Professional Documents
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MA2 MANAGING
COST & FINANCE
Sunway TES
WORKBOOK
Part 2
(Student Copy)
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CHAPTER 11: SERVICE COSTING Sunway TES
CONTENTS
CONTENTS ............................................................................................................................ 302
CHAPTER 11: SERVICE COSTING ..................................................................................................... 306
11a. Characteristics of Service Costing................................................................................................ 307
Topic Review (TLO C5a) ........................................................................................................ 308
11b. Practical Roles ............................................................................................................................. 309
Topic Review (TLO C5b)........................................................................................................ 310
11c. Use of Service Costing ................................................................................................................. 311
Topic Review (TLO C5c) ........................................................................................................ 312
11d. Cost Units for Service Costing ..................................................................................................... 313
Topic Review (TLO C5d)........................................................................................................ 314
11e. Calculation of Service Costs ......................................................................................................... 315
Topic Review (TLO C5e) ........................................................................................................ 316
Chapter 11 Summary ............................................................................................................................ 318
CHAPTER 12: COST-VOLUME-PROFIT (CVP) ANALYSIS ..................................................................... 319
12a. The Contribution Per Unit and the Contribution/Sales Ratio...................................................... 320
Topic Review (TLO D1a) ....................................................................................................... 321
12b. Break-Even and Margin of Safety ................................................................................................ 322
Topic Review (TLO D1b) ....................................................................................................... 325
12c. Calculate the Sales Required to Achieve a Target Profit ............................................................. 326
Topic Review (TLO D1e) ....................................................................................................... 327
12d. Interpretation Break-Even and Profit/Volume Charts for a Single Product or Business ............. 328
Topic Review (TLO D1f) ........................................................................................................ 330
Chapter 12 Summary ............................................................................................................................ 331
CHAPTER 13: OPTIMAL PRODUCTION PLAN (OPP) .......................................................................... 332
13a. The Contribution Per Unit and the Contribution/Sales Ratio...................................................... 333
Topic Review (TLO D2a) ....................................................................................................... 334
13b. The Limiting Factor in Given Situations ....................................................................................... 335
Topic Review (TLO D2b) ....................................................................................................... 336
13c. The Optimal Production Solution When There Is a Single Resource Constraint ......................... 337
Topic Review (TLO D2c) ........................................................................................................ 339
Chapter 13 Summary ............................................................................................................................ 340
CHAPTER 14: RELEVANT COSTING .................................................................................................. 341
14a. The Concept of Relevant Costs .................................................................................................... 342
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Learning Outcomes
TLO C5b. Describe the practical roles relating to the costing of services.
TLO C5c. Identify situations (cost centres and industries) share the use of service costing is
TLO C5e. Illustrate suitable cost units that may be used for a variety of services.
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Also, take note that the service was produced and consumed at
the same time, meaning that as Jack provides the necessary
information (providing service), the customer is receiving the
„output‟ too – the production and consumption of the product
(service) was simultaneous.
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A. i only.
B. I and ii only.
C. ii only.
D. ii and iii only.
ii.
iii.
iv.
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(4) Referring to point (3), the overheads here are usually fixed in
nature, and not variable. Then again, this may differ according
to the business functions in the organisations. The costs in an
airline-ticketing agency may be mainly fixed, but in a
consultancy firm, the variable costs may be greater as the
consultants are paid by the hours of consultation they provide
and the commission and allowances given to them for bringing
in a customer.
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1. Which one of the following is most likely to operate a system of service costing?
A. A printing company.
B. A hospital.
C. A furniture manufacturer.
D. An air-con manufacturer.
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Very often, the cost units for service costing are composite cost
units. Composite cost units are not single cost units. Common
examples include tonne-km and guest night.
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1. Which of the following would be appropriate cost units for a transport business?
A. i only.
B. i and ii only.
C. i and iiionly.
D. All of them.
A = Meal served
B = Patient day
C = Full-time student
D = Occupied bed-night
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1. Calculate the most appropriate unit cost for a distribution division of a multinational company using
the following information.
A. $0.88
B. $1.50
C. $15.84
D. $28,140
2. The formula used to calculate the cost per service unit is:
Cost per service unit = C/ D
C=
D=
3. Happy Returns Ltd operates a haulage business with three vehicles. During week 26 it is expected
that all three vehicles will be used at a total cost of $10,390; 3,950 kilometres will be travelled
(including return journeys when empty) as shown in the following table.
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CHAPTER 11: SERVICE COSTING Sunway TES
Answers:
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Chapter 11 Summary
1. Service costing is an accounting method for services. It is applied in service cost centres in
manufacturing organisations, and also in service organisations.
2. Service costing is not easy to apply because cost units for different organisations are different.
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CHAPTER 12: COST-VOLUME-PROFIT (CVP) ANALYSIS Sunway TES
Learning Outcomes
TLO D1a. Calculate contribution per unit and the contribution/sales ratio.
TLO D1c. Use contribution per unit and contribution/sales ratio to calculate break-even point and
margin of safety.
TLO D1d. Analysis the effect on break-even point and margin of safety of changes in selling price and
costs.
TLO D1e. Use contribution per unit and contribution/sales ratio to calculate the sales required to
achieve a target profit.
TLO D1f. Interpret break-even and profit/volume charts for a single product or business.
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CHAPTER 12: COST-VOLUME-PROFIT (CVP) ANALYSIS Sunway TES
Introduction
Cost-volume-profit (CVP) analysis (also known as the break-even
analysis) evaluates the effects of changes in costs, volume and selling
price on profits. It is useful for profit planning, pricing decisions,
production capacity decisions and sales mix decisions.
One of the main features of CVP analysis is the identifying the break-
even point of an activity. The point at which a company or an activity
breaks even is when it achieves neither profit nor loss. It is the
position where total revenue exactly covers all costs – total revenue
equals total costs.
For example, if a product, Delta, with variable cost per unit of $5 and
total fixed costs of $2,000 is sold for $10, then the contribution per
unit would be:
= $10 - $5
= $5
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1. Budgeted sales of a product in a period is 15,000 units, at a selling price of $55 per unit, producing
a total contribution of $345,000. Fixed costs are $120,000 based on the budgeted sales quantity.
What is the budgeted variable cost per unit?
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Use contribution per unit and contribution/sales ratio to calculate break-even point and margin of safety.
Analysis the effect on break-even point and margin of safety of changes in selling price and costs.
Break-even point
The break-even point refers to the volume and its respective
revenue when the company or the activity makes no profit and no
loss. The break-even quantity is the minimum volume that should be
sold to avoid losses; and the break-even sales refer to minimum
amount of revenue required to cover all costs.
