BBCS4103 Integrated Case Study (SG)

STUDY GUIDE
BBCS4103
Integrated Case Study
Copyright © Open University Malaysia (OUM)

STUDY GUIDE BBCS4103 Integrated Case Study
OUM BUSINESS SCHOOL
STUDY GUIDE
BBCS4103
Integrated Case Study
Writer: Dr Ahmed Razman Abdul Latif
Moderator: Baldev Singh Pertab Singh
Developed by: Centre for Instructional Design and Technology

Open University Malaysia
Copyright © Open University Malaysia (OUM), BBCS4103

All rights reserved. No part of this work may be reproduced in any form or by any means without the written
permission of the President, Open University Malaysia.


INTRODUCTION TO STUDY GUIDE
This Study Guide is intended for Open University Malaysia's BBCS4103 Integrated Case
Study course. It comes in TWO parts, as described below:
Part One comprises the Course Introduction, which gives you an overview of the course. More
specifically, it provides you with the course synopsis, objectives, learning outcomes and study
load. There is a brief description of the main textbook(s), which you must read to fulfil the course
requirements. There is also a list of additional reading references. You are encouraged to go
into myVLE to check out the assessment, assignment and final examination formats.
Part Two comprises the Learning Guide. This starts with an overview, a recommended weekly
study schedule to guide your learning process, and a brief description of the various elements in
the Learning Guide. There is also a list of topics to be covered. For each topic, you are given
the specific focus areas and where information on the focus area is found. To consolidate your
learning and test your understanding, the study questions are provided at the end of each topic.
Finally, there are two appendices, Learning Support and Study Tips, to help you walk through
the course successfully.
Please read through this Study Guide before you commence your course. We wish you a
pleasant study experience.

Contents
Introduction to Study Guide ........................................................................................................ 3
Part One: Course Introduction .................................................................................................... 5

Synopsis .............................................................................................................................. 5
Objectives ........................................................................................................................... 5
Learning Outcomes............................................................................................................. 5
Study Load .......................................................................................................................... 5
Main Textbook(s) ................................................................................................................ 6
Additional Recommended Readings .................................................................................. 6
Part Two: Learning Guide ............................................................................................................ 7

Overview ............................................................................................................................. 7
Learning Support ................................................................................................................ 7
Tutorials .............................................................................................................................. 7
Discussion and Participation .............................................................................................. 7
Feedback and Input from Facilitator ................................................................................... 8
Tan Sri Dr Abdullah Sanusi (TSDAS) Digital Library ......................................................... 8
Study Tips ........................................................................................................................... 8
Time Commitments for Study ............................................................................................. 8
Study Strategy .................................................................................................................... 8
Integrated Case Study ................................................................................................................ 11

Course Content/Outline .................................................................................................... 13
Why Use Case Studies ............................................................................................................... 17

Why Use Case Studies ..................................................................................................... 19
Instructions on How to Do a Case Analysis ..................................................................... 21
Mini Cases ................................................................................................................................... 25

Mini Case 1: California Creamery, Inc.............................................................................. 27
Mini Case 2: Import Distributors, Inc. ............................................................................... 31
Case Study................................................................................................................................... 33
Case 1: Expansion or Diversification?.............................................................................. 35
Case 2: Flat Cargo Berhad ............................................................................................... 36
Case 3: Flight of Funds..................................................................................................... 37
Case 4: SAP for ATLAM ................................................................................................... 38
Final Review Cases .................................................................................................................... 39

The Case of Insurance ..................................................................................................... 41
Planning for Change ......................................................................................................... 65
Suggested Answers to Mini Cases ........................................................................................... 83

Mini Case 1: California Creamery..................................................................................... 85
Mini Case 2: Import Distributors, Inc. ............................................................................... 89

PART ONE: COURSE INTRODUCTION
Synopsis
This is a capstone course for the Bachelor of Accountancy programme, which integrates
knowledge from financial accounting, management accounting, taxation, audit, finance,
management and business related, information technology and other social science course.
Experiential exercises are embedded in this course to support learner’s effort in independent
learning.
Objectives
This course is designed to enable learners to integrate knowledge from the various related
disciplines and to enhance their technical core competencies and their problems solving skills in
the unstructured business environment.
Learning Outcomes
At the end of the course, students should be able to:
1. Integrate and apply knowledge from the various accounting sub-disciplines and other
business related disciplines within an organisational context;
2. Identify issues, undertake research, analyse and synthesise information to solve business
problems in the unstructured business environment;
3. Work in teams;
4. Communicate ideas, views and recommendations effectively, both verbally and in writing;
5. Demonstrate ethical awareness in the decision making process.
Study Load
It is a standard OUM practice that learners accumulate 40 study hours for every credit hour. As
such, for a three-credit hour course, you are expected to spend at least 120 hours of learning.
Table 1 gives an estimation of how the 120 hours can be accumulated.

Table 1: Allocation of Study Hours
Activities No. of Hours

Reading course materials and completing exercises 60
Attending 4 tutorial sessions (2 hours for each session) 8
Class presentations 7
Engaging in online discussions 15
Completing assignment(s) 20
Revision 10
Total 120
Main Textbook(s)
Asian Journal of Case Research (2011). Volume 4 (Special Issue). UPM Press.
MIA & KPTM (2010). Case Study for Integrated Case Study Course. Kuala Lumpur: Kementerian
Pengajian Malaysia.
Additional Recommended Readings
Peter, S. (2010). Case Study Research What, Why and How? (1st Edition). London: Sage
Publication Ltd.
Mauffette-Leeder, L. A, Erskine, J. A, & Leeders, M. R. (1998). Learning with Cases, Ivey

Publishing, Ivey School of Business Administration, The University of Western Ontario,
London, ONT.

PART TWO: LEARNING GUIDE
Overview
This Learning Guide is arranged by topic. It covers essential content in the main reference and
is organised to stretch over TWELVE study weeks. Use this Learning Guide to plan your
engagement with the course content. You may follow the recommended weekly study schedule
in Table 2 to help you progress in a linear fashion, starting with Week 1.
Table 2: Recommended Weekly Study Schedule
Topic Week
Mini Case Exercises 1–2
Case 1 3–4
Case 2 5–6
Case 3 7–8
Case 4 9 – 10
Final Review 11 – 12
Each topic in the Learning Guide comprises of the following:
 Focus Areas: Outlines the reference material to be used for each case study; and
 Study Question: Help you to focus on key subject areas.
Learning Support
Tutorials
There are 8 hours of face-to-face facilitation, in the form of tutorials. You will be notified of the
date, time and location of these tutorial sessions, together with the name and e-mail address of
your facilitator, as soon as you are allocated a group.
Discussion and Participation
Besides the face-to-face tutorials, you have the support of online discussions in myVLE with
your facilitator and course mates. Your contributions to online discussions will greatly enhance
your understanding of the course content, and help you do the assignment(s) and prepare for
the examination.

Feedback and Input from Facilitator
As you work on the activities and the assigned text(s), your facilitator will provide assistance to
you throughout the duration of the course. Should you need assistance at any time, do not
hesitate to contact your facilitator and discuss your problems with him/her.
Bear in mind that communication is important for you to be able to get the most out of this
course. Therefore, you should, at all times, be in touch with your facilitator and coursemates,
and be aware of all the requirements for successful completion of the course.
Tan Sri Dr Abdullah Sanusi (TSDAS) Digital Library
For the purpose of referencing materials and doing library-based research, OUM has a
comprehensive digital library. For this course, you may use the following databases: InfoTrac,
ProQuest and EBSCO. From time to time, materials from these databases will be assigned for
additional reading and activities.
Study Tips
Time Commitments for Study
You should plan to spend about 12 hours of study time on each topic, which includes doing all
assigned readings and activities. You must also set aside time to discuss work online. It is often
more effective to distribute the study hours over a number of days rather than spend a whole
day studying one topic.
Study Strategy
The following is a proposed strategy for working through the course. If you have difficulty
following this strategy, discuss your problems with your facilitator either through the online forum
or during the seminars.
(i) The most important step is to read the contents of this Study Guide thoroughly.
(ii) Organise a study schedule (as recommended in Table 2). Take note of the amount of time
you spend on each topic as well as the dates for submission of assignment(s), seminars
and examination.
(iii) Once you have created a study schedule, make every effort to stick to it. One reason
learners are unable to cope with postgraduate courses is that they procrastinate and delay
completing their course work.
(iv) You are encouraged to do the following:
 Read the Study Guide carefully and look through the list of topics covered. Try to
examine each topic in relation to other topics.

 Complete all assigned readings and go through as many supplementary texts as

possible to get a broader understanding of the course content.
 Go through all the activities and study questions to better understand the various
concepts and facts presented in a topic.
 Draw ideas from a large number of readings as you work on the assignments. Work
regularly on the assignments as the semester progresses so that you are able to
systematically produce a commendable paper.
(v) When you have completed a case, review the Study Question for the case to confirm that
you have achieved them and are able to do what is required.
(vi) After completing all cases, review again the overall Learning Outcomes of the course to
see if you have achieved them.

