred to as mass balance) provides management with

quantitative information about the amount of materials that are wasted. It reconciles what
goes into the process (100%) with what comes out. The portion of input that comes out as
waste, or that is unaccounted for is calculated. Management then aim to reduce the portion
that is wasted.
Input output analysis may make use of process flow charts:
60 % product
Input 100% PROCESS 20% recycled scrap
15% wasted
5% not accounted for
(ii) Lifecycle costing
Lifecycle costing is a modern management accounting tool whereby all costs that are incurred
over the life of a product are included in the cost per unit of a product.
In traditional costing, product costs often include only the costs of manufacturing. Costs
incurred during the design stage, and at the end of the products life are often ignored,
meaning that management do not obtain the true cost of a product.
The relevance of lifecycle costing to environmental management accounting is that certain

environmental costs may be incurred at the end of the products life, such as costs of disposing
of electronic goods, or cars. Under traditional management accounting, such costs would not
be included in the cost per unit of a product. Using life cycle costing would mean that such
costs would be included in the cost per unit of a product.
(iii) Activity based costing
Activity based costing can also be applied to allocate environmental costs more accurately to
products or cost centres. There are two applications:
(1) There may be environmental-related costs or activities, such as disposal of toxic

waste. An appropriate driver should be defined for apportioning such
environmental costs to the products that the organisation makes.
(2) There are environment-driven costs, which are costs that are not environmental in
nature, but are driven by environmental factors. An example of environmental
driven costs might be increased depreciation of machines due to the use of toxic
materials.

Answer 54 STRUCTURE
(i) Accountability
Accountability in the context of the management accounting system may be viewed from a
number of perspectives. The management accountant as the person in charge of the
management accounting system may be seen as having both “hard” and “soft” accountability.
Hard accountability involves consideration of the financial and quantitative information. Soft
accountability involves consideration of the human input to the system.
Hard accountability may be viewed in three specific areas:
 Accounting for the numbers. That is the process of ensuring that transaction
recording is correctly implemented and that information analysis is implemented as
required in order that associated techniques may be efficiently and accurately
carried out. For example the correct recording of costs and their analysis into fixed
and variable elements in order that cost/volume/profit analysis may be
implemented.
 Ensuring that the numbers are “accounted for”. This will involve consideration of
the number and timing of reports, their structure and dissemination.
 Being held accountable for the efficient implementation of the number processing
and report preparation and distribution. Also for ensuring that relevant
investigation, discussion and follow-up action takes place.
Soft accountability involves the human input to the shaping, evaluating and implementing of
goals. The management accountant has a role to play in this process. Transferable skills in
areas such as communication, negotiation and motivation must be effectively used in order
that the soft accountability of the management accountant is seen to be achieved in an
adequate manner.
The focus of the above accountability areas will need to be flexible in order to accommodate
change in both the internal structure of the organisation and in the external markets in which
the business operates.
(ii) Contingency theory
There is a tendency to look for the single most desirable method of generating data to
promote effective planning, control and decision-making. Contingency theory asks which
contingency factors are important (e.g. changes to the environment, the organisation structure
or decision-making style). The question of the direction of causality is important. Do the
contingent factors cause the accounting system to be as it is and to change as required?
Alternatively is the accounting system itself a contingent factor in causing change?
The environment may, for example, be hostile or dynamic. A dynamic environment will
increase the degree of uncertainty, which will increase the need for the management
accounting system to be able to respond. This could be through the use of quantitative
models to evaluate the uncertainty or through the application of new techniques such as target
costing.
The organisation may become more decentralised through growth, with more semi-
autonomous divisions. This could increase the relevance of focus in the management
accounting system on transfer pricing policy or on benchmarking as an aid to performance
measurement and improvement.

The decision-making style may have to change. For example where a JIT system is
implemented the management accounting focus for material cost will be on effectiveness
measures such as percentage of faulty receipts from suppliers rather than on minimising
purchase price per unit.
Tutorial note: Relevant alternative discussion would be accepted.
Answer 55 GMB CO
(a) Statement of total cost

