Advanced Business Calculations

Level 3

Model Answers
Series 2 2007 (Code 3003)

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Advanced Business Calculations Level 3
Series 2 2007

How to use this booklet Model Answers have been developed by Education Development International plc (EDI) to offer additional information and guidance to Centres, teachers and candidates as they prepare for LCCI International Qualifications. The contents of this booklet are divided into 3 elements: (1) (2) Questions Model Answers – reproduced from the printed examination paper – summary of the main points that the Chief Examiner expected to see in the answers to each question in the examination paper, plus a fully worked example or sample answer (where applicable) – where appropriate, additional guidance relating to individual questions or to examination technique

(3)

Helpful Hints

Teachers and candidates should find this booklet an invaluable teaching tool and an aid to success. EDI provides Model Answers to help candidates gain a general understanding of the standard required. The general standard of model answers is one that would achieve a Distinction grade. EDI accepts that candidates may offer other answers that could be equally valid.

© Education Development International plc 2007 All rights reserved; no part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without prior written permission of the Publisher. The book may not be lent, resold, hired out or otherwise disposed of by way of trade in any form of binding or cover, other than that in which it is published, without the prior consent of the Publisher.

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QUESTION 1 Peter has a number of investments. Each one earns simple interest. He makes a table of his investments as follows. Investment A £20,000 4.5% 5 £4,500 £24,500 Investment B £20,000 5% 5 ? ? Investment C ? ? 7 £13,965 £55,965 Investment D ? 6¼% 8 ? £19,125

Sum invested Rate of interest per annum Time invested (years) Interest earned Final amount (Principle + Interest) (a)

Copy the table into your answer book and complete the table. (11 marks)

Following a property boom, Peter finds that the value of his house has doubled in seven years. He estimates that this is equivalent to a constant rate of compound interest of 10% per annum over the seven years. (b) Find one better estimate of the constant rate of compound interest per annum that will double the value of an investment in seven years, and provide calculations to show that your estimate is better than Peter’s. (5 marks) (Total 16 marks)

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MODEL ANSWER TO QUESTION 1 (a) Investment A £20,000 4.5% 5 £4,500 £24,500 Investment B £20,000 5% 5 £5,000 £25,000 Investment C £42,000 4.75% 7 £13,965 £55,965 Investment D £12,750 6¼% 8 £6,375 £19,125

Sum invested Rate of interest per annum Time invested (years) Interest earned Final amount (Principle + Interest)

Investment B: Interest earned = £20,000 x 5% x 5 years = £5,000 Final amount = £20,000 + £5,000 = £25,000 Investment C: Sum invested = £55,965 - £13,965 = £42,000 Rate of interest per annum = £13,965 ÷ (£42,000 x 7) = 0.0475 = 4.75% Investment D: Final amount represents a percentage of 100% + (8 x 6¼%) = 150%

Sum invested = £19,125 ÷ 150% = £12,750 Interest earned = £19,125 - £12,750 = £6,375 Effect of 10% compound interest = (1 + 0.1)7 = 1.95 Try 10.5% (e.g.) Effect = (1 + 0.105)7 = 2.01 (closer to 2)

(b)

Therefore 10.5% is a better estimate (The accurate figure, and fully correct, is given by: 21/7 – 1 = 0.1041 = 10.41%)

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QUESTION 2 Ernestine bought two blocks of debenture stock at different rates and values. She tabulated her results as follows: Block A 4% £89½ ? £200,000 4 years ? ? Block B 3¾% £90 £85,500 ? ? ? 12.5%

Rate of interest (on nominal value of stock) £100 of stock bought at Amount invested Nominal value of stock purchased Stock held for Total interest earned Total percentage yield on amount invested

Copy the above table into your answer book and complete the table (Total 13 marks)

MODEL ANSWER TO QUESTION 2 Block A 4% £89½ £179,000 £200,000 4 years £32,000 17.88% Block B 3¾% £90 £85,500 £95,000 3 years £10,687.50 12.5%

Rate of interest (on nominal value of stock) £100 of stock bought at Amount invested Nominal value of stock purchased Stock held for Total interest earned Total percentage yield on amount invested Block A Amount invested = £200,000 x 0.895 = £179,000 Total interest earned = £200,000 x 4 years x 4% = £32,000 Yield = £32,000/£179,000 x 100% = 17.88% Block B Nominal value = £85,500

÷ 0.90 = £95,000

Total interest earned = 12.5% x £85,500 = £10,687.50 Time held = £10,687.50 ÷ (£95,000 x 3.75%) = 3 years

