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MEEN 30140
Professional Engineering (Finance)
Topic 7
Contribution and Pricing
Course Topics
1. Introduction & Basic 7. Costing/Contribution / Pricing
Accounts [Text Chapters: 1 & Decisions [Text Chapters: 17 and 18]
2]
2. Compiling Basic Accounts 8. Economic Analysis & Project
[Text Chapters: 3, 4 & 5] Accounting [Application of concepts]
3. Liquidity Management 9. Project Investment Appraisal
[Class Notes] [Text Chapter: 19]
4. Accounts Interpretation 10. Budgeting & Mangmt Acctg

[Class notes] [Text Chapters 15 & 16]
5. Recap & Test Prep 11. Recap & Test Prep
6. Exam 1 12. Exam 2

(materials weeks 1-5) (materials weeks 7-11)
Professional Engineering (Finance) 2

Group Project - Format
⚫ Brief has been issued see Bright Space

and Announcement
⚫ Represents 30% of the total course marks
⚫ Is due for submission on Weds April 27th

Group Project - Groups
⚫ A brief period for groups to self form. Groups have to be
of 4 students only. One representative of a group should
email me with the group composition (full names),
copying in the other group members, and that email will
act as notification of a self-formed group.
⚫ The deadline for submission of self-formed groups is 5pm

Monday 7th March. At that point I will create those self-
formed groups in Bright Space and randomly assign all
other students into groups of 4.
Group Project - Content
⚫ Business Plan – freeform content
⚫ Must stick to the structure and the mandatory

deliverables
⚫ Elements from weeks 1-6, but more to come from weeks

7-10
⚫ Make all reasonable assumptions – note your

assumptions
Group Project - Assessment
Mandatory Assessment Elements:
⚫ Introduction & Executive Summary. [10 marks]
⚫ Financial accounting forecast [20 marks]
⚫ Cash flow forecast [10 marks]
⚫ Investment appraisal computation [20 marks]
⚫ Performance monitoring plan [15 marks]
Includes the quality and comprehensiveness of assumptions and computations included in appendices,
so make your references clear and unambiguous.
Qualitative Assessment Elements:

For the format and composition of the Plan, the professionalism of the Plan, the holistic capture of
issues, and the quality of the conclusions. [15 marks]
Individual contribution to the team delivery. [10 marks] Note, all other marks are based on the Group
submission and will be commonly earned.
Group Project - Tips
Financial Statement Articulation
⚫ The profit/loss in any given year should equal the movement in retained earnings in your
balance sheet
⚫ The cash inflow/outflow in any year should equal the movement in your cash balance on
your balance sheet.
⚫ You may find working in Excel (or similar) can ensure you maintain these controls
Key Assumptions
⚫ Carefully consider your key assumptions
⚫ In your investment analysis, consider how the outcome might change if assumptions
change
Group Project
Any Questions ?
Cost , Pricing & Margin
⚫ How do we price a product?
⚫ We need to know the cost of a product?
⚫ We need to apply a pricing technique
⚫ We need to be aware of
margin/contribution…
Types of Costs
⚫ Variable Costs (VC): i.e. costs that vary
directly with quantity produced. In Product
Costing, VC include:-
➢ Direct Material
➢ Direct Labour
➢ Consumables/variable overheads
⚫ Fixed Costs: Costs that remain Fixed (in

the medium-term) regardless of quantity
produced.
Fixed Costs ~ Illustration
Costs
. Fixed Costs
0
Quantity
Topic 6 Costing & Contribution 11

Variable Costs ~ Illustration
Costs
0
Quantity

Total Costs ~ Illustration
Costs
Fixed Costs
0
. Quantity

Product Costing
➢ Product costing is the function of calculating

applicable costs directly to units of
production
➢ Units can be a product class or individual
product units
➢ Accurate product costing can help a business
to make key production and sales decisions:
➢ Bulk discounts
➢ Utilisation of scarce resource
➢ Cost plus pricing
Product Costing 1
1. Calculate Direct costs

➢ Materials (incl. Wastage)
➢ Direct Labour (Std. time x Gross Lab. cost)
➢ Other direct costs (e.g. ‘consumables’)
Product Costing 2
2. Add on for Overheads and Profit

i. “Apply” an overhead “rate”
(Absorption costing), and add on a
Net Profit margin; - or…
ii. Add a Gross Profit margin onto the
Direct Costs to cover both
Overheads and Profit; - or …
iii. Use Activity Based Costing (ABC)
and add a Net Profit margin.
Costing for Overheads (i)
(i). Absorption Costing:
⚫ Select a ‘base’ against which the
overheads can be recovered (absorbed)
⚫ This is usually done on say a Direct
Labour Hour basis
Example: A manufacturer budgets Overheads of €4.0m for
2022. It also budgets that it will need 100,000 Hours of Direct
Labour to meet forecasted (budgeted) demand for its products.
Overhead ‘Absorption’ Rate: €4,000,000 / 100,000 = €40 / Hr. This
rate / Hr. is added to the cost, based on labour time required.
(i) Absorption Costing Example
Total
❖ Direct Material Costs: €138.00 Direct
Costs
❖ Direct Labour Costs:
1.5 Hrs @ €32 / Hr. = € 48.00 €186
❖ Overheads:
1.5 Hrs @ €40 / Hr.= € 60.00
❖ Total Product Cost: €246.00
❖ Add Net Profit Margin .... From previous
slide example
Costing for Overheads (ii)
(ii). ‘Mark-Up’ Costing (aka ‘Cost Plus’)
⚫ Calculate the Direct Cost of the Product
⚫ Chose a %age mark-up to cover both
Overheads and Profit
Example: From previous performance, a company’s
records reveals that a Gross Profit Margin of 33.3% is
required to meet target returnes, what ‘Mark-Up’ should
be applied to the product’s Direct Cost?
(ii). ‘Mark-up’ costing / pricing Example.
❖ Direct Material Costs: €138.00

1.5 Hrs @ €32 / Hr. = € 48.00
❖ Total Direct Cost: = €186.00
Mark up = Margin =
❖ ‘Mark-up’: 93/186 = € 93.00 93/279 =
50% 33%
❖ ‘Price’ €279.00
Costing for Overheads (iii)
(iii). Activity Based Costing (ABC):
⚫ Determine the ‘drivers’ of the overhead
costs
⚫ Determine the extent of the ‘drivers’
being used in the manufacturing process
⚫ Apply an Overhead charge to the Direct
Cost in proportion to the ‘drivers’ used
(iii). Example: Activity Based Costing
Two products X and Y have similar production
processes. In a month, 200 X and 100 Y
products are produced. The monthly overhead
costs and activity level per product is as follows:
Overhead Item Tot Cost Prod X Prod Y

QC Inspections €124,000 11 9
Machine Set-up € 79,300 22 18
Machine Hours €259,000 12 13
462.3
Overhead Item Tot Cost Prod X Prod Y Tot Act’y

QC Inspections €124,000 11 9 3,100
Machine Set-up € 79,300 22 18 6,200
Machine Hours €259,000 12 13 3,700
462.3
Activity Based Costing
Activity
Overhead Item Tot Cost Tot Act’y For X For Y
Unit Cost
11*€40 9*€40
QC Inspections €124,000 3,100 €40
= €440 = €360
22 * €13 18 *€13
Machine Set-up € 80,600 6,200 €13
= €286 = €234
12*€70 13*€70
Machine Hours €259,000 3,700 €70
= €840 = €910
Tot. O/heads per Product (Add to Dir. Costs) €1,566 €1,504

Costing - problem
⚫ XYZ Ltd produces 5000 units pa of product A and 8000 units pa of
product B.
⚫ The utilise time and resources as follows
A B
Total Units 5000 8000
Production usage per unit

cost per unit A B
Direct Costs Labour hours €10/hr 8hrs 6hrs
Materials €8/kg 4kgs 6kgs
Total Cost
Production O/H Machine Set up 68,000 2hrs 3hrs
Machine hours 216,000 8hrs 4hrs
Quality Control 77,500 3hrs 2hrs
361500
⚫ They use Activity Based Costing to allocate Production Overheads and

have a sales price that is based on a 20% mark up of the fully absorbed
production costs. What should be the sales prices for products A and B?

Costing - problem
A B
Production usage per unit A B

cost per unit A B
Direct Costs Labour hours €10/hr 8hrs 6hrs 400000 480000
Materials €8/kg 4kgs 6kgs 160000 384000
Total Cost
361500
= 6 * 10 * 8000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

Production O/H Machine Set up 68,000 2hrs 3hrs 2
Machine hours 216,000 8hrs 4hrs 3
Quality Control 77,500 3hrs 2hrs 2.5
361500
= 68,000 / ((2*5000)+(3*8000))
= 6 * 10 * 8000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

Production O/H Machine Set up 68,000 2hrs 3hrs 2 20000 48000
Machine hours 216,000 8hrs 4hrs 3 120000 96000
Quality Control 77,500 3hrs 2hrs 2.5 37500 40000
361500
= 68,000 / ((2*5000)+(3*8000))
= 6 * 10 * 8000
= 2 * 2 * 5000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

361500
Total Cost 737500 1048000
Cost Per Unit 147.5 131
Mark up = 20% 29.5 26.2
Sales Price 177 157.2

Pricing
Three Models:
1. Economic: Price determined by supply
and demand
2. Cost Plus: Calculate total cost of the

product; - then add some agreed mark-up.
3. Market Pricing: Let the market dictate the

price; - but vary prices to avail of the best
opportunities of maximising revenue for a
given capacity.
1. Economic Model
€ Demand Curve
Equilibrium
Supply = Demand
Supply Curve
Peq
Qeq Qty
2. ‘Cost Plus’ Pricing
Direct Costs:
Product Cost €
“Mark-up” €
“Price” € “Mark-up”
Apply a standard
%age to cover both
Overheads and Profit.
“Charge-Out” Price (A Form of Cost Plus)
A methodology of having standard Prices
for each element of work done, which
includes overheads and profit.
Item Cost “Price”
Cost of Retailer’s
Materials
supply Price
Charge Rate /
Labour Cost/Hour
Hour
Total € “Price”
3. Market Pricing Tactics
⚫ Differential Pricing (Market Segmentation)

⚫ Promotional Pricing
⚫ Psychological Pricing
⚫ Cross Pricing
⚫ Value Pricing
⚫ Quantity Discounts
⚫ Marginal Pricing (‘Contribution Costing’)
Pricing - Costs ~ Illustration
.
Costs
Fixed Costs
0
Quantity
Understand Break-even Point
Sales Revenue
.
Total Costs
€
Break-even Point PROFIT
€BEP. Variable
Costs
Fixed Costs
F.C.
.
QBEP. Volume
The concept of ‘Contribution’
The margin (‘profit’) made on a product

after the variable costs have been
covered, is its Contribution towards the
fixed costs and profit of the organisation.
Selling Price: €60.00 *Variable Cost ...

• In a trading co. it is simply the
Less: purchase cost.
*Variable Cost: €40.00 • In a manufacturing co. it is the
cost of materials, + direct labour
= “Contribution” €20.00 and any other variable costs.

Calculating the break-even point
BEP (units) = Fixed Cost

Contribution
From previous example, contribution is €20.00.

Assuming a one-product operation , and the
fixed costs are €240,000 / month, then the firm’s
BEP is €240,000 / €20 = 12,000 units / month.
At this volume of sales, the
company has neither lost
money, nor made a profit

Contribution Margin Ratio (CMR)
CMR = Contribution as a % of Sales Price

From previous example: CMR = €20 / €60 = 33.3%
BEP (value) = Fixed Cost / CMR
= €240,000 / 0.333 = €720,000
i.e. at a sales level of €720k the
company would ‘break-even’.
Check! From earlier example BEP was 12,000 units.

Selling price €60. Turnover = €60*12,000 = €720,000

Marginal Pricing
⚫A pricing tactic based on looking
only at the ‘marginal’ cost relative to
‘available’ price; (i.e. Contribution).
⚫ Used principally to fill capacity
⚫ See ‘Sean’s Shirts’ example.

Sean’s Shirts
⚫ Sean incurs a Direct Processing Cost of €5 to

clean and press a shirt. He charges €9 per shirt.
⚫ Sean incurs a Fixed Cost of €600 / Wk. to run his
business, which has capacity for 400 shirts / wk.
⚫ What is Sean’s Break-even Quantity?
⚫ He presses an average of 240 shirts / Wk.
⚫ What’s his NPBT / Wk?
Sean’s Dilemma
⚫ Sean has been asked to clean and press

an average of 50 shirts / Wk for a
neighbour who trades on the other side
of town at a price of €7 each.
⚫ He calculates the current average unit

cost of shirt cleaning to be:
“Cottage Industries”

UCD MEEN 30140
Cottage Industries Ltd makes baskets. The fixed cost of operating the workshop
for a month totals €500. Each basket requires materials that cost €2 and takes one
hour to make. The business pays the basket makers €10 per hour. The basket
makers are all on a contracts such that if they do not work for any reason they are
not paid. The baskets are sold to a wholesaler for €14 each.
Q1: What is the BEP for Cottage Industries in units per month?
Cottage Industries Ltd. sells 500 units per month. The business has the opportunity
of renting a basket-making machine for €2,500 per month. Using the machine would
cut its labour time per unit by half. The basket-makers would still be paid €10 per
hour.
Q2:
(a) What is the profit per month …

• Without the machine?
• With the machine?
(b) What is the BEP in units if the machine is rented?
(c) Comment on the findings.
Q3: What volume of activity is required by Cottage Industries Ltd. in order to

make a profit of €4,000 a month …
(a) Without the machine?

(b) With the machine?
Cottage Industries Ltd. Professional Engineering (Finance)

MEEN 30140
Topic 7
Contribution and Pricing
Course Topics
2]



Group Project - Format
⚫ Brief has been issued see Bright Space

and Announcement
⚫ Represents 30% of the total course marks
⚫ Is due for submission on Weds April 27th

Group Project - Groups
⚫ A brief period for groups to self form. Groups have to be
of 4 students only. One representative of a group should
email me with the group composition (full names),
copying in the other group members, and that email will
act as notification of a self-formed group.
⚫ The deadline for submission of self-formed groups is 5pm

Monday 7th March. At that point I will create those self-
formed groups in Bright Space and randomly assign all
other students into groups of 4.
Group Project - Content
⚫ Business Plan – freeform content
⚫ Must stick to the structure and the mandatory

deliverables
⚫ Elements from weeks 1-6, but more to come from weeks

7-10
⚫ Make all reasonable assumptions – note your

assumptions
Group Project - Assessment
Mandatory Assessment Elements:
⚫ Introduction & Executive Summary. [10 marks]
⚫ Financial accounting forecast [20 marks]
⚫ Cash flow forecast [10 marks]
⚫ Investment appraisal computation [20 marks]
⚫ Performance monitoring plan [15 marks]
Includes the quality and comprehensiveness of assumptions and computations included in appendices,
so make your references clear and unambiguous.
Qualitative Assessment Elements:

For the format and composition of the Plan, the professionalism of the Plan, the holistic capture of
issues, and the quality of the conclusions. [15 marks]
Individual contribution to the team delivery. [10 marks] Note, all other marks are based on the Group
submission and will be commonly earned.
Group Project - Tips
Financial Statement Articulation
⚫ The profit/loss in any given year should equal the movement in retained earnings in your
balance sheet
⚫ The cash inflow/outflow in any year should equal the movement in your cash balance on
your balance sheet.
⚫ You may find working in Excel (or similar) can ensure you maintain these controls
Key Assumptions
⚫ Carefully consider your key assumptions
⚫ In your investment analysis, consider how the outcome might change if assumptions
change
Group Project
Any Questions ?
Cost , Pricing & Margin
⚫ How do we price a product?
⚫ We need to know the cost of a product?
⚫ We need to apply a pricing technique
⚫ We need to be aware of
margin/contribution…
Types of Costs
⚫ Variable Costs (VC): i.e. costs that vary
directly with quantity produced. In Product
Costing, VC include:-
➢ Direct Material
➢ Direct Labour
➢ Consumables/variable overheads
⚫ Fixed Costs: Costs that remain Fixed (in

the medium-term) regardless of quantity
produced.
Fixed Costs ~ Illustration
Costs
. Fixed Costs
0
Quantity

Variable Costs ~ Illustration
Costs
0
Quantity

Costs
Fixed Costs
0
. Quantity

Product Costing
➢ Product costing is the function of calculating

applicable costs directly to units of
production
➢ Units can be a product class or individual
product units
➢ Accurate product costing can help a business
to make key production and sales decisions:
➢ Bulk discounts
➢ Utilisation of scarce resource
➢ Cost plus pricing
Product Costing 1
1. Calculate Direct costs

➢ Materials (incl. Wastage)
➢ Direct Labour (Std. time x Gross Lab. cost)
➢ Other direct costs (e.g. ‘consumables’)
Product Costing 2
2. Add on for Overheads and Profit

i. “Apply” an overhead “rate”
(Absorption costing), and add on a
Net Profit margin; - or…
ii. Add a Gross Profit margin onto the
Direct Costs to cover both
Overheads and Profit; - or …
iii. Use Activity Based Costing (ABC)
and add a Net Profit margin.
Costing for Overheads (i)
(i). Absorption Costing:
⚫ Select a ‘base’ against which the
overheads can be recovered (absorbed)
⚫ This is usually done on say a Direct
Labour Hour basis
Example: A manufacturer budgets Overheads of €4.0m for
2022. It also budgets that it will need 100,000 Hours of Direct
Labour to meet forecasted (budgeted) demand for its products.
Overhead ‘Absorption’ Rate: €4,000,000 / 100,000 = €40 / Hr. This
rate / Hr. is added to the cost, based on labour time required.
(i) Absorption Costing Example
Total
❖ Direct Material Costs: €138.00 Direct
Costs
1.5 Hrs @ €32 / Hr. = € 48.00 €186
❖ Overheads:
1.5 Hrs @ €40 / Hr.= € 60.00
❖ Total Product Cost: €246.00
❖ Add Net Profit Margin .... From previous
slide example
Costing for Overheads (ii)
(ii). ‘Mark-Up’ Costing (aka ‘Cost Plus’)
⚫ Chose a %age mark-up to cover both
Overheads and Profit
Example: From previous performance, a company’s
records reveals that a Gross Profit Margin of 33.3% is
required to meet target returns, what ‘Mark-Up’ should be
applied to the product’s Direct Cost?
(ii). ‘Mark-up’ costing / pricing Example.
❖ Direct Material Costs: €138.00

1.5 Hrs @ €32 / Hr. = € 48.00
❖ Total Direct Cost: = €186.00
Mark up = Margin =
❖ ‘Mark-up’: 93/186 = € 93.00 93/279 =
50% 33%
❖ ‘Price’ €279.00
Costing for Overheads (iii)
(iii). Activity Based Costing (ABC):
⚫ Determine the ‘drivers’ of the overhead
costs
⚫ Determine the extent of the ‘drivers’
being used in the manufacturing process
⚫ Apply an Overhead charge to the Direct
Cost in proportion to the ‘drivers’ used
Overhead Item Tot Cost Prod X Prod Y

QC Inspections €124,000 11 9
Machine Set-up € 79,300 22 18
Machine Hours €259,000 12 13
462.3
Overhead Item Tot Cost Prod X Prod Y Tot Act’y

QC Inspections €124,000 11 9 3,100
Machine Set-up € 80,600 22 18 6,200
Machine Hours €259,000 12 13 3,700
462.3
Activity Based Costing
Activity
Overhead Item Tot Cost Tot Act’y For X For Y
Unit Cost
11*€40 9*€40
QC Inspections €124,000 3,100 €40
= €440 = €360
22 * €13 18 *€13
Machine Set-up € 80,600 6,200 €13
= €286 = €234
12*€70 13*€70
Machine Hours €259,000 3,700 €70
= €840 = €910
Tot. O/heads per Product (Add to Dir. Costs) €1,566 €1,504

Costing - problem
⚫ XYZ Ltd produces 5000 units pa of product A and 8000 units pa of
product B.
⚫ The utilise time and resources as follows
A B
Production usage per unit

cost per unit A B
Direct Costs Labour hours €10/hr 8hrs 6hrs
Materials €8/kg 4kgs 6kgs
Total Cost
361500
⚫ They use Activity Based Costing to allocate Production Overheads and

have a sales price that is based on a 20% mark up of the fully absorbed
production costs. What should be the sales prices for products A and B?

