QUESTION 4 – AutoFix Pty Ltd

a) Since total actual fixed costs were equal to budgeted, the over-recovery of overheads is
only as a result of volume, that is, the difference between actual and normal capacity. [2]

Sales units – given 20 000 [1]

Add: closing inventory
[425 000/1 700 000 x 20 000] 5 000 [1P]
Therefore, actual production 25 000 [1P]

Difference between actual and budgeted

production [25 000 units – 22 000 units] 3 000 [1P]

Thus, predetermined overhead absorption rate

[R90 000 / 3 000] R30 [1P]
[7] Max [6]
b) • Break-even analysis is based on the assumption of a variable costing system (1)
while the preliminary income statement has been prepared based on absorption
costing basis (1);
• Under absorption costing, profit is a function of sales and production volumes (1)
while under variable costing, profit is function of sales volume only (1);
• Under absorption costing, fixed costs amounting to R150 000 (R30 x 5000) (1P)
WERE CAPITALISED in closing inventory (1), leading to a lower cost of sales,
thus increasing net profit with the same amount.
[6] Max [4]

c) R
Profit per absorption costing statement 130 000 [1]
Add: fixed cost in closing inventory (1) (150 000)
Loss per variable costing statement (20 000) [1P]
Total [3]

d) (i)
R’000
Fixed manufacturing overheads (c1)
(660 000 – 300 000*(1)) 360 000
Fixed selling costs (c2) 80 000 [1P]
Administration costs 80 000 [1]
Training cost (R18 000 x 4 months) 72 000 [1]
Total fixed costs 592 000
Target profit after tax (1) (R227 088/ 0.72(1)) 315 400
907 400
R
Selling price per unit 126,00
Less: variable costs
Raw material (R500 000/25 000) (20,00) [1]
Direct labour (R600 000/25 000) (24,00) [1]
Production overhead (8,00) [1]
Depreciation on machinery (1)
[2 500 000 – 340 000] /180 000(1) (12,00)
Variable selling costs (5,00) [1P]
Contribution per unit 57,00
 Thus, required sales level (R907 400 / R57) 15 920 units [1P]
* depreciation for the old machine included in fixed production overheads.

C1: Budgeted fixed costs (R30 x 22 000 units) = R660 000 (1P)
Total production overheads (R1 025 000) (1) less absorbed fixed costs
(R30 x 25 000) (1P)= total variable overheads (R275 000).
Per unit = R275 000/ 25 000 = R11,00 (1P)

C2: Selling costs

High and low: (190 000 – 180 000)(1)/(22 000 – 20 000)(1) = R5 per unit
Therefore, fixed element: R190 000 (1) – (22 000 x R5)(1P) = R80 000
[19] Max [17]

(ii)
Expected sales units (26 000) (1) – break even units (15 920 units) (1P)
Therefore, margin of safety in units = 10 080 units (1P)
Total [3]

e) The analysis and calculations in part (d) above where based on cost volume profit analysis
(1) theories which has the following assumptions and inevitable shortcomings:

• CVP assumes that costs can be accurately divided into their fixed and variable
elements which could pose practical challenge in practice; [1]
• Furthermore, it assumes single product or constant sales mix and break even or
profitability derived using this model is highly sensitive to changes in sales mix; [1]
• The model assumes that only volume changes while all other variables such as
variable cost, selling price etc. remains constant – the assumption which seldom holds
truth in practice as these variables are often interdependent; [1]
• The analysis assumes there is a linear relationship between total cost and total revenue; [1]
• Theoretically, the analysis applies only to short term. [1]
[6] Max [5]
Layout [1]
Language usage [1]
Grand total [40]