When profit/loss = 0:
Sales – VC = FC
Sales = VC + FC Sales = TC
Profit = 0
Contribution = FC
(Sp – VC unit) × qe = FC
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By replacing the given values into the last line of the working above,
the qe can be obtained. For example, if a product, Delta, with unit
variable cost of $5 and total fixed costs of $2,000 is sold for $10, then
the break-even quantity would be:
(Sp – VC unit) × qe = FC
qe = 400 units
Margin of Safety
When actual sales or expected sales exceed break-even sales, the
company is very much saved from making a loss. The excess of sales
is called margin of safety. It can be measured in volume of sales, in
monetary terms or even in percentage.
𝐌𝐚𝐫𝐠𝐢𝐧 𝐨𝐟 𝐒𝐚𝐟𝐞𝐭𝐲
= Actual/Expected sales volume − Break-even volume
= Actual/Expected sales in $ − Break-even sales
Actual/Expected sales − Break-even sales
=
Actual/Expected sales
𝑐
𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑡𝑜 𝑠𝑎𝑙𝑒𝑠 ( ) 𝑟𝑎𝑡𝑖𝑜
𝑠
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
= 𝑜𝑟
𝑇𝑜𝑡𝑎𝑙 𝑠𝑎𝑙𝑒𝑠 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 𝑆𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒
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CHAPTER 12: COST-VOLUME-PROFIT (CVP) ANALYSIS Sunway TES
The C/S ratio for product Delta is ratio of the contribution per unit
to its selling price:
𝐶 $10 − $5
𝑟𝑎𝑡𝑖𝑜 𝑓𝑜𝑟 𝐷𝑒𝑙𝑡𝑎 = = 0.50 𝑜𝑟 50%
𝑆 $10
With that information, if at one point, Delta’s sales were $20,000, its
contribution would be C/S ratio multiplied with the sales revenue:
𝐶
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 = 𝑟𝑎𝑡𝑖𝑜 𝑥 𝑇𝑜𝑡𝑎𝑙 𝑠𝑎𝑙𝑒𝑠 𝑟𝑒𝑣𝑒𝑛𝑢𝑒
𝑆
= 50% 𝑥 $20,000 = $10,000
Again, that information would easily help to find the profits for that
amount of sales.
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1. A company sells a single product for $55 per unit. Fixed costs total $125,000 per period and the
contribution to sales ratio is 25%.
2. A company makes product E. Budgets have been prepared for the year ahead and include production
and sales of 85,000 units with a break-even of 62,000 units.
3. What will be the effect on the margin of safety if unit variable costs and total fixed costs both
increase, assuming no change in selling price or sales volume?
A. Decrease.
B. Increase.
C. Stay the same.
D. Impossible to determine.
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CVP analysis can also be used to calculate volume of sales and sales
revenue that would be required to achieve a target level of profit. A
business would have to earn enough contribution to cover its total
fixed costs to make the required amount of profit.
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Production $56,000
Non-production $27,000
Variable costs of the firm’s product are $5.20 and the selling price is $8.00 per unit.
What sales revenue (to the nearest $’000) is required to make a profit of $15,000?
A. $25,000
B. $35,000
C. $203,000
D. $280,000
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12d. Interpretation Break-Even and Profit/Volume Charts for a Single Product or Business
Learning Outcome (ACCA Study Guide Area D, Topic D1f):
Interpret break-even and profit/volume charts for a single product or business.
Charts
It is usually easier to use graphical tools to make decisions. In CVP
analysis, there are two charts that can be very helpful in decision
making – the break-even chart and the profit/volume chart. These
charts provide the graphical representation of critical values used in
costing and pricing decision making.
The initial drawing of both charts will require the following values:
Total fixed costs;
Total variable costs; only then, the total costs line can be
drawn
Total sales revenue; and
Break-even point
Sales
Budgeted
profit
Total costs
BE Variable costs
P
0
Margin of safety
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CHAPTER 12: COST-VOLUME-PROFIT (CVP) ANALYSIS Sunway TES
PROFIT
Profit
0 Level of activity
BEP Contribution
LOSS Fixed
Cost
Fixed
Cost
Clearly, the CVP analysis ignores the fact that in reality, all the
assumptions above do not hold true. Costs, volume and selling prices
do change after a relevant range of activity. There will be instances
where the fixed costs are stepped costs as well, or the unit variable
cost changing due to supplier pricing and discount policies, or even
selling prices changing based on customer demands.
Also, this analysis only works for a single product or a single mix of
products. It is usually not easy to apply the break-even analysis
organisation-wide if the organisation manufactures and/or sells a
huge range of products.
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Chapter 12 Summary
1. CVP analysis evaluates the effects of changes in costs, volume and selling price on profits. It employs
the marginal costing profit reporting method.
2. One main feature of CVP analysis is to identify the break-even point of an activity, where there is
neither profit nor loss.
3. Break-even quantity is the minimum volume that should be sold to avoid losses.
4. Break-even sales refer to minimum amount of revenue required to cover all costs.
5. At break-even point,
a. total revenue equals total costs.
b. total contribution equals total fixed costs.
6. The contribution to sales (C/S) ratio is a measure of how much contribution is earned from every
dollar of sales revenue. C/S ratio stays constant as long as selling price and variable cost per unit stay
constant.
7. When actual sales or expected sales exceed break-even sales, the company is saved from making a
loss. The excess of sales is called margin of safety.
8. Two charts used in CVP analysis are break-even chart and profit/volume chart.
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CHAPTER 13: OPTIMAL PRODUCTION PLAN (OPP) Sunway TES
Learning Outcomes
TLO D2c. Formulate and determine the optimal production solution when there is a single resource
constraint.
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CHAPTER 13: OPTIMAL PRODUCTION PLAN (OPP) Sunway TES
Introduction
An optimal production plan is a revised production plan that brings
in maximum profit after considering resources‟ limiting factors. It is
also known as the profit maximisation plan.
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1. State which of the following the types of resources that may be short in supply in a company.
i. Money
ii. Material
iii. Machine hours
iv. Manpower
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Limiting factor
A limiting factor is also known as key factor or principal budget
factor. It limits the organisation’s activities, preventing it from
implementing all alternatives to achieve goals and targets set. An
organisation’s limiting factor may change from time to time.
Common limiting factors in a production plan are material, machine
hours and labour hours.
Let’s say a local company, Golly Ltd produces two products, J and K,
using a common raw material, Q. Available material Q for the month
is 30,000 kg, while direct labour hours are 35,000. The following
details are related to a month’s production plan.
J K
Demand 2,000 units 5,000 units
Raw material per unit 5 kg 3 kg
Labour hours per unit 4 6
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1. A company sells a single product for which cost details are as follows.
$ per unit
There are 28,000 kg of materials and 12,000 hours of labour available. Management anticipates that
demand for the next year would be 5,000 units.
Which of the following are the limiting factors for the period?