Costing - problem
A B

cost per unit A B
Total Cost
361500
= 6 * 10 * 8000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

Production O/H Machine Set up 68,000 2hrs 3hrs 2
Machine hours 216,000 8hrs 4hrs 3
Quality Control 77,500 3hrs 2hrs 2.5
361500
= 68,000 / ((2*5000)+(3*8000))
= 6 * 10 * 8000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

361500
= 68,000 / ((2*5000)+(3*8000))
= 6 * 10 * 8000
= 2 * 2 * 5000

Costing - problem
A B

cost per unit A B
Total Cost Per/unit

361500
Total Cost 737500 1048000
Cost Per Unit 147.5 131
Mark up = 20% 29.5 26.2
Sales Price 177 157.2

Pricing
Three Models:
1. Economic: Price determined by supply
and demand
2. Cost Plus: Calculate total cost of the

product; - then add some agreed mark-up.
3. Market Pricing: Let the market dictate the

price; - but vary prices to avail of the best
opportunities of maximising revenue for a
given capacity.
1. Economic Model
€ Demand Curve
Equilibrium
Supply = Demand
Supply Curve
Peq
Qeq Qty
2. ‘Cost Plus’ Pricing
Direct Costs:
Product Cost €
“Mark-up” €
“Price” € “Mark-up”
Apply a standard
%age to cover both
Overheads and Profit.
“Charge-Out” Price (A Form of Cost Plus)
A methodology of having standard Prices
for each element of work done, which
includes overheads and profit.
Item Cost “Price”
Cost of Retailer’s
Materials
supply Price
Charge Rate /
Labour Cost/Hour
Hour
Total € “Price”
3. Market Pricing Tactics
⚫ Differential Pricing (Market Segmentation)

⚫ Promotional Pricing
⚫ Psychological Pricing
⚫ Cross Pricing
⚫ Value Pricing
⚫ Quantity Discounts
⚫ Marginal Pricing (‘Contribution Costing’)
Pricing - Costs ~ Illustration
.
Costs
Fixed Costs
0
Quantity
Understand Break-even Point
Sales Revenue
.
Total Costs
€
Break-even Point PROFIT
€BEP. Variable
Costs
Fixed Costs
F.C.
.
QBEP. Volume
The concept of ‘Contribution’
The margin (‘profit’) made on a product

after the variable costs have been
covered, is its Contribution towards the
fixed costs and profit of the organisation.
Selling Price: €60.00 *Variable Cost ...

• In a trading co. it is simply the
Less: purchase cost.
*Variable Cost: €40.00 • In a manufacturing co. it is the
cost of materials, + direct labour
= “Contribution” €20.00 and any other variable costs.

Calculating the break-even point
BEP (units) = Fixed Cost

Contribution
From previous example, contribution is €20.00.

Assuming a one-product operation , and the
fixed costs are €240,000 / month, then the firm’s
BEP is €240,000 / €20 = 12,000 units / month.
At this volume of sales, the
company has neither lost
money, nor made a profit

Contribution Margin Ratio (CMR)
CMR = Contribution as a % of Sales Price

From previous example: CMR = €20 / €60 = 33.3%
BEP (value) = Fixed Cost / CMR
= €240,000 / 0.333 = €720,000
i.e. at a sales level of €720k the
company would ‘break-even’.
Check! From earlier example BEP was 12,000 units.

Selling price €60. Turnover = €60*12,000 = €720,000

Marginal Pricing
⚫A pricing tactic based on looking
only at the ‘marginal’ cost relative to
‘available’ price; (i.e. Contribution).
⚫ Used principally to fill capacity
⚫ See ‘Sean’s Shirts’ example.

Sean’s Shirts

⚫ What is Sean’s Break-even Quantity?
Sean’s Shirts

⚫ What is Sean’s Break-even Quantity? 150
Sean’s Shirts

⚫ What’s his NPBT / Wk?
Sean’s Shirts

⚫ What’s his NPBT / Wk? 360
Sean’s Dilemma


cost of shirt cleaning to be:
Sean’s Dilemma


cost of shirt cleaning to be: 7.5
⚫ Should Sean take on the new work?

“Cottage Industries”

Cottage Industries - 1
• BEP = Fixed Costs/Contribution

500 / (14-2-10) = 250 units
• Profit for month without machine
= Contribution*Sales Volume – Fixed Costs
2*500 - 500 = 500
• Profit for month with machine
= Contribution*Sales Volume – Fixed Costs
(14-2-5)*500 – (500+2500) = 500

• BEP machine = Fixed Costs/Contribution

3000 / 7 = 429 units
• BEP is much higher vs 250
• BEP is close to existing sales levels (c15%)
• Increasing Operational Leverage
• Increasing Operational Risk

• Making a target profit is like adding to the

fixed cost, so:
• €4000 profit without machine
Profit + FC = Contribution * Sales
(4000 + 500)/2 = 2,250 units
• €4000 profit with machine
Profit + FC = Contribution * Sales
(4000 +3000)/7 = 1,000 units
• That’s the upside of leverage….

Professional Engineering
(Finance) MEEN 30140
Topic 8
Engineering Economic
Analysis & Project Costing
Course Topics
2]



Contribution – Recap 1
⚫ The “Margin” left after paying for Variable Costs is
called Contribution; (because the “Margin”
Contributes to Fixed Costs and Profits).
⚫ Sales Price – Variable Costs = Contribution

⚫ Contribution Margin Ratio = Contribution per
unit/Sales price
⚫ Fixed Costs ÷ Contribution per unit = BEP (units)
⚫ Fixed Costs ÷ Contribution Margin Ratio = BEP (sales
value)
Contribution – Recap 2
⚫ If a company marks up its variable costs by 50% what
is the CMR?
⚫ Variable costs + 50% variable costs = sales price
⚫ Turning to example numbers if vc = 100
⚫ 100 + 50 = 150
⚫ CMR is contribution per unit/sales price, so
⚫ CMR = 50/150 = 33.33%
⚫ If fixed costs are 200,000 and variable costs per unit

is €100 what is the BEP, units and value
⚫ BEP (units) = FC/C per unit = 200000/50 = 4,000 units
⚫ BEP (value) = FC/CMR = 200000/0.3333 = €600,000
Applied contribution - BEP - CMR
• Bundling
• Scare Resource Allocation
• Engineering Economic Analysis
• Close or continue
• Make or Buy
• Price determination
• One-off orders
• Investment Appraisal

BEP and Multiple Products
… the concept of ‘bundling’
A company sells 3 inter-related products, A, B and C. The average ratio
of sales volume of A:B:C has been constant at 3:2:1.
You are given the following information:
Product: A B C
Unit Price: €80 €120 €70
Dir. Matrl Cost: €34 €52 €27
Dir. Lab. Cost: €16 €18 €13
The company’s Fixed Costs are €924,000 p.a.

What is the BEP in Sales Revenue?
What is the BEP in units for each of the 3 products?

BEP and Multiple Products
… the concept of ‘bundling’
A company sells 3 products, A, B and C. The average ratio of sales
volume of A:B:C has been constant at 3:2:1.
You are given the following information:
Product: A B C “Bundle”
Unit Price: €80 €120 €70 €550
Dir. Matrl Cost: €34 €52 €27 €233
Dir. Lab. Cost: €16 €18 €13 €97
The company’s Fixed Costs are €924,000 p.a.

What is the BEP in Sales Revenue? = FC/CMR
CMR (bundle) = (550-(233+97))/550 = 0.4
BEP sales rev = 924,000/0.4 = 2,310,000
What is the BEP in units for each of the 3 products? = FC/CpU
BEP (bundle) = 924,000/220 = 4,200 bundles = 12,600A; 8,400B; 4,200C

Contribution and scare resource
• We have focussed so far on Contribution

per unit, helping us establish sales and
pricing strategy
• We can also use Contribution per unit of

scare resource to help establish production
strategy.

A company has a carbon emissions limit of 600 tonnes

per month of CO2. It currently makes three products A, B
and C of which we are told:
Variable CO2 use /unit Sales units
Product
Costs € tonnes per month
A 20 0.2 1000
B 24 0.4 500
C 36 0.5 400
It marks up variable costs by 50%.

It can sell any amount of product at current mark –up
Switching to which single product would be optimal?


Product Contribution Ctn/CO2
A 20 0.2 1000 10 50
B 24 0.4 500 12 30
18 36
C 36 0.5 400


Product Contribution Ctn/CO2
A 20 0.2 1000 10 50
B 24 0.4 500 12 30
18 36
C 36 0.5 400
Proof
Current Contribution = (10*1000 + 12*500 + 18*400) = 23,200
ALL A Contribution = 600/0.2*10 = 30,000
ALL B Contribution = 600/0.4*12 = 18,000
ALL C Contribution = 600/0.5*18 = 21,600

Returns to a limiting factor
⚫ A business can often be constrained by a limiting factor.
⚫ This could be market driven – ie maximum demand
⚫ It could be production driven:
⚫ Labour hours
⚫ Machine hours
⚫ Floorspace
⚫ It could be materials driven:
⚫ Materials usage
⚫ Materials storage
⚫ Materials deterioration
⚫ It could be regulatory driven
⚫ A limiting factor means a business has to determine how to optimise under a
limiting factor
⚫ We do this by prioritising the CONTRIBUTION of products or services per unit
of limiting factor.
Q1: Returns to a limiting factor
Q1 – Returns to a limiting factor
⚫ These problems are identifiable as they will have a clearly
identified limiting factor – in this instance a monthly limit on
production hours (900). The issue is to optimise profits under this
limiting factor.
⚫ We do this by working out the Contribution of each product per

each unit of the limiting factor.
⚫ Contribution per unit:

⚫ Pedal = 50% of variable cost = 5c
⚫ Bio = 100% of variable cost = 20c
⚫ Garden = 50% of variable cost = 9c
Q1 – Returns to a limiting factor
⚫ Contribution per production hour:
⚫ Pedal = 5c per unit * 10000 = €500 per hour
⚫ Bio = 20c per unit * 3000 = €600 per hour
⚫ Garden = 9c per unit * 6000 = €540 per hour
⚫ The Bio produces the most contribution per production hour and
therefore should be optimized.
⚫ Given the 20% production minimum, the company should allocate
production hours as :
⚫ Pedal = 20% of 900 = 180 hours = 180*500 = €90,000 of contribution
⚫ Bio = 60% of 900 = 540 hours = 540*600 = €324,000 of contribution
⚫ Garden = 20% of 900 = 180 hours = 180*540 = €97,200 of contribution
⚫ So total Contribution = 90,000 + 324,000 + 97,200 = €511,200

Make or Buy Decisions
⚫ Contribution is also a significant factor on helping inform decisions
whether to make or buy a product
⚫ When a company produces a product or a range of products it can be

faced with decisions as to whether it is economic to make all the
components, or the full range of the products or whether to outsource
elements of that production.
⚫ Again contribution is key as fixed costs may unduly influence

decisions if they are made at net profit level.
Q2:
Q2: Make or Buy Decisions
⚫ We need to compare the costs of the three options:
⚫ do nothing;
⚫ outsource sinks only,
⚫ outsource sinks and make bidets.
⚫ First lets work out the impact of making the bidets:
Expected sales in units 200
Price / unit (net) €400.00
Direct Materials / unit €160.00 From the

question
Direct Labour / unit €90.00
Variable Manufacturing
€20.00
Overhead / unit
Contribution per unit €130.00 Contribution per unit = Sales Price – Variable Costs
Total Contribution €26,000.00 Total Contribution = Contribution per unit * sales
volumes
Q2: Make or Buy Decisions
⚫ Armed with the contribution of the bidet option we can then compare
the three options:
Outsource &
Examine the 3 options : Make Outsource
Bidets
Direct material €60,000

Current production
Direct labour €50,000
costs from question
Variable overheads €30,000
Fixed overhead €60,000 €30,000 €60,000

Fixed overhead reduced for full
outsourcing per question
Outsource (1,000 @ €180 ea.) €180,000 €180,000
Total Cost €200,000 €210,000 €240,000

Contribution from bidets per
Contribution from Bidets -€26,000
previous slide
Net cost of each option €200,000 €210,000 €214,000
⚫ In this case, the best option is to continue current production practice

Transfer Pricing
⚫ Transfer pricing refers to the mechanism for pricing the purchase and
sale of goods between divisions of the same company, or between
companies under common ownership within a group.
⚫ Issues can arise when one company can act as supplier to another
within the group.
⚫ The group needs to ensure that the pricing policy, the “Transfer
Price”, motivates subsidiary companies to act in the best interests of
the group and not of themselves
Transfer Pricing
⚫ Co X makes a product for cost €100 and marks up by 50% to a sales
price of €150
⚫ If Co Y, in the same group, needs that product but can buy it from an
external party for €125. Should it be compelled to buy from Co X?
⚫ Well from a group perspective, even if Co X were to match the price

of €125 it still adds (125-100)= €25 of contribution for the group. This
would be lost if Co Y sourced the product externally.
⚫ Groups utilise a range of transfer pricing techniques to establish an

effective group policy.
Transfer Pricing - Policies
⚫ Market Pricing: using an observable external market price.
⚫ Cost Plus: using the supplier’s standard cost plus pricing model and
compelling purchasers to use group suppliers
⚫ Modified Cost Plus: allowing for a group “discount” with a modified
cost plus basis for intra-group trade.
⚫ Negotiated Transfer price – compelling group companies to source
internally where available but leaving it to those companies to
negotiate the transfer price
⚫ Shared Contribution Margin – using the group CMR for the product, or
a group determined CMR to mark up supplier costs
⚫ Strategic Transfer Pricing – uses transfer pricing to optimise for
example tax treatment using group or cross border relationships –
can be subject to close scrutiny.
Transfer Pricing - Policies
Q3:
Q3: Transfer Pricing
Option 1 2 3 4 CMR = C/SP
Direct Material Cost €120,000 €120,000 €120,000 =120/400 = 30%
Direct Labour Cost €60,000 €60,000 €60,000
Markup = 30/70
=42.86%
Total Variable Costs €180,000 €180,000 €180,000
Mark Up €40,000 €90,000 €77,143

Option 3 is optimal for
Quoted Price €220,000 €220,000 €270,000 €257,143
Wholesale as they sell
Contribution for Wholesale €0 €40,000 €90,000 €77,143
cureall at highest price
Sales Price €400,000 €400,000 €400,000 €400,000
Additional variable costs €100,000 €100,000 €100,000 €100,000
Contribution for Retail €80,000 €80,000 €30,000 €42,857 Options 2,3 & 4 are equally
Contribution for Optimal €80,000 €120,000 €120,000 €120,000 preferable at Optimal plc
level as all retain full
margin in the group
Options 1 & 2 are
optimal for Retail as
they access cureall at
cheapest price
Q3: Transfer Pricing
Considerations:
⚫ No single option is optimal for all group companies
⚫ Group policy is needed to ensure to avoid dysfunctional behavior
⚫ Policy needs to be simple and fair
⚫ Shared CMR looks fairest but may not be simple, modified cost plus
can approximate to Shared CMR but is much simpler.
⚫ Subsidiary company level performance, and staff performance
metrics within that subsidiary company needs to be aligned with the
group
⚫ Market price and agreed performance metrics for intergroup sales
could be a simpler approach
Project Costing & Estimation
Why Estimating Time and Cost are Important
• To support good decisions.