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INTEGRATED CASE STUDY
COURSE CONTENT/OUTLINE



Course Content/Outline Learning
Topics
Levels
LEGEND:
 Introduction to case analysis 3,4,5,6
Learning Levels
 Enhancing group dynamics ( Belbin’s
(Bloom’s Taxonomy) questionnaire – e.g.identifiying personality
1. Knowledge traits)
2. Comprehension  Introduction to case analysis – continued 3,4,5,6

3. Application  Mini cases exercise
4. Analysis o California Creamery, Inc
5. Synthesis o Import Distributors, Inc
6. Evaluation
Mini cases presentations 3,4,5,6
Case 1 – Expansion or Diversification? 3,4,5,6

Questions:
1) Using suitable financial statement ratios,
assess the profitability, liquidity and solvency
of Carlsberg Brewery Malaysia Bhd.
2) Discuss the financial and non-financial
implications if Carlsberg decided to expand
overseas or diversified its product range.
3) By looking at the current Annual Report of
Carlsberg, did the company make the right
decision?
Case 2 – Flat Cargo Berhad: An Auditor’s 3,4,5,6

Conundrum
Questions:
1) Based on FCB’s Audit Working Paper, for
each finding, what will be the impact to the
assets, liabilities and owner’s equity of the
company?
2) Why do you think FCB has resorted to the
dubious transactions mentioned in the Audit
Working Paper?
3) What will be the short term and long term
solutions for the company in order to address
these issues?
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Mid-term examination
Case 3 – Flight of Funds

Questions:
1) Describe the differences between a
subsidiary, associate, joint venture and simple
invesment. Which category do you think MTT
is supposed to be? Discuss.
2) Explain how MoU (Memorandum of
Understanding) is different from MoA 3,4,5,6
(Memorandum of Agreement) in terms of its
purpose and legal perspective. Can an MoU
be made legally binding?
3) As the CEO of Travel Investment Holding
Bhd. (TIH), how would you handle the MTT
situation? What will be the possible
accounting treatment if you decided to close
down MTT?
Case 4 –SAP for ATLAM

Questions:
1) How do you classify software under asset
definition? Explain.
3,4,5,6
2) Using suitable tools, calculate the return on
investment if ATLAM decided to install SAP.
3) Discuss the possible ways for ATLAM to
reduce the cost of installing SAP.
Final review:
 Learning diary
 Self reflection
 Review using two additional cases
o The Case of Insurance
o Planning for Change
14

Recommended References 1. Barnes, L.B, Christensen, C.R, & Hansen, A.J.(1994),
(students are to refer to the Teaching and the Case Method, 3th Edition, Harvard Business
latest edition of texts and School Press, Boston.
materials) (By Harvard Business School instructors, a classic text for
either self-study or faculty training seminars that includes
readings and cases on case method teaching)
2. Mauffette-Leeder,L.A,Erskine,J.A,& Leeders,M.R.(1998),
Learning with Cases, Ivey Publishing, Ivey School of Business
Administration, The University of Western Ontario,
London,ONT.
(By businesss instructors, an orientation to case method
learning for students, including instuctions on how to prepare
and participate most effectively in case discussions)
15

16

WHY USE CASE STUDIES



WHY USE CASE STUDIES
Case studies require a lot of effort, from both learners and tutors, than many more traditional
methods of instruction. Case studies demand time, energy, and personal commitment but the
rewards of the case method are also substantial. With repeated exposure to cases, you will
improve your skills in analysing and dealing with ambiguous situations and incomplete
information. You will begin to see problems in a focused, confident way leading to firm, well-
reasoned conclusions. The use of case studies will improve knowledge and understanding, foster
good judgment and effective action.
The power of the case method lies in the active participation of learners, which in this case
means all of you! Using case studies, you will determine the relevant facts, analyze them, and
draw conclusions about the cause of the problem and what action to take. Your conclusions may
differ from the case writer’s own implicit diagnosis, or mine, although all are based on the same
facts.
In case learning, you identify problems in a case before you begin to create the structure to solve
it; the method is basically inductive and experiential. The problems in a case may be subtle,
complex, and persistent; and usually, they have no easy, definite, or correct solutions. In
confronting such problems, you will have to work out your own approach to defining, analyzing,
and solving them. The case method encourages you, as learners, to see it from an action
perspective rather than analyze it from a distance.
Repeated exposure to the complex problems found in cases builds remarkable confidence in
learners. Case learning develops tolerance for uncertainty and fosters the ability to make timely
decisions and take effective action despite incomplete information, unclear problems, and
uncertain consequences. Through cases, you will learn to cope with different circumstances that
will challenge you in the future. Much of the learning comes from the discussion among learners
in the forum. Learning from each other’s experiences is one of the most valuable opportunities
this interaction affords. It also exposes you to others’ analytical and problem solving approaches,
and encourages you to recognize and reflect on your own style and abilities. The case discussion
fosters different viewpoints and allows the generation of alternative responses to problems. You
get to improve your communication skills as well.
The case approach also helps you to adopt an action perspective, by involving your emotions,
intuition as well as intellect. You will also develop persistence, patience, and persuasiveness,
along with mental agility and power, just as you would if you were in a real business situation.
Case studies encourage you to learn!
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In essence, cases present you with opportunities to analyze and solve relevant real-world
practical problems. Thus, cases are useful in instruction that involves high-order thinking such as
problem solving and interpretation. You will be able to apply what you learn to similar problem
situations in the real world.
The case method can help you develop your analytical and judgment skills. Case analysis also
helps you learn how to ask the right questions-that is, the questions that focus on the core
strategic issues included within a case. Learners aspiring to be managers can improve their
ability to identify underlying problems, rather than focusing on superficial symptoms, through
development of the skills required to ask probing, yet appropriate, questions. This broadens your
experience base and provides insights into many types of managerial situations, tasks, and
responsibilities.
In summary, the purposes of case discussion are to:
 Foster Critical Thinking

 Encourage Student Responsibility for Learning
 Transfer Information, Concept, and Technique
 Develop Command of a Body of Material
 Blend Affective and Cognitive Learning
 Enliven the Classroom Dynamic
 Develop Collaboration Skills
 Teach Questioning and Self-Directed Learning
Take note, however, that the primary responsibility for learning is yours. The quality of case
discussion is generally acknowledged to require, at a minimum, a thorough mastery of case facts
and some independent analysis of them. The case method therefore first requires that you read
and think carefully about each case. I will go through the general steps for conducting case
analysis in the next section.
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INSTRUCTIONS ON HOW TO DO A CASE ANALYSIS
The purpose of this section is to outline a simple but effective approach to case analysis
regardless of the specific strategies employed in solving the case. This approach has three steps:
a) Determine the key case issues and case positioning (i.e. why do you choose to analyze
the company).
b) Determine the main alternatives regarding the case situation and key issues.
c) Determine how to focus your analysis (i.e. select the appropriate tools and facts needed to
support your recommendation).
There are many specific techniques and approaches to case analysis. Differences in analytical
approaches relate to the broad kind of case you are dealing with. However, there are some
similarities. One general rule to keep in mind is the identification of alternative courses of action.
You may even wish to form certain opinions about these alternatives. However, never forget that
effective case analysis means providing support for your final position or opinion.
You may or may not analyze all the alternatives. However, whatever opinion you form or
recommendation you present, it must be supported, mostly with facts drawn from the case itself
or even perhaps your own experience.
The determination of some focus for your analysis is a critical step. Good case analysts are
always asking what the pertinent facts for analysis is, what the relevant numbers that should be
pushed are. Good case analysts go beyond identifying the relevant facts and numbers which are
given in the case. Rather they ask what the facts and numbers are that they need to analyze a
particular issue or alternative regardless of what they think is given in the case. In other words, a
good case analyst is ready and willing to make creative assumptions.
Many students, especially those without prior management experience, feel such “assuming” is
unrealistic and not representative of “the real world of business.” As any experienced manager
will tell you, such creative “assuming” frequently occurs because managers rarely have all the
information required to make a decision, nor the time and money to acquire the missing
information. A fundamental problem of life is that decisions must almost always be made with
incomplete and often imprecise data.
There are several ways to report on a case analysis. A case analysis may include a “Statement of
the Problem”, “A Summary of the Pertinent Facts and Assumptions”, “Analysis of Alternative
Solutions”, “ Decision, Choice or Recommendations”, and “Conclusions.” Sometimes one or
more of these categories may be sub-divided. Consider the “Analysis” section. A problem can be
21

analyzed in terms of the “internal” or “external” environment. For example, a company may
have a specific problem with sales loss. This loss could be the result of poor sales management,
insufficient number of sales persons, or poor marketing. Such problems would be considered
internal problems. If sales have dropped because the competition has a better advertising
campaign for a similar product or there is a shortage of supplies, the company has an “external”
problem. These are factors outside the company or in the “external environment” which
influence the success of the company.
Each category of a case analysis report is listed and explained below.
Statement of the Problem
State in two or three sentences the problems or the opportunities which existed in the case. You
can also briefly identify the root cause of the problems.
Summary of the Pertinent Facts and Assumptions
Briefly summarize the facts in the case. You can assume the role of a protagonist (someone who
has to make the decision in the case) or as the consultant who has gathered the facts and must
present them to a specific person or group.
Analysis of Alternative Solutions
Analysis often is the most difficult section of a report. Sometimes there is a fine line between
summary and analysis, and analysis and recommendation. Using the facts gathered and
assumptions made, you should be able to provide a list of possible alternative solutions or steps
you could follow to take advantage of the opportunity that has arisen. In your analysis, you may
discuss the causes of the problem as well as the impact of the problem on the company. There
are many analytical tools and techniques that you can use for analyzing the case. Among others,
these techniques include ratio analysis, breakeven analysis, decision tree, PERT/CPM network,
SWOP, IFAS, EFAS and so on.
This section of your case report is important because you are evaluating the problems or
opportunities so that you can make a recommendation or present a plan to rectify the problems or
take advantage of the opportunities.
22

Decision, Choice or Recommendation
In this section you provide direction. By examining each of the alternatives as described above,
including their advantages and disadvantages, you should be able to decide on the best
alternative to recommend to the company.
The recommendation section is your “argument”. Using the facts of the case and your analysis,
you “argue” that certain steps must be taken.
Conclusion
Use this section for any concluding remarks that you may want to make to the company. You
will not need to create this section if you have made concluding remarks in your
recommendations.
Of course, your actual case discussion will depend on the case given and the instructions given in
your assessment for the semester. Use the tools or methods given in the instructions but stick to
these guidelines whenever possible.
Remember, integrated case study is the capstone course for your accounting degree and the case
will cover just about anything from any of your previous modules! This is your chance to apply
all the concepts that you have learnt in finance, accounting, marketing, law, ethics, management
and the rest of your other courses. All the best….I’m sure you can do it!

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24

MINI CASES

 MINI CASE 1: CALIFORNIA CREAMERY, INC.
 MINI CASE 2: IMPORT DISTRIBUTORS, INC.