$000 $000
Unit-based costs:
Direct material cost ($180 × 5,000) 900
Direct labour cost ($150 × 5,000) 750
Power cost ($120 × 5,000) 600 2,250
––––
Batch-related costs:
Design work ($30,000 × 5) 150
Machine set up ($34,000 × 5) 170
Production scheduling ($60,000 × 5) 300
Selling – batch expediting – ($60,000 × 5) 300
Admin – invoicing & accounting ($24,000 × 5)) 120
Distribution ($12,000 × 5) 60 1,100
––––
Product sustaining costs:
Engineering design & support (per order) 350
Production line maintenance (per order) 1,100
Marketing (per order) 200 1,650
–––– –––––
Total cost excluding business/facility sustaining costs 5,000
Business/Facility sustaining costs:

Relating to production, administration, selling &
distribution based on overall business/facility time used.
30% × $5,000,000 1,500
–––––
Total cost of order 6,500
–––––
Note: number of batches = 5,000 units/1,000 = 5 batches.
(b) Cost drivers
A cost driver is the factor that determines the level of resource required for an activity. This
may be illustrated by considering costs for each of the four levels in Order Number 377.
Unit based costs
Direct material costs are driven by the quantity, range, quality and price of materials required
per product unit according to the specification for the order.
Direct labour costs are driven by the number of hours required per product unit and the rate
per hour that has been agreed for each labour grade.

Batch related costs
The number of machine set-ups per batch is the cost driver for machines used.
The number of design hours per batch is the cost driver for design work.
Product sustaining costs
The number of marketing visits to a client per order is the cost driver for marketing cost
chargeable to the order.
The number of hours of production line maintenance per order is the cost driver for
production line cost.
Business sustaining costs
These costs are absorbed at a rate of 30% of total cost excluding business sustaining costs.
This is an arbitrary rate that indicates the difficulty in identifying a suitable cost driver or
drivers for the range of residual costs in this category. Wherever possible efforts should be
made to identify aspects of this residual cost that can be added to the unit, batch or product
related analysis.
The cost drivers are useful in that they provide a basis for an accurate allocation of the cost of
resources consumed by an order. In addition, investigation of the cause(s) of a cost driver
occurring at its present level allows action to be considered that will lead to a reduction in the
cost per unit of cost driver.
Likely cause of cost driver
Material price may be higher than necessary due to inefficient sourcing of materials. This
may be overcome through efforts to review sourcing policy and possibly provide additional
training to staff responsible for the sourcing of materials.
The number of machine set-ups per batch may be due to lack of planning of batch sizes. It
may be possible for batch sizes in this order to be increased to 1,250 units that would reduce
the number of batches required to fulfil the order from five to four. This should reduce
overall costs.
The amount of production line maintenance (and hence cost) required per order may be
reduced by examining causes such as level of skill of maintenance carried out – by GMB’s
own staff or out-sourced provision. Action would involve re-training of own staff or
recruitment of new staff or changing of out-source providers.
Tutorial note: Alternative relevant examples and discussion would be acceptable for all
aspects of part (b).
(c) Practical problems with implementation of activity-based system
The benefits of an activity-based system as the basis for product cost/profit estimation may
not be straightforward. A number of problems may be identified.
The selection of relevant activities and cost drivers may be complicated where there are many
activities and cost drivers in complex business situations.
There may be difficulty in the collection of data to enable accurate cost driver rates to be
calculated. This is also likely to require an extensive data collection and analysis system.

The problem of “cost driver denominator level” may also prove difficult. This is similar to
the problem in a traditional volume related system. This is linked to the problem of
fixed/variable cost analysis. For example the cost per batch may be fixed. Its impact may be
reduced, however, where the batch size can be increased without a proportionate increase in
cost.
The achievement of the required level of management skill and commitment to change may
also detract from the implementation of the new system. Management may feel that the
activity-based approach contains too many assumptions and estimates about activities and
cost drivers. There may be doubt as to the degree of increased accuracy that it provides.
Answer 56 THERE 4 U COMPANY
(a) Six Sigma
The Six Sigma approach to making improvements in existing processes involves a five-stage
process represented by the acronym DMAIC. The five stages are as follows:
Define an opportunity
A problem with quality is identified and then a problem statement is prepared. This statement
will describe the nature of the problem, which must be defined in specific, quantifiable terms.
A “mission statement” is then prepared. This is a statement of what will be done in order to
address the problem. Like the problem statement the mission statement should also be
expressed in specific quantifiable terms using the same units of measurement that are used in
the problem statement.
A project team is set up and given the required resources in order to address the problem and
make an improvement. The team should comprise personnel from each of the areas in the
organisation that will be affected by the Six Sigma project.
Measure performance
At this stage in the project, the project team should undertake a preliminary analysis in order
to measure how the process is working and obtain data that could be analysed in order to
identify what seems to be causing the problem. Where there are a number of factors causing
the problem the project team should focus their attention on what appear to be the main
causes of the quality problem.
Analyse the opportunity
At this stage the project team will investigate the preliminary concerns about what might be
causing the quality problem in greater detail. The project team will test different theories in
an attempt to discover the main cause (or causes) of the problem.
Each theory is then tested in order to establish whether it might be correct. Theories are
rejected when it is decided that they cannot be correct.
The “root” cause (or causes) of the problem is identified when all of the theories have been
completed.