A. Material
B. Labour
C. Both material and labour
D. Neither material nor labour
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13c. The Optimal Production Solution When There Is a Single Resource Constraint
Learning Outcome (ACCA Study Guide Area D, Topic D2c):
Formulate and determine the optimal production solution when there is a single resource constraint.
Weighing the contribution per unit of the products alone does not
determine the right volumes of production for maximum profit. The
contribution per unit per limiting factor has to be computed, and
the products should be produced according to a rank or a priority list
– the production of the product with the highest contribution per
unit per limiting factor will be prioritised.
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Figure 13.1 presents the steps and explanations involved in deriving the OPP.
1. Limiting factor
Identify which resource is insufficient.
4. RANK
Product with the highest CPUPLF will be ranked first, and the lowest will be
ranked last.
5. PRODUCE – OPP
The revised plan – OPP – is to produce products according to the ranking or
priority order, until the limited resource is entirely used up. (Make product
Rank 1 first)
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1. A firm produces two products, A and B which have the following information:
A B
Selling price 20 50
Fixed costs 1 5
If direct labour is restricted to a supply of 500 hours, what is the profit-maximising mix?
A B
Units Units
A. 0 125
B. 50 300
C. 300 50
D. 500 0
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Chapter 13 Summary
1. A limiting factor refers to a resource found to be in shortage, thus limiting level of activity.
2. An Optimal Production Plan (OPP) is a revised production plan that brings in maximum profit by using
the scarce resource as efficiently and wisely as possible.
3. The deciding element in OPP is the contribution per unit per limiting factor.
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CHAPTER 14: RELEVANT COSTING Sunway TES
Learning Outcomes
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Relevant Cost
A relevant cost refers to a cost that matters in a decision. It can also
be said as a direct result of a decision.
Relevant costs have concern with issues and projects that are going
to happen, and not what has already happened. They are future cash
flows, which are incremental in nature.
The Elements
Element of relevant costs include:
Sunk costs, which are costs that have already incurred and
therefore does not affect future decisions.
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Then again, sometimes, fixed costs may be relevant costs. Such fixed
costs are regarded as specific or directly attributable fixed costs.
Specific fixed costs also appear to be constant only within a relevant
range of production, which means that these costs are stepped
costs. So, these fixed costs may increase once a certain production
limit is exceeded. They may even decrease if activities are scaled
down or worst yet, stopped. This implies that specific fixed costs will
not incur in the absence of the related activity.
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1. What term is used to represent the benefit sacrificed when one course of action is chosen in
preference to an alternative?
A. Indirect cost
B. Opportunity cost
C. Sunk cost
D. Future cost
A. i and ii
B. i and iii
C. i, ii and iii
D. i, ii and iv
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Note:
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If there are workers who have already been paid (or are being
paid) for their current task(s) who are free, and are available
to take up extra work without additional cost, they are
categorised as spare capacity of labour. Spare capacity hours
will be paid anyway – more like a fixed cost – with no extra
(labour) costs. So the amount paid or payable to the worker(s)
would be considered as sunk or fixed cost – both irrelevant to
decision making. Hence, relevant cost of spare capacity is
ZERO.
For example, out of the 100 hours of labour required for Job
K56, if 60 hours of work can be undertaken by workers from
another division which has 60 hours spare capacity, then the
relevant cost of labour here would be $5 × (100 – 60) hours =
$200 only. The relevant cost of the 60 hours spare capacity
would be zero.
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When labour is in short supply for a new activity, then, there are
usually two options of solutions here:
In this case, the relevant cost of labour for the new activity would
be the labour cost itself, plus the opportunity cost of not making
the product from existing activity. When workers are pulled out
from another activity, they are not able to make the existing
products. As such, there will not be any contribution from those
products. Therefore, that loss is regarded as the opportunity cost.
The basic assumption is that the labour cost of the new activity is
an additional cost that incurs due to newer job. As such, the
labour cost is considered as a relevant cost element.
2. To work overtime
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1. A company is planning to use Material X for a special order. A sufficient quantity of the material is
available from stock for the special order, which would otherwise not be used in the business.
What is the relevant cost per kg of Material X in the evaluation of the special order?
A. Nil.
B. Replacement cost.
C. Net realisable value.
D. Purchase cost.
2. Company A uses Material Y regularly and paid $5,000 for 2,500kg of Material Y a year ago, which are
still in inventory. Material Y has a resale value of $1.20 per kg if sold today and may be purchased at
$2.70 per kg from a supplier.
What is the relevant cost of 2,800kg of Material Y required for a special project?
A. $3,360
B. $3,810
C. $5,000
D. $7,560
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Chapter 14 Summary
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CHAPTER 15: MAKE OR BUY-IN DECISIONS Sunway TES
Learning Outcomes
TLO D2a. Solve make/buy-in problems when there is a single resource constraint.
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CHAPTER 15: MAKE OR BUY-IN DECISIONS Sunway TES
15a. The Make and Buy-In Problems When There Is a Single Resource Constraint
Learning Outcome (ACCA Study Guide Area D, Topic D2d):
Solve make/buy-in problems when there is a single resource constraint.
Introduction
When a business is started, the owners and/or management have
the right to decide on whether they should make the items and/or
the components of the items within the business organisation, or
whether to buy them in.
If the variable costs of buying (or outsourcing) are much lower than
the total of specific fixed costs and variable costs of production, then
it is advisable to buy-in. Otherwise, it is best to make the
component(s) with internal resources. In other words, if savings of
cost is greater when the components are bought-in compared to
them being manufactured, then it is wise to buy them in.
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Only after weighing the relevant costs of making and buying-in and
after considering the non-cost related aspects will the management
make its final decision on obtaining the components or on finishing
the given project
Limiting factors
Sometimes, analysis of make or buy-in problems may suggest the
components to be made or the project be carried out in-house.
However, that solution does not materialise entirely due to shortage
of needful resources, namely material, machine hours and labour
hours.
In such a case, the extra variable cost of buying per limiting factor
saved has to be computed. The component with the maximum extra
variable cost of buying per limiting factor saved should be
manufactured in-house, and the one with minimum extra variable
cost of buying per limiting factor saved can be bought in.
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CHAPTER 15: MAKE OR BUY-IN DECISIONS Sunway TES
1. An organisation manufactures and sells 4 products and the following information is provided.
Should the materials be restricted in supply and any quantities of the products can be bought in
from a supplier, what is the best product to buy-in to maximise profit?
A. Component Bee
B. Component Cee
C. Component Dee
D. Component Eee
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Chapter 15 Summary
1. There are two types of make or buy-in problems – buying components from a supplier, and
outsourcing tasks or projects to another organisation.
3. The primary deciding factors are the organisation’s specific fixed costs, variable costs of production
and variable costs of buying.