Mini Case 1
California Creamery, Inc.*
California Creamery, Inc. (CCI) owned and operated 14 retail ice cream stores spread throughout
Southern California, from San Luis Obispo to San Diego. CCI's stores sold only the highest quality, ultra‐
premium ice cream. They offered 25 different ice cream flavours. Many of the CCI flavors were
"exotic", such as "Polynesian Fantasy," "Mango‐Lemon Supreme," and "Multi‐Nut Twist." But CCI also
sold a few traditional ice cream flavors, such as vanilla, chocolate, strawberry, and coffee. Some of the
flavors were very popular, but a few of the exotic flavors sold in low volumes.
CCI produced its own ice cream. Originally the ice cream was produced in the garage of the company's
founder. Will Forgey. But the company outgrew the garage, and Will had since leased a building to
house CCI's production activities. As CCI had grown, Will had been able to afford more expensive,
automated manufacturing equipment that blended the flavors and packaged the liquid ice cream in
preparation for freezing. CCI's most significant production costs were for raw materials, particularly
cream, sugar, and special flavour ingredients, and for the acquisition, operation, and maintenance of the
production equipment.
All of CCI's products were sold at the same retail price. Will set the price to yield, roughly, a mark‐up of
100 percent on average full production costs. CCI's 2004 budget included manufacturing overhead of
$600,000. To estimate product costs, Will spread this overhead cost to products based on a proportion
of direct labor used in the production process. CCI's total direct labor cost for 2004 was $300,000, so
Will charged the overhead to products at a rate of 200 percent of direct labor costs.
One day in a casual conversation, Louise Fettinger, Will's neighbor and a controller of a small
manufacturing company, suggested that Will's pricing policy was not very smart. Louise's intuition was
that the cost of producing CCI's various flavors were very different. She thought those difference should
be reflected in the prices charged, or CCI's profits would vary as the mix of products sold varied.
Louise suggested that Will re‐estimate product costs using what she called an "activity‐based" cost
system. Toward that end, she suggested that he identify the major activities whose cost were included
in the company's overhead costs. Then he should apply those costs to products based on the products'
consumption of each of those activities. In response to Louise's suggestion, Will prepared the
information shown in Exibit 1.
Then, again following Louise's suggestion, he decided to calculate the costs of two illustrative products
as an experiment to see if Lourse's new cost system idea produced any material differences. He asked
Louise to take her best guess as to where he might find the most significant differences, if any existed.
After Will described the products to her, Louise suggested that he use Polynesian Fantasy and Vanilla as
the test product examples. Exhibit 2 provides data pertinent to those two products.
27


EXHIBIT 1
CALIFORNIA CREAMERY, INC.
2004 Budgeted Manufacturing Overhead Costs
Activity Budgeted "Driver" of the Activity's Budgeted
Cost ($000) Costs Activity Level for
the Cost Driver
Purchasing $ 80 Purchase orders 909
Material handling 95 Setups 1,846
Blending 122 Blender hours 1,000
Freezing 175 Freezer hours 1,936
Packaging 110 Packaging machine hours 1,100
Quality control 18 Batches 286
Total manufacturing overhead costs $600

EXHIBIT 2
CALIFORNIA CREAMERY, INC.
Tow Product Examples (2004 Data)
Polynesian Fantasy Vanilla
Direct material $2.00 /gallon $1.80 / gallon
Direct labor 1.20 /gallon 1.20 /gallon
Budgeted production and sales 2,000 gallons 100,000 gallons
Batch size 100 gallons 2,500 gallons
Setups 3 per batch 3 per batch
Purchase order size 50 gallons 1,000 gallons
Blender time 0.6 hour per 100 gallons 0.3 hour per 100 gallons
Freezer time 1.0 hour per 100 gallons 1.0 hour per 100 gallons
Packaging machine time 0.3 hour per 100 gallons 0.2 hour per 100 gallons

28


Questions
1. Compute the full production cost (per gallon) of the Polynesian Fantasy and Vanilla products using

a. Will's old costing method

b. The new costing method (Louise's suggestion)

2. What are the effects, if any, of changing the company's costing method? Specifically, are the
differences between the two costing methods material in terms of:

a. Their effect on individual product costs?

b. Their effect on total company profits? (Assume no changes in any operating decisions, such
as price and production volumes.)

If there are material differences, why do they exist? If there are no materials differences, why do they
not exist?

3. What should Will do now? Explain.
*Copyright © by Kenneth A. Merchant and Wim A. Van Der Stede.
29


30


Mini Case 2
Import Distributors, Inc*
Import Distributors, Inc. (IDI) imported appliances and distributed them to retail appliance stores in the
Rocky Mountain States. IDI carried three broad lines of merchandise: audio equipment (tuners, tape
decks, CD players, etc.), television equipment (including videotape recorders), and kitchen appliances
(refrigerators, freezers, and stoves that were more compact than U.S. models). Each line accounted for
about one‐third of total IDI sales revenues. Although each line was referred to by IDI managers as a
"department," until 1994 the company did not prepare departmental income statements.
In late 1993, departmental accounts were set up in anticipation of preparing quarterly income
statements by department starting in 1994. In early April of 1994, the first such statements were
distributed to the management group. Although in the first quarter of 1994 IDI had earned net income
amounting to 4.3 percent of sales, the television department had shown a gross margin that was much
too small to cover the department's operating expenses (see Exhibit 1).
EXHIBIT 1
TELEVISION DEPARTMENT
Income Statement
For the first 3 Month of 1994
Percent
Net sales revenues $1,612,403 100.00
Cost of sales 1,422,473 88.2
Gross margin 189,930 11.8
Operating expenses:
Personnel expenses (Note 1) 10,140
Department manager's office 12,393
Rent (Note 2) 50,107
Inventory, taxes, and insurance 37,274
Utilities (Note 3) 3,006
Delivery costs (Note 4) 32,248
Sales commission (Note 5) 80,621
Administrative Cost (Note 6) 40,310
Inventory financing charge (Note 7) 23,708
Total operating expensive 289,807 18.0
Income taxes (credit) (34,957) (27.2)
Net income (loss) $ (64,920) (4.0)

31


Notes:
1. There were warehouse personnel. Although merchandise in the warehouse
was arrange by department, these personnel performed tasks for all the
department on any given day.
2. Allocated to departments on the basis of square footage utilized. IDI had a
five‐year non‐ concealable lease for the facilities.
3. Allocated to department on the basis of square footage utilized
4. Allocated on the basis of sales dollars. A delivery from IDI to a retail
store typically included merchandise from all three departments.
5. Salesperson were paid on a straight commission basis; each one sold of
three lines.
6. Allocated on the basis of sales dollars.
7. An accounting entry that was not limited solely to the cost of financing
inventory; assessed on average in order to motivate department
managers not to carry excessive stocks. This charge tended to be
about three times the company's actual out‐of‐pocket interest costs

The television department's poor showing prompted the company's accountant to suggest that perhaps
the department should be discontinued. "This is exactly why I proposed that we prepare departmental
statement to see if each department is carrying its fair share of the load," the accountant explained.
This suggestion led to much discussion among the management group, particularly concerning two
issues: First, was the first quarter of the year representative enough of longer‐term results to consider
discontinuing the television department? And second, would discontinuing television equipment cause
a drop in sales in the other two departments? One manager, however, stated that "even if the quarter
was typical and other sales wouldn't be hurt, I'm still not convinced we'd be better off dropping our
television line."
Question
What action should be taken with regard to the television department?
*Copyright © James S. Reece.
32


CASE STUDY

 Case 1: Expansion or Diversification?
 Case 2: Flat Cargo Berhad
 Case 3: Flight of Funds
 Case 4: SAP for ATLAM



Case 1
Refer to Asian Journal of Case Research (2011). Volume 4 (Special Issue). UPM Press
Case Study: Expansion or Diversification?
Questions:
1) Using suitable financial statement ratios, assess the profitability, liquidity and solvency
of Carlsberg Brewery Malaysia Bhd.
2) Discuss the financial and non-financial implications if Carlsberg decided to expand

overseas or diversified its products range.
3) Based on the current Annual Report of Carlsberg, did the company make the right
decision?
35

Case 2
Case Study: Flat Cargo Berhad: An Auditor’s Conundrum
Questions:
1) Based on the FCB’s Audit Working Paper, for each finding, what will be the impact to
the assets, liabilities and owner’s equity of the company?
2) Why do you think the FCB has resorted to those dubious transactions mentioned in the
Audit Working Paper?
3) What will be the short term and long term solutions for the company in order to address
these issues?
36

Case 3
Case Study: Flight of Funds
Questions:
1) Describe the differences between a subsidiary, associates, joint venture and simple
invesment. Which category do you think MTT is supposed to be? Discuss.
2) Explain how MoU (Memorandum of Understanding) is different from MoA

(Memorandum of Agreement) in term of its purpose and legal perspective. Can MoU be
made legally binding?
3) As the CEO of Travel Investment Holding Bhd (TIH) how would you handle the MTT
situation? What will be the possible accounting treatment if you decided to close down
MTT?
37

Case 4
Case Study: SAP for ATLAM
Questions:
1) How do you classify software under asset definition? Explain.
2) Using suitable tools, calculate the return on investment if ATLAM decided to install SAP.
3) Discuss the possible ways for ATLAM to reduce the cost of installing SAP.
38

FINAL REVIEW CASES

 THE CASE OF INSURANCE
 PLANNING FOR CHANGE



THE CASE OF INSURANCE, ACQUISITIONS AND DETARIFFICATION
Lee Jia Fuh1, Ahmed Razman Abdul Latiff2 and William G. Borges3
ABSTRACT
The case involves a huge insurance company facing a difficult problem, namely
preparing for a process known as detariffication. The players were well aware of a recent
experience with detariffication, in India, and wished to avoid the significant missteps
taken in that instance. Throughout this paper we highlight individuals and issues facing
the company. This study will, hopefully, provide a model for other companies facing
detariffication—a process which, in an age of globalization, is likely to become much
more commonplace.
Key words: Detariffication, free rating, gross premiums, net premiums, general
insurance, distribution channel, reinsurers, distribution channels.

1
Graduated student from Putra Business School
2
Putra Business School
3
41


PROLOGUE
st
It was a Friday afternoon, 1 February 2013, when Mr. Scott, CEO of Am
GeneralInsurance Berhad, sat in his office overlooking the skyscraper scenery through
his office window, breathing a sigh of relief, as he and his team had just toiled through
sleepless nights over the past three months finalizing the acquisition exercise of Kurnia
Insurance Berhad. Looking confidently at the Insurance Service Malaysia (ISM) reports
on his desk, he brimmed with a smile, as the acquisition made Am General Insurance
Berhad the largest General Insurer in Malaysia.
While he was sipping his coffee, the phone rang. Mr. Bauer, the regional CEO of
Insurance Australia Group, called. He said, “Congrats, Scott, for pulling through the
acquisition. Now we are the largest General Insurer in Malaysia. Hats off to you and your
team. Now, I also understand that Malaysia’s General Insurance landscape is moving
towards detariffication in the year 2016. Can you prepare a three-year plan for me and
the board, indicating your proposed financial strategy to address detariffication? I know it
is three years early, but I don’t want to face this unprepared, like what happened in India.
If you remember, we got burned when India moved to detariffication. I don’t want the
same thing to happen to us in Malaysia. Tell you what; we can discuss the plan once you
th
have it ready for your quarter review meeting at the regional office here on 28
February. Till then, have a great weekend”. As the call ended, cold beats of sweat ran
down the forehead of Mr. Scott, as he recalled how his counterpart in India was burned
because of detariffication four years earlier.