• To schedule work.
• To determine how long the project
should take and its cost.
• To determine whether the project is worth doing.
• To develop cash flow needs.
• To determine how well the project is progressing.
• To develop time-phased budgets and establish the
project baseline.
EXHIBIT 5.1
Project Costing &
accounting 4–28
Example of Time & Cost Estimation
The currently mid-build new National Children’s Hospital has notoriously

risen from initial cost estimates of c€650M to latest suggestions of €2.4bln
An audit report suggested the bulk of

National Children's Hospital Estimated Costs
issues arose from poor initial
estimation, including optimism bias,
2,500 and a lack of robust challenge
2,000
It further suggested that had
1,500 estimation been more accurate it may
have influenced the planning and site
1,000
selection process
500
Poor ongoing governance of the
0 project execution has contributed
2013 2017 2019 2020
further to cost increases
The development board have cited increases in scope and added services
as reasons for apparent increase looking more than it is
Project Costing & accounting 29

Costs ~ relative to decision-making
Covered in Wk 7
Income foregone
Only consider costs

directly affected
Unavoidable
future cost
Similar to above –
Costs that cannot relates to costs that might be
be recovered avoided within a certain decision
• Lets imagine we have engaged a research report which has

recommended redesign of a production line to upgrade from
a low margin product to a high margin product
• We hire two project managers to draw up a plan for a yes/no

decision. We house them in a spare office for which they
will receive an allocation of rent & rates and cleaning costs,
and give them contracts with 3 month periods of notice.
• When drawing up their project plan which they intend to

present with the aid of a short professionally developed
video,
• What costs are key to the decision making process?
EXHIBIT 5.1
Project Costing &
accounting 4–31
Rent vs salary
Rent vs salary
Is Rent actually
relevant?
Rent vs salary
Is Rent actually
relevant?
Do we need a
presentational video? –
can this cost be avoided
Rent vs salary
Is Rent actually
relevant?
Do we need a
The costs of the presentational video? –
research can this cost be avoided
Rent vs salary
Is Rent actually
relevant?
The periods of
notice
Do we need a
Rent vs salary
The margin of lost
production of the
old product
Is Rent actually
relevant?
The periods of
notice
Do we need a
Estimating Projects
Estimating
⚫ The process of forecasting
or approximating the time
and cost of completing the
project deliverables.
⚫ The task of balancing expectations

of stakeholders and need for control
while the project is implemented.
Project Costing &
accounting 4–38
Methods of Estimating Projects
There are 2 broad approaches …

1. Macro Approach: [“Top down”]
⚫ Consensus (Best Guess / Delphi method)
⚫ Ratios / Rule of Thumb
⚫ Bench marking with similar Projects
(“Analogous”)
2. Micro Approach: [“Bottom up”]
⚫ Detailed costing of Work Packages
⚫ Parametrics & Three Point Estimation
⚫ Hybrid: Start with Macro cost per Phase, and
refine to Micro-detail as Project Progresses
Project Costing &
accounting 39
Project Estimating Difficulties
Estimating Project Costs is difficult, due to

the factors of uncertainty surrounding …
❖ Work time elements within
the work-packages
❖ Cost difficulties arising from
above … and …
❖ Uncertain work definition of
some work elements
Project Costing &

accounting 40
Project Uncertainties - Time
1. Using PERT (Program Evaluation and Review
Technique) formula for estimating time elements:-
❖ Estimate the time seemed ‘most likely’ (tm)
❖ What might be the most ‘optimistic’ time? (to)
❖ What might be the most ‘pessimistic’ time?(tp)
2. Calculation of ‘Expected’ time (te):
te = to + 4tm + tp
6
Project Costing &
accounting 41
Project Uncertainties - Cost
1. If cost element is small relevant to the overall
work-package – an informed estimate will suffice
2. Allow a ‘Provisional Cost’ (PC Sum) item in the

estimate build-up. This is clearly a ‘provision’,
and the actual cost will be monitored and
agreed upon completion of the work.
3. Specify “scope of work unknown” – and include rates

for the major items of labour and materials, stating
“to be charged on T & M basis”
Time & Material

Estimating Projects: Preferred Approach
⚫ Make rough top-down estimates.

⚫ Develop the Work Breakdown
Schedule
⚫ Make bottom-up estimates.
⚫ Develop schedules and budgets.
⚫ Reconcile differences between
top-down and bottom-up estimates
Project Costing &
accounting 4–43
Top-Down Approaches for Estimating Times & Costs
⚫ Consensus methods
Project Estimate
Times
⚫ Ratio/Parametric methods Costs
⚫ Apportion/Analogous
method
⚫ Function point methods
for software and system
projects
⚫ Learning curves
Project Costing &
accounting 4–44
Managing thro’ ‘Work-packages’
Projects are usually broken down into:-

1. Phases
2. Activities
3. Tasks
Any set of Activities + Tasks can be considered a

‘Work-package’ which helps in the process of
Project Management and Accounting
Project Costing &

accounting 45
Project Costing Detail
⚫ For the purpose Project Cost control,

estimates should be in sufficient detail to
construct a work-package cost plan for
the Project
⚫ This is also essential for the proper

accounting of long-term Projects

UCD MEEN 30140 Professional Engineering (Finance)
Q1: (Maximising returns to a limiting factor).
A company manufactures 3 sizes of bin liners, ‘Pedal’, “Bio” and ‘Garden’. The
Pedal has total variable costs of 10c, the Bio has total variable costs of 20c and the
Garden model has total variable costs of 18c. The company prices its products by
‘marking-up’ its variable costs by 50% for Pedal and Garden, and by 100% for Bio
The company’s production line capacity is limited to 900hrs / month, and this
capacity can be used for producing any product. The ‘Pedal’ can be produced at a
rate of 10,000/hr, the Bio can be produced at 3,000/hr, and the ‘Garden’ can be
produced at the rate of 6,000 / hr. For strategic market positioning the company
commits to using a minimum of 20% of production hours for each product.
What is the optimal total contribution in a month given the limits on

production?
……………………………………………………………………………………………....
……………………………………………………………………………………………………………
Q2: (Make or Buy decisions).
To produce 1,000 porcelain bathroom sinks, a firm incurs the following costs (€):
Direct Materials 60,000
Direct Labour 50,000
Other Variable Manufacturing Overheads 30,000
Fixed Manufacturing Overhead 60,000
Total Manufacturing Cost 200,000
Manufacturing Cost per unit (€200k / 1k) €200.00
Another producer of bathroom products has offered to supply the company with
1,000 similar sinks for €180,000. The company considers this offer while reflecting
on 2 possible scenarios:
1. Accept this offer, in which case it would save €30,000 of the Fixed
Overheads by making indirect manufacturing personnel redundant;
_________________________________________________________________________
Engineering Cost Analysis
UCD MEEN 30140 Professional Engineering (Finance)
- or …
2. Accept the offer, but in addition, retain the existing personnel and
produce a complementary bidet with the following cost / volume / price
data:
Expected sales in units 200
Price / unit (net) €400.00
Direct Materials / unit €160.00
Direct Labour / unit €90.00
Variable Manufacturing Overhead / unit €20.00
Evaluate these options; - which would you recommend?
............................................................................................................................. ........
Q3: (Transfer Pricing decisions).
Optimal plc is the holding company of a group of companies, including Retail Ltd and Wholesale Ltd, all operating
in the pharmaceutical industry sector. Retail Ltd is looking to acquire a monthly supply of a cureall, a drug that
has recently become patent expired and is now widely produced. Wholesale Ltd have provided a quote to Retail
Ltd of €270,000 for each month’s supply. The CEO of Retail Ltd has also received a quote from a rival supplier
Cutprice Ltd to offer the same supply of cureall for just €220,000. Retail expect to sell a month’s supply of cureall
for €400,000 after additional monthly variable costs of €100,000.
As the divisional manager at Optimal plc, your CFO has provided Wholesale Ltd’s pricing structure and
suggested a number of transfer pricing options
Direct Material Cost € 120,000
Direct Labour Cost € 60,000
Total Variable Costs €180,000
Standard mark-up 50% € 90,000
Quoted Price €270,000
1. Use the existing quote and allow Retail to source from Cutprice
2. Use market price, using Cutprice as the market price determinant.
3. Compel Retail to buy at the Wholesale quoted price
4. Utilise a group level CMR to establish a cost plus price
Evaluate which of the transfer pricing options are best for Retail, for Wholesale and for Optimal PLC?
What additional concerns may need to be addressed?
………………………………………………………………………………………………
_________________________________________________________________________
Engineering Cost Analysis
MEEN 30140 - Week 7 & 8 Question Bank 1 – Answers
1: Mark Up: If a business uses a mark-up of 40%, what is the company’s Contribution Margin
Ratio?
a) 28.6% b) 40% c) 42.9% d) 60%
2: Break Even: If a company’s fixed costs are €200,000 and it’s CMR is 30%, what is the company’s
break even sales value?
a) 60,000 b) 230,000 c) 285,714 d) 666,667
3: Break Even: If a company’s fixed costs are €200,000, the sales price is €25, and it’s CMR is 30%,
what is the company’s break even sales volume?
a) 2,400 b) 11,429 c) 26,667 d) 666,667
4: Marginal Pricing: Marginal Pricing can exclude fixed costs entirely when:
a) Contribution per unit exceeds fixed costs per unit

b) Contribution margin exceeds variable cost per unit
c) Sales exceeds fixed costs
d) Breakeven volume has been exceeded
5 Limiting Factor: Goodboy makes three types of dog food: Standard, Premium and Showdog.
Each use the same production line. Standard has variable costs of €10 per bag and the production
line can produce 480 bags per hour. Premium has variable costs of €12 per bag and the production
line can produce 400 bags per hour. Showdog has variable costs of €20 per bag and the
production line can produce 250 bags per hour. Goodboy employs a markup of 75% of variable
cost. If production line hours are limited to 1000 per month, which type of dog food should be
prioritised in production.
a)Standard b) Premium c) Standard or Premium d) Showdog

6: Limiting Factor: A company makes Widgets. There is a monthly demand of 1000 units.
Widgets use 5 hours of machine time per unit, 6 hours of labour time per unit, and 4.5 hours of
finishing time per unit. Total available production times are 4,500 hours each of machine and
finishing time and 4,800 hours of labour time. What is the limiting factor on production?
a) Sales demand b) Machine time c) Labour d) Finishing time
7: Transfer Pricing: Group Co has three subsidiaries Aco Bco and Cco. Aco makes product A with a
variable cost of €8 and a mark up of 50%. Bco distributes product A incurring an additional
variable cost of €2 per unit, and sells for €16 per unit. Cco retails product A to external customers
incurring an additional cost of €4 per unit, it sells for €25 per unit. Bbco can source product A
externally for €10. Cco can source Product A externally for €12. What is the optimal total
contribution per unit at Group Co level
a) €10 b) €9 c) €11 d) €17
8: Make or Buy: Ovenco makes kitchen appliances including a range of ovens. As part of the
production process they currently make the internal oven racks. Their product costing for a single
rack is a total of €6 comprising variable direct costs of €4.5 and an allocation of central fixed
overhead of €1.5. Rackco have offered to supply the racks for €5 each. If Ovenco accept the offer
they can reduce total fixed costs by a net €25,000 by decommissioning the production line. At
what volume of production would we be indifferent to accepting the Rackco offer and if
production is above this number should we accept or reject the offer?
a) 25,000 & Accept b) 25,000 & Reject c) 50,000 & Accept d) 50,000 & Reject
9: Transfer Pricing: Which of the following can be a result of employing strategic transfer pricing
for tax optimsation:
1. Increased legal risk

2. Increased reputation risk
3. Increased tax charge
4. Increased contribution
a) 1 & 2 b) 1, 2 & 3 c) 1,2 & 4 d) 1,2,3 & 4
10: Marginal Pricing: ABC Ltd makes shopping trolleys that sell for €110 each. They mark up
variable costs by 100%. They forecast they will make and sell 20,000 trolleys a year which would
result in fixed overheads of €30 per trolley . After 6 months operating exactly to forecast, Tesco
offer them a chance to make trolleys exclusively for them for the remainder of the year. If Tesco
offer €100 per trolley, what is the breakeven volume for this contract for ABC Ltd to breakeven for
the year? [Longer Form Question – approx. 10 marks]
MEEN 30140 - Week 7 & 8 Question Bank 1 – Answers
1: Mark Up: If a business uses a mark-up of 40%, what is the company’s Contribution Margin
Ratio?
a) 28.6% b) 40% c) 42.9% d) 60%
Answer: The CMR is the Contribution Margin divided by Sales Price – ie the proportion of the sales
price that exceed variable costs.
Mark Up is a means of determining sales price with reference to the variable costs. A 40% mark up
means Sales price = Variable Costs +40% of variable costs : or 140% of variable costs
If variable costs = 100% and Sales Price = 140% then Contribution Margin is the difference between
the two, ie = 140-100 = 40% or the same as the mark-up percentage.
So the CMR = Contribution Margin/Sales Price = 40/140 = 28.6%
Answer is “A”.
2: Break Even: If a company’s fixed costs are €200,000 and it’s CMR is 30%, what is the company’s
break even sales value?
a) 60,000 b) 230,000 c) 285,714 d) 666,667
Answer: Break even Sales Value is the total financial value of sales needed to generate sufficient
contribution to cover the total fixed costs. At this point a business makes neither profit nor loss –
hence break even.
It is calculated as Fixed Costs/CMR
So in this instance it is 200,000/0.3 = 666,667
The proof of this is that sales of 666,667 at a 30% CMR will produce contribution of 200,000, hence
matching fixed costs.
Answer is “D”
3: Break Even: If a company’s fixed costs are €200,000, the sales price is €25, and it’s CMR is 30%,
what is the company’s break even sales volume?
a) 2,400 b) 11,429 c) 26,667 d) 666,667
Answer: Break even Sales Volume is the total units of sales needed to generate sufficient
contribution to cover the total fixed costs. It is calculated as Fixed Costs/Contribution per unit
Contribution per unit = Sales price – variable cost OR Sales price * CMR
So in this instance, contribution per unit is 25*30% = 7.5
And so break even sales volume = 200,000/7.5 = 26,667

The proof of this is that sales of 26,667 units at sales price of €25 per unit gives total sales of 666,667
at a 30% CMR will produce contribution of 200,000, hence matching fixed costs.
Answer is “C”
4: Marginal Pricing: Marginal Pricing can exclude fixed costs entirely when:
a) Contribution per unit exceeds fixed costs per unit

b) Contribution margin exceeds variable cost per unit
c) Sales exceeds fixed costs
d) Breakeven volume has been exceeded
Marginal pricing considers the pricing policy of additional business given the business already
undertaken.
As sales increase and contribution increases, that contribution can be “banked” to offset fixed costs.
As that happens, the contribution needed from future sales per unit in order to break even, or to
reach a defined profit target will reduce as there are less fixed costs to now meet.
Eventually contribution earned in a year will cover all fixed costs – this happens at the break event
point. Thereafter marginal costing will only need to consider profit targets.
Statement a) is irrelevant, that could be true of our first unit of sale, we would still have to consider
fixed costs thereafter
Statement b) is also irrelevant. That describes an instance where markup exceeds 100%. Again this
could apply to the first unit of sale but we would still have to consider fixed costs in our pricing
strategy thereafter
Statement c) is false as sales exceeding fixed costs will not mean contribution also does as
contribution will always be a subset of sales.
Statement d) is correct as once the break even point is exceeded, earned contribution exceeds fixed
cost, so sales thereafter need only consider profit targets from a marginal pricing perspective.
Answer is “D”
5 Limiting Factor: Goodboy makes three types of dog food: Standard, Premium and Showdog.
Each use the same production line. Standard has variable costs of €10 per bag and the production
line can produce 480 bags per hour. Premium has variable costs of €12 per bag and the production
line can produce 400 bags per hour. Showdog has variable costs of €20 per bag and the
production line can produce 250 bags per hour. Goodboy employs a markup of 75% of variable
cost. If production line hours are limited to 1000 per month, which type of dog food should be
prioritised in production.
a)Standard b) Premium c) Standard or Premium d) Showdog
So this is optimising under a limiting factor. The limiting factor is production hours so we need to
optimise based on the highest contribution per production hour.
Contribution per production hour = contribution per unit * no of units produced in an hour
Standard:
Contribution per unit = sales – variable costs = (10*1.75)-10 = 7.5
No of units per hour = 480, so Contribution per production hour = 7.5 * 480 = €3600
Premium:
Contribution per unit = sales – variable costs = (12*1.75)-12 = 9
No of units per hour = 400, so Contribution per production hour = 9 * 400 = €3600
Showdog:
Contribution per unit = sales – variable costs = (20*1.75)-20 = 15
No of units per hour = 250, so Contribution per production hour = 15 * 250 = €3750
Showdog has the highest contribution per production hour and is optimal
Answer is “D”
6: Limiting Factor: A company makes Widgets. There is a monthly demand of 1000 units.
Widgets use 5 hours of machine time per unit, 6 hours of labour time per unit, and 4.5 hours of
finishing time per unit. Total available production times are 4,500 hours each of machine and
finishing time and 4,800 hours of labour time. What is the limiting factor on production?
a) Sales demand b) Machine time c) Labour d) Finishing time
So the sales demand is explicit – 1000 units
We have 4500 hours of machine time and we use 5 hours per widget – so our maximum production
is 4500/5 = 900 units
We have 4800 hours of labour time and we use 6 hours per widget – so our maximum production is
4800/6 = 800 units
We have 4500 hours of finishing time and we use 4 .5hours per widget – so our maximum
production is 4500/4.5 = 1,000 units
The most stringent constraint is therefore 800 units coming from the available labour time
Answer is “C”
7: Transfer Pricing: Group Co has three subsidiaries Aco Bco and Cco. Aco makes product A with a
variable cost of €8 and a mark up of 50%. Bco distributes product A incurring an additional
variable cost of €2 per unit, and sells for €16 per unit. Cco retails product A to external customers
incurring an additional cost of €4 per unit, it sells for €25 per unit. Bbco can source product A
externally for €10. Cco can source Product A externally for €12. What is the optimal total
contribution per unit at Group Co level
a) €10 b) €9 c) €11 d) €17

Aco incurs variable cost of €8 per unit, and marks up by 50% = €4 per unit. Sales price is therefore
8+4= €12.
Bco has the option to source for €10 per unit. That would be optimal for them as a company as Bco
contribution per unit would be sales price – variable cost = 16 – (10+2) = €4 per unit.
If group transfer pricing policy requires Bco to buy from Aco, then Bco’s variable costs go up by €2
and contribution per unit goes down by €2 per unit. However the group would earn €4 per unit in
Aco, making €6 per unit in total, which is optimal.
Cco can buy externally at €12, which would provide a contribution per unit of sales – variable costs =
25 – 12 – 4 = €9 per unit.
If group transfer pricing policy requires Cco to buy from Bco, then Cco’s variable costs go up by €4
and contribution per unit goes down by €4 per unit to €5 per unit. However, the group would earn
€6 per unit in total from Aco and Bco, making €11 per unit in total which is optimal.
Answer is “C”
8: Make or Buy: Ovenco makes kitchen appliances including a range of ovens. As part of the
production process they currently make the internal oven racks. Their product costing for a single
rack is a total of €6 comprising variable direct costs of €4.5 and an allocation of central fixed
overhead of €1.5. Rackco have offered to supply the racks for €5 each. If Ovenco accept the offer
they can reduce total fixed costs by a net €25,000 by decommissioning the production line. At
what volume of production would we be indifferent to accepting the Rackco offer and if
production is above this number should we accept or reject the offer?
a) 25,000 & Accept b) 25,000 & Reject c) 50,000 & Accept d) 50,000 & Reject
This question is a little like a break-even question – at what volume of output would our change in
production costs equate to the change in fixed costs.
Our variable production costs are 4.5 per unit currently. This would increase to €5 per unit if we
accept the Racko offer. That is a change of 0.5c per unit.
We save 25,000 by making the change – so the volume of production at which we would be
indifferent is 25,000/0.5 = 50,000 units
At this production volume we save 25,000 of overhead, but it costs us 50,000*0.5 = 25,000 in
additional variable production costs.
Every unit after this gives us no further saving but would cost us 0.5 in additional variable production
cost per unit if we accept the offer. So we would Reject the offer if production exceeds 50,000 units.
Answer is “D”
9: Transfer Pricing: Which of the following can be a result of employing strategic transfer pricing
for tax optimsation:
1. Increased legal risk