4. If the variable costs of buying (or outsourcing) are much lower than the total specific fixed costs and
variable costs of production, then it is advisable to buy-in. Otherwise, it is best to make the
component(s) with internal resources.
5. It is important to examine non-cost related factor such as quality of the components being bought-in,
reliability of the supplier and employee motivation.
6. If the organisation intends to make the components itself, then it should look at its operations
control and availability of resources.
7. If the company decides to buy in components, the organisation should have a clear idea of what to
do with its spare capacity (of labour) and materials it has.
8. When there is a shortage of needful resources, extra variable costs of buying per limiting factor saved
gas to be computed. The component with the maximum extra variable cost of buying per limiting
factor saved should be manufactured in-house, and the one with minimum extra variable cost of
buying per limiting factor saved can be bought in.
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Learning Outcomes
TLO D3a. Explain and illustrate the difference between simple and compound interest, and between
nominal and effective interest rates.
TLO D3c. Explain the distinction between cash flow and profit and the relevance of cash flow to capital
investment appraisal.
TLO D3d. Explain and illustrate the net present value (NPV) and internal rate of return (IRR) methods
of discounted cash flow.
TLO D3e. Calculate present value using annuity and perpetuity formulae.
TLO D3g. Interpret the results of NPV, IRR and payback calculations of investment viability.
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16a. Simple and Compound Interest, and Nominal and Effective Interest Rate
Learning Outcome (ACCA Study Guide Area D, Topic D3a):
Explain and illustrate the difference between simple and compound interest, and between nominal and
effective interest rates.
Introduction
Capital investment appraisal is about evaluating huge amount
investments. It is about weighing the income and profits to be
earned after putting in a large amount of money into short term
or long term projects, and into purchase of fixed assets, such as
land, machinery and technologies.
Interest
Interest refers to the extra amount earned when money is kept
or held over a certain amount of time. It is a form of earning.
Interests come from investments into projects, fixed assets (such
as machinery, vehicle and land) and current assets (such as
inventory and cash in bank and mutual funds). There is an interest
rate that determines the amount of interests that can be earned
over a given period of time.
Simple Interest
Interest is calculated by multiplying investment amount with the
interest rate and the duration of investment.
𝑺𝒊𝒎𝒑𝒍𝒆 𝒊𝒏𝒕𝒆𝒓𝒆𝒔𝒕
= 𝒊𝒏𝒗𝒆𝒔𝒕𝒎𝒆𝒏𝒕 𝒂𝒎𝒐𝒖𝒏𝒕 × 𝒊𝒏𝒕𝒆𝒓𝒆𝒔𝒕 𝒓𝒂𝒕𝒆
× 𝑫𝒖𝒓𝒂𝒕𝒊𝒐𝒏 𝒐𝒇 𝒊𝒏𝒗𝒆𝒔𝒕𝒎𝒆𝒏𝒕
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Compound Interest
Interests earned are subjected to earn interests as well. Let’s say,
in Sally’s case, the interest rate is 4%, compounded per annum.
What happens here is that the interest that is earned in the first
year becomes part of the investment amount for year 2, and the
interest earned in the second year becomes part of the
investment amount for year 3, and so on, until the end of
duration.
The final amount at the end of five years is $12,166.53 and not
$12,000 as computed with simple interest. Obviously, the using
compounded interest has resulted in more interest than one with
simple interest.
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𝑺 = 𝑷(𝟏 + 𝒓%)𝒏
The 12% per annum is called the nominal rate of interest, which
is the interest rate expressed as a percentage per annum. When
a nominal interest rate is compounded at a shorter time period,
the effective annual rate (EAR) must be computed to reflect the
actual interest applied on the investment amount.
𝒓% 𝒏
𝑬𝒇𝒇𝒆𝒄𝒕𝒊𝒗𝒆 𝒂𝒏𝒏𝒖𝒂𝒍 𝒓𝒂𝒕𝒆(𝑬𝑨𝑹) = (𝟏 + ) −𝟏
𝑵
Where r refers to interest per time period, and n refers to the time
period which reflects on the number of times the interest is
compounded
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1. A building society adds interest monthly to investors' accounts even though interest rates are
expressed in annual terms. The current rate of interest is 6% per annum.
An investor deposits $1,000 on 1 January. How much interest will have been earned by 30 June?
A. $30.00
B. $30.38
C. $60.00
D. $300
2. A one-year investment yields a return of 15%. The cash returned from the investment, including
principal and interest, is $2,070. The interest is
A. $250
B. $270
C. $300
D. $310.50
3. If a single sum of $12,000 is invested at 8% per annum with interest compounded quarterly, the
amount to which the principal will have grown by the end of year three is approximately
A. $15,117
B. $9,528
C. $15,219
D. $30,924
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In short:
S = P(1+r%)n → FV = PV(1+r%)n
This computation can also be done using the Present Value Table
(PVT) (see Appendix B). The table provides discount factors for
different years at corresponding interest rates. The formula for
the discount factors in this table is (1 + r%)-n.
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1. Which is worth most, at present values, assuming an annual rate of interest of 8%?
A. $1,200 in exactly one year from now.
B. $1,400 in exactly two years from now.
C. $1,600 in exactly three years from now.
D. $1,800 in exactly four years from now.
2. A sum of money was invested for 10 years at 7% per annum and is now worth $2,000.
3. Find the present value of ten annual payments of $700, the first paid immediately and discounted
at 8%, giving your answer to the nearest $.
A. $4,697
B. $1,050
C. $4,435
D. $5,073
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It is important to remember that Discounting Cash Flow (DCF) techniques are based on the cash flows of a
project, not the accounting profits. DCF is concerned with liquidity, not profitability. Cash flows are
considered because they show the costs and benefits of a project when they actually occur. For example,
the capital cost of a project will be the original cash outlay, and not the notional cost of depreciation which
is used to spread the capital cost over the asset’s life in the financial accounts.
The basic principle of discounting involves calculating the present value of an investment. The present
value of an investment is the amount of money which must be invested now (for a number of years) in
order to earn a future sum (at a given rate of interest).
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1. A company is considering investing $160,000 in a project which will generate the following positive
cash flows.
1 15,700 16,000
2 163,000 16,000
3 32,900 16,000
The Net Present Value of the project’s cash flows, at a cost of capital of 24%, is (to the
nearest $500):
A. –$84,000
B. $167,500
C. $38,500
D. $7,500
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16d. Discounted Cash Flow for The Net Present Value and Internal Rate of Return Methods
Learning Outcome (ACCA Study Guide Area D, Topic D3d):
Explain and illustrate the net present value (NPV) and internal rate of return (IRR) methods of discounted
cashflow.