42


Mr Scott then called the COO of Am General Insurance Berhad, Mr Duncan, to
discuss the immediate task given by the regional office. “Duncan, Mr. Bauer wants us to
put through a plan to address the detariff environment in Malaysia. We need to
formulate a financial-strategy plan. I would like you to lead the working team,consisting
th
of senior management, to come out with the draft by 15 February, for me to go through
with the team. It will be a tough battle, as Bank Negara has not provided much insight
about the detariff structure. I hope we can steer through this rough sea once again,” he
concluded in a worrying tone.
BACKGROUND
The company background of Am General Insurance Berhad and Kurnia Insurans
(Malaysia) Berhad spans decades of history in the General Insurance industry. Am
General Insurance Berhad (AmG) is a general insurance business operating under the
Am Assurance brand; it is 51% owned by AmBank Group and 49% owned by Insurance
Australia Group (IAG).AmG's vision is to be the preferred insurer for all insurance
services. Its mission is to provide insurance service to customers as simply and
conveniently as possible. On 26th September 2012, AmBank Group and IAG
International Pty Ltd (IAG) acquired 100% equity interest in Kurnia Insurans via AmG
Insurance Berhad..Its vision is to provide insurance service to customers as simply and
conveniently as possible.
43


THE NEW ENTITY
With a combined underwriting of approximately RM1.7 billion in insurance premiums
each year, AmG and Kurnia distribution channels include over 7,000 agents, supported
by an extensive nationwide branch network, as well as 191 AmBank branches across
the country. It is currently Malaysia’s combined largest general insurer, by gross
premium, and the largest motor insurer, commanding 20.4% of the total motor-market
share in 2012.
THE GENERAL INSURANCE INDUSTRY IN MALAYSIA
Malaysia’s insurance industry is one of the key drivers of the services sector in
the country,and is expected to remain a major contributor to economic growth in the
years to come.
The general insurance industry in Malaysia is regulated by Bank Negara
Malaysia under the Insurance Act, 1996. There are six composite insurance companies
and twenty general insurance companies in Malaysia.
44


The main types of general insurance in Malaysia include Aviation, Bonds, Cargo,
Contractors' All Risks & Engineering, Fire, Liabilities, Marine Hull, Medical and Health,
Motor, Offshore Oil related, Personal Accident, Workmen's Compensation, and others.
Malaysia’s general insurance industry was mostly shielded from the effects of the 2008
global financial crisis which was experienced in developed countries.
Referring to Figure 1, for the period January to December 2012, the general
insurance industry registered gross premiums of RM15.18 billion, an increase of 8.2%
over the same period in 2011. Motor and fire insurance were the two biggest contributors
to general insurance in Malaysia in terms of gross premiums. Motor premiums
represented 46% of total gross premiums in 2012, while fire premiums represented
16.9% of total gross premiums in 2012.
Gross Written Premiums (GWP) in RM billion 15.2

14.0
13.0
11.3 12.0
6.4 6.7 6.0 7.0 6.4 7.6 7.2 8.0

4.9 5.3
2008 2009 2010 2011 2012
GWP Motor GWP Non Motor GWP Total
Figure 1: Gross Written Premiums (in RM billion).
SOURCE: Insurance Services Malaysia (2008 – 2012).
45


Referring to Figure 2, the net-claims-incurred ratio decreased to 57.1% from
60.7% over the same period in 2011. The management expenses ratio was at 20.4% of
net earned premiums, compared to 2011, when the figure was 19.9%. And the combined
ratio improved from 90.3% to 87.4% (Insurance Services Malaysia 2008-2012).
Combined Ratio, Management Expense & Net Claims

Ratio in %
97.9%
92.6% 89.8% 90.3% 87.4%
65.5% 61.5% 60.3% 60.7% 57.1%
22.5% 21.3% 20.2% 19.9% 20.4%
2008 2009 2010 2011 2012
Management Expense Combined Ratio Net Claims Ratio
Figure 2: Combined Ratio, Management Expense & Net Claims Ratio (in %).
SOURCE: Insurance Services Malaysia (2008 – 2012).
46


REGULATORY DEVELOPMENT
In terms of regulatory development, an important recent change was the implementation of
the risk-based-capital (RBC) framework in 2009, which was in line with evolving global
best practices in insurance regulation. Under the RBC framework, all insurers and
reinsurers are required to maintain a capital adequacy ratio (CAR) above the pre-
determined internal CAR. The internal CAR is determined by both the regulated insurance
company and Bank Negara Malaysia (BNM). The internal CAR must not be less than the
regulatory CAR of 130%, which is the absolute minimum imposed by the regulator. The
implementation of the RBC framework was expected to increase insurers’ capital
requirements. Ideally, this would result in an increase on return of equity for insurers and
gives creditors a greater equity buffer, and serve as a more responsive regulatory
framework.
The implementation of the RBC framework is expected to strengthen the standards
of prudential regulation in the insurance industry and to align individual insurers’
solvency and capital positions according to their respective individual risk profiles. This
will also enable the deployment of more transparent risk-adjusted capital and valuation
requirements within the industry, and through it promote the rationalization of
underwriting businesses.
47


CONSOLIDATION OF THE INDUSTRY
In April 2009, the government announced a liberalization plan for Malaysia’s
insurance industry, which allowed foreign equity participation in insurance companies
up to 70%. It also allowed foreign incorporated insurance companies and takaful
operators to set up branch offices nationwide, without restrictions.
As a result of the liberalization plan, the industry saw active consolidations in the years
after April 2009. The liberalization of the industry is expected to intensify competition
in an already fragmented industry, where the top five general insurers accounted for
43% of Gross Premiums collected in 2012.
DETARIFFICATION
In Malaysia, the premium for both Motor and Fire insurance are dictated by a
tariff regime. The tariff spells out the premium rates and coverage levels established by
Bank Negara Malaysia. Detariffication means that the premium pricing of insurance
policies is dictated by the insurance companies, rather than by rule-based tariffs
determined by Bank Negara.
Since 1978 the motor tariff has been unchanged. In the year 2012, a revision was
implemented which was in line with the New Motor Cover Framework that was aimed at
ensuring continuous and sustainable motor protection to consumers purchasing motor
insurance. However, the revision of the tariff was adjusted to less than 1% of the general
premium in the motor segment. This was seen by many as insufficient to weather the
high claims ratio and the combined ratio of motor insurance.

48


This new measure was expected to lead the way for detariffication of the motor
insurance sector in Malaysia by 2016, according to an announcement by Bank Negara on
January 2012. Accordingly, motor premium rates were expected to be differentiated
according to the risk profiles of individual vehicles, to ensure fairness to consumers. The
proposed detariffication in the general insurance industry would, therefore, lead to a

major shift in the focus of the companies.
THE WORKING TEAM’S FIRST MEETING
Mr. Duncan called for the working team meeting immediately after a brief
meeting with Mr. Scott. As the working team leader, Mr. Duncan briefed everyone on
what transpired between his meetings with Mr. Scott. He then proceeded to say, “I know
we are fighting an unknown beast here, where information is limited, but let’s start with
what we have first. I need Mr. Mok from the Risk Department to look at the impact of
detariffication in other countries around Malaysia, if possible, and to brief the team on
the key takeaways which we could learn. And Mr Lim, please prepare the financial
numbers for both AmG and Kurnia. Finally Mr Chin, (Chief of Market Management),
please prepare the market performance analysis and activities reports for both
companies. Let me know your findings by end of this week. The next working team
meeting should be held next week, to discuss the team’s findings.”
49


THE IMPACT OF DETARIFFICATION
After examining the report prepared by Mr. Mok, Mr. Duncan saw that it
described the impact of detariffication in three countries in the Asia Pacific region:
India, China and Japan. In India, all classes of business had been detariffed gradually,
except for mandatory motor third party liability (MTPL) insurance.
The consequence of detariffication was that Marine Insurance’s premiums for
coverage fell drastically. And fire—which had been the most profitable class of business
before detariffication—experienced dramatic declines in premiums. Motor premiums,
involving one of the largest classes of insurance in India, saw an enormous drop for own
damage premiums, resulting from price competition. Figures below depict Indian
underwriting results during the detariffication period.
50


India Underwriting Results
Detariffication of
Detariffication of Fire, Engineering,
Marine Hull Motor
86.0%
85.0% 85.0% 85.0%
83.0%
81.0% 425.8
346.2
303.5
77.0% 278.8
249.1
203.6
174.8
2005 2006 2007 2008 2009 2010 2011
GWP Claims Ratio
Figure 3: India’s Underwriting Result, GWP (in INR billion) and Claims Ratio (in %)
SOURCE: IRDA Handbook (2005 – 2011).
In China, the Insurance Regulatory Commission (CIRC) was established in 1998, and it
imposed a tariff on motor insurance. With its admission to the World Trade Organization
(WTO), and liberalization of the insurance industry, the general insurance tariff was
detariffed beginning January 2003. As a result, the market experienced a “red ocean,”
where premiums fell to nearly half of the tariff rate before detariffication. Motor
premiums represented more than 50% of the total premiums in the overall Chinese
market, and over 80% of the portfolio for some of the smaller companies, where it
provided vital cash flow to fund operations. Thus, the sharp premium drop affected
solvency in the industry, especially for the smaller players.
51


Due to the alarming level of insolvency which resulted, CIRC re-imposed tariffs
on the motor-mandatory third-party liability coverage, in 2007. The rates for all
policyholders were fixed at a break-even level. Figure 4 shows how the Chinese
underwriting results slowly improved throughout the years after reimposition of the
tariff.
China’s Underwriting Results
Re-impose tariff
462.2
109.4% 108.2%
104.3% 103.5% 402.7
98.2%
299.3 97.7%
244.6 96.7%
208.6
158.0
128.1
2005 2006 2007 2008 2009 2010 2011
GWP Combined Ratio
Figure 4: China’s Underwriting Results, GWP (in RMB billion) and Combined Ratio
(in %) SOURCE: CIRC, China Insurance Year Book (2005 – 2011).
In Japan, the Non-life Insurance Rating Organization (NIRO) once established
rates that insurers were required to charge. In 1998, detariffication of the market allowed
free rating, and, consequently, changes in coverage.
52