2. Increased reputation risk
3. Increased tax charge
4. Increased contribution
a) 1 & 2 b) 1, 2 & 3 c) 1,2 & 4 d) 1,2,3 & 4
Strategic Transfer Pricing is a mechanism employed by large corporate groups to direct profit to
companies or jurisdictions that optimise the tax efficiency for the group.
All answers contain 1 & 2 – which is fair as these risks can arise when companies use strategic
transfer pricing as a means of tax avoidance.
Statement 3 is incorrect as the intention of strategic transfer pricing is to result in a reduced tax
charge.
Statement 4 is also incorrect. Strategic transfer pricing is about tax optimisation. It doesn’t change
contribution within a group, just moves it to areas of optimal tax treatment so optimising profit after
tax. Other forms of transfer pricing – used to avoid dysfunctional behaviour – to ensure trade
remains within a group DO seek to increase contribution, but it is not true of strategic transfer
pricing.
Answer is “A”
10: Marginal Pricing: ABC Ltd makes shopping trolleys that sell for €110 each. They mark up
variable costs by 100%. They forecast they will make and sell 20,000 trolleys a year which would
result in fixed overheads of €30 per trolley . After 6 months operating exactly to forecast, Tesco
offer them a chance to make trolleys exclusively for them for the remainder of the year. If Tesco
offer €100 per trolley, what is the breakeven volume for this contract for ABC Ltd to breakeven for
the year? [Longer Form Question – approx. 10 marks]
Answer: So this requires us to consider Marginal Pricing.
Fixed Costs are not given but can be computed as at a forecast 20,000 trolleys a year they would be
€30 per trolley – therefore they must total 20,000 * 30 = €600,000
Contribution per unit originally is sales price – variable costs. Sales price is 110. Variable costs are
marked up by 100%. Therefore sales price must equal variable costs plus 100% of variable costs – ie
200% of variable costs. Hence variable costs = 110/200% = €55. Contribution is therefore 110-55 =
55 also.
Original breakeven would have been 600,000/55 = 10,909 units.
Our contribution now has changed as Tesco are negotiating a lower sales price. So new contribution
equals 100-55 = €45 per unit.
We are asked to breakeven for the year, which includes the 6 months already traded which has
already generated contribution towards fixed costs.
We need to work out the fixed costs not already covered by existing generated contribution. ( This is
the key to any such questions – work out how much contribution has already been generated and
hence how much fixed cost remains to be covered in order to breakeven.)
For the 6 months traded, contribution was €55 per trolley for 10,000 trolleys = €550,000
Fixed costs are €600,000, So to break even for the year, ABC Ltd only need to generate an additional
600,000-550,000 = 50,000 of contribution.
So the breakeven volume for the year under the new contract is fixed costs not already covered
divided by the new contribution per unit. = 50,000/45 = 1,111
MEEN 30140 Week 7 & 8 – Question Bank 2 - Questions
1: Mark Up: If a business marks up variable costs by 100%, what is the change in the Contribution
Margin ratio if variable costs increase by 50% but sales price remains constant.
a) No change b) It doubles c) it halves d) it depends on the level of variable cost
2: Break Even: If a company’s fixed costs are €120,000 and it employs a 25% mark up to
determine sales price - what is the company’s sales value needed to reach a target profit of
€60,000?
a) 480,000 b) 600,000 c) 720,000 d) 900,000

b)
3: Break Even: Which of the following statements are true with respect to the Break Even Point?
1. Units sold above the break even point have a higher contribution per unit than those
below the break even point
2. At the break even point aggregate contribution is equal to total fixed costs
3. At the break even point market determined demand equates to available supply
4. The break even point is valid only within a certain range of business activity
a) 1 & 2 b) 2 & 3 c) 2 only d) 2 & 4
4: Marginal Pricing/Break Even: Tony makes wooden chairs that sell for €250 each. His variable
costs per chair are €90. He forecasts he will make and sell 1000 chairs a year which would make
his fixed costs equal to €100 per chair if matching forecast. After he has sold 600 chairs, Tony is
offered a new contract to produce a further 500 chairs that will fully utilise his remaining time in
the year. What is his breakeven sales price for that new contract for Tony to breakeven for the
year?
a) €90 b) €98 c) €170 d) €190
5. Make Or Buy: Leone Ltd makes two brands of Stetson hats. The “Good” has variable costs of
€12, and the “Bad” has variable costs of €9. They utilise a markup of 50%. Annual sales of The
Good is 8,000 units and for The Bad is 6,000 units and existing fixed costs are €50,000. Leone is
reviewing a proposal to add the “Ugly” to their range. The Ugly is expected to sell 5,000 units per
annum at a variable cost of €10. Producing the Ugly would require reducing production of either
the Good or The Bad by 1000 units, and incur additional fixed costs of €10,000 per annum. If the
Ugly also has a 50% markup, what would be the profit per annum of the optimal outcome?
a) €34,000 b) €35,500 c) €45,500 d) €95,500

6 Limiting Factor: If production of a range of products is limited by the number of labour hours
available, which of the following would always be an appropriate potential course of action:
1. Create a production schedule that optimises products that use the least labour,
subject to other commercial considerations
2. Pay an overtime premium to increase the number of labour hours
3. Create a production schedule that optimises products that have the highest
contribution per labour hour subject to other commercial considerations
4. Discontinue the production of the product with the least contribution per labour
hour in order to concentrate on more profitable lines
a) 1 & 4 b) 2 & 3 c) 3 d) 3 & 4
7: Make or Buy: Checkmate Ltd manufactures ornamental marble chess boards. They currently
buy in the chess pieces from an external firm for a cost of €160 per set. The production manager
has commissioned research for making the pieces in house. The report estimates that the new
production lines will increase fixed costs by €24,000 per year and will have a variable cost of €140
per set. The research cost €5,000. If Checkmate sell 1,800 sets a year, how much will their annual
profit increase by making the pieces in house.
a) €12,000 b) €36,000 c) €7,000 d) €31,000
8: Cost types: Which TWO of the following should be included in a project costing for the
purposes of determining whether or not to proceed with the project
1. Sunk costs
2. Committed Costs
3. Avoidable Costs
4. Opportunity Costs
9: PERT: Your construction engineer has responded to your request for optimistic, expected and
pessimistic time forecasts for the purposes of estimating labour costs. They have given you the
following; optimistic 1050 hours at €8/hr; most likely 1250 hours at €10/hr; pessimistic 1600
hours at €12/hr. Your forecast rate for labour is €10/hr. What should you include as labour cost if
employing the PERT analysis?
c) €12,500 b) €12,750 c) €13,000 d) €12,933.33
10 Limiting Factor: A Company makes two products. Product X has monthly demand of 1200
units, utilises 5 hours of machine time and 6 hours of labour time per unit, and has a contribution
of €18 per unit. Product Y has monthly demand of 1000 units, utilises 4 hours of machine time and
8 hours of labour time per unit, and has a contribution of €12 per unit. Machine time had been
limited to 8,000 hours and labour to 14,000 hours. If the company runs an optimal production
process, what is the maximum monthly contribution? [Long form question approx. 10 marks]
MEEN 30140 Week 7 & 8 – Question Bank 2 - Answers
1: Mark Up: If a business marks up variable costs by 100%, what is the change in the Contribution
Margin ratio if variable costs increase by 50% but sales price remains constant.
a) No change b) It doubles c) it halves d) it depends on the level of variable cost
Answer: The CMR is the Contribution Margin divided by Sales Price – ie the proportion of the sales
price that exceed variable costs.
Markup is the amount, expressed as a percentage of variable costs by which variable costs are
increased to establish sales price.
Using some dummy numbers if variable costs = 100, Markup is 100% of 100 = 100, and Sales Price =
variable cost plus markup = 100+100 = 200.
Contribution Margin = Sales Price – variable cost. So in this case 200-100 = 100
The CMR is therefore 100/200 = 50%
If variable costs then increase by 50% - So 100 +50% = 150, but sales price remains unchanged – so
200. Then the new contribution is 200-150 = 50. The new CMR is 50/200 = 25%
The CMR is therefore half what it was. This would apply regardless of the absolute level of variable
costs.
Answer is “C”.
2: Break Even: If a company’s fixed costs are €120,000 and it employs a 25% mark up to
determine sales price - what is the company’s sales value needed to reach a target profit of
€60,000?
a) 480,000 b) 600,000 c) 720,000 d) 900,000
Break even Sales Value is the total amount of sales needed to generate sufficient contribution to
cover the total fixed costs. It is calculated as Fixed Costs/Contribution Margin Ratio.
In this instance we have an additional profit target. The Break Even for this is the same as adding
that profit to the fixed costs. So to make 60,000 profit we will need to make a total contribution of
120,000 + 60,000 = 180,000
Contribution Margin Ratio = Contribution as a percentage of sales
Mark up is 25%, that is the mount by which variable costs are increased to establish sales price. So
variable costs + 25% of variable costs = Sales price. Sales Price = 125% of variable cost.
Contribution is sales price – variable cost. So 125-100 = 25
So CMR is 25/125 = 20%
So the target sales value is 180,000/20% = €900,000
Answer is “D”
3: Break Even: Which of the following statements are true with respect to the Break Even Point?
1. Units sold above the break even point have a higher contribution per unit than those
below the break even point
2. At the break even point aggregate contribution is equal to total fixed costs
3. At the break even point market determined demand equates to available supply
4. The break even point is valid only within a certain range of business activity
a) 1 & 2 b) 2 & 3 c) 2 only d) 2 & 4
Statement 1 is false. Contribution per unit is impacted only by sales price and variable costs. The
break even point refers to how the aggregate of contribution per unit relates to fixed costs.
Statement 2 is true.
Statement 3 is false. This describes a market price equilibrium, that could be any number and has no
direct relationship to the break even point
Statement 4 is true. We know that fixed costs are only fixed within certain ranges of business
activity. If a business increases ten-fold it is unlikely that fixed costs will remain static. Given that
break even point is driven by fixed costs then it holds true that it also is only valid with certain ranges
of business activity.
Answer is “D”
4: Marginal Pricing/Break Even: Tony makes wooden chairs that sell for €250 each. His variable
costs per chair are €90. He forecasts he will make and sell 1000 chairs a year which would make
his fixed costs equal to €100 per chair if matching forecast. After he has sold 600 chairs, Tony is
offered a new contract to produce a further 500 chairs that will fully utilise his remaining time in
the year. What is his breakeven sales price for that new contract for Tony to breakeven for the
year?
a) €90 b) €98 c) €170 d) €190
This is a marginal pricing issue. When Tony wants to break even for the year he has to generate
enough contribution to cover his fixed costs.
Fixed costs can be computed using his forecast of 1000 chairs x €100 per chair = €100,000
With marginal pricing, we need to establish how much earned contribution has already been
generated prior to the new contract proposal.
Contribution per unit = sales price – variable costs = 250-90 = €160 per unit
He has sold 600 units, so his earned contribution to date = 600 * 160 = 96,000
So the remaining fixed costs to be covered in order to break even = 100,000 – 96,000 = €4,000
So the contribution per unit required for the new contract is 4000/500 units = €8
So the sales price = contribution + variable costs = 90 +8 = €98
Answer is “B”
5. Make Or Buy: Leone Ltd makes two brands of Stetson hats. The “Good” has variable costs of
€12, and the “Bad” has variable costs of €9. They utilise a markup of 50%. Annual sales of The
Good is 8,000 units and for The Bad is 6,000 units and existing fixed costs are €50,000. Leone is
reviewing a proposal to add the “Ugly” to their range. The Ugly is expected to sell 5,000 units per
annum at a variable cost of €10. Producing the Ugly would require reducing production of either
the Good or The Bad by 1000 units, and incur additional fixed costs of €10,000 per annum. If the
Ugly also has a 50% markup, what would be the profit per annum of the optimal outcome?
a) €34,000 b) €35,500 c) €45,500 d) €95,500
Let’s first consider contribution.
“Good” contribution per unit = 12 *0.5 = €6
“Bad” contribution per unit = 9 *0.5 = €4.5
“Ugly” contribution per unit = 10 *0.5 = €5
Producing the Ugly therefore creates contribution of 5000 * 5 = 25,000
Less Fixed Costs of €10,000
But also less the lost contribution from reducing existing production,
Bad produces less contribution per unit than Good, so we should reduce production of Bad by 1000
units.
That costs us lost contribution of 1000 * 4.5 = 4,500
Producing Ugly is therefore optimal as 25,000 > (10,000 + 4500).
Our optimal outcome is 5000 Ugly + 8000 Good + (6000-1000 = 5000) Bad
Contribution = 5000*5 + 8000*6 + 5000*4.5 = 95,500
Fixed Costs = 50,000+10,000 = 60,000
Profit = 95,500 – 60,000 = 35,500
Answer is “B”
6 Limiting Factor: If production of a range of products is limited by the number of labour hours
available, which of the following would always be an appropriate potential course of action:
1. Create a production schedule that optimises products that use the least labour,
subject to other commercial considerations
2. Pay an overtime premium to increase the number of labour hours
3. Create a production schedule that optimises products that have the highest
contribution per labour hour subject to other commercial considerations
4. Discontinue the production of the product with the least contribution per labour
hour in order to concentrate on more profitable lines
a) 1 & 4 b) 2 & 3 c) 3 d) 3 & 4

Statement 1 would not always be appropriate. Optimisation should be based on contribution per
labour hour and not labour hour usage. It could in certain cases be coincidentally the same outcome
but it will not always hold true.
Statement 2 would often work but only if the amount of the overtime premium was less than the
contribution per unit of the added production so that those additional hours would be contribution
positive. If we have to pay too much it may not be appropriate, so we cannot say this is always
appropriate
Statement 3 is the textbook approach to a limiting factor and would always be appropriate. Other
commercial considerations such as maintaining a product range, complementary sales etc may
influence the degree of optimisation, but statement 3 would always be appropriate
Statement 4 is not always appropriate. In a two product example, labour hour limitations may
prevent us meeting total demand for both products, but still allow for production of the optimal
product in full and some of the sub-optimal product. Commercial considerations may also over-ride
discontinuing a line solely on a contribution optimisation basis.
Answer is “C”.
7: Make or Buy: Checkmate Ltd manufactures ornamental marble chess boards. They currently
buy in the chess pieces from an external firm for a cost of €160 per set. The production manager
has commissioned research for making the pieces in house. The report estimates that the new
production lines will increase fixed costs by €24,000 per year and will have a variable cost of €140
per set. The research cost €5,000. If Checkmate sell 1,800 sets a year, how much will their annual
profit increase by making the pieces in house.
a) €12,000 b) €36,000 c) €7,000 d) €31,000
The previous cost per set of pieces was €160.
The new cost per set is €140.
The saving is €20 per set. That would make 1,800 sets * €20 per set = €36,000 additional
contribution.
Incremental fixed costs = €24,000. They need to be included because they are incremental.
Research costs of €5,000 should not be included as they have been incurred already and will not
change whether the pieces are made in house or continue to bought in
So the net impact of making the pieces is €36,000 of additional contribution less €24,000 of
incremental fixed costs = 12,000
Answer is “A”
8: Cost types: Which TWO of the following should be included in a project costing for the
purposes of determining whether or not to proceed with the project
1. Sunk costs
2. Committed Costs
3. Avoidable Costs
4. Opportunity Costs
Answer:
Sunk Costs have already been incurred. They cannot influence the course of action from this point
onwards.
Committed Costs have to be paid irrespective of the outcome of any decision to proceed so should
not impact that decision.
Avoidable costs should be included as if the decision is not to proceed then they can be avoided
therefore they are a differentiating factor between proceed or not proceed.
Opportunity Costs should be included as these represent a difference between using resources for
the project and their value if the project did not proceed.
Answer is 3 & 4
9: PERT: Your construction engineer has responded to your request for optimistic, expected and
following; optimistic 1050 hours at €8/hr; most likely 1250 hours at €10/hr; pessimistic 1600
hours at €12/hr. Your forecast rate for labour is €10/hr. What should you include as labour cost if
employing the PERT analysis?
b) €12,500 b) €12,750 c) €13,000 d) €12,933.33
Answer: PERT is a three point estimation technique for determining a quantity, in this case labour
hours. It uses three observations – optimistic, most likely and pessimistic and then weights them to
deliver an answer.
The key here is that PERT should be used for one variable ONLY, In this case the time forecast. The
engineer has added an unrequested range of pay-rates. You already have a labour rate for
forecasting. If there is any uncertainty to be built into a forecast for labour rates that should be at
the project manager forecast level and is unlikely to be determined through a method such as PERT,
and is more likely to be covered by provisional cost reserves.
So, we use PERT for the time estimate only. Pert is (1*Eo + 4*Ee + 1*Ep)/6 = (1050 + 1250*4 +
1600)/6 = 1,275 hours. Our budget would therefore be 1275 hours * 10/hr = 12,750
Answer is “B”
10 Limiting Factor: A Company makes two products. Product X has monthly demand of 1200
units, utilises 5 hours of machine time and 6 hours of labour time per unit, and has a contribution
of €18 per unit. Product Y has monthly demand of 1000 units, utilises 4 hours of machine time and
8 hours of labour time per unit, and has a contribution of €12 per unit. Machine time had been
limited to 8,000 hours and labour to 14,000 hours. If the company runs an optimal production
process, what is the maximum monthly contribution? [Long form question approx. 10 marks]
So firstly, we establish what if any are limiting factors and the contribution per unit of that factor.
Total machine hours needed to meet total demand is:
Product X = 1200 units * 5 hrs per unit = 6000 hours. Contribution per machine hour = €18 per unit
divided by 5 hrs per unit = €3.6/hr
Product Y = 1000 units * 4hrs per unit = 4000 hours. Contribution per machine hour = €12 per unit
divided by 4 hrs per unit = €3/hr
Total = 6000 + 4000 = 10,000 hours. So this is a constraint as available hours = 8,000
Total labour hours needed to meet total demand is:
Product X = 1200 units * 6 hrs per unit = 7200 hours. Contribution per labour hour = €18 per unit
divided by 6 hrs per unit = €3/hr
Product Y = 1000 units * 8hrs per unit = 8000 hours. Contribution per labour hour = €12 per unit
divided by 8 hrs per unit = €1.5/hr
Total = 7200 + 8000 = 15,200 hours. So this is also a constraint as total available hours = 14,000
Both are constraints – so does one constraint dominate? Consider producing each product in turn to
its maximum, if the constraining factor in both cases is the same then this is the dominant factor.
If we max out product X, we make 1200 of X and we use 6000 machine hours and 7200 labour
hours. Leaving (8000-6000) = 2000 machine hours and (14000 – 7200) = 6800 labour hours, which
can make 2000/4= 500 units and 6800/8 = 850 units of product Y respectively. So machine hours
constrains us to 500 units of Y.
If we instead choose to max out product Y, we make 1000 of Y and we use 4000 machine hours and
8000 labour hours. Leaving (8000-4000) = 4000 machine hours and (14000 – 8000) = 6000 labour
hours, which can make 4000/5= 800 units and 6000/6 = 1000 units of product X respectively. So
machine hours again constrains us to 800 units of X.
Machine hours is the dominating constraint irrespective of the product mix.
Therefore we optimise using the highes contribution per machine hour which is Product X
Per the above workings, maximising production of Product X results in 1200 units of product X and
500 units of Y.
So contribution = (1200 * 18) + (500 * 12) = 27,600

MEEN 30140
Topic 9
Project Investment Appraisal
Project Investment Appraisal 1

Course Topics
2]



Investment Appraisal - Purpose
• To evaluate the benefits arising
from an investment opportunity.
• To assist in the decision-making process
of project approval.
• To justify a significant expenditure.
• To challenge qualitative considerations.
• To ‘rank’ and prioritise alternative
investment options.