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QUESTION 3 Manufacturer A sells a particular product for £210 per unit. Production costs are as follows: Fixed costs per period Variable costs per unit (a) Calculate the break-even point. £630,000 £175 (3 marks)

Manufacturer B sells a similar product for £200 per unit. The production costs for Manufacturer B are as follows: Fixed costs per period £800,000 Variable costs per unit £155 (b) Compare the profits of the two manufacturers for an output and sales of 20,000 units in a period. (4 marks)

Another product, Product P, has unit costs of production during a period as follows: £ figure omitted 40 26 15

Components Labour Production overheads Distribution expenses

The cost of components varies directly with the number of units produced. 70% of the labour costs vary directly with the number of units produced. The remainder are fixed costs. The production overheads do not vary irrespective of how many units are produced. 60% of the distribution expenses vary directly with the number of units produced. The remainder are fixed costs. For the period the variable cost per unit was the same as the fixed cost per unit. (c) Calculate the cost of components per unit for Product P. (4 marks) (Total 11 marks)

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MODEL ANSWER TO QUESTION 3 (a) Contribution = £210 - £175 = £35 Break even = £630,000 ÷ £35 = 18,000 units (b) Income for manufacturer = Number of units x contribution – fixed costs Profit for manufacturer A = 20,000 x (£210 - £175) - £630,000 = £70,000 Profit for manufacturer B = 20,000 x (£200 - £155) - £800,000 = £100,000 Manufacturer B’s profit is £30,000 greater than manufacturer A’s profit (c) Fixed cost per unit = Production overheads + 30% x labour costs + 40% x distribution expenses = £26 + (30% x £40) + (40% x £15) = £44 Variable cost per unit = £44 Variable cost per unit = 70% x labour costs + 60% x distribution expenses + cost of components Variable cost per unit = (70% x £40) + (60% x £15) + cost of components Cost of components per unit = £44 - £28 - £9 = £7

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QUESTION 4 The following information relates to a retailer’s business during a trading year. £ 390,000 241,800 20,000 20,300 91,650

Net sales Cost of Goods Sold Initial stock value Final stock value Overhead expenses Calculate: (a) (b) (c) (d) (e)

the overhead expenses as a percentage of net sales (2 marks) gross profit as a percentage of net sales (3 marks) net profit as a percentage of net sales (3 marks) net purchases (2 marks) rate of stockturn per annum (3 marks) (Total 13 marks)

MODEL ANSWER TO QUESTION 4 (a) Expense ratio = Overhead expenses x 100% = £91,650 x 100% = 23.5% Net sales £390,000 Gross profit = Net sales – cost of goods sold = £390,000 – £241,800 = £148,200 Gross profit percent = Gross profit x 100% = £148,200 x 100% = 38% Net sales £390,000 (c) Net profit = Gross profit – overheads = £148,200 – £91,650 = £56,550 Net profit percent = Net profit x 100% = £56,550 x 100% = 14.5% Net sales £390,000 (d) Net purchases = Cost of goods sold – Initial stock value + final stock value = £241,800 – £20,000 + £20,300 = £242,100 Average stock = ½(Initial stock value + final stock value) = ½(£20,000 + £20,300) = £20,150 Rate of stockturn = Cost of goods sold = £241,800 = 12 times Average stock £20,150

(b)

(e)

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QUESTION 5 A business owner has a choice of two investment projects. The initial cost of Project X is £350,000 and that for Project Y is £550,000. The estimated life for each Project is 4 years. Repair and maintenance costs are expected to average £12,000 per annum for Project X and £16,500 per annum for Project Y. Estimated revenue returns (in £) are as follows: Year 1 2 3 4 Project X 120,000 120,000 100,000 100,000 Project Y 200,000 250,000 200,000 120,000

The owner uses the average rate of return method of investment appraisal and the following formula to calculate that the average rate of return for Project X is 28%: Average rate of return = Average revenue return per annum net of repair and maintenance costs Initial cost of Project (a) Calculate the average rate of return for Project Y and advise the business owner. (7 marks) Another investment project has a net present value at three discounting factors as follows: Discounting factor Net present value (£) 12% 312,000 14% 116,000 15% (29,000)

The net present value at a discounting factor of 15% is negative, while the net present values at 12% and at 14% are both positive. (b) Calculate the internal rate of return of the project correct to 3 significant figures. (4 marks) (c) Give one reason why your choice of discounting factors for your calculation in (b) was the best choice. (1 mark) (Total 12 marks)

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MODEL ANSWER TO QUESTION 5 (a) For Project Y: Total revenue returns = £(200,000 + 250,000 + 200,000 + 120,000) = £770,000 Average revenue returns per annum = £770,000

÷ 4 = £192,500

Average revenue returns net of repairs and maintenance per annum: = £192,500 – £16,500 = £176,000 Average rate of return = = £176,000 ÷ £550,000 = 0.32 = 32% By this method of investment appraisal, Project Y is the better investment as it gives a higher average rate of return. (b) Use NPV figures for 14% and 15%

IRR = 14% +

£116,000 £116,000 + £29,000

x 1% = 14.8%

(c)

14% and 15% were chosen because they have net present values closest to zero and hence were closest to the point where the net present value is zero.