In the new market, companies improved service and enhanced products as a
means of attracting and retaining more customers. However, intense competition in
commercial lines led to premiums falling by as much as 30%. Personal lines were split
into two major groups, based on differentiated products and pricing (both with healthy
profitability). Multinationals and small domestic companies lowered rates, and moved to
new and cheaper distribution channels (e.g., the Internet, and other direct-marketing
channels). Large domestics companies changed policies to improve and increase
coverage and charge higher rates, commensurate with the coverage provided.
In general, companies had to reduce costs and improve efficiencies to compete.
The industry looked to consolidation in order to reduce expenses. At the time of
detariffication, there were more than twenty general insurance companies operating in
the market. At present, there are only ten.
TAKEAWAYS FROM THE ASIAN DETARIFFICATION EXPERIMENT
After reading the report, Mr. Duncan looked worried, as the impact of
detariffication in these three countries was not positive. He also realized that falling
premium income, without a concomitant reduction in claims, would almost certainly
bring down the profits of insurance companies, their solvency ratios, and, consequently,
their international ratings. This would affect their reinsurance placements and
underwriting capabilities. Only the fire-risk business was profitable, based on current
tariffs, and the profit margins in this segment would be put to a severe test due to
competitive pressures.
53


Hence, insurers needed to scale up their risk-assessment capabilities, and give the
underwriting function its due importance in the insurance process. The only way
insurance companies could make profits and, thereby, maintain their solvency ratio—
without going back to their shareholders—would be by prudent underwriting.
MARKET PERFORMANCE
Browsing through the market performance report prepared by Mr. Chin, Mr.
Duncan noted that the merger of AmG and Kurnia resulted in the highest gross
premiums, net premiums and net earned premiums in the industry.
54


NET PREMIUMS
From Appendix II, it is clear that AmG, together with Kurnia, also enjoyed the
highest net premiums in the industry. Net premiums are gross premiums less premiums
that were ceded to reinsurers. With 13.9% of the market share for year 2012, the motor
portfolio contributed the highest amount, with 20.4% of the total market share. In the
non-motor segment, AmG and Kurnia’s combined market share was only 5.0%.
Market Share by Net Premiums
AmG +
Kurnia
Other
14%
29%
Allianz
11%
MSIG
Zurich 10%
4%
AIA
4% Tokio Marine
ACE Jerneh Etiqa 7%
5% Lonpac AXA Affin
5% 5% 6%
Figure 5: 2012 Market Share by Net Premiums
SOURCE: Insurance Service Malaysia Report 2012.
55


NET EARNED PREMIUMS
From Appendix III, it is clear that AmG, together with Kurnia, also enjoyed the
highest net earned premiums in the industry. Net earned premiums are the net premiums
earned over a period of time, based on the ratio of time passed. AmG and Kurnia
combined commanded 13.6% of the market share for the year 2012. This was mainly
contributed by the motor portfolio, where AmG and Kurnia maintained 19.6% of total
market share. In the non-motor segment, AmG and Kurnia’s combined market share was
only 5.2%.
Market Share by Net Earned Premiums
AmG +
Kurnia
Other
14%
29%
Allianz
11%
MSIG
10%
Zurich
4%
AIA
4% Tokio Marine
ACE Jerneh
7%
6% Lonpac Etiqa AXA Affin
5% 5% 6%
Figure 6: 2012 Market Share by Net Earned Premiums

56


Mr. Duncan noted that new-auto sales in Malaysia grew 4.6% in 2012, which was a
record high, with total industry volume (TIV) at 627,753 units. 2012 passenger vehicle
sales increased 3.2% year-on-year, to 552,189 units, while commercial vehicle sales
jumped 16.2% to 75,564 units. Furthermore, MAA (Malaysia Automotive Association)
forecast the TIV to grow to 640,000 units in 2013.
FINANCIAL PERFORMANCE
Referring to Appendices IV & V, Mr. Duncan glanced through the financial
report that was prepared by Mr. Lim. The numbers looked promising, with solid growth
on the top line and bottom line for both AmG and Kurnia.
Over the past four years, AmG’safter-tax profit had steadily increased--by RM
86.561 million from 2009 to 2012—and this translated to a CAGR of 30.62%. For
Kurnia, after-tax profit grew slightly, to RM 86.619 million from 2009 to 2011, for a
CAGR of 0.97%. This drop was due to a drop in gross premiums and net earned
premiums in 2010 from 2009, as shown in Figure 7.

57


Profit After Taxes in RM

millions
86.62
84.14 58.71 85.56
39.90 69.86
29.39 48.76
2008 2009 2010 2011 2012
-295.22
Kurnia AmG
Figure 7: Kurnia and AmG Profit After Taxes (in RM millions)
SOURCE: Kurnia and AmG Financial Reports (2008 – 2012)
ACTIVITIES OF THE TWO ENTITIES
AmG and Kurnia were engaged principally in the underwriting of all classes of
the general insurance business, which was built primarily on the motor business. Figure
8 and figure 9 reflect the business mix of both AmG and Kurnia.
58


AmG's Premiums by Line of
Business in RM millions
1.69
Workmen
2.45
Personal Accident
23.44
25.63
15.35
Others
19.53
502.09
Motor
573.06
2.05
Health
2.20
0.63
Liabilities
3.98
27.78
Fire
48.00
0.96
Engineering
9.00
Marine & Cargo 3.92

8.36
Net Earned Premium Gross Premium
Figure 8: AmG’s 2012 Net Earned Premiums (in RM millions) and Gross
Premiums (in RM millions) by Line of Business (SOURCE: Insurance Service
59


Kurnia's Premiums by Line of Business in RM millions
Workmen 12.62
14.14
Personal Accident 50.05

52.13
Others 16.82
23.64
Motor 648.54
896.49
Health 32.49
34.35
Liabilities 6.10
14.61
Fire 19.66
55.50
Engineering 2.92
21.70
Marine & Cargo 5.22

8.22
Net Earned Premiums Gross Premiums
Figure 9: Kurnia’s 2012 Net Earned Premiums (in RM millions) and Gross Premiums
(in RM millions) by Line of Business
60


Many Malaysians had affiliations with AmBank, which AmG serves as its
Bancasurance channel. Kurnia had worked closely with agents and had many initiatives
with agents, it served the agency channel. Mr. Duncan recalled that the regional office’s
directive, during the merger discussion, was to maintain the winning strategy in place,
by maintaining the AmG and Kurnia brands in the market, and benefiting from the
continuity of each brand’s customers, as both of these brands serve different segments
of the market. Figure 10 shows the gross premiums of both AmG and Kurnia by
distribution channels.
Distribution Channels
Banca
25%
Agency
39%
Banca
61% Agency
75%
AmG Kurnia
Figure 10: AmG and Kurnia Distribution-Channel Mix 2012
SOURCE: AmG and Kurnia Financial Reports 2012.
61


Looking at the business mix, it perhaps seemed clear that each served a different
distribution channel. However, he noted that it was also important to minimize channel
conflict.But how?
Both AmG and Kurnia have extensive branch networks nationwide. How,
though, could the strengths of each company work for the common good? Table 8
(Appendix 8) shows the branch networks for AmG and Kurnia.
EPILOGUE
Looking at the pre-meeting reports prepared by his team, Mr. Duncan was, to say
the least, perplexed. What does the company need to do? If he is not sure, how could he
effectively address others at the next meeting? He knew the pitfalls of doing nothing, or
of repeating mistakes of the past. But how could he chart a course for the future that
would prove a safe strategy?
62


REFERENCES:
Insurance Services Malaysia (2008-2012).
IRDA Handbook (2005-2011).
CIRC---China Insurance Year Book (2005-2011).
Insurance Service Malaysia Report, 2012.
Kurnia and AmG Financial Reports (2008-2012).
63


