MANAC (BM Juniors Jamshedpur, 'Term Il, AY

Seslos o be
Onduceit hy 2023-24)
Module Number NANYASACII SENGUPTA (XI1)
Number of Nesios n
hs
Tile of this Module Module HREE(O)
"CVP Analysis 'T'eehnique"
Scheduled Dutes nd Time Slols Refer CSS for respertlve sectlon-wlse class dates & slots

MODULENUMBER I(Session # 1, 2 &3)

COST VOLUME PROFIT (CVP)
ANALYSIS TECHNIQUE
MINICASE NUMBERI
(Clarifying the Fundamentals of CVP Analysis Technique)
A company sells its products at Rs 15 per unit. In a period, if it
sells 8,000 units it incurs a loss of Rs 5 per unit. If produces and
the volume is raised to
20,000 units, it carns a profit of Rs 4 per unit. Calculate the "Margin of
Safety (MoS)" of the company (in Rupees) when the company sells I5,000
units of its products.

MINICASE NUMBER II
(A supporting clarification of the "Margin of Safety " Concep)
If the existing sale of an organization is denoted by Rs M, its break even
sales amounts to Rs Q (where M >0) and the variable costs
amount to one
and half times that of contribution, the existing profit of the
organization (in
a suitable form) may be denoted by?
 MINI CASE NUMBERIII
(Using CVP Concepts for
Generating Effective Management Information)
ABC Limited manufactures pressure
Currently, the capacity utilization is 60% cookers,
the selling price of which in Rs.300/- per unit.
reduce the selling price by 20% but and tosales turnover is Rs.18 lakhs. The company
by increasing the desires earn the same quantum of profit proposes to
desired objective. output. Determine the level at which the company should (as it is earning now)
operate to achieve the
The following data is also
a) Variable cost per available
b) Semi variable costunit is equal to Rs.60 per
unit.
(including a variable element of Rs. 10 per unit) at
amounts to Rs.1,80,000. 60% level of activity
c) Fixed cost of
d) Rs.3,00,000
Beyond 80% level would remain constant up to 80% level.
an additional fixed cost of Rs.60,000 needs to be
incurred.
MINICASE NUMBERIV
(Clarifying the concept of "LEVERAGES")
The following figures
relates to two companies, namely P Limited and
compute operat financial Q
relative risk and combined leverages for the Limited. You arerequired to
position of them. two companies and comment on the
Details PLimited [Rs. Lakhs] Q Limited
Sales 500 (Rs. Lakhs]
Variable Costs (200) 1000
Contribution 300 (300)
Fixed Costs (150)
700
EBIT (400)
150
Interest 300
(50) (100)
PBT 100
200

AN IMPORTANT UNDERSTANDING
Combination
High OL Management
Interpretation
is careful. As the
and Low FL burden is kept at a low level. business risk is high, the interest

High OL Very risky policy. Interest burden is high in spite of high

and High FL risk involved. business
Low OL Very conservative
and Low FL profitable opportunitiesapproach. The company may lose out on

Low OL This may be

And High FL regarded as the IDEAL situation
 MINI CASE NUMBER V
(A comprehensive illustration usio "Contribution ncome Statement" Concepi)
A company had incurred fixed expenses of Rs. 4 50.000
with sales of Rs.15,00,000 earning a
protit of Rs. 3,00,000 during the first half year. In the
Rs.1,50,000. It may be safely assumed that the selingsecond
price
half year, it suffered a loss T
per unit, variable cost per unit
and tixed expenses remained unaltered during the second half year of operation. With the
aid of the above information kindly compute,
a) Sales for the second half year (in Rs.).
b) The break-even sales for the whole year (in Rs.)
c) The margin of safety for the whole year (in Rs.).

MINICASE NUMBER VI
(Using CVP Concepts in "Multi Product Environment")

Ms ABXY Limited manufactures and sells two products, namely, "AB" and "Xy", Both of
these products enjoy reasonable demand in the market place although the concerned
company is not in a position to predict such demand with any degree of reasonable accuracy
The selling prices per unit of "AB" and "XY" are Rs 1800 and Rs 2160 respectively. Variable
Cost per unit associated with producing and selling these products are Rs 900 and Rs 1800
respectively. Annual fixed production, administrative and selling expenses of Mis ABXY
Limited amount to Rs 88,000. The concerned company is contemplating thee1following two
selling strategies (It may be noted that the packaging cost involved in respect of the following
two strategies of selling options extremely negligible dhence, may be ignored).
Selling Strategy
Sell by making small packets comprising 2 units of "AB" and 3 units of "XY".
Selling Strategy I!
Sell by making small packets comprising 1 unit of "AB" and 2 units of "XY"
As the management accountant of the said company, which of the above two selling
strategies would you recommend and WHY?

