College of Business and Economics

School of Accounting

ADFM/BPFM

PERFORMANCE MANAGEMENT
(P2) (ADFM005/S3PFFM06)

AO1 REVISION QUESTIONS

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QUESTION 1

Question 1.1

A company has estimated the selling prices and variable costs of one of its products
as follows:

Selling price Probability Variable cost Probabilit

per unit per unit y
R4 0·30 20 0·55
0
R5 0·45 30 0·25
0
R6 0·25 40 0·20
0

REQUIRED:

Given that the company will be able to supply 1,000 units of its product each
week irrespective of the selling price, and that selling price and variable cost per
unit are independent of each other, calculate the probability that the weekly
contribution will exceed R20,000.
(3)

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Question 1.2

A company has to decide which of three mutually exclusive projects to invest in next year. The
directors believe that the success of the projects will vary depending on economic conditions.

There is a 30% chance that conditions will be good, a 20% chance that conditions will be fair
and a 50% chance that conditions will be poor. The company uses expected value to make this
type of decision.

The net present value for each of the possible outcomes is as follows:

Economic Project A Project B Project C

Conditions
Good R700 R800 R700
Fair R400 R500 R600
Poor R300 R400 R500

A firm of economic analysts believes it can provide perfect information on economic conditions.

REQUIRED:

Calculate the maximum amount that should be paid for the information from the firm of
economic analysts.
(5)

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Question 1.3

Xulu Inc. has developed two new products, Product X and Product Y, but has insufficient
resources to launch both products. The success of the products will depend on the extent of
competitor reaction. There is a 20% chance that competitors will take no action, a 50% chance
that they will launch a similar product and a 30% chance that they will launch a better product.

The profit/loss that will be earned by each of the products depending on the extent of
competitor reaction is as follows:

Competitor reaction Product X Product Y

No action R540,000 R620,000
Launch a similar product R320,000 R380,000
Launch a better product ($150,000) (R200,000)

Another option for XY would be to launch neither product. If it chooses this course of action
there is a 60% chance that competitors will take no action and there will be no effect on the
company’s profit. There is a 40% chance that competitors will launch a new product and
company profits will reduce by R100,000.

REQUIRED:

Demonstrate, using a decision tree and based on expected value, the best course of action for
the company.

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QUESTION 2
Joint probabilities and two way tables

Imbokodo Group is planning its annual marketing conference for its sales executives and has
approached The Two & Only Holiday Co. to obtain a quotation.

The Finance Manager was tasked to calculate the total relevant cost of the contract and arrived
at a figure of R10,860 for 20 conference attendees. The Finance Manager of The Two & Only
Hotel Co. has considered all the relevant costs when calculating this cost which will form the
base of quote price and it includes hotel and fuel costs (for shuttling the attendees). Both these
costs are the expected costs of hiring the hotel for the conference.

But now that the quotation has been prepared, The Two & Only Hotel Co. has realised that
there is some uncertainty concerning the hotel cost and the fuel cost. Further investigation has
shown that these costs may be higher or lower than the original estimates. Estimated costs with
their associated probabilities are as follows:

Estimated hotel cost Probability Estimated fuel cost Probability

(Rands) % (Rands) %
R4,000 20 R1,200 10
R5,000 50 R1,500 50
R6,000 30 R2,000 40

The following two-way data table shows the effect on the total relevant cost of these alternative
values. All figures are in Rands:

FUEL HOTEL
R 4 000 R 5 000 R 6 000
R1 200 –1,300 –300 +700
R1 500 –1,000 0 +1,000
R2 000 –500 +500 +1,500

Required:

2.1 Explain the meaning of the above two-way data table.

2.2 Produce and interpret a table that shows how the two-way data table may be used
in conjunction with the probabilities to improve the information available to the
Finance Manager of The Two & Only Hotel Co.
(15)

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QUESTION 3 (Past paper)

Drive Safely SA (DSSA) provides a motorist rescue service to its members. At present all
members pay a basic fee of R100 per year but DSSA is considering the introduction of different
fees for members depending on the data they provide when joining the service. The number of
members, and therefore the fee income of DSSA, is uncertain but the following estimates have
been made:

Number of members Probability

20,000 0.3
30,000 0.5
40,000 0.2

The operating costs to be incurred by DSSA have been analysed between call-out costs and
administration costs. These operating costs have been assumed to vary in relation to the
number of members and consequently the average costs per member for next year are
expected to be:

Call-out cost per member for the year R50

Administration cost per member for the year R10

Each of these operating costs may vary by plus or minus 20%. There is equal probability of
these costs being as expected, 20% higher, or 20% lower. In addition, DSSA expects to incur
annual fixed costs of R1,100,000.

Required:

1.1Calculate the expected annual fee income of DSSA. (2)

1.2Using Expected Values, calculate the breakeven number of members. (3)

1.3Prepare a two-way data table that shows the nine possible profit values. (6)

1.4Explain the meaning of table that you have produced in (c) above and, by including
appropriate probability values, how it may be used by management.
(4)

The Management Team collectively agreed that your assumption that operating costs are driven
by the number of members was too simplistic and that in future the Administration department
should request the following information from members:

 Member’s date of birth;

 Member’s address;
 Number of years the member has been a qualified driver;
 Age of vehicle;
 Make and model of vehicle;
 Average annual mileage.

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Required:

1.5 Explain how and why the collection of this data from members might improve the
information that would be available to the Management Team.
(4)

END OF QUESTION BANK