64


PLANNING FOR CHANGE IN A COMPANY RIDDLED WITH
PROBLEMS
Kee Sek Cheiw1, William G. Borges2 and Ahmed Razman Abdul Latiff3
ABSTRACT
Easy Power Electrical Central (EPC)4 is a sole proprietorship owned by Chen Wha5.
This case study describes a scenario involving a company in critical financial shape,
suffering poor financial performance due to market competition, high interest
expenses, bad debt, poor employee morale and weak cash flow. The proprietor
possessed limited financial knowledge. This case study identifies some problems,
and highlights some key company practices. As the reader will see, the root cause of
poor performance faced by EPC cannot be neatly summarized, but stems from the
failure to address issues of profitability, as well as inefficient human resource
management, unsustainable non-performing debt, and lack of proper marketing
strategies.
Key words: Sole proprietorship, personal liability, non-performing debt,
calculating profitability, gross profit margin, debt-to-equity.
1
Graduated student from Putra Business School, UPM
2
3
4
Name of company has been disguised
5
Name of proprietor and characters have been disguised
65
PROLOGUE
Chen Wha, 57, was the sole proprietor of Easy Power Electrical Central
(EPC) in Sungai Petani, Kedah. On 7 February 2012, one week before Chinese New
Year, he decided to give bonuses to his employees. After arriving at work one hour
early that day, he went through the bank account record sand was shocked to learn
that the account balance was –RM 338,000—very close to his overdraft limit of RM
350,000. At same time, he noticed that some utility bills and bank installments were
not yet paid. Chen then said to himself, “Oh no! How can this happen? If I don’t
pay bonuses, many employees will surely leave the company. Oh God. Please help
me, I can’t let EPC collapse.”
COMPANY HISTORY
Easy Power Electrical (EPC) was established as a partnership in 1975 by
Chen Wha, his father Kwang and his brother, Seng. EPC was the first electrical
shop providing professional wiring services, light installation, and trouble shooting
for manufacturing plants and residential houses in Sungai Petani, Kedah. EPC also
sold electrical items, such as generator motors, pump motors, lighting and fans.
They had only minor competition from 1975 until 1988, and during this
period enjoyed good profits. Consequently, they expanded their business and
employed ten electrical supervisors, sixteen electrical technicians and one clerk, and
also hired Chen Wah’s sister-in-law as a manager in 1988.
Problems started after Chen Wha’s father passed away in 1990. Many
electrical supervisors and electrical technicians left the company and formed their
own sole proprietorship, directly competing with EPC. The situation became worse
66
when supervisors and technicians managed to attract some of EPC’s customers by
offering cheaper service charges.
Chen Wha and his brother, Seng, continued to run the business operations,
but they faced a very serious economic crisis, as did other Malaysian businesses.
During the period 1997-1999 the company ran into significant financial trouble.
Many of the company’s debtors faced insolvency, which resulted in a huge increase
in debt and a huge decrease in revenue. However, EPC enjoyed profitability by
2000, and this continued until 2008 and 2009, when the company once again relied
on overdrafts, as they had from 1997.
In February 2009, Chen Wha’s brother decided to quit the business, and
Chen Wha used a bank overdraft of RM250,000 to buy him out. Afterward, Seng
formed a sole proprietorship, Easy Power Excellent Electrical, and brought with
him the main customers of EPC. It is important to note that once his brother left
EPC, that company became a sole proprietorship fully owned by Chen Wha—and,
as a result, Chen Wha had unlimited personal liability and faced business risks.
Indeed, his entire financial future was in jeopardy..
EPC’s business units consisted of a unit for professional wiring service, one
for installation of electrical and electronic parts, one for repairs and maintenance of
motors, to deal with Tenaga National Berhad (TNB), one for retail electronic and
electrical items, and one to troubleshoot electrical problems. To handle all of this
Chen Wha employed two local workers and his elder son, Tong, as electrical
supervisors, three foreign electrical technicians, one general worker, his daughter,
Kim, as clerk; and his son, Guang, as the manager. The Organization Chart of EPC
of February 2012 is shown in Figure 1.
67
Figure 1: Organization Chart
COMPANY LOCATION
Sungai Petani (Appendix 1) is a town in the state of Kedah, in the northern
part of Peninsular Malaysia. Sungai Petani is the largest town in Kedah, followed
by the state capital, Alor Setar.
Since the 1990s the housing sector had boomed in Sungai Petani. The town
had large investments from real estate developers. Sungai Petani had many high-,
medium- and small-sized businesses. These companies produced numerous
products, from semiconductors and television tubes to textiles and wood products.
68
THE PROPRIETOR’S BACKGROUND
Chen Wha’s education did not extend beyond secondary school. And his
knowledge of financial matters was very limited. He lost approximately RM
100,000—nearly his entire savings—in 1997 because, after receiving a tip from a
friend, from his bought shares of a company without analyzing the company’s
fundamentals. The company on which he gambled eventually fell into PN-17 and
was de-listed.
According to Chen Wha’s clerk, Shin Tian, Chen Wha owned a current
account under his name, and saved in that account, even though it did not yield any
interest—even while EPC was having an overdraft. Furthermore, Chen Wha did not
understand how to calculate the profitability of transactions after the deduction of
material costs, labor costs and bank interest—and he had no idea how or why
interest rates changed.
MANAGEMENT AND DAILY OPERATIONS
Guang, Chen Wha’s son, was named manager at age nineteen, one year after
completing his SPM exams. He had no prior working experience, and possessed
only limited fluency in English and Malay. However, he proved to be a very hard
worker, and he displayed good social skills.
On 17 March 2009, one month after Chen Wha took over EPC,Guang
approached him with a very serious question: “Dad, after paying RM 250,000 to my
uncle, we are almost out of funds. How are we going to survive, since we need to
pay cash for raw materials and can collect only after jobs are completed?”.Guang
also inquired about the mechanics of pricing (e.g., how to identify whether a given
price is enough to cover costs).He learned from his father that it is often possible to
collect early payments by giving customers discounts.
69
Chen Wha explained how this worked in the past: “Normally (technician
clerk) Shin Tian will summarize the cost of materials and I will charge an extra 30-
80% on it. Charges for installation and troubleshooting are based on job difficulty
and the time it takes to complete. If a customer complains about the price I offer, I
will give a 5-10% discount on the total amount. Even when we give customers 5-
10% discounts we still earn some profit, because the offered price is still higher
than the cost of materials. And if we are able to give a customer a discount, we
could end up retaining a customer. We also might give a customer another 2-3%
discount, if the customer is willing to pay cash. The objective is to encourage
customers to pay cash. Otherwise they must pay within sixty days of the signed Job
Delivery (JD).”
Then Chen Wha explained further: “After we get the job, we will assign
manpower to it. If something else is needed to continue the work, they either go to
EPC directly or go to the supplier. After the job is completed, they will go back to
EPC and report what they have done, and everything will be recorded by the clerk
in the signed JD. They need to send the JD to get the customer’s signature, after
which the payment will be made.”
Chen Wha then discussed rate variations among customers: “There are
different charges for different customers. We charge only 5% more than the total of
material sand contract-worker wages for new housing-development projects. A
standard rate is given to manufacturing plants and regular customers. A higher rate
or a flat rate is charged to walk-in customers, because a majority of these customers
will ask for some electrical installation. When quoting prices, it is a must to refer to
the historical prices first. Charges should not be much different compared to those
given historically.”
70
Guang then asked: “Where should we find the customers?” Chen Wha’s
answer was this: “So far we have not done any promotions in any channel; we are
the first electrical shop in Sungai Petani, and we are well-known. If we are able to
provide good job-quality and competitive prices, customers will look for us in the
future. However, you must try your best to find new customers, since we have
already lost some of our existing customers, and some of our other customers are
looking to our competitors.”
Guang then asked: “Then how many customers, or how much in sales, do I
need in order for the company to survive? What are our average sales in a month?”
Chen Wha replied that “Well, you don’t need to care about the minimum sales
needed to break even; just try your best to find new customers. We don’t not have
any targets or budgets, either monthly or yearly. You may, however, ask Shin Tian,
if you want to know more about monthly sales.”
WHERE DID THE MONEY GO?
Shin Tian and Kim were clerks who assisted Chen Wha in managing the
company’s accounting. Shin Tian had more than ten years’ experience in
accounting for enterprise, and four years’ working experience with EPC. However,
Chen Wha’s daughter, who Wa seventeen and just finished her SPM, Was only able
to record accounting data and do simple documentation.
Shin Tian and Kim keyed into the UBS accounting system all accounting
data and process the data for accounts receivable, customers’ monthly statements,
financial reports, and other accounting reports. But because EPC workers lack
sufficient accounting knowledge, the annual financial report was outsourced to an
accounting firm,in order to minimize the company’s tax liability.
71
On 26 April 2012, Shin Tian and Kim were doing the monthly closing, and
printing customers’ monthly statements. They were also preparing Chen Wha’s
income tax declaration. During all of this Kim asked, “Shin Tian, why do we need
to install this UBS accounting system, which costs RM12, 000,instead of recording
manually by using Microsoft Excel?.” Shin Tian replied: “Although installation of
UBS is costly, it is the most popular accounting software in Malaysia, and is famous
for its easy-to-use features and great flexibility. Furthermore, it comes with UBS
Assets Register, which is a handy tool for managing the fixed assets and calculating
depreciation. It helps a lot in generating reports for our income tax agent and with
monthly closings.”
Kim then inquired, “What will we do with the report generated by using
UBS—and why we still need to appoint the income tax agent to declare my dad’s
income tax, since we are able to prepare financial reports?” Shin Tian offered the
following response: “Normally, generated monthly reports are kept on file. We
appointed an income tax agent because neither Chen Wha nor I are familiar with
income tax regulations and I’m not strong in accounting. My highest education is
SPM level, and I am unable to do the analyses on financial reports.”
Kim then asked, “Shin Tian, why, when we made a profit in March 2012, is
EPC’s OD still increasing? And why does the account show my father’s personal
account as aEPC current asset?”Shin Tian laughed and replied, “This is a sensitive
question. “Did you notice the cash withdrawals amounting to RM5500 on 21 March?
Actually, it was withdrawn by your father due to his high commitments.
Furthermore, he used the OD in EPC to pay RM 250,000 to your uncle, when he
left the business. This is the reason you saw his personal account listed as an EPC
current asset. To a certain extent, your father is an EPC debtor.”
72
Kim thought about this and asked, “Since my father’s personal current
account has some money, why doesn’t he want to transfer the money to lessen
EPC’s OD, in order to reduce the interest? The monthly interest is about RM2300.”
Shin Tian then explained, “Bank interest is costly because Chen Wha used the
overdraft facility from RHB bank. RHB charges interest of the Base Lending Rate
(BLR) +1.75; the BLR on 1 January 2009 was 5.55%, and was adjusted to 5.80% in
March 2010. The interest was further adjusted to 6.05% in May 2010, and to 6.30%
in July 2010. The latest BLR is 6.6%, due to an adjustment in May 2011.” He added
this:“RHB bank provided an overdraft line of RM 350,000, with a mortgage on
EPC’s premises; this was based on a market value of about RM 200,000, in 1997.
The interest rate was reviewed, and lowered, by RHB, after Chen Wha claimed that
he might shift his account to another bank, since RHB’s interest was high when
compared to other banks. The new interest rate offered by RHB bank was BLR +
1.65, in May 2011. Thus, Chen Wha was satisfied with the new interest rate, and he
was very happy that he had successfully convinced the bank to offer a better rate.
However, 8.25% compounded interest is still relatively high on a fixed loan.
Regarding why Chen Wha does not want to transfer money from his current
account to reduce the interest, that is a personal matter, and I am not in a position to
give any advice. He is sole proprietor. He is legally withdrawing the money from
EPC, although it results in high interest and a tight cash flow.”
The summarized income statement and balance sheets for EPC for 2009,
2010 and 2011 are shown in Table 1 and Table 2. EPC had losses RM 21,444.77 in
2009, made a profit of RM 3798.58 in 2010, and lost RM 9025.29 in 2011.Total
assets decreased from RM 1,391,234.92 in 2009 to RM 1,247,111.47 in 2010, and
73
to RM 1,180,314.92 in 2011. Liabilities decreased from RM 1,079,578.76 to
RM931, 656.66 and RM877,949.70
Table 1: Income Statement of Easy Power Electrical Central for Years Ending
31 December (2009-2011)
2009 2010 2011