Improve performance
The cause (or causes) of the problem will be removed as a consequence of re-designing the
process that is causing the problem. Alternative methods of improving the process should be
evaluated in order to determine which would be the most effective method to achieve the
“mission statement” for the project. The chosen improvement is then designed in detail and
implemented after being tested to prove its effectiveness.
Control performance
New controls are designed and implemented to prevent the re-occurrence of the problem and
to make sure that the improvements to the process are sustained. Controls will include
regular measurements of output from the process, and a comparison of actual performance
with targeted performance. The controls should be audited periodically in order to confirm
their effectiveness.
(b) T4UC problem analysis using Six Sigma
The DMAIC framework can be applied to T4UC as follows:
(1) Define
The apparent problems are:
(i) A decrease in the number of contracted clients;

(ii) An increase in the number of visits per clients;
(iii) Very few clients being gained via recommendation;
(iv) An increasing number of unanswered telephone calls for product support;
(v) A lower percentage of issues resolved by telephone;
(vi) A lower customer satisfaction rating than the industry average and much lower than
that of Appliances R Us.
(2) Measure
The primary source of information available to measure the issues is the customer survey
undertaken by Ken, which could then be added to by other information. Other measures that
could be undertaken include:
 Measuring the response times of T4UC staff to telephone calls made by clients;
 Measuring the reliability of the website, (e.g. downtime, establishment of

appointments);
 Identification of the reasons why service engineers failed to arrive at customers’

premises;
 Identification of the reasons why service engineers don’t have appropriate spare
parts available.
Other measures, which could be undertaken, include:
 Measuring the rate of problem resolution via telephone;

 Measuring the incidence of remedial visits to clients.

(3) Analyse
Analysis should assist in providing an explanation for the following problems:
 Why is it difficult to contact T4UC at weekends?

 Why are remedial visits necessary?
 Why are there significant variations in the time taken by different service engineers
to service central heating systems?
(4) Improve
Suggesting solutions to the problems identified measured and analysed:
Issues Remedy
Remedial visits Staff training
Specialisation of staff in certain products (i.e. central
heating systems)
Problem resolution by telephone Staff training to increase the knowledge levels of those
staff who receive telephone calls on behalf of T4UC
Weekend access Staff contractibility at weekends
Availability of parts Inventory management of delivery vehicles
The project team in T4UC should analyse each possible solution paying particular attention to
the costs and benefits that would result from their selection.
(5) Control
The final phase would involve further monitoring of the relevant problem variables, in
particular the number of clients, client recommendations, weekend accessibility, staff
training, availability of items in inventory, and finally overall customer satisfaction with a
view to exceeding the industry average as soon as possible and aspiring to similar results
achieved by Appliances R Us.
Answer 57 SUPERIOR SOFTWARE HOUSE
(a) Financial performance assessment
To: Directors
From: Management Accountant
Date: 13 June 20X2
Subject: Financial performance of operations in Bonlandia and Karendia
Further to your recent request please find detailed below my analysis of the financial
performance of our operations for the two-year period ended 30 November 20X2. I have
included operating statistics in the appendix that is attached to my report.
Sales revenue
The Revenue in Bonlandia increased by 4.3% whereas the Revenue in Karendia increased by
40%, which is excellent bearing in mind that operations only commenced in 20X0. The
overall growth in Revenue achieved during 20X2 amounted to an acceptable level of 8.75%.