3
 MANACII(BM.Juniors Jamshedpur, Term II, AY 2023-24)
Sessions to be conducted by SABYASACHI SENGUPTA (XLRI)
Module Number
Number of Sessions in this Module THREE (3)
Tile of this Module Cost Based Decision Making & Transfer Pricing Issue"

Scheduled Dates and Timne Slots Refer CSS for respective section-wise class dates & slots

MODULE NUMBER II (Session # 4)

COST BASED MANAGEMENT DECISIONS
& TRANSFER PRICING ISSUES

MiniCase No I
(Make or Buy Decision Clarifying the Conceptual Framework)
A Fim may purchase a separate component from an outside agency at a price of
Rs 11 per unit. There is a proposal that the spare part be produced in the factory
itself. For this purpose a machinc costing Rs 1 lakh with annual capacity of 20000
units and life 10 years would be required to be purchased by taking a loan at an
interest rate of 10% per annum. Aforeman with a monthly salary of Rs 500 would
have to be engaged as well for supervising the operation of this particular
machine. Materials required for such in house production would be Rs 4 per unit,
Wages Rs 2 per unit and Variable Overhead Rs 3 per unit. Advice the company as
to whether the proposal is acceptable or not and under what circumstances? It may
please be noted that the annual demand of this component would never exceed
20000 units.
 Re-Look at Cost Classification
For Management Decision Muking
Relevant Cost A relevant cost is a cost whose mnagnitude would bc alfectcd by
decision made. In decision making exercises, manapement should
consider only future costs and revenues (which it night affect) that would
differ under cach alternative under consideration, Thus, relevant costs are
fulure costs that would differ depending on managemncnt action (s).
Whether a cost is relevant would depend upon thc circumstances.

Irrelevant Cost These are costs which would not be affected (or altered) pursuant to the
decision taken by the management of the organization.

Sunk Cost Asunk cost is an expenditure incurred in the past that cannot be changed
and over such costs the management no longer has controls. These costs
are certainly not relevant for taking future decisions. One should
understand the difference between sunk costs and irelevant costs. AII
sunk costs are irrelevant but all irelevant costs are not necessarily in the
nature of sunk costs.

Differential Cost Differential cost is the change in costs, which may take place due to
increase or decrease in output, changes in sales volume changing to
alternate methods of production, contemplating a change in product mix
etc. It may be remembered that differential cost may be in the nature of
incrçase or decrease in costs.

Opportunity Opportunity cost is the sacrifice involved in accepting an alternative

Cost under consideration. In other words, it is a cost that measures the bencfit
that is lost or sacrificed when the choice of one course of action requires
that the other alternative course of action should be given up.
 Mini Case No II
(Cost Based Decision Makig Process - Situation )
Its manufacturing
PQR Limited manufactures medals for winners of athletic events and other contests.
production and
plant has the capacity to produce 9000 medals each month. The Company has currentis Rs 150. The cost
sales level of 7500 medals per month current domestic market price of each medal
data for the month of February 2010 (a particular representative month) is a under,

Variable Cost (that vary with units produced

Direct materials Rs 262500, Direct labour cost = 300000

Variable Cost (that vary with number of batehes)

Set up and other related costs = 150 batches @ Rs 500 per batch Rs 75000

Fixed Costs
Fixed manufacturing expenses = Rs 275000, Other fixed costs = Rs 175000

POR Limited has received a special one-time-only order for 2500 medals at Rs100 per medal. PQR
order
Limited makes medals for its existing customers in batch size of 50 medals. Howvever, the special
of size 100 each. It
for 2500 medals would require PQR Limited to manufacture medals in 25 batches be
It may also
may be noted that batch cost per batch is constant irrespective of the size of the batch.
noted that the special order may either be accepted in full or rejected in full.
in the
Bases the above information you are required to answer the questions gien belo
structured format as given.