Revenue 1,055,671 1,153,072 839,691
less opening Stock 40,510 32,500 35,000
Purchases &
381,603 593,589 503,824
Hardware
422,113 626,089 538,824
Less Closing stock 32,500 389,613 35,000 591,089 34,500 504,324
Gross Profit 666,058 561,983 335,367
Add Other Income 158,450
493,817
Less Expenditures
Advertisement - 100 789
Accounting fee 560 480 480
Allowance &
20,457 21,369 18,735
Overtime
Bank Charge 287 140 119
bank Interest 21,869 14,380 23,157
bonus & Red Packet 11,800 17,400 5,560
Contract Wages 297,252 190,681 153,579
Electricity and water 12,722 2,552 9,441
EPF 11,580 14,257 13,300
Food Allowance 240 1,660 2,788
Handling charge 35 - 130
Insurance 886 886 890
Interest (Finance) 5,092 4,365 2,100
Motor Fuel & Oil 21,425 10,513 15,296
Medical Fee 1,614 2,285 3,012
Newspaper 444 413 341
Office Expenses - 430 108
Quit Rent &
885 835 833
Assessment
Road tax & Insurance 4,063 6,670 4,137
Repair Maintenance-
18,018 13,114 16,229
car
Rental (hostel) 1,800 1,950 980
Stationery & printing 1,234 1,886 404
Socso 2,635 3,246 2,218
Sundry Wages 5,100 1,600 600
Salary (Proprietor) 54,000 60,000 60,000
Salary (employee) 154,805 160,170 148,496
74
Transport & Travel
3,568 62 56
Charge
telephone Charges 9,756 5,355 6,962
Uniform for worker - - 600
Upkeep: Air cond,PC - - 735
Depreciation 23,927 12,833 10,768
Donation 200 - -
Foreign Worker Levi
1,250 3,400 -
fee
Late Interest Charge - 1,344 -
Licence - 930 -
Worker
- 687,503 2,880 558,185 - 502,842
Accommodation
Net Profit/ Loss -21,445 3,799 -9,025
75
Table 2: Balance Sheets of Easy Power Electrical Central on 31 December
(2009-2011)
2009 2010 2011

Non-Current Asset 405,605 397,351 393,741
Current Asset
Closing Stock 32,500 35,000 34,500
Deposit 1,143 1,143 1,143
Bank 119 119 119
612,02 668,09 624,97
Trade Debtors
2 8 3
Sundry Debtors 24,928 22,665 23,830
314,83 122,43 100,79
Personal C.Account
6 4 3
Cash in Hand 81 985,630 301 849,761 1,215 786,574
1,391,23 1,247,11 1,180,31
5 1 5
Current Liabilities
Accruals 11,026 20,849 77,126
621,66 569,72 502,36
Trade Creditors
9 4 2
206,35 263,16 230,52
Bank overdraft
2 2 2
179,47
Sundry Creditors 36,278 36,305
5
1,079,57
Car loan 61,056 41,644 931,657 31,636 877,950
9
Owner Equity
Capital 500,000 500,000 500,000
Profit & lost account

- - -
Balance b/d 166,89 188,34 184,54
9 4 5
Profit/loss for the
-21,445 3,799 -9,025
year
- - -
188,34 184,54 193,57
4 5 0
Drawings (Income - - -
- 4,064
Tax) 188,344 184,545 197,635
1,391,23 1,247,11 1,180,31
5 1 5
76
HARD WORK AS CHARITY?
Guang identified a declining trend with trade creditors, with no significant
changes to its trade debtors. He felt Chen Wha was too kind to his debtors. Thus he
printed out the Top 7 EPC debtors, shown on Table 3. He was shocked when he saw
the total debt of RM 437,989.99, which not been paid for more than two years.
Table 3: EPC Top 7 Debtors as off 31 December 2011
NO COMPANY AS AT 31/12/2011
1 MANICHI ELECTROCNIC (M) SDN BHD 17,680.00
2 EARN EXTRA SDN BHD 297,828.63
3 WINNER FIBRES IND SDN BHD 40,365.01
4 LEGEND DEVELOPER SDN BHD 20,544.75
5 KACANG PUTIH SDN BHD 25,571.60
6 PEMBINAAN BUMI (S) SDN BHD 21,950.00

7 SIVARAJAN CONSTRUCTION SDN BHD 14,050.00
TOTAL 437,989.99
Chen Wha checked with some legal consultants, and appointed a legal firm
to issue a lawyer’s letter to the debtors in January 2009. He got a response from
PEMBINAAN BUMI (S) SDN BHD only; the installment was paid. But he
received no responses from the others. And thus far Chen Wha had not taken any
further action.
Guang took the printed report and showed it to Chen Wha. He said to him, “Dad, I
found a way to increase our working capital. If we manage to receive 75% e total
owed by these top seven debtors, we can settle the bank OD.” Chen Wha read the
printed report and replied, “I tried before, and it is not as easy as you think. Earn
77
Extra SDN BHD is a company that registered under my name. I had legal letters
issued to the other six debtors, but I only got feedback from PEMBINAAN BUMI.
It will be very costly if I take further action against the other five debtors.”
He continued, “Besides, I heard that MANICHI and SIVARAJAN are
bankrupt. Even if these companies have not gone into bankruptcy, what will happen
if we win the cases and the companies are not able to pay? There is a possibility that
these companies were just SDN BHD with only a RM 2 issued share capital. If so,
we still need to pay the legal fees. Thus, it is better to convince them to pay back the
money rather than take further action.”
Guang was disappointed with Chen Wha's position. After hearing it, he
slowly took out the refinancing plan shown in Table 4, that was offered by several
bankers. He then asked Chen Wha, “Why don’t we refinance the Bank OD with a
fixed loan?” Chen Wha took a few minutes and then said, “Interest is not a big deal
to business in the world. Do you really think everything will be fine after
refinancing the loan? Please concentrate on finding new customers.”At that point,
Guang quietly left the office.
78
Table 4: Bank Offer- Personal Loan Plan for Chen Wha
Bank \ Property EPC Shop

Value 350000
Borrowing Margin 80%
UOB Bank Borrow amount 280000
Interest BLR - 2.1
Installment period 35 years
Value 280000
Public Bank Borrow amount 224000
Interest BLR - 2.2
installment period 30 years
Value 350000
Maybank Borrow amount 280000
Interest BLR - 2.1
installment period 30 years
*UOB and Maybank are using the same values.
79
A COMPANY OUT OF CONTROL
EPC provided professional electrical services. Most of the time the electrical
supervisors and technicians worked in the clients’ premises . This had been a
challenge for Guang-- managing and supervising employee performance.
Sometimes he did spot-checks and found that two employees were not in
their working areas during their working hours—and the next working day, the
employees both claimed two hours’ overtime pay. This made Guang very angry,
and he reduced the overtime pay for the two employees, for that particular month,
and followed by punishing all employee by not allow overtime from then onward.
Over the next three months employees frequently appealed to Chen Wha, as
the overtime pay-cut significantly affected their income. Finally, Chen Wha allowed
employees to claim overtime again.
Additionally, some employee had been caught doing personal things during
working hours (e.g., bank transactions, shopping, resting at mamak restaurants,
staying home, etc.). Once they were caught, the employee would have plenty of
excuses, and most of the time they had only been warned.
Furthermore, some employees accepted jobs from customers privately, by
offering them cheaper rates. This directly injured the company (and was illegal!).
The employees, when caught, argued that they did such things only after their
working hours, and that the company should not interrupt their dealings. As a result,
some customers would not deal with EPC, as they preferred cheaper charges over
ethical behavior.
Again, Guang felt that he had to do something to stop this kind of behavior.
He went to Chen Wha with the report which showed the salary structure and job
80
descriptions, as in Table 5. He said, “Dad, we have to do something. Yesterday I
met Azlan in Ambank at 10.30am. He was doing some kind of bank transaction.
But I called him fifteen minutes earlier, and he had told me he was troubleshooting
in Hai Tong SDN BHD—which is more than ten kilometers from the bank. He was
cheating the company.”
He continued: “Also, I saw Terry last Wednesday at five p.m., on the way
back to his house on a bicycle, but the next day he reported that he did three hours’
overtime. They lie to me and they cheat the company! We must do something to
control this situation. What can we do to punish them, and stop this from
happening?”
Chen Wha replied, “How come this happened again? I already told them to
be hard working, and that I will reward them big better bonuses. The only thing we
can do is spot-check more frequently. We can do nothing else because we cannot
afford to lose any one of them. Also, you inform Terry that his overtime for this
month will be fully deducted.”
Guang concluded: “I understand that overseeing employee performance is
part of my job, and I think that the current system is not sufficient to improve
performance and progress. Currently we have a kind of unofficial ‘reward system.’
The year-end bonuses are already a reward system; if we have another reward
system it will incur extra cost. I understand you are trying to do help the company,
but the employees will only try their best to take advantage of us. Furthermore, I
know that some of them have accepted private jobs from our customers. So I don’t
think now is the time to increase employee benefits.”
81
EPILOGUE
Chen Wha met with the financial consultant from Intra Harta Sdn. Bhd., to
objectively identify the causes for the company’s poor financial performance, and to
improve cash flow and improve employee efficiency. Chen Wha promised himself
that he would not let the EPC business collapse, because this was also his father’s
accomplishment. He resolved that he would turnaround its operation. But what were
the problems he needed to address? Why were so many workers leaving? Why were
workers more loyal to the company when it was led by the owner’s father? And is
the business sustainable? If so, what steps need to be taken?
82

SUGGESTED ANSWERS
TO MINI CASES

 Mini Case 1: California Creamery
 Mini Case 2: Import Distributors, Inc.