Profits
The operation in Bonlandia did not perform as well in 20X2 with net profit falling by
$152,000 (5.6%). The operation in Karendia made a loss of $348,000 in 20X2 compared with
a loss of $750,000 in 20X1. It appears that although revenue in Karendia increased by 40%
during 20X2, further growth in revenues (or cost reductions) will be essential in order for the
Karendia operation to become profitable. The change in the structure of industry in Karendia
may enable this growth to be achieved.
The overall profit of SSH has increased from $1,050,000 to $1,350,000, an increase of 28.6%.
Non-operating costs have increased from $3,400,000 (20X1) to $3,842,000 (20X2), an
increase of 13%. It is worth noting that interest payable has fallen by $50,000, which is a
direct result of the repayment of $500,000 of debt finance. The increased amount of
marketing expenditure has enabled both operations to achieve growth in Revenue. However,
the additional revenue of $600,000 in Bonlandia in 20X2 appears modest. In this regard one
might question the effectiveness of the marketing strategy of SSH. EBITDA (earnings before
interest, taxation, depreciation and amortisation) rose from $2,450,000 to $2,760,000. The
return on capital employed increased from 15.9% in 20X1 to 16.7% in 20X2.
Costs
Salaries have increased by 8.5% in Bonlandia and 4% in Karendia. These increases may
reflect local conditions in the labour market for software specialists. Software and
consumables costs have only increased by 2% and 8% respectively in Bonlandia and
Karendia. Bearing in mind that Revenue of each operation has increased then it is quite
conceivable that SSH are benefiting from economies of scale that exist with regard to the
provision of software and consumables. However, the increase of 8% in Karendia may be
indicative of poor cost control. Other operating costs have increased by 2.9% in Bonlandia
but increased by 9% in Karendia, which might be indicative of poor cost control.
Utilisation of non-current assets

The 20X2 non-current assets utilisation ratios of Bonlandia and the overall business show a
decrease over those of 20X1. The ratio in respect of the Karendia operation indicates a
decrease from 2 times to 1.75 times. However, this is acceptable given that operations in
Karendia have been recently established. It might well be the case that, for example, recently
acquired non-current assets may not yet have been brought fully into use or perhaps were
acquired towards the end of 20X2. The Karendia operation is clearly in a rapid-growth phase
hence the need for such investments in non-current assets.
Other information
It would be useful to have data relating to previous years in order to observe longer-term
trends of revenues and costs for each operation. Certainly, data for 20X0 in respect of the
Karendia operation would enable a “complete” picture to be taken. This would enable a
much better assessment of current recent years.
It would be extremely useful to have competitor information in order to assess relative market
share and establish how they are performing in the Bonlandia and Karendia markets
compared with the operations established by SSH.
It is clear that long-term borrowings have decreased during 20X2 and that SSH has sufficient
cash flow to be repaying debt finance. However, it would be useful to have a detailed
breakdown of the working capital of each operation in order to confirm this.
It would also be useful to have future market and financial projections in respect of operations
in Bonlandia and Karendia that should reflect the actual results achieved in 20X1 and 20X2.
Signed: Management Accountant

Appendix
20X2 20X1
Bonlandia Karendia Group Bonlandia Karendia Group
% growth in sales revenue 4.3 40 8.75
Sales margin before interest (%) 17.45 (12.4) 12.64 19.3 (37.5) 12.2
Return on capital employed (%) 16.7 15.9
Earnings before interest, depreciation
and amortisation ($000) 2,760 2,450
Non-current asset turnover ratio 1.62 1.75 1.64 1.75 2.00 1.77
Debt:equity ratio (%) 43.7 57.7
Gearing ratio (%) 30.4 36.6
(b) Statements of operational manager
In a market place such as that in which SSH competes, product and service quality assumes
critical significance. Quality is a key determinant of the financial results and the level of
competitiveness achieved by SSH. This will always be the case and therefore quality may be
viewed as a strategic necessity if SSH is to prosper in the future. Therefore, the statements of
the manager of Bonlandia operations are myopic at best and unethical at worst! Businesses
use software in a variety of different ways but poor quality software can do serious harm to
businesses. Much will depend on the extent to which a business uses its information for
strategic reasons as opposed to meeting operational needs. The more a business uses its
information systems for strategic reasons then the greater the potential damage suffered as a
consequence of poor quality software. It is wrong for the manager of Bonlandia operations to
knowingly promote the installation of poor quality business software in clients’ businesses.
The effects can be costly to clients in terms of poor planning, control and decision-making
with potential losses of client goodwill and reputation.
(c) Criteria for “quality software”
 The software is error-free, as this will improve its reliability. Whilst in practice this
might not always be achievable the directors of SSH must recognise the dangers
involved in supplying bespoke software, which may prove damaging to their
clients’ businesses with the resulting loss of client goodwill.
 The software should meet quality control standards such as those specified by the
ISO (International Standards Organisation).
 The software must be delivered on time. Late delivery of business software will
prove problematic since clients may rely on updated software to meet new customer
needs or to fulfil revised business objectives.
 The software must meet the initial specification of the customer. In meeting the
specification SSH will be demonstrating that the software has been produced
correctly with an appropriate focus on the requirements of end users.
 The software must be usable (i.e. as well as being able to do what it is supposed to
do it is important that it is easy to use).
 The software should be capable of being updated in the light of future changes that
occur in the clients’ requirements.