Answer to the above mini case

The special order should be (Accepted/Rejected)

The minimum price at which the special order may be accepted by PQR limited is,
Rs per medal
 MANACII (BM Juniors Jamshedpur. Term II, AY
Sessions to be conducted by 2023-24)
Module Number
Number of Sessions in this Module SABYASACHI SENGUPTA (XLRI)
Title of this Module THREE (3)
"Cost Based Decision Making &
Scheduled Dates and Time Slots Transfer Pricing Issue"
Refer CSS for respective
section-wise class dates &slots

MODULE NUMBER II (Session #5 &6)

COST BASED
& TRANSFER MANAGEMENT DECISIONS
PRICING
Under what circumstances it may be
ISSUES
aprice below the
narginal
justifiable
cost of the product?
to sell at
(An Important Concept)
In general, it does 20t make good
busincss sense to sell products at a price, which is lovwer
marginal cost of the product. However. than the
at a price which is lower than the it may please be noted that it may be justifiable to seil products
marginal
circumstances. These specific circumstances may cost for a limited period under certain specific
be conceptualiy segregated into two
namely. financial considerations and strategic marketing components.
considerations (as given below).
Financial Considerations Strategic / Marketing Considerations
Where the produc tunufaclured by the company Where the
are of a perishable
nature.
company has launched a new product
and is trying in all eylinders to
popularize such
hhere tintshed inventories of the comnany huve PrOuuets in he market.
aceurnulated in large quantities and the market Where such an action
price of these products are depicting a steadv but enables the company to
boost the sales of its other products having larger
Swift declining trend
profit margins.
In order to gain market share or to capture foreign
markets
Where the objective is to wipe out competition.
 COST BASED MANAGEMENT DECISIONS
(LIST OF MINI CASES)
Mini Case No lI
From he following particulars find the most
profitability for that product mix profitable product tnix and prepare a statement of

Details Product A ProductB Product C

Selling price per unit 60 55 50

Requirements per unit

Direct material 5 kg 3 kg 4 ka
Direct labour 4 hrs 3 hrs. 2hrs
Variable overhead Rs 7 Rs.13 Rs 8
Cost of direct material per kg Rs 4 Rs.4
Direct labour hour rate Rs 4
Rs.2 Rs.2 Rs 2
Maximum possible units of sales 4000 units 5000 units 1500 units
Fixed overhead is Rs 60 000 AJI the three
products are produced from the same direct material using
the same type of machines and labour Direct
labour. which is the key factor, Is limited to 18600
hours only

Mini Case Number IV

A company is presently working at 90% capacity
producing and selling 13500 units per annum earning
a nrofft of 10% on sales The following figures have been obtained from the records of the company
Details 90% Capacity (Actual)
100% Capacity (Reliable Fstimate)
Rupees
Rupces
Sales |5,0 As of now not known to the
Fixed Overheads 3.0050) company
3,02,000
Semi Fixed Overheads 97.500 1.00.500
Variable Overheads 45.000 1.49.500
As of now the company does not sce any opportunity of cxpanding the domestic market.
However, it
had identified an opportunity of exporting an additional 1500 units of their products. In that exDort
market (where the company is frarntically trying to make a breakthrough), the price of similar product
is substantially lower than the ruling indigenous prices and such lower export prices has no
possibility
of affecting the domestic prices of their products. Howevet, if the company accepts the export order. it
would have to incur an additional cost of Rs 30,000 for packing. transportation and other
unavodable
reasons. Please advise the marketing marnager about the minimurn price that he might quote for
bagging such export order of 1S00 units
 Mini Case Number V
A particular factory of a
currently
the factory is companymanufactures and sells a single commodity at Rs 20 per and
manufacturing and
operation the fixed costs per unit and variableselling 20000 units of that commodity. At this unitlevel of
Due to trade depression the company costs unit works out to Rs 4 and Rs 13
per
drastically in the near future. Hence, theanticipates that demand of the above commodity respectively
may decline
company
order to reduce monetary losses. Now, if the factory is mav even consider shutting dowT the factory in
would reduce by Rs 47,000 and the actually shut down, the annual fixed costs
amounting to Rs 12,000. Please computecompany would hav¹ to incur additional shut dowTI
the "shut down point (in units)" of this Cxpenses
factory

A CASE STUDY
Cost Conpetitiveness (A win-Win situation)
The Information Tech nology (IT) Department of Mis NEO FORGINGS Limited operates as a
separate profit center and it provides IT consultancy services of different categories /varieties to
their clients Le. botb internal as well
as external clients. As the said
division operates as a
separate profit ceater within the
organization, they bill all their clients in respeet of the
services
provided bv them and while doing so, a fair and
reasonable degree of margin is invariably
loaded in their bills (that ure raised on h.
internal and external clients) to arrive at the total
bill amount. As at th: end of the
inancial year the performance of the IT Department is
evaluated based on their perfornance during the vear whercin the overall (and job-wie) profit
earned bv that departmeot is invariabiy treated as an
important yardstick along with the quality
and promptness of the services offered by the said department. Such performance evaluation
mechanism is charucterized by a strong one-to-one correspondence with the incentives/ bonus
salan hikes offered to the permanent emplovees
working in that department and the same is
also regarded as a kev consideration while deciding on the promotion criterion for those
permanent emplovees as well.
 The 1T Department is quite well reputed in the market essentially because of the professional