Mini Case 1: California Creamery*
Purpose of Case
This case provides a simple setting that illustrates activity-based cost (ABC) principles and the effects
that such a system can have. It can be used as an exam case when the examination period is short.
Students who understand ABC principles well can read the case and answer a basic set of questions in one
hour.
*
This teaching note was written by Kenneth A. Merchant.
85

Suggested Assignment Questions
1. Compute the full production cost (per gallon) of the Polynesian Fantasy and Vanilla products using:
a. Will’s old costing method;
b. The new costing method (Louise’s suggestion).
2. What are the effects, if any, of changing the company’s costing method? Specifically, are the
differences between the two costing methods material in terms of:
a. their effect on individual product costs?
b. their effect on total company profits? (Assume no changes in any operating decisions,
such as prices and production volumes.)
If there are material differences, why do they exist? If there are no material differences, why do they
not exist?
3. What should Will do now? Explain.
Question 1
Under the old system, the only difference shown between the costs of Polynesian Fantasy and Vanilla ice
creams was due to the $.20 difference in direct material costs (see Table 1). The overhead rate was 200%
of direct labor dollars ($600,000 ÷ $300,000).
Table 1
Old System Costs

DM 2.00 1.80
DL 1.20 1.20
1.20 * 1.20 *
OH 2.40 200% 2.40 200%
5.60 5.40
The new system costs took some calculating. Table 2 shows the calculation of the cost driver rates. Table
3 uses these rates to calculate the product costs. The total costs for Polynesian Fantasy and Vanilla are
$9.07 and $4.64 respectively.
Table 2
New System—Calculate cost drivers
Activity Budgeted Activity cost driver Budgeted Cost driver

Cost activity rate
Purchasing $80,000 Purchase orders 909 $88.01
Material 95,000 Setups 1,846
handling 51.46
Blending 122,000 Blender hrs 1,000 122.00
Freezing 175,000 Freezer hrs 1,936 90.39
Packaging 110,000 Packaging machine hrs 1,100 100.00
Quality control 18,000 Batches 286 62.94
Total mfg OH 600,000
cost
86

Table 3
New System—Calculate product costs
Purchasing (2,000/50) = 40 $3,520.40 (100,000/1,000) = 100 $8,801.00

Material
handling 3 * (2,000/100) = 60 3,087.76 3 * (100,000/2,500) = 120 6,175.20
Blending (36 min * 20)  60= 12 1,464.00 (18 min * 1,000)  60 = 300 36,600.00
Freezing 1 hr * 20 = 20 1,807.85 1 hr * 1,000 = 1,000 90,390.00
Packaging (18 min * 20)  60 = 6 600.00 (12 min * 1,000)  60 = 200 20,000.00
Quality
control (2,000/100) = 20 1,258.80 (100,000/2,500) = 40 2,517.60
TOTAL $11,738.7 TOTAL $164,488.8
OH 6 OH 0
2,000 100,000
gallons gallons
TOTAL TOTAL
OH per OH per
gallon 5.87 gallon 1.64
DM 2.00 1.80
DL 1.20 1.20
Total Total
cost per cost per
gallon $9.07 gallon $4.64
Question 2
Cost system designs have no effect on real product costs—whatever those real costs are is not affected by
what the cost accountants are doing. However, there is a material difference between the costs revealed by
the two cost models. Will’s understanding of reality would improve materially if he adopted the new cost
system. The new cost system is a better cost model. The differing cost effects of machine times and batch
sizes are averaged out in the old system.
Until and unless operating decisions are changed, the effect on total company profits of switching to the
new cost system would be zero. All the differences at the product level even out in the aggregate.
Question 3
With the new insights from a better cost system, Will might usefully take any of a number of actions,
affecting such areas as cost system design, product offerings, prices and promotions, product designs, and
manufacturing processes (e.g., batch sizes).
87

88

Mini Case 2: Import Distributors, Inc.*
Approach
This is an introductory case on the identification of differential costs based on an analysis of full-cost
accounting data. Nevertheless, this short case can be used to raise all the issues surrounding analyses of
dropping a product (1) possible impact on other products’ sales; (2) costs that will be saved immediately
versus long-term savings; and (3) the inevitable fuzziness about the extent to which accounting
allocations of joint costs reflect the true savings potential if one of several joint activities is eliminated.
*
This teaching note was prepared by Professor James S. Reece. Copyright © by James S. Reece.
89

Although some later differential cost cases have quantitative outcomes that seem quite conclusive
irrespective of possible qualitative arguments, in this case the decision is not so clear-cut, and probably
rests primarily on the student’s assumptions regarding the degree of interdependence of sales among the
three IDI lines, and the amount of seasonality in wholesaler television revenues.
Comments on Questions
Exhibit A shows what might have happened to revenues and costs had the television department not been
operated in the first quarter of 1994. The exhibit incorporates the following assumptions, each of which
can be discussed in class:
1. All gross margin will be lost, because it is assumed that cost of goods sold was completely variable
(and hence differential) with sales revenues. At least initially, it is assumed that sales in the other two
departments will not be affected.
Exhibit A
Impact of Discontinuing Television Department
Forgone gross margin ........................................................................................ $(189,930)
Cost savings: ......................................................................................................
Personnel expenses ....................................................................................... $10,140
Department manager’s office ........................................................................ 12,393
Inventory taxes and insurance ....................................................................... 37,274
Delivery costs ................................................................................................ 32,248
Sales commissions ........................................................................................ 80,621
Interest costs .................................................................................................. 23,708
Total savings ............................................................................................ 196,384
Impact on operating profit ................................................................................. $ 6,454
2. Even though warehouse personnel serve all three departments, since the television line is one-third of
total sales, it is assumed that about the same ratio of total labor (i.e., the full amount now allocated to
the television line) can be saved if this line is discontinued.
3. If the department is discontinued, all of the department manager’s office costs can be saved. Students
may argue for assuming only part is saved; this is valid, but I suggest to them that rather than worry
too much about the exact amount, we make the extreme assumption that all of the cost is saved. If the
quantitative analysis turns out not to favor one alternative overwhelmingly, then we can reexamine
this and other assumptions to see if different reasonable assumptions cause the numbers to favor the
opposite alternative.
4. No rent will be saved, because of the noncancellable lease. It is conceivable, but not likely, that IDI
might sublease some space freed up if the television line were dropped; if so, the forgone sublease
revenue is an opportunity cost of retaining the television line.
5. With no television inventory, the inventory taxes and insurance should be saved.
6. Since the entire warehouse probably has to be heated and lighted regardless of its degree of
utilization, few, if any utilities will be saved.
90

7. Delivery cost savings are highly debatable. If retailers expect deliveries at certain intervals, IDI might
have to make as many delivery runs as before, but with less-full trucks. In the short run, then, many of
these costs may be nondifferential. In the longer run, however, if a company loses one-third of its
volume, it should be able to redeploy its delivery resources in a way that requires only about two-
thirds of the former resources. Again, I prefer to make the extremely favorable assumption that all
$32,248 can be saved; if with this assumption keeping the department looks advisable, it would be
even more advisable if only a portion of the $32,248 can be saved.
8. Sales commissions should be differential, even though each salesperson now sells all three lines. If a
salesperson has a minimum guarantee, and if that amount would be higher than his or her
commissions excluding television sales, then in the short run not all of the commission expense will
be differential; but if this is the case, in the medium term IDI should be able to reduce the number of
salespersons so that everyone’s commission again is above the guaranteed minimum.
9. Given that there was a separate expense category, “department manager’s office,’’ it is doubtful that
many of IDI’s other administrative costs would be saved. Exhibit A assumes no savings.
10. Note 7 to Exhibit 1 of the case states that only one-third of the imputed finance charge on inventory
was out-of-pocket interest cost. Since this department presumably accounted for about one-third of
total inventories, if all of the interest cost referred to in Note 7 is related to inventory financing, then
all of IDI’s out-of-pocket inventory interest costs could probably be saved if television inventories
were eliminated. This is tricky to handle in class because:
a. Students who haven’t caught on yet to the differential cost concept will claim the full $23,708 as
savings, but for the wrong reason (i.e., they’ll assume all the expenses in Exhibit 1 can be saved).
b. Students with some insight into the differential concept will say $7,903 (one-third of $23,708)
will be saved; but this implicitly assumes that IDI would use only one-third of the funds from
liquidating the television inventory to repay inventory-related debt and would use the other two-
thirds for some other purpose. Generally, students who claim $7,903 savings don’t recognize that
they have made this implicit assumption.
c. The best students will say $23,708 will be saved, because the funds from liquidating the
television inventory should be adequate to repay all the inventory-related debt. With this
assumption, IDI would have been about $6,500 better off in the first quarter of 1994, without the
television line. But recall that this result includes “favorable” assumptions about all department
manager’s office costs and delivery costs being differential.
Nevertheless, based on Exhibit A and the related assumptions, the decision is not very clear-cut.
At this point, students often point out the following: (1) the assumption that dropping one of three
lines will have no unfavorable impact on the other two is questionable; and (2) with many
television sales at the holiday season, the first quarter of the year is probably the lowest for IDI.
Both of these points strengthen the argument for retaining the television department.
91


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STUDY GUIDE

Copyright © Open University Malaysia (OUM)

OUM BUSINESS SCHOOL

Writer: Dr Ahmed Razman Abdul Latif

Moderator: Baldev Singh Pertab Singh

Developed by: Centre for Instructional Design and Technology

Copyright © Open University Malaysia (OUM), BBCS4103

Copyright © Open University Malaysia (OUM)

Copyright © Open University Malaysia (OUM)

INTRODUCTION TO STUDY GUIDE

Copyright © Open University Malaysia (OUM)

Part One: Course Introduction .................................................................................................... 5

Part Two: Learning Guide ............................................................................................................ 7

Integrated Case Study ................................................................................................................ 11

Why Use Case Studies ............................................................................................................... 17

Mini Cases ................................................................................................................................... 25

Final Review Cases .................................................................................................................... 39

Suggested Answers to Mini Cases ........................................................................................... 83

Copyright © Open University Malaysia (OUM)

PART ONE: COURSE INTRODUCTION

At the end of the course, students should be able to:

5. Demonstrate ethical awareness in the decision making process.

Copyright © Open University Malaysia (OUM)

Table 1: Allocation of Study Hours

Activities No. of Hours

Additional Recommended Readings

Mauffette-Leeder, L. A, Erskine, J. A, & Leeders, M. R. (1998). Learning with Cases, Ivey

Copyright © Open University Malaysia (OUM)

PART TWO: LEARNING GUIDE

Table 2: Recommended Weekly Study Schedule

Each topic in the Learning Guide comprises of the following:

 Study Question: Help you to focus on key subject areas.

Discussion and Participation

Copyright © Open University Malaysia (OUM)

Feedback and Input from Facilitator

Tan Sri Dr Abdullah Sanusi (TSDAS) Digital Library

Time Commitments for Study

(iv) You are encouraged to do the following:

Copyright © Open University Malaysia (OUM)

 Complete all assigned readings and go through as many supplementary texts as

Copyright © Open University Malaysia (OUM)

Copyright © Open University Malaysia (OUM)

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Copyright © Open University Malaysia (OUM)

2. Comprehension  Introduction to case analysis – continued 3,4,5,6

Case 1 – Expansion or Diversification? 3,4,5,6

Case 2 – Flat Cargo Berhad: An Auditor’s 3,4,5,6

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Case 3 – Flight of Funds

Case 4 –SAP for ATLAM

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Copyright © Open University Malaysia (OUM)

Copyright © Open University Malaysia (OUM)

Copyright © Open University Malaysia (OUM)

Copyright © Open University Malaysia (OUM)

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In summary, the purposes of case discussion are to:

 Foster Critical Thinking

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