(d) Performance measures to assess the quality of service provided to its clients
 The reliability of staff in keeping to scheduled appointment times with clients.

 The responsiveness of staff to client enquiries or requests for assistance.
 The quality of communications between SSH and its clients.
 The competence of its staff in providing training to its clients.
 The access times to staff on the request of clients.
 The availability of staff to meet emergency needs of clients.
 The security of the data of its client base.
Tutorial note: Only six performance measures were required. Other relevant performance
measures would be acceptable.
Answer 58 SPECIALIST CLOTHING COMPANY CO
(a) Boston Consulting Group matrix
The management of SCC could use the Boston Consulting growth share matrix in order to
assess its divisions’ companies in terms of their rate of market growth and relative market
share. The model is based on the premise that the market position of a strategic business unit
(i.e. division) can be assessed by reference to its growth rate and that its relative market share
best indicates the strength of an organisation. The model uses four categories, as follows:
Stars
A star product has a relatively high market share in a high growth market. The fashion
division is experiencing strong growth in a rapidly growing market. It is forecast to have a
market share of 10% by the end of 20X4 and therefore it seems reasonable to categorise the
Fashion division as a star.
Problem children (sometimes called question marks)
The distinguishing feature of a problem child is that they have a relatively low market share
in a high-growth market. The Children’s division would appear to fall into this category. The
market leader enjoys 33% of the market whilst SCC appears to be struggling to achieve any
growth in Revenue and hence profits and therefore cash flow remain relatively static.
Similarly, the Industrial division would appear to be a problem child since it operates in a
relatively high-growth market but appears unable to achieve a reasonable market share. It
would appear that the introduction of sales of industrial clothing via mail order has not been
successful.
Cash cows
A cash cow is characterised by a relatively high market share in a low growth market and
should generate significant cash flows. The Leisure division appears to be a cash cow since it
has a very high market share (70%) in what can be regarded as a low-growth market.
Dogs
A dog is characterised by a relatively low market share in a low growth market and might
well be loss making and therefore have negative cash flow.
The Footwear division would appear to fall into this category since its market share is
relatively low and forecast to fall during each of the next two years in what is a low-growth
market.

The forecast situation of SCC is far from ideal. It has a dog (the Footwear division) and two
problem children (Industrial and Children’s divisions) that require the immediate attention of
management. The dog classification of the Footwear division is precarious to say the least.
Competitors in low growth markets will invariably offer high levels of resistance to any
attempts to reduce their share of a low-growth or declining market. As far as the problem
children are concerned, management need to devise appropriate strategies to convert them
into stars since at the present time they appear to be in high growth markets but are unable to
capture a reasonable market share. The cash generated by the Leisure division should be
applied to ensure the continued upward trend of the only current star (the Fashion division)
and then applied to assist in the development of the problem children.
(b) Strategies to improve performance
The four quadrants of the Boston-growth share matrix summarise expected profits and
resultant cash flows and recommends an outline strategy to follow which rather simplistically
may be summarised as invest in stars, scrutinise the problem children, milk the cows and
divest the dogs.
Value Chain Analysis
It is vital that the management of SCC undertake a value chain analysis of each of its
divisions in order to identify and eliminate all non-value added activities, thereby improving
profitability and cash flow without necessarily increasing Revenue or market share.
Divestment of the Footwear division
Serious consideration should be given to the divestment of the Footwear division. This will
enable resources to be redirected to divisions categorised as problem children (i.e. the
Industrial and Children’s divisions).
Support the Stars
As far as the Fashion division is concerned, it is obviously in a growth market and currently
performing well. It is vital, given the forecast performance of the other subsidiaries that the
management of SCC do not concentrate on the poor performers to the detriment of its only
star.
(c) Limitations of the BCG matrix
 It is a model and the weakness of any model is inherent in its assumptions. For
example many strategists are of the opinion that the axes of the model are much too
simplistic. The model implies that competitive strength is indicated by relative
market share. However other factors such as strength of brands, perceived
product/service quality and costs structures also contribute to competitive strength.
Likewise the model implies that the attractiveness of the marketplace is indicated by
the growth rate of the market. This is not necessarily the case as organisations that
lack the necessary capital resources may find low-growth markets an attractive
proposition especially as they tend to have a lower risk profile than high-growth
markets.
 There are problems with defining the market. The model requires management to
define the marketplace in which a business is trading in order that its rate of growth
and relative market share can be calculated. This can prove problematic in
comparing competitors since if they supply different products and services then the
absence of a consistent basis for comparison impairs the usefulness of the model.