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PV of cash
inflows > PV Worthwhile –
Positive
of cash accept!
outflows
PV of cash
outflows > PV Not worthwhile –
Negative
of cash reject!
inflows making process with NPV method
Table 16.1 Summary of decision
The first to do is to draft out the NPV format and compute the PVs.
Then, calculate the NPV. If the NPV is positive, then Bina All Ltd
should make the investment; else, it’s best to reject.
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(It must be noted though, the cash flows are mere estimations, and
decision makers must leave room for uncertainties and should
accommodate rate of inflation as well.)
1. Graphical method
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45,000
40,100
35,000
25,700
30,000
20,000
15,000
10,000
(900)
r (%) 4 5 7 8
NPV ($) 40,100 25,700 (900) (13,700)
The x-intercept of the NPV vs cost of capital graph is the IRR for
this project – because NPV equals to zero at that point. From the
graph, the IRR seems to be slightly lower than 7%. If the
company’s minimum acceptable rate of return is 10%, then this
project has to be rejected.
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Formula
[(𝑨)(𝒃 − 𝒂)]%
𝑰𝑹𝑹 = 𝒂% +
(𝑨 − 𝑩)
where
a = the lower cost of capital
b = the higher cost of capita
A = NPV obtained using cost of capital, r = a
B = NPV obtained using cost of capital, rate r =b
r = 8% Present r = 6% Present
Year Cash flow
Discount Value($) Discount Value($)
($)
factor factor
0 (800,000) 1.000 (800,000) 1.000 (800,000)
Note:
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1. Which is worth most, at present values, assuming an annual rate of interest of 8%?
A. $1,200 in exactly one year from now
B. $1,400 in exactly two years from now
C. $1,600 in exactly three years from now
D. $1,800 in exactly four years from now
2. A project requiring an investment of $1,200 is expected to generate returns of $400 in years 1 and
2 and $350 in years 3 and 4. If the NPV = $22 at 9% and the NPV = –$4 at 10%, what is the IRR for
the project?
A. 9.15%
B. 9.85%
C. 10.15%
D. 10.85%
Model Question 1
An investment project has the following expected cash flows over its economic life of three years:
Year, n $
0 (142,700)
1 51,000
2 62,000
3 73,000
a) Calculate the NPV of the project at discount rates of 10% and 20% respectively.
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Annuity
Annuity is a constant amount of cash flow for a given period of time.
If one receives $1,000 at end of every year for 5 years, starting from
now, the annuity amount is $1,000. The present value of the total
amount receivable from now, until the end of five years is calculated
using the Present Value Table (PVT) or the Annuity Table (AT).
Assuming the interest rate is 8%, using discount factors from Present
Value Table (PVT), the present value of the annuity can be computed
as follows:
Cash flow r = 8%
Year ($) Discount factor Present value ($)
1 1,000 0.926 926
2 1,000 0.857 857
3 1,000 0.794 794
4 1,000 0.735 735
5 1,000 0.681 681
Present value of $1,000 annuity for 5 years = 3,993
From the Annuity Table, the annuity factor for r = 8% for n = 5 years is
3.993, which is the same as the total of the 5 discount factors used in
the previous calculation (see computation table above) – 0.926 + 0.857
+ 0.794 + 0.735 + 0.681 = 3.993. The Annuity Table provides the total
of discount factors from the Present Value Table for a particular year
and corresponding interest rate.
Using the annuity factor, the present value of the annuity would be
$1,000 × 3.993 = $3,993. Applying the formula is faster than the
computing present values year by year.
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Perpetuity
Perpetuity is an annuity that lasts forever, meaning it is a cash flow
that lasts for a very, very long time. Good examples are never-ending
payments from hereditary trust funds to beneficiaries, insurance
payments and bonus returns, mutual fund returns and similar
investments.
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1. Find the present value of ten annual payments of $700, the first paid immediately and discounted
at 8%, giving your answer to the nearest $.
A. $4,697
B. $1,050
C. $4,435
D. $5,073
2. An investor is to receive an annuity of $19,260 for six years commencing at the end of year 1. It has
a present value of $86,400.
3. How much should be invested now (to the nearest $) to receive $24,000 per annum in perpetuity if
the annual rate of interest is 5%?
Answer = $____________
Model Question 2
a) An investor has funds to invest now to produce an annuity of $1,500 per year for 10 years
commencing in one year. If prevailing interest rates are 6%, what is the maximum amount that should
be invested?
b) A firm buys a material on a long term contract which stipulates a yearly price increase of 5%
compound. The current price is $250 per kg, the price in three years will be?
c) A person is to receive a ten-year annuity of $5,000 per year, received at the end of each year. At what
interest rate does this have a present value of $30,725?
d) The annual rent of a building is $1,000 payable in advance at the beginning of each year. At an interest
rate of 12%, the present value of the rental payments is $4,037. The length of the lease?
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16f. Payback
Learning Outcome (ACCA Study Guide Area D, Topic D3f):
Calculate payback (discounted and non- discounted).
Payback period
This is a method of determining the time or year at which the total
cash inflows are equal to the total cash out flows – basically
finding out when the net cash flow is no longer a negative number,
and starts to be a positive number.
Non-discounted method
Here, the time value of money is ignored. The cash flows are used as
they are estimated.
Project A appears to show positive net cash inflow at the end of year
3. To be more precise, the payback period is
2 years + $10,000 × 12 months = 2 years and 3 months
$40,000
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Discounted method
A more logical and realistic approach, this method takes into
consideration the time value of money. The payback period is the
time taken for cumulative NPV – total of all cash flow PVs at the end
of the year – to change from a negative number to a positive one.
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1. A capital investment project has an initial investment followed by constant annual returns.
Diamond Ltd has a payback period limit of three years and is considering investing in one of the following
projects. Both projects require an initial investment of $800,000. Cash inflows accrue evenly throughout
the year.
1 250,000 250,000
2 250,000 350,000
3 400,000 400,000
4 300,000 200,000
5 200,000 150,000
6 50,000 150,000
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1. The following statements relate to an investment project that has been discounted at rates of 10%
and 20%:
i. The discounted payback period at 10% will be longer than the discounted payback period at
20%.
ii. The discounted payback period at 20% will be longer than the discounted payback period at
10%.
iii. The non-discounted payback period will be longer than the discounted payback period.
iv. The non-discounted payback period will be shorter than the discounted payback period.
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Chapter 16 Summary
1. Interest refers to the extra amount earned when money is kept or held over a certain amount of
time.
a. Simple interest is calculated by multiplying investment amount with the interest rate and the
duration of investment.
b. Compound interest refers to interest earned on interest. Using compounded interest has
resulted in more interest than one with simple interest.
3. Discounted cash flow is the amount of cash flow after applying discount rates.
4. Annuity is a constant amount of cash flow for a given period of time. Perpetuity is an annuity that
lasts forever.