Inv. Appraisal – Quant & Qual
• Investment appraisal techniques are quantitative
• Some projects or opportunities also have qualitative
aspects
• We can deal with these in one of two ways:
• Estimation of qualitative impacts – ie including them in our
cash flows through estimation eg if the this project is good for
the business reputation, how does that convert into cash flow?
• Benchmarking qualitative impacts – appraising the project on
only quantitative aspects and then benchmarking the outcome
– eg, the project is good for the business reputation but
returns a value €1mln below our required return – do we
consider the reputational benefit to be more or less than
€1mln?

Inv. Appraisal – Cash Flows
• All investment appraisal techniques require a forecast
of future income and expenditure, and in most cases
the timing of the actual cash flows.
• The start point of any appraisal is therefore building
the forecast including:
• Investment Outlay
• Future Income
• Future Expenses
• Decommissioning or Residual Values

• Investment Outlay:
• Consider issues from Week 8 – eg Sunk Costs,
• Some Investment may be required over time
• Future Income/benefits
• Can be income from sales, could be cost savings from efficiencies
• Need to build the future flow profile
• Consider growth rates
• Consider capacity issues
• Consider pricing policy
• Future Costs
• Estimation per week 8
• Complex estimation (see week 10)
• Linkage to income assumptions
• Variable, Fixed or Stepped Costs
• Decommissioning & Residual Value
• End of Project Estimates
• Can be an income if assets used for the project have realisable residual value
• Can be an expense if there are decommissioning costs of assets, staff, stock

Inv. Appraisal – Forecasting…
• An investment project report costing €20,000 has
established that the following is the forecast for
introducing new product X
• The initial outlay on new production line is a capital expense
of €650,000 which should last 5 years at the end of which it
will have residual value of €100,000
• Sales are expected to be 5000 units in year 1, and then grow
by 10% in Y2, by 10% in Y3, by 0% in year 4 and reduce by
20% in Y5.
• Sales price is expected to be €100 per unit for Y1-3, and €90
per unit in Y4-5.
• Variable production costs are expected to be €60 per unit in
Y1 and grow by 5% pa thereafter

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5
Capital Costs (650,000) 100,000
Sales (units) 0 5,000 5,500 6,050 6,050 4,840

Sales (price) 100 100 100 90 90
Total Sales 500,000 550,000 605,000 544,500 435,600
Prod (units) 5,000 5,500 6,050 6,050 4,840

Prod (costs) 60.00 63.00 66.15 69.46 72.93
Total Prod 300,000 346,500 400,208 420,218 352,983
Net Cash Flow (650,000) 200,000 203,500 204,793 124,282 182,617

Capital Costs (650,000) 100,000
Sales (units) 0 5,000 5,500 6,050 6,050 4,840

Sales (price) 100 100 100 90 90
Total Sales 500,000 550,000 605,000 544,500 435,600
Prod (units) 5,000 5,500 6,050 6,050 4,840

Prod (costs) 60.00 63.00 66.15 69.46 72.93
Total Prod 300,000 346,500 400,208 420,218 352,983
Net Cash Flow (650,000) 200,000 203,500 204,793 124,282 182,617
• Annualised cash flows

• What if we wanted to hold some stock?
• What if we have production capacity constraints?
• How do we assess whether the outcome is good or
bad?
Methodologies
1. Simple Payback
2. Accounting Rate of Return
3. Net Present Value (NPV)
4. Internal Rate of Return (IRR)

1. Payback
⚫ Investment €25,000 in automated machine
⚫ Saves 15% p.a. on labour cost
⚫ €3,000 residual value end of Year 5
All figs in € Year 1 Year 2 Year 3 Year 4 Year 5
Labour Cost 50,000 60,000 65,000 65,000 60,000
Savings p.a. 7,500 9,000 9,750 9,750 9,000
Residual Value 3,000
Cum. Cash flows 7,500 16,500 26,250 36,000 48,000
How many years to ‘pay back’ the €25,000 ?

Simple Payback
⚫ We are going to work out when we get our initial
€25,000 outlay back
⚫ Based on cumulative savings it is between yrs 2 and 3
⚫ Assuming the flow of returns is equal through the year,
we can use “linear interpolation”:
➢ We need (25,000 – 16,500) = 8,500 of savings
during year 3
➢ We make 9,750 of savings in the year
➢ So we need 8500/9750 = 0.87 of the year
➢ So payback is in 2.87 years

Simple Payback – is “Simple”
. Advantages Disadvantages
• Simple to calculate • Forecasting !

and understand
• Ignores ‘Time-Value’
• Useful for non- of money
financial personnel
• Ignores profitability over
the full term of the
• Can be used for
investment
Multiples of payback

Accounting Rate of Return (ARR)
(Average annual Profit)

%
(Average Investment)
⚫ Average annual profit is over the life of the investment and is the
accounting profit (P&L). This includes depreciation associated with
any capital investment.
⚫ Average investment is the average net book value of the investment

(Balance Sheet)
⚫ RoE/RoCE

Widget Company:
⚫ Depreciation = (25,000 – 3000)/5 = €4,400 pa
All figures in € Year 1 Year 2 Year 3 Year 4 Year 5
Savings per annum 7,500 9,000 9,750 9,750 9,000
Less depreciation 4,400 4,400 4,400 4,400 4,400
Profit 3,100 4,600 5,350 5,350 4,600
⚫ Average Profit p.a. = €4,600
⚫ Average Investment (€25k + €3k)/2 =€14,000
⚫ ARR = 4,600/14,000 = 32.9%

ARR
Advantages:
⚫ Conforms to the accounting concepts of %age interest
rate of returns, and ‘profitability’ rather than ‘cash-flow’
as the measure of ‘return’.
⚫ Reflects how returns will be disclosed in accounts
Disadvantages:
⚫ Ignores the time-value of money.
⚫ Relies on the accuracy of long term forecasting

The ‘Time Value’ of Money
⚫ €1,000 in the hand now is worth more than
€1,000 to be received in 12 months time
⚫ Conversely, €1,000 to be received in one
year’s time is worth less than having it now
⚫ How can we put today’s ‘value’ on €1,000
to be received in a years time? …
by ‘discounting’ it!
Hence the concept of Discounted Cash Flow (DCF)

Discounted Cash Flow (DCF)
⚫ DCF is a methodology of ‘discounting’

future cash flows to get today’s ‘value’
⚫ An annual discount rate is selected
⚫ The discount rate is converted to a
‘discount factor’ for Years 1, 2, 3,….n
⚫ The appropriate year’s discount factor is
applied to the future cash flows, to
convert them into today’s value.
Example (Based on a 5% Deposit Rate)
⚫ €1,000 put on deposit @ 5% = €1,050 in 1 Yr.
(i.e. €1,000 x 1.05). Therefore €1,050 in 1 Yrs time is valued
now at: €1,050 ÷ 1.05 = €1,000
(Discount Factor = 1÷1.05= 0.952;
i.e. €1,050*0.952=€1,000)
⚫ In 2 Years:-
€1,000 = €1,000 x 1.05 x 1.05 = €1102.5 (or €1,000*1.05²)
(Discount Factor = 1÷ 1.05² = 0.907)
⚫ In n Years:- €1,000 = €1,000 x 1.05ⁿ

(Discount Factor for Year n = 1÷ 1.05ⁿ)
Discount Tables
⚫ Discount Factors based on annual percentage

rates and number of years:-
Rate%
Year
1% 2% 3% 4%
1 0.9901 0.9804 0.9709 0.9615
2 0.9803 0.9612 0.9426 0.9246
3 0.9706 0.9423 0.9151 0.8890

Discounted Cash Flow (DCF): NPV and IRR
⚫ Discounted Cash Flow (DCF) is the basis
of the following 2 methodologies:-
➢ Net Present Value (NPV): a method of
evaluating if an investment meets some
minimum return criteria
➢ Internal Rate of Return (IRR): calculates
the actual %age return on a given
investment.

NPV - What discount factor ?
⚫ “Utility” rates describe the personal rate of the
investor given the other uses of funds available to
them. This is hard to observe.
⚫ Risk Free” rates represent market determined rates
for “risk free” investments eg US Treasury Bills
⚫ “Cost of Funds” rate refers to the rate at which an
investor can borrow money in order to invest
⚫ “Risk Premium” refers to the amount over and above
the risk free rate required to incentivise investment
and can be computed for traded investments
⚫ “Required Rate of Return” is a benchmark rate set by
companies to assess investment opportunities

⚫ Companies in aggregate have to target a certain
return on capital for their investors (WACC)
⚫ In turn that informs the rate of return the company will
require of its own investments
⚫ To allow for risk and reward for their ‘entrepreneurship’
the return expected of their own investments is usually
higher than the ‘cost of capital’ required to service the
company’s investors.
⚫ The expected rate of return could be 20% and higher;
the expected return is relative to risk.
⚫ It is this minimum acceptable rate of return that is used
as the ‘discount’ rate in assessing investments
What is Net Present Value (NPV)?
⚫ By summing the discounted future cash

flows over the life of an investment we get
the Present Value of the cash-flows
⚫ By deducting the Capital Investment in the
project we get the Net Present Value (NPV)
⚫ If we have used our minimum acceptable
rate of return for ‘discounting’, - what does
it mean if the NPV is <0; = 0; >0 ?
Widget Co. NPV ~ €25,000 Inv.
⚫ Using the Widget Co. example, and assuming
a minimum rate of return of 20% …
All figs in € Year 1 Year 2 Year 3 Year 4 Year 5 Total
Total cash flows 7,500 9,000 9,750 9,750 12,000
20% dist. factor 0.833 0.694 0.579 0.482 0.402
Present Value 6,248 6,246 5,645 4,700 4,824 27,662
Investment Yr 0. 25,000
Includes €3k residual value
N.P.V. 2,662
⚫ Since the NPV is >0, then the minimum 20%

return on investment is achieved; (exceeded)

Internal Rate of Return (IRR)
⚫ The IRR is the actual rate of return from the
investment; i.e. IRR brings NPV to zero. We
know it’s higher than 20% - so ‘try’ 24% …
Widget Co.
Total cash flows 7,500 9,000 9,750 9,750 12,000
24% dist. factor 0.806 0.650 0.524 0.423 0.341 1.23
Present Value 6,045 5,850 5,109 4,124 4,092 25,220
N.P.V. 220
The IRR is marginally higher than 24%

NPV & IRR
Advantages:
⚫ Takes into account the time value of money
⚫ Better allows for the comparison of alternatives
⚫ Takes into account all cash flows
⚫ Gives less value to future cash flows so reducing
forecasting risk
Disadvantages:
⚫ Still has forecasting risk
⚫ Can be complex

Class Question – Leinster Ltd
⚫ Look on Brightspace at Leinster Ltd
⚫ Have a go
⚫ Cash Flow Forecast – Payback – ARR – NPV - IRR
⚫ Don’t be daunted….

Sensitvity Analysis
Whichever assessment method we use, we are subject
to forecasting risk.
Consider the “riskiest” element of the forecast – often

that is the income component – sales or savings.
Decisions can be informed by understanding the degree

of change in that assumption before the decision
would change.
Eg – by what annual percentage would sales need to fall
below forecast for NPV to become zero.

Questions ?
⚫ Revision Question : Topsy Turvy
MEEN 30140 Professional Engineering

(Finance) 30
Project Investment Appraisal : The Widget Company
The Widget Co. is considering investing €25,000 in a new production

technology Project which will save 15% on production labour costs of
product WTX. The company expects sales of product WTX to decline
in year 5 and is unsure of its future thereafter. Being prudent therefore,
it assumes it will sell off the technology at end of year 5, at which stage
it is expected it can be sold for €3,000.
The estimated annual labour costs for WTX over the next 5 years are:

Labour Cost 50,000 60,000 65,000 65,000 60,000
Savings p.a. 7,500 9,000 9,750 9,750 9,000
Cum. Cash flows 7,500 16,500 26,250 36,000 48,000
There are several financial models which can be used to assess the “value” of the returns on
capital expenditure on Projects like above, or other investment opportunities.
Commonly used models include:

1. Simple payback.
2. Accounting rate of return.
3. Net Present Value (NPV).
4. Internal Rate of Return (IRR).
1. Simple Payback Period:
1. How much is the initial investment?
2. What are the net gains to be achieved from this investment over future years?
3. How long will it take for the future net gains to cover the cost of the initial
investment?
Clearly, in the above example, ‘payback’ will occur between Year 2 and Year 3. Assuming the
flow of returns occurs equally over the year, then at end of year 2 the short-fall in ‘pay-back’ is
€8,500 (i.e. €25,000-€16,500). Therefore that shortfall will be earned in the proportion [shortfall] /
[year 3 income] (i.e. €8,500 / €9,750) = 0.87 years.
Therefore, payback will take place in 2.87 years.
Remember this calculation is based on forecasts. Therefore the payback period should be taken as an
estimate; - not an absolute value. Also it is cash-flow focused, not profit focused; i.e. it ignores depreciation.
Advantages:
• Simple to understand and calculate.
• Gives a convenient ‘rough cut’ appraisal measure for non-financial personnel to apply.
Disadvantages:
• All Capital Investment appraisals suffer from the difficulty of forecasting cash-flows.
• Doesn’t take into account the ‘time-value’ of money.
• Ignores profitability of the investment after the payback period.
________________________________________________________________________
2. Accountant’s Rate of Return: (ARR)
Calculates the average annual simple interest rate of profit on the average investment.
(Average annual Profit)*100

(Average Investment) %
Profit 3,100 4,600 5,350 5,350 4,600
• Average annual profit from investment = (3,100+4,600+5,350+5,350+4,600)/5 = €4,600 p.a.

• Average investment = (25k + 3k)/2 = €14,000
• ARR = 4,600*100/14,000 = 32.9%
Advantages:
• Conforms to the accounting concepts of %age interest rate of returns, and ‘profitability’
rather than ‘cash-flow’ as the measure of ‘return’.
Disadvantages:
• Ignores the time-value of money.
• Ignores timing of the returns.
Time-value of money:
If you have €1,000 in cash, and hold it in cash for a year, you are accepting that, for you, the value
of €1,000 in a year’s time is the same as the value of it now. Most people would not agree. Instead,
if they have spare cash they would probably put it on deposit to earn interest rather than holding it,
as its spending power decreases due to inflation. If you hold the €1,000 on deposit for a year at 5%
interest, it will be worth €1,050 in a year’s time. This suggests that, to you, €1,050 in a year’s time
= €1,000 now. So if 5% in the minimum return you’d accept to hold the money for a year, your
multiplier is 1.05 per annum. Conversely, the divider is also 1.05 to bring the money in a year’s
time back to its value now; (i.e. your €1,050 in a year’s time is worth €1,050 / 1.05 = €1,000 now).
In financial calculations, it is the inverse of this 1.05 (= 0.952) that is used as the ‘discount factor’
to be applied to the €1,050 in one year (i.e 1,050*0.952) to calculate its Present Value (€1,000).
A discount factor can be calculated for future years’ incomes; - e.g in our example the interest rate
of 5% has a discount factor of 1/(1.05*1.05) in year 2. [Sequence: 1/1.05 ; 1/1.05² ; 1/1.05³ etc].
This is the principal of the ‘time-value’ of money. Tables are available in all financial text books
showing the discount factors for given rates of return in any given year.
Businesses usually borrow money to make large investments, but even if they’re ‘cash-rich’, that
money has an opportunity cost of alternative investments, and hence businesses will be looking for
a higher return on investment than simply putting it in a non-risk deposit account earning only 5%
interest. Also there is the risk factor. All business investments carry risks, and businesses take
these risks to earn higher than average returns. The higher the risks, the higher the returns expected.
Therefore the percentage return expected by a company will be high – probably guided by the
existing ROCE they currently enjoy. So if a firm’s ROCE averages 25%, they will hardly want to
invest heavily in any project that will return less than 20% - 25%; the firm might cite 22% as their
“minimum rate of return”; - below which they will not be interested in investing.
3. Net Present Value (NPV):