Other valid criticisms include the following:
The application of the BCG matrix may prove costly and time-consuming since it necessitates
the collection of a large amount of data. The use of the model may also lead to unfortunate
consequences, such as:
 Moving into areas where there is little experience;

 Over-milking of cash cows;
 Abandonment of potentially healthy businesses labelled as problem children;
 Neglect of interrelationships among businesses; and
 Too many problem children in the business portfolio largely as a consequence of
incorrect focus of management attention.


Advanced Performance Mgmt. - SQB

Uploaded by

Copyright:

Available Formats

You might also like

Advanced Performance Mgmt. - SQB

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Advanced Performance Mgmt. - SQB

Uploaded by

Copyright:

Available Formats

ACCA

ADVANCED PERFORMANCE MANAGEMENT

STUDY QUESTION BANK

For Examinations to June 2015

Ali ARAJ - sweatboy01@gmail.com

Copyright ©2014 DeVry/Becker Educational Development Corp. All rights reserved.

Ali ARAJ - sweatboy01@gmail.com

Question Name Page Answer Marks Date worked

STRATEGIC PERFORMANCE MANAGEMENT

PERFORMANCE MANAGEMENT AND CONTROL

4 ZBB – Four Statements 3 1005 15

8 2B Value Chain 4 1012 25

EFFECT OF INFORMATION TECHNOLOGY

9 Bank Operations (ACCA J96) 5 1014 8

OTHER ENVIRONMENTAL AND ETHICAL ISSUES

EXTERNAL INFLUENCES ON ORGANISATIONAL PERFORMANCE

12 News For You 8 1019 20

PERFORMANCE MEASUREMENT INFORMATION SYSTEMS

17 Management Information Systems 13 1028 20

INFORMATION RECORDING AND REPORTING

20 Rockingham Hospital 16 1035 17

Ali ARAJ - sweatboy01@gmail.com

Question Name Page Answer Marks Date worked

STRATEGIC PERFORMANCE MEASURES IN PRIVATE SECTOR

27 Success Education Centre (ACCA PP D07) 22 1045 20

DIVISIONAL PERFORMANCE EVALUATION

29 Divisional Assessment 25 1049 28

33 Black and Brown 29 1061 22

NOT FOR PROFIT ORGANISATIONS

NON FINANCIAL PERFORMANCE INDICATORS AND QUALITY

37 Sharpe Telecomunications Co (DipFM D05) 32 1066 20

HUMAN ASPECTS OF PERFORMANCE MANAGEMENT

41 Directors Share Options (DipFM D08) 37 1075 20

ALTERNATIVE VIEWS OF PERFORMANCE MANAGEMENT

45 Balanced Scorecard 39 1080 15

COMPLEX BUSINESS STRUCTURES AND CORPORATE FAILURE

53 Environmental management accounting 47 1095 20

Ali ARAJ - sweatboy01@gmail.com

Question Name Page Answer Marks Date worked

FURTHER PRACTICE QUESTIONS

54 Structure (ACCA D98) 48 1097 15

Ali ARAJ - sweatboy01@gmail.com

Present Value Table

Present value of 1 i.e. (1 + r)–n

Discount rate (r)

Ali ARAJ - sweatboy01@gmail.com

where r = discount rate

Discount rate (r)

Ali ARAJ - sweatboy01@gmail.com

Ali ARAJ - sweatboy01@gmail.com

The industry benchmarks are as follows:

Metric Industry average

Question 2 ST MARGARET’S HOSPITAL

Ali ARAJ - sweatboy01@gmail.com

(b) Describe how a system of benchmarking could be introduced to measure the

Ali ARAJ - sweatboy01@gmail.com

Question 4 ZBB – FOUR STATEMENTS

(b) It is quite preposterous even to consider the implementation of a system of ZBB in a

Question 5 MASTER BUDGET