and high quality consultancy services offered by them and hence, the said departueat is often
approached by a number of external clients (pertaining to different corporate houses) requesting

lor such services. Usuallh, the said department offers four (4) different varieties /eategories of TT

consultancy services to their esternal clients that are referred to as Type A, Type B. T'ype C and
Type D services respectively. While readering these four tvpes of services to the external

customes, the said department adopts a somew hat unique business model. They cmploy a
small
group of contract employees who are professionally qualified and extremely well trained to
handle the field level jobs, These contract emplovees are actually
recruited (by the 1T
Department) based on the total time estimation that various orders/ jobs actually demand and
these contract employees are remunerated strictly on per hour basis. As some specific skill set
and high quality professional capabilities and training are expected from such contract
employ ees for undertaking the fickd level jobs at various client locations, the availabilix of such

contraci employ ees is limited in the market where the I1

Departmeat actually operates. As per
the estimates deseloped by the seaior tmanagemeat tcam of thbe |T
Depurtment, the total hour
availability (from the entire group of such coBtract emplovees) during a financial scar works out
to 20,000 hours approzimately Some relevant infornation details that pertain to the different
categorie of serices offered to the esternal cients (by the I1 Department) are
summarized as
under. The tabulated information distincth recak that the existing
market demand of their
services (that may be offered to the csternal clients) far eIceeds their capacity
measured in terms
of the contract emplovees hoers availabifity durieg a financal ver
 TYPE"A" SERVICES
Revenue per order
Rs 1.500
Total Variable Cost incurred per
order Rs 1.300
Tutal hour involvemeat of the contract
emplovees per order 3 Hours
It may be aoted that the maxim um
aumber of orders that pertains to the Type A Services that
the IT department may seeure from their external elients amounts to 2800 orders per
financial
year,

TYPE B" SERVICES

Revenue per order Rs 1.460
Total Variable Cost ineurred per order
Rs 1,000
Total hour involvement of the contract emplovees per order
4 Hours
It may be noted thut the maximum number of orders that pertains to
the Type B services that
the IT department may secure from their external clients amounts
to 2500 orders per finan cial
vear.

TYPE "C" SERVICES

Revenue per order
Rs 1,400
Total Variable Cost incurred per order
Rs 900
Total bour involvement of the contract emplovees per order
Hours
It may be noted that the maximum umber of orders that pertains to the Type C services that
the IT department mav secure from their external clients amounts to 2300 orders per financial
ear
 TYPE "D" SERVICES
Revense per order
Rs 1.300
Total Variabie Cost incurred per order
Total bour iavohemeat of the cuatract
employees per order 3 Hours
The marimum aumber of orders that pertaíns to the Type Dservices that the IT
departnent
may secure from their esternal
clients amounts to 1600 orders per financial year.

A few day» ago the Head of the IT

Departmeat had been approached by the Head of ene of the
Manufacturing Dix ision of NEO FORGINGS Limited, wberein that
that their diviion is also looking for some
departnental head had aid
help and support from the IT
they are also in need of the Type D"
Department Actually.
consultang serices during the ycar and such requiremen
is quite substantial as well After having a detail
discussion (on the matter) the o
beads came to the conclusion that during the
departmeatal
curreat financial year the manufacturing div ision
(as referred above) would actually
provide as many as 2500 orders ofType D" varicty
to the II
Department. The Head of the IT
Departmeat quoted a rate ef Rs 1300 per order for such
Tpe
D" services requested by that division (the same rate that is
normallh charged b the 1T
Department to their external clients). The departmental head of the
manufacturing dis ision
opiaed that the quoted <hurges appear 4o be on a
higher side and requested the li Dpartmcat
to re-con sider their quotation. The Hcad of the IT Department clarified that their denartmeut i
expected to operate as a scparate profit center and hence, they
ould be answ erable to the top
management of the company if they compromise on tbe profit
parameters, lle alse mentioned
that since they provide such services to esternal clients
at the rate of Rs 13o0 per order, the
question of offering similar services (internally) at a reduced rate simply
does not arise especiall
 because the IT
Department is not en counieripe any dearth of business
year under review. (wbatsoev er) durng the

After having the above

discussioa with the Head IT Department. the
manufacturing department invited guotation from another third party departmental hcad of the
who also provides similar
(Le. "Iype D") IT serv ices to
various clients. That third party guoted a of
for a total
rate Rs 1225 per order
of 2500 orders during the
vear.