The NPV process of investment analysis is based on the foregoing concept of the time-value of
money. It selects a minimum rate of return required before allowing a capital investment to go
ahead, and it is this selected rate and not the “cost of capital rate”, which is used in calculating the
discount factor. If the total (cumulative) discounted cash flow (i.e. the total Present Value of the
discounted cash-flows) is equal to, or greater than the original investment, then the return meets the
minimum rate of return criteria selected.
The Net Present Value (NPV) is the total discounted cash flows, minus the cost of the original
investment. If this figure is positive, then the rate of return will be greater than the minimum
investment return criteria chosen for discounting. Going back to the original example; assume the
firm has a minimum requirement of 20% return on any investment before approving the
expenditure, then the discount factors for 20% will be used: -
Total cash flows 7,500 9,000 9,750 9,750 12,000
20% dist. factor 0.833 0.694 0.579 0.482 0.402
Present Value 6,248 6,246 5,645 4,700 4,824 27,662
N.P.V. 2,662
As the NPV is greater than zero, the investment meets (exceeds) the minimum criteria.
4. Internal Rate of Return (IRR):
The NPV method looks at whether the return on the investment meets or exceeds some minimum
rate of return criteria. The IRR method calculates the actual rate of return. The IRR is the discount
rate that will bring the accumulated discounted cash flows to exactly the same figure as the initial
investment; i.e. NPV = 0
From the example above, the 20% discount rate had a NPV >0. Therefore the IRR in this case must
be greater than 20%. The actual discount rate to bring NPV = 0 is ascertained by trial and error; (it
may also be computed using the MS Excel finance function key). In this example the IRR is
between 24% and 25% as shown below:-
Total cash flows 7,500 9,000 9,750 9,750 12,000
24% dist. factor 0.806 0.650 0.524 0.423 0.341 1.23
Present Value 6,045 5,850 5,109 4,124 4,092 25,220
N.P.V. 220

Total cash flows 7,500 9,000 9,750 9,750 12,000
25% dist. factor 0.800 0.640 0.512 0.410 0.328 1.23
Present Value 6,000 5,760 4,992 3,998 3,936 24,686
N.P.V. -314
(Using MS Exel IRR Finance function, the actual IRR is: 24.41%)
Revision Question – Week 9 – Topsy Turvy Limited
Topsy Turvy Limited are assessing two potential projects: Project A has an initial
capital outlay of €100,000, and project B has an initial capital outlay of €200,000.
The projects each last for 4 years, at the end of which there will be zero residual
value
The CFO has tabulated the estimated cash flows of the two projects as follows:
Project
A B
Inflows
Year 1 50,000 40,000
Year 2 30,000 60,000
Year 3 20,000 80,000
Year 4 50,000 120,000
Evaluate which project is preferable, assuming limitless capital, under:
a) Payback
b) ARR (using straight line depreciation)
c) NPV
d) IRR
The discount rate for the NPV is 10% and the discount factors are:
Year 1 0.909
Year 2 0.826
Year 3 0.751
Year 4 0.683
Revision Answer – Week 9 – Topsy Turvy Limited
Topsy Turvy Limited are assessing two potential projects: Project A has an initial
capital outlay of €100,000, and project B has an initial capital outlay of €200,000.
The projects each last for 4 years, at the end of which there will be zero residual
value
The CFO has tabulated the estimated cash flows of the two projects as follows:
Project
A B
Inflows
Year 1 50,000 40,000
Year 2 30,000 60,000
Year 3 20,000 80,000
Year 4 50,000 120,000
Evaluate which project is preferable, assuming limitless capital, under:
a) Payback
b) ARR (using straight line depreciation)
c) NPV
d) IRR
The discount rate for the NPV is 10% and the discount factors are:
Year 1 0.909
Year 2 0.826
Year 3 0.751
Year 4 0.683
Answer:
a) Payback
We first need to compute the cumulative cashflows:
A A (cum) B B(cum)
Inflows
Year 1 50,000 50,000 40,000 40,000
Year 2 30,000 80,000 60,000 100,000
Year 3 20,000 100,000 80,000 180,000
Year 4 50,000 150,000 120,000 300,000
We can see immediately that given the 100,000 outlay, Project A has a payback of exactly 3 years.
We can also see that is better than for Project B whose 200,000 outlay is not recovered until a time
during year 4.
For good order we can compute the Project B payback as 3 years + (200000-180000)/120000 = 3
years and 2 months or 3.17 years.
Project A is preferable under Payback
b) ARR
We compute the accounting returns net of depreciation:
Project
A Depn Profit A B Depn Profit B
Inflows
Year 1 50,000 25,000 25,000 40,000 50,000 (10,000)
Year 2 30,000 25,000 5,000 60,000 50,000 10,000
Year 3 20,000 25,000 (5,000) 80,000 50,000 30,000
Year 4 50,000 25,000 25,000 120,000 50,000 70,000
Depreciation is simply straight line over 4 years =
Project A: 100000/4 = 25,000 pa.
Project B: 200000/4 = 50,000 pa.
Average profit is then for Project A = €12,500 and for Project B = €25,000
Average investment is (100,000 + 0)/2 = €50,000 for A and (200,000+0)/2 = 100,000 for B
So the ARRs are:
Project A = 12500/50000 = 25%
Project B = 25000/100000 = 25%
So we are indifferent between the projects using ARR

c) NPV
For NPV we have to discount the future cash flows using the advised discount rate of 10% and the
resultant discount factors
Project
A DF PV - A B DF PV - B
Inflows
Year 1 50,000 0.909 45,450 40,000 0.909 36,360
Year 2 30,000 0.826 24,780 60,000 0.826 49,560
Year 3 20,000 0.751 15,020 80,000 0.751 60,080
Year 4 50,000 0.683 34,150 120,000 0.683 81,960
The NPV for Project A is the sum of the PVs less the initial 100,000 outlay = €19,400
The NPV for Project B is the sum of the PVs less the initial 200,000 outlay = €27,960
Using NPV both projects are attractive as they both have NPVs above zero. With unlimited capital
we should do both, if we have to do just one then we would select Project B as having the higher
NPV
d) IRR
We can trial and error knowing that both projects must have IRRs well above 10%. Let’s see what
17.5% looks like:
Project
A DF PV - A B DF PV - B
Inflows
Year 1 50,000 0.851 42,553 40,000 0.851 34,043
Year 2 30,000 0.724 21,729 60,000 0.724 43,459
Year 3 20,000 0.616 12,329 80,000 0.616 49,315
Year 4 50,000 0.525 26,231 120,000 0.525 62,955
At this rate Project A has a positive NPV = 2,842 suggesting the IRR is a little above this number. It is
actually computed as 19%.
At this rate Project B has a negative NPV = -10,229 suggesting the IRR is some way below this
number. It is actually computed as 15.3%.
So, both projects have IRRs above the required rate of return, and therefore both are attractive. If we
can do just one, then based on IRR we should select Project A.
When should we prefer NPV or IRR?
Well, both are acceptable, both here would suggest we invest in both opportunities. As capital
becomes scarce and we need to rank opportunities – even if they are attractive in their own rights –
we move more towards concepts of capital allocation and portfolio management - which would be a
whole other module in itself.
Class Question – Week 9 - Leinster Limited
Leinster Ltd specialises in the colouring and branding of stainless steel components used
in the manufacture of household and office goods. They have just expanded their factory
space after receipt of an enterprise grant and the company plans to use the added space
for a new product - branded stainless steel drinking straws. You have been given the
following information in order to assess whether the company should proceed with the
new product:
- The refurbishment has just been completed at a cost of €125,000, of which €50,000
was provided by a grant from Enterprise Ireland.
- A new custom-built production line will be ordered at a cost of €320,000 once the
project gets approved
It is estimated that:
- The selling price of a box of straws will be €10
- The direct labour cost per box of straws will be €2.90
- The cost of materials per box of straws will be €4.20
- The apportionment of existing central overhead will be €0.50 per box.
- The foreseeable market for straws should last 5 years, at the end of which the
production line is expected to have a realisable value of €40,000.
- Expected annual sales are estimates at:
o Year 1 25,000 boxes
a) Leinster have historically used a 3.5yr payback target in assessing new

investments. Calculate the payback period if Leinster invest in the new production
line. Assume linear interpolation for points between year ends.
b) Calculate the Accounting Rate of Return given a 5yr straight line depreciation
policy
c) Leinster Limited has a current required return on capital invested of 16%.
Calculate the NPV of investing in the new production line. Discount factors from
year 1 to year 5, are 0.862, 0.743, 0.641, 0.552 and 0.476 respectively. Assume all
cash flows, other than initial outlay, occur at year ends.
d) Estimate the IRR for the investment in the new production line.
Ignore inflation and tax.

MEEN 30140
Topic 9
Project Investment Appraisal

Course Topics
2]



Investment Appraisal - Purpose
• To evaluate the benefits arising
from an investment opportunity.
• To assist in the decision-making process
of project approval.
• To justify a significant expenditure.
• To challenge qualitative considerations.
• To ‘rank’ and prioritise alternative
investment options.

Inv. Appraisal – Quant & Qual
• Investment appraisal techniques are quantitative
• Some projects or opportunities also have qualitative
aspects
• We can deal with these in one of two ways:
• Estimation of qualitative impacts – ie including them in our
cash flows through estimation eg if the this project is good for
the business reputation, how does that convert into cash flow?
• Benchmarking qualitative impacts – appraising the project on
only quantitative aspects and then benchmarking the outcome
– eg, the project is good for the business reputation but
returns a value €1mln below our required return – do we
consider the reputational benefit to be more or less than
€1mln?

• All investment appraisal techniques require a forecast
of future income and expenditure, and in most cases
the timing of the actual cash flows.
• The start point of any appraisal is therefore building
the forecast including:
• Investment Outlay
• Future Income
• Future Expenses
• Decommissioning or Residual Values

• Investment Outlay:
• Consider issues from Week 8 – eg Sunk Costs,
• Some Investment may be required over time
• Future Income/benefits
• Can be income from sales, could be cost savings from efficiencies
• Need to build the future flow profile
• Consider growth rates
• Consider capacity issues
• Consider pricing policy
• Future Costs
• Estimation per week 8
• Complex estimation (see week 10)
• Linkage to income assumptions
• Variable, Fixed or Stepped Costs
• Decommissioning & Residual Value
• End of Project Estimates
• Can be an income if assets used for the project have realisable residual value
• Can be an expense if there are decommissioning costs of assets, staff, stock

• An investment project report costing €20,000 has
established that the following is the forecast for
introducing new product X
• The initial outlay on new production line is a capital expense
of €650,000 which should last 5 years at the end of which it
will have residual value of €100,000
• Sales are expected to be 5000 units in year 1, and then grow
by 10% in Y2, by 10% in Y3, by 0% in year 4 and reduce by
20% in Y5.
• Sales price is expected to be €100 per unit for Y1-3, and €90
per unit in Y4-5.
• Variable production costs are expected to be €60 per unit in
Y1 and grow by 5% pa thereafter

Capital Costs (650,000) 100,000
Sales (units) 0 5,000 5,500 6,050 6,050 4,840

Sales (price) 100 100 100 90 90
Total Sales 500,000 550,000 605,000 544,500 435,600
Prod (units) 5,000 5,500 6,050 6,050 4,840

Prod (costs) 60.00 63.00 66.15 69.46 72.93
Total Prod 300,000 346,500 400,208 420,218 352,983
Net Cash Flow (650,000) 200,000 203,500 204,793 124,282 182,617

Capital Costs (650,000) 100,000
Sales (units) 0 5,000 5,500 6,050 6,050 4,840

Sales (price) 100 100 100 90 90
Total Sales 500,000 550,000 605,000 544,500 435,600
Prod (units) 5,000 5,500 6,050 6,050 4,840

Prod (costs) 60.00 63.00 66.15 69.46 72.93
Total Prod 300,000 346,500 400,208 420,218 352,983
Net Cash Flow (650,000) 200,000 203,500 204,793 124,282 182,617
• Annualised cash flows

• What if we wanted to hold some stock?
• What if we have production capacity constraints?
• How do we assess whether the outcome is good or
bad?
Methodologies
1. Simple Payback
2. Accounting Rate of Return
3. Net Present Value (NPV)
4. Internal Rate of Return (IRR)

1. Payback
⚫ Investment €25,000 in automated machine
⚫ Saves 15% p.a. on labour cost
⚫ €3,000 residual value end of Year 5
Labour Cost 50,000 60,000 65,000 65,000 60,000
Savings p.a. 7,500 9,000 9,750 9,750 9,000
Cum. Cash flows 7,500 16,500 26,250 36,000 48,000
How many years to ‘pay back’ the €25,000 ?

Simple Payback
⚫ We are going to work out when we get our initial
€25,000 outlay back
⚫ Based on cumulative savings it is between yrs 2 and 3
⚫ Assuming the flow of returns is equal through the year,
we can use “linear interpolation”:
➢ We need (25,000 – 16,500) = 8,500 of savings
during year 3
➢ We make 9,750 of savings in the year
➢ So we need 8500/9750 = 0.87 of the year
➢ So payback is in 2.87 years

Simple Payback – is “Simple”
. Advantages Disadvantages
• Simple to calculate • Forecasting !

and understand
• Ignores ‘Time-Value’
• Useful for non- of money
financial personnel
• Ignores profitability over
the full term of the
• Can be used for
investment
Multiples of payback

(Average annual Profit)

%
(Average Investment)
⚫ Average annual profit is over the life of the investment and is the
accounting profit (P&L). This includes depreciation associated with
any capital investment.
⚫ Average investment is the average net book value of the investment

(Balance Sheet)
⚫ RoE/RoCE

Widget Company:
⚫ Depreciation = (25,000 – 3000)/5 = €4,400 pa
Profit 3,100 4,600 5,350 5,350 4,600
⚫ Average Profit p.a. = €4,600
⚫ Average Investment (€25k + €3k)/2 =€14,000
⚫ ARR = 4,600/14,000 = 32.9%

ARR
Advantages:
⚫ Conforms to the accounting concepts of %age interest
rate of returns, and ‘profitability’ rather than ‘cash-flow’
as the measure of ‘return’.
⚫ Reflects how returns will be disclosed in accounts
Disadvantages:
⚫ Ignores the time-value of money.
⚫ Relies on the accuracy of long term forecasting

The ‘Time Value’ of Money
⚫ €1,000 in the hand now is worth more than
€1,000 to be received in 12 months time
⚫ Conversely, €1,000 to be received in one
year’s time is worth less than having it now
⚫ How can we put today’s ‘value’ on €1,000
to be received in a years time? …
by ‘discounting’ it!
Hence the concept of Discounted Cash Flow (DCF)

Discounted Cash Flow (DCF)
⚫ DCF is a methodology of ‘discounting’

future cash flows to get today’s ‘value’
⚫ An annual discount rate is selected
⚫ The discount rate is converted to a
‘discount factor’ for Years 1, 2, 3,….n
⚫ The appropriate year’s discount factor is
applied to the future cash flows, to
convert them into today’s value.
Example (Based on a 5% Deposit Rate)
⚫ €1,000 put on deposit @ 5% = €1,050 in 1 Yr.
(i.e. €1,000 x 1.05). Therefore €1,050 in 1 Yrs time is valued
now at: €1,050 ÷ 1.05 = €1,000
(Discount Factor = 1÷1.05= 0.952;
i.e. €1,050*0.952=€1,000)
⚫ In 2 Years:-
€1,000 = €1,000 x 1.05 x 1.05 = €1102.5 (or €1,000*1.05²)
(Discount Factor = 1÷ 1.05² = 0.907)
⚫ In n Years:- €1,000 = €1,000 x 1.05ⁿ

(Discount Factor for Year n = 1÷ 1.05ⁿ)
Discount Tables
⚫ Discount Factors based on annual percentage

rates and number of years:-
Rate%
Year
1% 2% 3% 4%
1 0.9901 0.9804 0.9709 0.9615
2 0.9803 0.9612 0.9426 0.9246
3 0.9706 0.9423 0.9151 0.8890

Discounted Cash Flow (DCF): NPV and IRR
⚫ Discounted Cash Flow (DCF) is the basis
of the following 2 methodologies:-
➢ Net Present Value (NPV): a method of
evaluating if an investment meets some
minimum return criteria
➢ Internal Rate of Return (IRR): calculates
the actual %age return on a given
investment.

⚫ “Utility” rates describe the personal rate of the
investor given the other uses of funds available to
them. This is hard to observe.
⚫ Risk Free” rates represent market determined rates
for “risk free” investments eg US Treasury Bills
⚫ “Cost of Funds” rate refers to the rate at which an
investor can borrow money in order to invest
⚫ “Risk Premium” refers to the amount over and above
the risk free rate required to incentivise investment
and can be computed for traded investments
⚫ “Required Rate of Return” is a benchmark rate set by
companies to assess investment opportunities

⚫ Companies in aggregate have to target a certain
return on capital for their investors (WACC)
⚫ In turn that informs the rate of return the company will
require of its own investments
⚫ To allow for risk and reward for their ‘entrepreneurship’
the return expected of their own investments is usually
higher than the ‘cost of capital’ required to service the
company’s investors.
⚫ The expected rate of return could be 20% and higher;
the expected return is relative to risk.
⚫ It is this minimum acceptable rate of return that is used
as the ‘discount’ rate in assessing investments
What is Net Present Value (NPV)?
⚫ By summing the discounted future cash

flows over the life of an investment we get
the Present Value of the cash-flows
⚫ By deducting the Capital Investment in the
project we get the Net Present Value (NPV)
⚫ If we have used our minimum acceptable
rate of return for ‘discounting’, - what does
it mean if the NPV is <0; = 0; >0 ?
Widget Co. NPV ~ €25,000 Inv.
⚫ Using the Widget Co. example, and assuming
a minimum rate of return of 20% …
Total cash flows 7,500 9,000 9,750 9,750 12,000
20% dist. factor 0.833 0.694 0.579 0.482 0.402
Present Value 6,248 6,246 5,645 4,700 4,824 27,662
Includes €3k residual value
N.P.V. 2,662
⚫ Since the NPV is >0, then the minimum 20%

return on investment is achieved; (exceeded)

Internal Rate of Return (IRR)
⚫ The IRR is the actual rate of return from the
investment; i.e. IRR brings NPV to zero. We
know it’s higher than 20% - so ‘try’ 24% …
Widget Co.
Total cash flows 7,500 9,000 9,750 9,750 12,000
24% dist. factor 0.806 0.650 0.524 0.423 0.341 1.23
Present Value 6,045 5,850 5,109 4,124 4,092 25,220
N.P.V. 220
The IRR is marginally higher than 24%

NPV & IRR
Advantages:
⚫ Takes into account the time value of money
⚫ Better allows for the comparison of alternatives
⚫ Takes into account all cash flows
⚫ Gives less value to future cash flows so reducing
forecasting risk
Disadvantages:
⚫ Still has forecasting risk
⚫ Can be complex

⚫ Look on Brightspace at Leinster Ltd
⚫ Have a go
⚫ Cash Flow Forecast – Payback – ARR – NPV - IRR
⚫ Don’t be daunted….