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QUESTION 6 In the bankruptcy of Company A, 49.1p in the £ was paid to unsecured creditors. (a) Calculate the amount owed to an unsecured creditor who was paid £18,658. (2 marks) The following figures apply to the bankruptcy of Company B. £ 141,000 198,000 103,000

Total assets Total liabilities Owed to secured creditors (b)

Calculate the amount paid to an unsecured creditor who was owed £12,400. (4 marks)

In the bankruptcy of Company C, an unsecured creditor who was owed £8,700 was paid £2,871. (c) Calculate: (i) (ii) the rate in the £ paid to unsecured creditors. (2 marks) how much was owed to an unsecured creditor who was paid £132. (2 marks) (iii) how much was paid to an unsecured creditor who was owed £37,000. (2 marks) (Total 12 marks)

MODEL ANSWER TO QUESTION 6 (a) (b) Amount owed = £18,658 ÷ 0.491 = £38,000 Owed to unsecured creditors = £198,000 – £103,000 = £95,000 Assets available = £141,000 – £103,000 = £38,000 Amount paid = £12,400 x £38,000 ÷ £95,000 = £4,960 (c) (i) Rate paid = £(2,871 ÷ 8,700) = £0.33

(ii) Amount owed = £132

÷ 0.33 = £400

(iii) Amount paid = £37,000 x 0.33 = £12,210

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QUESTION 7 A factory machine that cost £8,500,000 is depreciated by 40% of its value each year using the diminishing balance method. (a) Prepare a depreciation schedule for the first 3 years that shows, for each year, the yearly depreciation, the accumulated depreciation and the book value at the end of the year. (5 marks) Calculate (i) (ii) the book value at the end of year 6 (3 marks) the amount of depreciation that occurs during year 7. (2 marks) (iii) the total depreciation from the end of year 1 to the end of year 6. (2 marks) (Total 12 marks)

(b)

MODEL ANSWER TO QUESTION 7 (a) Year 0 1 2 3 (b) Yearly Depreciation (£) 3,400,000 2,040,000 1,224,000 Cumulative Depreciation (£) 3,400,000 5,440,000 6,664,000 Book Value At Year End (£) 8,500,000 5,100,000 3,060,000 1,836,000

(i) 1 – rate of depreciation = 1 – 0.4 =0.6 Book value at the end of year 6 = £8,500,000 x 0.66 = £396,576 (ii) Depreciation in year 7 = 0.4 x £396,576= £158,630.40 (iii) Depreciation from end year 1 to end year 6 = £5,100,000 - £396,576 = £4,703,424

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QUESTION 8 An index of retail sales at January 2007 is shown below: Group Item V Item X Item Y Item Z (a) Weight 950 980 1175 1895 Index (Jan 2005 = 100) 138.0 124.5 91.2 131.4

Calculate the composite weighted index of retail sales, at January 2007 with January 2005 = 100, for all items together. (5 marks)

Company A sold 80,500 units in 2005 and 90,160 units in 2006. (b) Calculate the quantity relative for units for Company A for 2006 with 2005 as the base year. (2 marks)

Company B sold units at £2.60 in 2000 and at £3.51 in 2005. (c) Calculate the price relative for units for Company B for 2005 with 2000 as the base year. (2 marks)

The price relative for units for Company B for 2006 with 2000 as the base year was 1.62. (d) Calculate the price relative for units for Company B for 2006 with 2005 as the base year. (2 marks) (Total 11 marks)

MODEL ANSWER TO QUESTION 8 (a) Group Item V Item X Item Y Item Z Weight(W) 950 980 1175 1895 5000 Index (I) 138.0 124.5 91.2 131.4 WI 131,100 122,010 107,160 249,003 609,273

Weighted index = Σ WI = 609,273 = 121.9 ΣW 5000 (b) Company A: quantity relative = 90,160 = 1.12 80,500 Company B: 2005 price relative = £3.51 = 1.35 £2.60 Company B: 2006 price relative = 1.62 = 1.2 1.35

(c)

(d)

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© Education Development International plc 2007

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