On obtaining such a quotation from the third party II consultant. the departmental head of the
nanufacturing divisjon re-contacted the IT Head of his own company and commented.

QUOTE
The third party quotation that I have
obtained is much lower than vours. Although I
agree that
this party is not as well reputed in the
market as vour department. they have actually agreed to
provide similar quality sevices at a much
lower cost. However. it goes without saying that. any
day I would personallk prefer to obtain such serices internally rather than getting it
outsourced
because. (naturally). I would have lot of faith and con
fidence on our internal expertise cspeciallv
beca use your services are very well
reputed in the market place. Please tr to
understand that we
are working for the same company and
unless you agree to ofler a better rate to vour internal
clients, we won't be in a position to optimize on our total cost exposure. You'll surely appreciate
that a reduction in the total cost
would result into higher profits for our company as a
whole.
Hence, vou must offer vour services quoting a maximum rate of Rs 1200 per order. In fact, ifvou
ask me. ideally vou should offer us a rate which is marginally lower than Rs 1200 per order.

UNQUOTE
 du T Department responded by savine - wNothing doing. Icannot cut down on the rate

a answerable to the top manapement in respect of our divisional profitability and at the
nu or the day our performances would oet evuluated basel on the profit earned by our divisi0n.
T consider your request favourably. that wGnld mean that I' have to
compromise on our
departmental profitability parameters which misht even
adyersely affect our bonus/ incentive
salary hikes and even our future
promotion ambitions".

On obtaining such a blunt refusal from the Hcad 1T Department, the

departmental head of the
manufacturing division got extremely agitated and be wrote a
the company
"stinker" addressed to the CE0 of
challenging the stand taken by the Head 1T Department. In that
the entire episode and
letter, be narrated
finally supported his point of view with a very strong
last paragrapb of that message given in the
letter which be guessed that the company CEO would simply fail to
ignore. That last paragraph (of his letter) is
reproduced below.

QUOTE
In all company meetings and presentations chaired by vou. you keep on
highlighting the
importance of being "cost competitive" and hammer on the idea
that. the suceess of our
company
depends on cost management isues. All of us
working in the company had heard vou saving
Dumerous times that - "remember one thing. one paisa
reduction in cost results in one paisa
addition to profits and one paisa addition to cash lows". Can vou plcase clarif now, bow do we
achieve the same if the general attitude of the otber
departments is just the opposite. If our own
departments refuse to offer us competitive rates, how can
we dream to become "cost
competitive" in the market? If our own departments focus only on safeguarding their own tur[
and keeps on trving in all evlinders to protect their own profit motives, how would that eser
 hRcil our eompany? shall be really grateful if you personally talk to the
Head IT Departmeat
and esjplain the situation. I tried- but Ibad faled. I euess that. vou would be ina
far better
Nsition to convince him so as to ensure that be sees better sense
in our arguments.
UNQUOTE

On reeeipt of the above letter, the CEO called the senior management accountant of bis con pany
to his office and explained the entire situation to him. Thereafter, he enquired,

"Is it at all possible for the IT Department to quote a rate of less than Rs 1225 per order in the
instant case? Kindy look at the matter and let me know. Now, if it is possible, I strongly believe
that our IT Department should cater to all 2500 "Type D" orders of our manufacturing division
this vear at such reduced rates. What do you say?"

so,
The management accountant studied the available data / information for half an hour or

scribbled for some time in his note pad and BINGO! He said,

all 2500 orders of

But, sir, it is definitely possible. Our IT Department can actually cater to
is in fact lower than
Tvpe D" variety as required by the manufacturing division at a rate which
to satisfy the specific
Rs 1225 per order. If they take my advice, they would manage
In fact. it
requirements of the manufacturing division and yet protect their own profit motives.
the IT Department
would definitely culminate into a win-win situation for both parties, namely,
shortly and get the matter
and the manufacturing division. I'l talk to the Head 1T Department
clarified, Don't w orry !!

****
 List of Review Questions
2) Provide all necessary computations in a
structured manner that might aid
the management accountant to
convince the Head IT Department that it
would actually be possible for his department to quote a rate
lower than
Rs 1225 per order in respect of the
2500-Type D" orders business
proposed by the manufacturing division.

b) Arrive at the mninimum rate per order that the IT Department may quote
to the mnanufacturing division in the instant case.

While handling this particular business problem a very common

model /
tool in the domain of cost based decision
making process would prove to
be particularly effective and useful What model / tool? Why it is ideally
suited in the instant case?

****