5. Capital investment refers to investment of huge amount of money into fixed assets, projects or long
term plans.
7. NPV is the difference between present values of cash inflow and cash outflow. The investment is a
worthwhile one if, and only if the total present value of all cash inflows exceed the total present
value of all cash outflows for the duration specified, which means NPV has to be a positive number.
8. The IRR is the cost of capital at which the NPV of the investment is zero. As long as IRR exceeds the
minimum acceptable rate of return, it is a worthwhile investment.
10. NPV decreases with the increasing cost of capital. This is because the faster the value of money
changes (the higher the r value), the lower the present value of money.
11. Payback period is a method of determining the time at which cash inflows are equal to total cash
outflows. A project is viable when the computed payback period is within the time limit set by the
organisation. When there are many projects involved, the one with the shortest payback period
would be the favourable one.
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Learning Outcomes
TLO E1b. Outline the various sources of cash receipts and payments (including regular/exceptional
revenue/capital receipts and payments, and drawings.
TLO E1c. Describe the relationship between cash flow accounting and accruals accounting.
TLO E1d. Distinguish between the cash flow pattern of different types of organisations.
TLO E1e. Explain the importance of cash flow management and its impact on liquidity and company
survival. (note: calculation of ratios is not required)
TLO E2c. Outline guidelines and legislation in relation to the management of cash balances in public
sector organisations.
TLO E2d. Describe how trends in the economic and financial environment can affect management of
cash balances.
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Introduction
Cash flow refers to movement of funds from and into a business.
The balance between cash inflows and outflows determines the
liquidity level of the business, and is necessary to ensure the
existence and survival of the business. Different cash flows have
different patterns – some are predictable, some are not; some are
consistent flows, some are occasional ones.
A company can make losses but still have positive net cash flow. For
example, a disposal of non-current assets at a loss reduces profit,
but the sales proceeds are recorded as cash inflows. Issuance of
shares has no immediate impact on the profit but results in cash
inflow. Similarly, a company can make profits but is experiencing
negative net cash flow.
A company enjoying a healthy profit margin and its sales are stable
would usually experience lesser cash flow difficulties from its trading
operations (cash receipts from sales and payment to suppliers).
Difficulty in generating sufficient cash flow from operations is more
likely to be encountered when a company is making a little profit,
while expanding rapidly.
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1. A financial statement that shows the inflows and outflows of cash during a particular period of time
is known as:
A. Income statement.
B. Statement of retained earnings.
C. Balance sheet.
D. Statement of cash flows.
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a. Financing
Funds received from government in the form of grants, money
received from shareholders from issuance of shares, long term
loan from banks and other financial institution.
b. Other income
Excess space available can be rented out from which rental is
collected.
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c. Capital expenditures.
These are payments of cash for long term assets.
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17c. The Relationship Between Cash Flow Accounting and Accruals Accounting
Learning Outcome (ACCA Study Guide Area E, Topic E1c):
Describe the relationship between cash flow accounting and accruals accounting.
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For example, a company called Wines Ltd buys raw materials on 2.5
months‟ credit, holds them in store for 1 month and then issues
them to the production department. The production cycle takes 2
months. Finished goods are sold within a couple of days of
production being completed and customers take an average 1.5
months to pay.
0 2.5 3 4.5
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The duration of the length of the cycle (and therefore the amount
invested in working capital) is affected by:
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c. Manufacturer of toys
Due to seasonal nature of the business, working capital
requirements will fluctuate significantly during the year.
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17e. Cash Flow Management, and Impact on Liquidity and Company Survival
Learning Outcome (ACCA Study Guide Area E, Topic E1e):
Explain the importance of cash flow management and its impact on liquidity and company survival. (note:
calculation of ratios is not required.
a. Cash
A business requires a particular level of cash (or overdraft
facility) in order to pay debts when they fall due, and
particularly to take advantage of any generous discounts
offered for prompt payment. However, a better return could be
earned by investing any cash surplus in a high yielding
investment. By ensuring that it has sufficient liquid assets
(cash), therefore, a business is reducing its chance of owning
more profitable assets.
b. Receivables
A business could decide that it does not want to offer credit to
customers because the delay of payment jeopardizes its
liquidity position. If it tried to adopt this policy however,
customers would be driven away, revenue would fall and
profits would fall.
c. Inventory
In order to satisfy customer demand, manufacturing and
retailing firms need to maintain finished goods inventory, to
keep production runs moving without disruption, raw materials
inventory also need to be maintained. This means that a
business will have money tied up in inventories that, again, it
might feel it could use more profitably elsewhere. However, if
inventories were not available when required, a potential sale
might be lost. The cost of a broken production facility may be
higher than the cost of holding inventory.
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d. Payables
To improve its cash position a business might decide not to pay
suppliers until after two or three months, rather than after the
normal one month. Apart from the obvious cost of lost discount
opportunities, the business runs the risk of alienating its
suppliers and even losing sources of supply.
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1. In order to improve operational cash flows, indicate whether a business needs to increase or
decrease each of the following.
Receivables
A. Increase
B. Decrease
Inventory
C. Increase
D. Decrease
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Treasury management
Association of Corporate Treasurers defines treasury management
as the corporate handling of all financial matters, the generation of
external and internal funds for business, the management of
currencies and cash flows, and the complex strategies, policies and
procedures of corporate finance.
Treasurer roles
According to Association of Corporate Treasurers, the roles of a
treasurer include:
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1. Maureen is employed in the finance function of Gralam plc. Her duties involve ensuring that the
company always has sufficient funds available to meet both its short-term and long-term financial
requirements. It is clear, therefore, that Maureen is employed by Gralam plc in its:
A. Financial reporting section
B. Management accounting section
C. Treasury management section
D. Transaction processing section
2. Identify whether the following tasks are normally undertaken by the treasury department of a large
business.
Credit control
A. Yes
B. No
Short-term investment
C. Yes
D. No
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2. What is the most common reason the cash account is out of balance?
A. The recording job is too hard.
B. Computer failure.
C. Customers do not complete their forms correctly.
D. The bookkeeper is lack of concentration.
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Section 111 of the Local Government Act 1972 states that the local
authorities have the power to lend their excess funds to facilitate
discharge of their functions.
The Lcal Government Act 2003 has a new prudential framework that
regulates the capital financing and treasury management
arrangements of local authorities. The purpose is to encourage
authorities to place their funds in forms of deposits that are
relatively safe and could be assessed quickly.
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1. Which of the following is a local authority that may borrow money for any purpose relevant to their
function under any enactment?
A. Section 43
B. Section 34
C. Section 111
D. Section 110
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1. When the interest rates rise, it would be cheaper for the company to borrow money and thus the
company may borrow more money.