⚫ First we tabulate the relevant cash flows:
Refurbishment
Grant
Production line (320,000) 40,000
Sales 250,000 300,000 350,000 400,000 500,000
labour (72,500) (87,000) (101,500) (116,000) (145,000)
Materials (105,000) (126,000) (147,000) (168,000) (210,000)
Central overhead
Incremental Cash Flow (320,000) 72,500 87,000 101,500 116,000 185,000
⚫ Note that the Refurbishment and the Grant are Sunk Costs and
hence not relevant.
⚫ Also the central overhead allocation is not incremental and also
not relevant
⚫ The residual value of the production line is expressed as in inflow
in year 5

Leinster Ltd - Payback
⚫ For payback we look at the cumulative inflows:
Year 1 Year 2 Year 3 Year 4 Year 5
Incremental Cash Flow 72,500 87,000 101,500 116,000 185,000
Payback - Cumulative CF 72,500 159,500 261,000 377,000 562,000
⚫ Our investment is €320,000 and we can see this will be achieved

somewhere in year 4.
⚫ Using linear interpolation it will 3 years plus (320,000-
261,000)/116,000 = .51 of a year. So a total of 3.51 years
⚫ We know the target is 3.5 years – this is very close and would
need to undergo a further review of forecast assumptions and a
judgement call by senior decision makers.

Leinster Ltd - ARR
⚫ For ARR we look at the accounting profits:
Year 1 Year 2 Year 3 Year 4 Year 5
Incremental Cash Flow 72,500 87,000 101,500 116,000 145,000
Depreciation 56,000 56,000 56,000 56,000 56,000
Profit 16,500 31,000 45,500 60,000 89,000
⚫ Depreciation is charged on a straight line basis, calculated as (320,000 –

40,000) /5 = €56,000 pa. Note that inclusion of the residual value here
means it is not included as an accounting flow in year 5
⚫ ARR = average profit/ average investment
⚫ Average Profit = sum of profits/5 = €48,400
⚫ Average investment = (320,000 +40,000)/2 = 180,000
⚫ ARR = 48400/180000 * 100% = 26.89%
⚫ ARR is at its most useful when a company is particularly sensitive to the
results as portrayed in the accounts

Leinster Ltd - NPV
⚫ For NPV we discount the cash flows at the given discount rate:
Discount Factor 1.000 0.862 0.743 0.641 0.552 0.476
Present Value (320,000) 62,495 64,641 65,062 64,032 88,060
⚫ The NPV is then the sum of the present values including the
investment in year 0
⚫ The NPV therefore totals €24,290
⚫ When NPV exceeds zero then the investment should be attractive
⚫ In large companies, exceeding this benchmark is usually the
primary financial hurdle. In smaller companies with more rationed
capital there could still be better options competing for
investment.

Leinster Ltd - IRR
⚫ For IRR we guesstimate a discount rate that may bring NPV to
zero. We know it needs to be greater than 16% so lets try 19%:
Discount Factor 1.000 0.840 0.706 0.593 0.499 0.419
Present Value (320,000) 60,924 61,436 60,232 57,846 77,524
⚫ The NPV is -€2,038 indicating the IRR is just under 19%

⚫ Computing using an Excel function shows it is 18.75%
⚫ When IRR exceeds the required rate of return then the
investment should be attractive
⚫ Again in smaller companies this may need to be measured
against competing projects

Sensitivity Analysis
Whichever assessment method we use, we are subject
to forecasting risk.
Consider the “riskiest” element of the forecast – often

that is the income component – sales or savings.
Decisions can be informed by understanding the degree

of change in that assumption before the decision
would change.
Eg – by what annual percentage would sales need to fall
below forecast for NPV to become zero.

Questions ?
⚫ Revision Question : Topsy Turvy

(Finance) 35
(Finance)
Week 10
Budgeting and
Management Accounting
Course Topics
2]



Budgets
⚫ Primary business tool for short term planning
and forecasting
⚫ Usually annual, and should be informed by
longer term strategy.
⚫ Is tailored and free form
⚫ Can contain financial and non-financial targets
⚫ Should echo the format of regular
management reporting
⚫ Can focus and energise a business IF done
well
3
Budgeting Techniques - Classic
⚫ Use the past to estimate the future. (Like driving
a car looking out the back window!)
⚫ Takes last year’s numbers and flexes for new activities
⚫ Easy and relatively quick
⚫ Based on real and recent experience
⚫ Risks “baking in” unusual items – so needs to be
“normalised”
⚫ Risks carrying forward accepted wisdoms
⚫ Less challenging
4
Budgeting Techniques - ZBB
⚫ Zero-based Budgeting
⚫ Starts each year with a blank page
⚫ Compels business units to justify expense
budgets from scratch based on expected
activities
⚫ High level of challenge, can be very efficient
⚫ Beloved by management consultancies
⚫ Risks becoming a slash and burn of the cost
base
⚫ Can be time consuming
5
Budgeting Techniques - Rolling
⚫ Rolling Budgets, add a month as each month
expires
⚫ Not bound by the constraints of annual
measurement
⚫ Budget gets informed on a more regular basis
by real world change
⚫ Time consuming
⚫ Can fall out of step with annual financial
reporting
⚫ A moving target
6
Step 1 – The Sales Budget
⚫Set Sales (Revenue) Budget:

➢ By SBU (Strategic Business Unit)
➢ By Sales Region
➢ By Product Category
➢ By Market Segment
➢ By Price and Volume
⚫May be set by market research or in

relation to existing sales levels adjusted
for market trends and Marketing effort.
7
Step 2 – Budget for Operations to
support the Budgeted Sales Level.
⚫ Marketing / Sales Budget
➢ Budget for sales operations: Personnel, Overheads,
Promotion.
⚫ Production Budget
➢ Direct materials, labour, o/heads;
➢ Purchasing and stock.
⚫ Administration Budget (Acctg. HR. Gen Admin. R&D)
⚫ Capital Budget (Purchase of Fixed Assets)
8
Step 3 – Budgeted (‘Pro-Forma’) Accounts
⚫ Compile P & L Account based on all the

forecast Budgeted Revenues and Costs:
➢ Sales, CoGS, and Gross Profit per Division + Total
➢ Overheads Budget
Dept. Control Budgets
➢ Net Profit Budget
⚫ Balance Sheet
➢ Fixed Assets
➢ Working Capital
Cash Budget / Cash-Flow
➢ Financing
9
Step 4 - Implementation
⚫ Budget ‘Roll-out’ The Budget

sets the
⚫ Getting commitment ‘Standard’
➢ Specific against which
the ‘Actual’
➢ Measurable can be
compared
➢ Agreed
➢ Realistic (but Challenging! – Increments v
Leaps)
➢ Time-bound
10
Flexing a Sales Budget
⚫ Sales last year = €220,000
⚫ Sales increased by a rate of 20% on previous
levels after a new product launch half way
through last year
⚫ A new sales team is expected to be hired at
the end of quarter 1 next year with the aim of
increasing sales rate by 25%.
⚫ What is the sales budget for next year?
11
Flexing a Cost Budget
⚫ Flexing costs depends on the nature of the cost,
specifically:
⚫ FIXED – will usually stay constant over a reasonable

range of activity
⚫ VARIABLE – are assumed to vary in direct proportion
of activity – ie in proportion to units produced/sold
⚫ MIXED – are costs that have elements of both fixed
and variable
12
Costs
Fixed Costs
0
. Quantity
Topic 10 13
Flexing a Cost Budget - Example
• Methods commonly used to split costs into their fixed and

variable components:
• Engineering
• Inspection of Accounts
• Graphical
• Least Squares
• High- Low
14
High-Low Method of Cost Estimation

• This approach uses two data points, i.e. the highest and the
lowest activity levels
• The objective is to separate the variable from the fixed costs
Express the cost function in the form:

Total Cost = Fixed Cost + (Variable cost per unit )(Units)
15
Month Electricity Cost Activity (production units)
Jan* €5,100 75,000 14.71 pu
Feb €5,300 78,000 14.72 pu
Mar €5,600 80,000 14.29 pu
Apr* €5,950 92,000 15.46 pu
Required:
1. Express cost function in form: Y = A + BX
(where Y = Total cost, A = Fixed cost, B = Unit variable cost and X = Level of
activity)
2. Estimate costs for May if 100,000 units are produced
16
Illustration of High-Low
Month Electricity Cost Activity
Method
(production units)
Jan* €5,100 75,000
Feb €5,300 78,000
Mar €5,600 80,000
Apr* €5,950 92,000
Difference €850 17,000 units
Variable cost per unit: €850 / 17,000 =

€ 0.05 per unit
17
Total Cost = Fixed Cost + Variable Cost

€5,950 = Fixed Cost + (€0.05) (92,000 units)
€5,950 = Fixed Cost + €4,600

€5,950 – €4,600 = Fixed Cost
€1,350 = Fixed Cost
 Y = €1,350 + €0.05X
Estimated costs for May:

€1,350 + (€0.05) (100,000 units) = €6,350
18
High Low Method overview
• While the high-low method is quick and provides a rough

estimate of costs, it has some shortcomings
• It only considers two data points (which may be outliers)
• It does not provide any statistical information on the

accuracy of the cost information obtained
19
Cost forecasting – class example
• You are given data on performance for the last two months
Feb March
units sold/produced 5,000 8,000
Direct Labour 60,000 96,000

Materials 40,000 64,000
Rent 4,000 4,000
Telecoms 7,300 10,000
Admin 8,000 8,000
119,300 182,000
• What would be your estimate of total costs for April given a

projection of 9000 units sold/produced in the month?
20
Management Accounts
Different to ‘Financial Accounts’ …

Focuses on:-
⚫ The underlying detail of the accounts.
⚫ Detailed performance levels; per
Department / Product Line / Sales Region
⚫ Cost Control ~ Profit Centres
⚫ Short (usually monthly) time periods.
⚫ Comparison with Budgets for control
21
Management v Financial
Financial Management
⚫ External stakeholder ⚫ Internal management
⚫ Legal entity based ⚫ SBU based
⚫ Prescriptive format ⚫ Free format
⚫ Annual ⚫ Monthly
⚫ Auditted ⚫ Unauditted
⚫ Slow to prepare ⚫ Quick to prepare
⚫ Comparison to prior year ⚫ Comparison to budget
22
Variance Analysis
September ‘20 €K Actual Budget (Std) Variance
Sales 3,760 3,940 180 U
Materials 1,692 45% 1,852 47% 160 F
Labour 338 9% 296 7.5% 42 U
Contribution 1,730 46% 1,792 45.5% 62 U
Salaries 580 550 30 U
Other Overheads 660 760 100 F
Net Profit 490 13% 482 12% 8 F
23
Variance Report
1. Budgeted Profit Sept. ‘20: €k 482
2. Sales Variance: 180 (U)
3. Material Variances:
Usage 180 (F)
Rate 20 (U) 160 (F)
4. Labour Variances:
Usage 28 (U)
Rate 14 (U) 42 (U)
5. Overhead Variances:
Salaries 30 (U)
Other 100 (F) 70 (F)
6. Actual Profit Sept. ’20: €k 490
24
Flexible Budgets
⚫ With any direct cost there can be three drivers
that impact variance:
⚫ Activity – ie volume variance driven by sales
volumes
⚫ Price or rate – ie variance driven by the actual price
per unit of cost being different to the budget rate
⚫ Usage – being an efficiency measure reflecting
where we have used either less or more of a
resource per unit than budgeted
⚫ A flexible budget is the term for accounting for
the “Activity” element of the overall variance
25
Flexible Budgets - example
Actual Budget Flexible Budget Variance
Sales 75,000 50,000 75,000 -
Materials 36,000 20,000 30,000 (6,000)

Labour 18,000 15,000 22,500 4,500
Total Contribution 21,000 15,000 22,500 1,500
⚫ The flexible budget scales up costs according to sales

volumes (note the above uses sales as a proxy – ie
holds sales price as constant)
⚫ This correctly attributes €10,000 of materials variance
to increased levels of activity
⚫ The remaining €6000 adverse variance can then be
further analysed
26
Rate variances
⚫ If we know in the previous example that say the materials budget
price was €25 per kg and we budgeted for 2kg per unit sold and
the actual price was €32 per kg, then we can compute:
⚫ Rate Variance = (Actual Price – Budget Price) * Actual
Quantity
⚫ AP = 32, BP = 25, AQ =??
⚫ AQ = 36,000/32= 1,125kgs
⚫ So Rate variance = (32-25)* 1125 = 7,875 and is unfavourable as
actual price is higher than budgeted price.
27
Usage variances
⚫ The usage variance can be summarised as:
⚫ Usage Variance = (Actual Quantity – Flexed Budget Quantity) *
Budget Price
⚫ AQ = 1125, BQ = ??, BP = 25
⚫ BQ = expected usage at flexible budget quantity of unit sold
⚫ We know that flexible budget = 30,000
⚫ And we know budget cost was €25 per kg
⚫ So BQ = 30,000/25 = 1200 kg
⚫ Usage variance = (1125 – 1200)*25 = 1,875 favourable as we
used less quantity.
⚫ Rate plus Usage = -7,875 + 1,875 = -6,000 adverse as per our

flexible budget analysis
28
Class Question: Example Ltd
29
⚫ Flexible budgets use the budget costs amended for

the scale of sale volumes.
⚫ First, we should compute the variance in sales
volumes. This needs to account for the sales price
variance. So, the volume factor is
(132,000/1.1)/100,000 = 1.2 (ie volumes increased by
20%).
⚫ Flexible budget costs for Materials = 30000 *1.2 =
36,000. Remaining variance = 45000 – 36000 = 9,000
⚫ Flexible budget costs for Labour = 40000 * 1.2 =
48,000 Remaining variance = 45000 – 48000 = -3,000
30
Non – financial Measures
⚫ Financial measures are lagging observations –
ie they are observed after the financial
outcomes
⚫ Non – financial measures can be leading
observations ie they help predict future
financial outcomes
⚫ There are a number of management account
techniques for capturing holistic performance
measures
⚫ The “Balanced Scorecard” is a common
means of capturing both financial and non-
financial performance
31
⚫ Examples of non financial measures:
⚫ Customer conversion ⚫ Employee turnover
⚫ Customer retention ⚫ Salary competitiveness
⚫ Customer satisfaction ⚫ Employee satisfaction
⚫ Product Defects ⚫ Community engagement

⚫ On time delivery ⚫ Social Media engagement
⚫ Production efficiency ⚫ Media coverage
32
Balanced Scorecard
⚫ A “dashboard” that links financial and non-
financial performance metrics…
Financial
Customer Internal Process
Learning &
Growth
33
34
(Finance)
Week 10
Budgeting and
Course Topics
2]



Budgets
⚫ Primary business tool for short term planning
and forecasting
⚫ Usually annual, and should be informed by
longer term strategy.
⚫ Is tailored and free form
⚫ Can contain financial and non-financial targets
⚫ Should echo the format of regular
management reporting
⚫ Can focus and energise a business IF done
well
3
Budgeting Techniques - Classic
⚫ Use the past to estimate the future. (Like driving
a car looking out the back window!)
⚫ Takes last year’s numbers and flexes for new activities
⚫ Easy and relatively quick
⚫ Based on real and recent experience
⚫ Risks “baking in” unusual items – so needs to be
“normalised”
⚫ Risks carrying forward accepted wisdoms
⚫ Less challenging
4
Budgeting Techniques - ZBB
⚫ Zero-based Budgeting
⚫ Starts each year with a blank page
⚫ Compels business units to justify expense
budgets from scratch based on expected
activities
⚫ High level of challenge, can be very efficient
⚫ Beloved by management consultancies
⚫ Risks becoming a slash and burn of the cost
base
⚫ Can be time consuming
5
Budgeting Techniques - Rolling
⚫ Rolling Budgets, add a month as each month
expires
⚫ Not bound by the constraints of annual
measurement
⚫ Budget gets informed on a more regular basis
by real world change
⚫ Time consuming
⚫ Can fall out of step with annual financial
reporting
⚫ A moving target
6
Step 1 – The Sales Budget
⚫Set Sales (Revenue) Budget:

➢ By SBU (Strategic Business Unit)
➢ By Sales Region
➢ By Product Category
➢ By Market Segment
➢ By Price and Volume
⚫May be set by market research or in

relation to existing sales levels adjusted
for market trends and Marketing effort.
7
Step 2 – Budget for Operations to
support the Budgeted Sales Level.
⚫ Marketing / Sales Budget
➢ Budget for sales operations: Personnel, Overheads,
Promotion.
⚫ Production Budget
➢ Direct materials, labour, o/heads;
➢ Purchasing and stock.
⚫ Administration Budget (Acctg. HR. Gen Admin. R&D)
⚫ Capital Budget (Purchase of Fixed Assets)
8
Step 3 – Budgeted (‘Pro-Forma’) Accounts
⚫ Compile P & L Account based on all the

forecast Budgeted Revenues and Costs:
➢ Sales, CoGS, and Gross Profit per Division + Total
➢ Overheads Budget
Dept. Control Budgets
➢ Net Profit Budget
⚫ Balance Sheet
➢ Fixed Assets
➢ Working Capital
Cash Budget / Cash-Flow
➢ Financing
9
Step 4 - Implementation
⚫ Budget ‘Roll-out’ The Budget

sets the
⚫ Getting commitment ‘Standard’
➢ Specific against which
the ‘Actual’
➢ Measurable can be
compared
➢ Agreed
➢ Realistic (but Challenging! – Increments v
Leaps)
➢ Time-bound
10
⚫ Sales last year = €220,000
⚫ Sales increased by a rate of 20% on previous
levels after a new product launch half way
through last year
⚫ A new sales team is expected to be hired at
the end of quarter 1 next year with the aim of
increasing sales rate by 25%.
⚫ What is the sales budget for next year?
11
⚫ Last year = H1 + H2 = 220,000
⚫ H2 = 1.2*H1
⚫ So 2.2H1 = 220,000…..H1 = 100,000
⚫ Therefore H2 = 120,000
⚫ This is the run-rate we carry forward to the new year
12
⚫ Last year = H1 + H2 = 220,000
⚫ H2 = 1.2*H1
⚫ So 2.2H1 = 220,000…..H1 = 100,000
⚫ The year ahead comprises Q1 + (Q2, Q3, Q4)