A. True
B. False
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Chapter 17 Summary
1. Cash flows determine the liquidity level of a business and can be classified into:
a. Revenue receipts and payments
b. Capital receipts and payments
c. Exceptional receipts and payments
2. Calculation of the working capital cycle allows businesses to manage the liquidity position of the
company as it focus on the length of time between paying cash for input and receiving cash for goods
sold.
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Learning Outcomes
TLO E4b. Explain and illustrate statistical techniques used in cash forecasting including moving averages
and allowance for inflation.
TLO E4d. Explain and illustrate how a cash budget can be used as a mechanism for monitoring and
control.
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Surplus funds
Surplus funds mean excess funds held by the business. They are not
needed to finance business operations. Cash surplus may arise due
to excess cash from trading, lower costs to cost savings measures,
efficient working capital management, sales of non-current assets
and seasonal factors such as extra sales during festive seasons.
Cash deficit may arise due to less cash from operations, inefficiencies
and poor working capital management.
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A. i only
B. ii only
C. i and ii
D. All of the above
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i. bank deposits
ii. money- market deposits
iii. certificates of deposit
iv. government stock
v. local authority stock
a) Certificates of deposit
Certificates of deposit (CD) are negotiable instruments in bearer
form. Title belongs to the holder and can be transferred by
delivering the CD to the buyer.
Bank and building societies issue CDs. The amount of the deposit
and the date of repayment will be stated on the certificate. The
deposit amount will usually be at least $100,000 and the
repayment date will be anything from one week to five years.
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Gilts usually have fixed interest rates, although there are also
various index-linked gilts. Where they are the index-linked type,
both the interest and the redemption value are linked to
inflation, ensuring that a decent real return is gained.
Gilts are also traded on the stock market. Their price can go up
or down, depending on what people think will happen to interest
rates. When interest rates are expected to fall, the price of the
gilt rises, and when interest rates are expected to rise, the gilt
price falls. Using gilts in this way makes them a riskier
investment, but still relatively safe when compared with buying
shares on the stock exchange.
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d) Other investments
i. High street bank deposits
All of the high street banks offer different types of interest-
earning accounts into which an investor could transfer some
of its surplus funds.
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Risks of investments
Investments which have low risk to high risk are government stock,
local stock, convertible loan stocks, preference shares and ordinary
shares.
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i. bank deposits
ii. money- market deposits
iii. certificates of deposit
iv. government stock
v. local authority stock
1. Which of the following statements about the gilt edged securities are correct?
A. i and iii
B. ii and iii
C. i, ii and iii
D. ii, iii and iv
2. A 6% treasury stock is currently valued at $90 and is redeemable in one year’s time. What is the
redemption yield?
A. 18%
B. 15%
C. 10%
D. 6%
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Intermediate loans are usually paid back within one to five years.
It is used to purchase non-current assets such as equipment.
Long term loans are usually paid back within 5 to 7 years and may
extend to 40 years. It is used to purchase non-current assets such
as buildings.
Unsecured loans are loans that the borrower does not need to
put in security.
Secured loans are loans that the borrower requires security such
as the business’s assets.
Balloon Loans are loans where most the loan principal are repaid
at the end of the period.
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Covenants
The loan should specify the terms of agreement, tenure of loan,
interest rate payable and the frequency of interest payments.
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1. An organisation has an overdraft limit of $100,000 at an interest rate of 8% per annum. To-date,
$15,000 has been overdrawn. How much is the interest payable?
A. $1,200
B. $2,500
C. $5,000
D. $8,000
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Chapter 18 Summary
1. Cash surplus can be managed through different investments based on investors risk appetites and
investment needs such as:
a. Certificates of deposit
b. Gilt edged securities
c. Money market securities
d. Local authority stocks
2. Different bank loans can also be taken when a business face cash deficit.
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Learning Outcomes
TLO E3b. Explain and illustrate statistical techniques used in cash forecasting including moving
averages and allowance for inflation.
TLO E3d. Explain and illustrate how a cash budget can be used as a mechanism for monitoring and
control.
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Cash Budgeting
A cash budget is used to plan and anticipate future cash surplus and
shortages. If there are future cash surpluses, the management can
plan ahead to invest the funds. If there are future cash shortages,
the management can plan ahead by implementing strategies to
improve sales or borrow funds. Through preparation of cash budget,
actual cash flows can be compared with budgeted cash flows.
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1. A company’s cash budget for next year shows a cash deficit for the months of April and May. For the
remaining months there will be a cash surplus.
Which TWO of the following management actions would be most appropriate in response to the
expected cash position in April and May?
A. Increase inventories of raw materials.
B. Arrange a bank overdraft.
C. Delay the payment of suppliers as much as possible.
D. Issue additional share capital.
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Trend
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Y=T+S+C+R
where,
Y = the actual time series
T = the trend
C = the cyclical component
S = the seasonal component
R = the random component.
Y=T+S
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Y= T x S
The trend will be the same, but the values of the seasonal and
random components will now be different. The proportional model
is better than the additive model because when the trend is
increasing or decreasing over time, the seasonal variation is likely
to be increasing or decreasing as well.
Problems in Forecasting
All forecasts are subject to errors, but the type and severity of
errors will depend upon a number of factors.
a) The further into the future, the more unpredictable will be the
costs, and therefore the reliability of the forecast will depend
upon the budget period.
b) The more data are available and used, the more reliable is the
forecast.
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EXAMPLE
Take a moving average of the annual sales over a period of three years.
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Index Numbers
Index numbers standardise the way of comparing the values such as prices, wages and volume of output,
over time. In economics, these indices summarise movements of a group of related variables. Indices
are economic data that reflect price or quantity when compared with a base value (equals 100). The
index number is usually expressed as 100 times the ratio to the base value. For example, if an item costs
twice as much in 2008 as it did in 1998, its index number would be 200 relatives to 1998.
Index numbers are commonly used in business, government and commerce. For example:
i. The Retail Prices Index (RPI) as a measure of inflation by measuring changes in retail prices
paid by consumers
ii. The Financial Times All Share Index
iii. Department for Work and Pensions (DWP)
Indices are constructed to highlight the associated issues related to business activity, the cost of living,
country’s purchasing power parity and employment.
i) Pn
Price index = x 100
Po
ii) Qn
Quantity index = x 100
Qo
Where:
Pn is the price of the period under consideration
Po is the price of the base period
Qn is the quantity of the period under consideration
Qo is the quantity of the base period
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EXAMPLE
The following table shows the changes in price and sales volume of a product over the years:
Calculate both the price and quantity indices for year 20X4 and 20X5 using year 20X3 as a base year.
ANSWER
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EXAMPLE
The following table shows the change in price over the years of a product:
Construct both a fixed base index and a chain base index for the years 20X3 to 20X6 using 20X3 as the
base year.
ANSWER
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Σ Pn
Simple aggregate price index = x 100
Σ Po
EXAMPLE
ANSWER
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Formulae:
Σ PnQo
Weighted aggregate price index = x 100
Σ PoQo
Σ PoQn
Weighted aggregate quantity index = x 100
Σ PoQo
Note:
Price indices are weighted by quantities, likewise quantity indices are weighted prices.
EXAMPLE
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ANSWER
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3. The general direction in which the graph of a time series appears to be moving over a long period of
time is termed?
A. Basic trend.
B. Actual trend.
C. Seasonal trend.
D. Upward trend.
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The Process
Process of preparing a cash budget: -
Receipts X
Less: Payments (X)
Net cash flow in month X or (X)
Opening cash balance b/f X or (X)
Closing cash balance c/f X or (X)
Sales
Sales of the mixed paint are made to two types of customer,
companies and individuals. Individuals pay cash at the time of sale.
The credit terms given to the companies are payment in the month
following sale, however, M Co has poor control over the
management of receivables and the recent payment history has
been:
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The popularity of the product has risen and there is now a three
month wait for orders to be produced, so sales for April to June can
be predicted with certainty:
Sales orders 44 45 58 34 53
from
companies
$‟000
Sales orders 10 15 14 10 13
from
individuals
$‟000
Production Costs
Production costs are 90% of the sales revenue. No finished good
or raw material inventory is held. 60% of the production costs
relate to materials and 80% of the material cost is the cost of
pigments. The remaining 20% of the material cost is the cost of
the white paint.
Non-production overheads
Rent and rates for the factory are estimated to be $12,000 per
annum, paid quarterly in advance. The last payment was made in
January. Depreciation is estimated at $1,000 per month.
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Other information
On the first of April, M Co’s bank account is expected to be $5,000
overdrawn. The overdraft limit agreed with the bank is $12,000.
Required: -
(a) Prepare a cash budget for the three months ended June for M
Co (work to the nearest $’000). (15 marks)
Receipts
From companies 43 49 43
From individuals 14 10 13
Total receipts 57 59 56
Payments
Material pigments 28 19 25
White paint 6 8 5
Total payments 63 43 54
Workings
February March April May June
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Total sales 60 72 44 66
Materials 60% 32 39 24 35
Pigments 80% 26 31 19 28
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1. A Local Authority is preparing a cash budget for its refuse disposal department.
Which of the following items would NOT be included in the cash budget?
A. Capital cost of new collection vehicle
B. Depreciation of the refuse incinerator
C. Operatives’ wages
D. Fuel for the collection vehicles
Payments
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Which TWO of the following actions would not be appropriate to make use of the surplus?
A. Increase inventories and receivables to improve customer service.
B. Buy back the company’s shares.
C. Increase payables by delaying payments to suppliers.
D. Invest in a short term deposit account.
2. Which TWO of the following actions would be appropriate if the cash budget identified a short
term cash deficit?
A. Issue shares.
B. Pay suppliers early.
C. Arrange an overdraft.
D. Implement better credit control procedures.
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Chapter 19 Summary
1. Time series analysis and index numbers are cash forecasting techniques which may be used.
2. Cash budgets allow businesses to plan and anticipate future cash surplus and shortages to either
invest funds or implement strategies to improve sales or borrow funds.
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APPENDIX A SUMMARY OF FORMULAE Sunway TES
1. Costs
Production costs = Prime costs + Production overheads
Prime costs = Direct material costs + Direct labour costs + Direct expenses
High-Low Method
Step 2 Determine:
HC* – LC*
Step 3 VC per unit =
HU - LU
2. Variances
Formulae for Sales Variances
Sales Price Variance = Actual Sales ~ (Actual units sold x Budgeted selling price)
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Sales Volume Variance = (Actual units sold x Budgeted selling price) ~ Original budget
Flexed budget
Price Variance = Actual Cost ~ (Actual units produced x Budgeted unit cost)
Volume Variance = (Actual units produced x Budgeted unit cost) ~ Original budget
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3. Materials
Free inventory = Inventory in hand + Ordered inventory – Scheduled inventory
For materials:
Value of opening inventory + Value of purchases = Value of issues + Value of closing inventory
Stock control
2cD
Economic order quantity (EOQ) = √
h
Minimum stock control level = Reorder level – (average usage × average lead time)
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4. Labour
Labour costs
Direct labour cost = Basic pay of direct workers – Idle time pay of direct workers
+ Overtime premium (if necessary)
Indirect labour cost = Overtime premium of direct workers (if necessary)
+ Idle time pay of direct workers
+ Bonuses, allowances and incentives, if any
+ Gross wages of indirect workers
Gross wages = Direct labour cost + Indirect labour cost
Labour turnover
# O/employees + # C/employees
Average employees in a period =
2
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Idle hours
1. Idle time ratio = × 100%
Total hours
5. Expenses
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6. Overheads
OAR process:
Step 2: Re-apportionment
(Budgeted OAR)
= Fixed production cost per unit × (Difference between Actual and Normal production Volumes)
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7. Profit reporting
Marginal costing
MC Profit statement:
$ $
Sales x
Less:Variable cost of sales
Opening stock x
Add: Production x
Less: Closing stock (x)
Other variable costs x
Total variable cost of sales (x)
Contribution x
Less: Fixed costs
Production x
Non-production x
Total fixed costs (x)
NET PROFIT xx
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Absorption costing
Fixed production cost per unit = Fixed production cost ÷ Standard production volume
= Fixed production cost per unit × (Difference between Actual and Normal production Volumes)
AC Profit statement:
$ $
Sales x
Less:Cost of sales
Opening inventory x
Add: Production x
Less: Closing inventory (x)
Total cost of sales (x)
GROSS PROFIT x
Less: Underabsorbed overhead (x)
OR
Add: Overabsorbed overhead x
ADJUSTED GROSS PROFIT x
Less: Non-production costs
Fixed x
Variable x
Total non-production costs (x)
NET PROFIT xx
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Direct materials X
Direct labour X
Direct expenses X
PRIME COST X
Factory overhead X
TOTAL PRODUCTION COST/FACTORY COST X
SDA overheads
Fixed X
Variable X
Total SDA overheads X
TOTAL COST X
Profit X
SELLING PRICE X
Batch costing
9. Service Costing
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When profit/loss = 0:
Sales – VC = FC
Sales = VC + FC Sales = TC
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Step 4 Rank
Step 5 Produce
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r%
Effective annual rate (EAR) = (1 + )n – 1
n
Annuity y
Perpetuity =
Interest rate
A
IRR = a% + [( ) (b – a)] % a = lower of the two rates of return used
A–B
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APPENDIX B PRESENT VALUE TABLE Sunway TES
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APPENDIX C ANNUITY TABLE Sunway TES
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