⚫ Q1 is at existing run-rate = 120,000 per half year, so =
60,000 per quarter
⚫ So Q2, Q3 and Q4 will be at 60,000 *1.25 = 75,000
13
⚫ Last year = H1 + H2 = 220,000
⚫ H2 = 1.2*H1
⚫ So 2.2H1 = 220,000…..H1 = 100,000
⚫ The year ahead comprises Q1 + (Q2, Q3, Q4)

⚫ Q1 is at existing run-rate = 120,00 per half year, so =
60,000 per quarter
⚫ So Q2, Q3 and Q4 will be at 60,000 *1.25 = 75,000
⚫ So budget for year = 60,000 + (3*75,000) = 285,000
14
Flexing a Cost Budget
⚫ Flexing costs depends on the nature of the cost,
specifically:
⚫ FIXED – will usually stay constant over a reasonable

range of activity
⚫ VARIABLE – are assumed to vary in direct proportion
of activity – ie in proportion to units produced/sold
⚫ MIXED – are costs that have elements of both fixed
and variable
15
Costs
Fixed Costs
0
. Quantity
Topic 10 16
• Methods commonly used to split costs into their fixed and

variable components:
• Engineering
• Inspection of Accounts
• Graphical
• Least Squares
• High- Low
17
High-Low Method of Cost Estimation

• This approach uses two data points, i.e. the highest and the
lowest activity levels
• The objective is to separate the variable from the fixed costs
Express the cost function in the form:

Total Cost = Fixed Cost + (Variable cost per unit )(Units)
18
Month Electricity Cost Activity (production units)
Jan* €5,100 75,000 14.71 pu
Feb €5,300 78,000 14.72 pu
Mar €5,600 80,000 14.29 pu
Apr* €5,950 92,000 15.46 pu
Required:
1. Express cost function in form: Y = A + BX
(where Y = Total cost, A = Fixed cost, B = Unit variable cost and X = Level of
activity)
2. Estimate costs for May if 100,000 units are produced
19
Illustration of High-Low
Month Electricity Cost Activity
Method
(production units)
Jan* €5,100 75,000
Feb €5,300 78,000
Mar €5,600 80,000
Apr* €5,950 92,000
Difference €850 17,000 units
Variable cost per unit: €850 / 17,000 =

€ 0.05 per unit
20
Total Cost = Fixed Cost + Variable Cost

€5,950 = Fixed Cost + (€0.05) (92,000 units)
€5,950 = Fixed Cost + €4,600

€5,950 – €4,600 = Fixed Cost
€1,350 = Fixed Cost
 Y = €1,350 + €0.05X
Estimated costs for May:

€1,350 + (€0.05) (100,000 units) = €6,350
21
High Low Method overview
• While the high-low method is quick and provides a rough

estimate of costs, it has some shortcomings
• It only considers two data points (which may be outliers)
• It does not provide any statistical information on the

accuracy of the cost information obtained
22
• You are given data on performance for the last two months
Feb March
Direct Labour 60,000 96,000

Materials 40,000 64,000
Rent 4,000 4,000
Telecoms 7,300 10,000
Admin 8,000 8,000
119,300 182,000
• What would be your estimate of total costs for April given a

projection of 9000 units sold/produced in the month?
23
• Identify nature of costs using observation and cost per unit
Feb March
Direct Labour 60,000 96,000 CPU 12, 12 – variable

Materials 40,000 64,000 CPU 8, 8 – variable
Rent 4,000 4,000 Fixed
Telecoms 7,300 10,000 CPU 1.46, 1.25 – mixed
Admin 8,000 8,000 Fixed
119,300 182,000
24
• Forecast fixed as constant and variable in direct proportion to
units
Feb March April
units sold/produced 5,000 8,000 9,000
Direct Labour 60,000 96,000 108,000 9000 * 12

Materials 40,000 64,000 72,000 9000 * 8
Rent 4,000 4,000 4,000 Fixed
Telecoms 7,300 10,000 ????? Mixed ???
Admin 8,000 8,000 8,000 Fixed
119,300 182,000 ?????
• Use high – low method to solve the mixed cost
25
High Low Method
• We only have two observation points so choice of high and

low is easy – high is 8,000 units and low is 5,000 units.
• Range is 8000 – 5000 = 3000 units
• Cost was 7300 and 10000, so change on cost across
range of units is (10000 – 7300) =2700
• So cost per unit = 2700/3000 = 0.90c
26
High Low Method
• We only have two observation points so choice of high and

low is easy – high is 8,000 units and low is 5,000 units.
• Range is 8000 – 5000 = 3000 units
• Cost was 7300 and 10000, so change on cost across
range of units is (10000 – 7300) =2700
• So cost per unit = 2700/3000 = 0.90c
• Back –solving, use say March, total cost = fixed + variable

• So 10000 = FC + (8000 *0.90), solving FC as 2,800
• And forecasting for April , TC = FC + VC
• So TC = 2,800 + (9000 *0.9) = 10,900
27
• And we can complete our forecast
Feb March April

units sold/produced 5,000 8,000 9,000
Direct Labour 60,000 96,000 108,000

Materials 40,000 64,000 72,000
Rent 4,000 4,000 4,000
Telecoms 7,300 10,000 10,900
Admin 8,000 8,000 8,000
119,300 182,000 202,900
• This could be combined with a sales unit forecast for a full profit
forecast question
28
Management Accounts
Different to ‘Financial Accounts’ …

Focuses on:-
⚫ The underlying detail of the accounts.
⚫ Detailed performance levels; per
Department / Product Line / Sales Region
⚫ Cost Control ~ Profit Centres
⚫ Short (usually monthly) time periods.
⚫ Comparison with Budgets for control
29
Management v Financial
Financial Management
⚫ External stakeholder ⚫ Internal management
⚫ Legal entity based ⚫ SBU based
⚫ Prescriptive format ⚫ Free format
⚫ Annual ⚫ Monthly
⚫ Auditted ⚫ Unauditted
⚫ Slow to prepare ⚫ Quick to prepare
⚫ Comparison to prior year ⚫ Comparison to budget
30
Variance Analysis
September ‘20 €K Actual Budget (Std) Variance
Sales 3,760 3,940 180 U
Materials 1,692 45% 1,852 47% 160 F
Labour 338 9% 296 7.5% 42 U
Contribution 1,730 46% 1,792 45.5% 62 U
Salaries 580 550 30 U
Other Overheads 660 760 100 F
Net Profit 490 13% 482 12% 8 F
31
Variance Report
1. Budgeted Profit Sept. ‘20: €k 482
2. Sales Variance: 180 (U)
3. Material Variances:
Usage 180 (F)
Rate 20 (U) 160 (F)
4. Labour Variances:
Usage 28 (U)
Rate 14 (U) 42 (U)
5. Overhead Variances:
Salaries 30 (U)
Other 100 (F) 70 (F)
6. Actual Profit Sept. ’20: €k 490
32
Flexible Budgets
⚫ With any direct cost there can be three drivers
that impact variance:
⚫ Activity – ie volume variance driven by sales
volumes
⚫ Price or rate – ie variance driven by the actual price
per unit of cost being different to the budget rate
⚫ Usage – being an efficiency measure reflecting
where we have used either less or more of a
resource per unit than budgeted
⚫ A flexible budget is the term for accounting for
the “Activity” element of the overall variance
33
Flexible Budgets - example
Actual Budget Flexible Budget Variance
Sales 75,000 50,000 75,000 -
Materials 36,000 20,000 30,000 (6,000)

Labour 18,000 15,000 22,500 4,500
Total Contribution 21,000 15,000 22,500 1,500
⚫ The flexible budget scales up costs according to sales

volumes (note the above uses sales as a proxy – ie
holds sales price as constant)
⚫ This correctly attributes €10,000 of materials variance
to increased levels of activity
⚫ The remaining €6000 adverse variance can then be
further analysed
34
Rate variances
⚫ If we know in the previous example that say the materials budget
price was €25 per kg and we budgeted for 2kg per unit sold and
the actual price was €32 per kg, then we can compute:
⚫ Rate Variance = (Actual Price – Budget Price) * Actual
Quantity
⚫ AP = 32, BP = 25, AQ =??
⚫ AQ = 36,000/32= 1,125kgs
⚫ So Rate variance = (32-25)* 1125 = 7,875 and is unfavourable as
actual price is higher than budgeted price.
35
Usage variances
⚫ The usage variance can be summarised as:
⚫ Usage Variance = (Actual Quantity – Budget Quantity) *
Budget Price
⚫ AQ = 1125, BQ = ??, BP = 25
⚫ BQ = expected usage at flexible budget quantity of unit sold
⚫ We know that flexible budget = 30,000
⚫ And we know budget cost was €25 per kg
⚫ So BQ = 30,000/25 = 1200 kg
⚫ Usage variance = (1125 – 1200)*25 = 1,875 favourable as we
used less quantity.
⚫ Rate plus Usage = -7,875 + 1,875 = -6,000 adverse as per our

flexible budget analysis
36
37
⚫ Flexible budgets use the budget costs amended for

the scale of sale volumes.
⚫ First, we should compute the variance in sales
volumes. This needs to account for the sales price
variance. So, the volume factor is
(132,000/1.1)/100,000 = 1.2 (ie volumes increased by
20%).
⚫ Flexible budget costs for Materials = 30000 *1.2 =
36,000. Remaining variance = 45000 – 36000 = 9,000
⚫ Flexible budget costs for Labour = 40000 * 1.2 =
48,000 Remaining variance = 45000 – 48000 = -3,000
38
⚫ Materials Variances:
⚫ Rate variance = (Actual Rate – Budget Rate) * Actual Quantity
⚫ Usage variance = (AQ – Flexed BQ) * BR
⚫ Labour Variances:
⚫ Usage variance = (AQ – Flexed BQ) * BR
Actual Budget Flexed Budget Variance
Materials 45,000 30,000 36,000 (9,000)
Labour 45,000 36,000 48,000 3,000
39
⚫ Materials Variances:
⚫ Actual Rate = 20, Budget Rate = 15, Actual Quantity = ??
⚫ Actual material quantity = 45000/20 = 2,250kg
Materials rate variance = (20-15)*2250= 11,250 unfavourable
⚫ Usage variance = (AQ – BQ) * BR
⚫ BQ = flexible budget sales volumes * Bq per unit
⚫ Flexible budget cost = 36000
⚫ So flexible BQ = 36000/15 = 2400 kg
Usage variance = (2250 – 2400)* 15 = 2,250 favourable
40
⚫ Labour Variances:
⚫ Actual Rate = 9, Budget Rate = 10, Actual Quantity = ??
⚫ So actual labour quantity = 45000/9 = 5000 hours
Labour rate variance = (9-10)*5000= 5,000 favourable
⚫ Usage variance = (AQ – BQ) * BR
⚫ BQ = flexed budget/budget rate = 48000/10 = 4800
Usage variance = (5000 – 4800)* 10 = 2,000 unfavourable
41
⚫ Financial measures are lagging observations –
ie they are observed after the financial
outcomes
⚫ Non – financial measures can be leading
observations ie they help predict future
financial outcomes
⚫ There are a number of management account
techniques for capturing holistic performance
measures
⚫ The “Balanced Scorecard” is a common
means of capturing both financial and non-
financial performance
42
⚫ Examples of non financial measures:
⚫ Customer conversion ⚫ Employee turnover
⚫ Customer retention ⚫ Salary competitiveness
⚫ Customer satisfaction ⚫ Employee satisfaction
⚫ Product Defects ⚫ Community engagement

⚫ On time delivery ⚫ Social Media engagement
⚫ Production efficiency ⚫ Media coverage
43
Balanced Scorecard
⚫ A “dashboard” that links financial and non-
financial performance metrics…
Financial
Customer Internal Process
Learning &
Growth
44
45
MEEN 30140 Week 10 – Question Bank 1 - Questions
1 Sales Budget: Sales for the year ended 31 Dec 2021 totalled €47,000,000. You have been
informed of the following:
- 2021 included sales of €5,000,000 to clear stock of a discontinued product by the end of
March 2021
- 2021 included a sales volume rate increase of 10% in existing product lines of in the
second half of the year following a marketing campaign
- Plans for 2022 include a 10% discount in pricing to be applied from the start of the year
with an expected 20% increase in sales volumes
What would be an appropriate sales forecast for 2022?
a) €50,760,000 b) €47,520,000 c) €43,200,000 d) €44,000,000
2. High- Low Method: You have been given the following monthly production data and production
overhead costs:
Units Cost
January 8,000 13,200
February 7,500 13,500
March 10,000 16,250
April 11,000 17,700
May 10,500 17,300
What would be the best estimate of production overhead costs for June if we expect to produce
13,000 units?
a) €20,700 b) €21,400 c) €22,200 d) €20,100
3. Variances: Your budget and actual results for Q1 include the below:
Actual Budget
Sales 40,000 32,000
Labour Costs 18,000 15,840
Actual sales price was the same as budget, and we actually paid €10 per hour for labour. How
much is the Labour Rate Variance?
a) €2,160 favourable b) €2,160 unfavourable c) €1,800 unfav d) €1,800 fav

4: Budgets: Which TWO of the following hold true of zero based budgeting?
1. It can be highly time consuming

2. It challenges business segment owners to establish a budget from scratch
3. It is never impacted by the experience of what has gone before
4. It cannot be applied to an essential core service such as Finance
5: Sales Budgets: Replay Limited is setting the sales budget for the next 12 months. They use
classic budgeting techniques and you have been given the following information:
1. Sales for the last 12 months were €46,500,000.

2. There was a sales price increase of 10% at the mid-year point last year.
3. The last 12 months included a launch of a new product during the second half of the
year. That product added €4,500,000 to the total sales figure for the year, ending the
year showing steady sales of €1,000,000 per month.
4. Replay intend to expand into a new geographical centre in the coming year, spending
€500,000 on a marketing campaign with an expected addition to sales in the year of
€3,500,000
What would be the sales budget for the next 12 months, assume price stability and no changes to
underlying business volumes other than those stated
[Long Question c10 marks]
6: Management Accounts: Which TWO of the following hold true of management accounts?
1. They need to be produced by law

2. They do not need to be audited
3. They do not need to follow a prescriptive format
4. They need to reconcile to the financial accounts
7: Variance Analysis: During your year to date, your company suffered a one-month strike from a
sub-set of your direct labour. Production was maintained by using overtime hours with the rest of
the direct labour. Overtime is paid at standard rates plus 50%. Your production manager noted
that labour was generally more productive during overtime – she speculates it could be the
incentive of extra pay or the incentive to get home. The strike was resolved with an unbudgeted
negotiated pay rise for all direct labour, and standard hours were resumed. How would you
expect to see the labour cost variance analysed in your management accounts given these are the
only changes that impact the labour cost?
1. Zero activity variance, an unfavourable usage variance and an unfavourable rate

variance
2. Zero activity variance, an unfavourable usage variance and a favourable rate variance
3. Zero activity variance, a favourable usage variance and an unfavourable rate variance
4. Zero activity variance, a favourable usage variance and a favourable rate variance
a) 1 b) 2 c) 3 d) 4
8: Non- Financial Measures: Which TWO of the following hold true of a balanced scorecard
approach to management accounting?
1. It places equal weight on financial and non-financial measures of performance

2. It offers a more holistic measure of business performance than the traditional view of
Profit & Loss and Balance Sheet.
3. It is limited to aspects of the business that are measurable
4. All inputs of a balanced scorecard should be refreshed monthly
9: Variance Analysis: Your company are manufacturers of steel components. During the year to
date an extract of their management accounts shows:
- Actual Sales €792,000

- Budget Sales €900,000
- Actual Materials Cost €240,000
- Budget Materials Cost €250,000
Additionally, you are told that the components were budgeted to use 20kgs of materials per
component at a budget cost of €25 per kg, and that the actual price of materials was €24 per kg
The materials cost number includes the impact of a highly unusual theft of 1000 kgs of materials.
Actual Sales price was 10% above the budgeted sales price.
What should be the materials usage and rate variance if applying a flexible budget approach?
[Long Question – c10 marks]
10: Non- Financial Measures: Which of the following could be valid human resources measures
on a balanced scorecard?
1. Benchmarking salaries against external salary surveys

2. Employee satisfaction surveys
3. Employee retention rates
4. Rate of successful new employee probation periods
a) 1 & 2 only b) 1, 2 & 3 only c) 1 & 3 only d) 1, 2, 3 & 4

MEEN 30140 Week 10 – Question Bank 1 - Answers
1 Sales Budget: Sales for the year ended 31 Dec 2021 totalled €47,000,000. You have been
informed of the following:
- 2021 included sales of €5,000,000 to clear stock of a discontinued product by the end of
March 2021
- 2021 included a sales volume rate increase of 10% in existing product lines of in the
second half of the year following a marketing campaign
- Plans for 2022 include a 10% discount in pricing to be applied from the start of the year
with an expected 20% increase in sales volumes
What would be an appropriate sales forecast for 2022?
a) €50,760,000 b) €47,520,000 c) €43,200,000 d) €44,000,000
Normalised 2021 Sales = 47,000,000 – 5,000,000 = 42,000,000
Run rate to carry forward from 2021 = H1 + H2 = 42,000,000, where H2 = H1*1.10, so H1 =

20,000,000 and H2 = 22,000,000
So annual sales for 2022 would be 22,000,000 * 2 = 44,000,000
However we have a discount and a volume adjustment = 44,000,000 * 90% * 1.2 = 47,520,000
Answer is “B”
2. High- Low Method: You have been given the following monthly production data and production
overhead costs:
Units Cost
January 8,000 13,200
February 7,500 13,500
March 10,000 16,250
April 11,000 17,700
May 10,500 17,300
13,000 units?
a) €20,700 b) €21,400 c) €22,200 d) €20,100
High – Low range is determined by reference to units (and not cost !!)
So take Feb and April. Range of units = (11,000 – 7,500) = 3,500
Range of costs = (17,700 – 13,500) = 4,200

So variable cost per unit = 4,200/3,500 = 1.20
Back solving using say April, TC = FC + VC, so 17,700 = FC + (11,000 *1.2) . so FC = 4,500
So forecast for June = 4,500 + (13,000 * 1.20) = 20,100
Answer is “D”
3. Variances: Your budget and actual results for Q1 include the below:
Actual Budget
Sales 40,000 32,000
Labour Costs 18,000 15,840
Actual sales price was the same as budget, and we actually paid €10 per hour for labour. How
much is the Labour Rate Variance?
a) €2,160 favourable b) €2,160 unfavourable c) €1,800 unfav d) €1,800 fav
Sales volume variance = 40,000/32,000 = 1.25 (or 25%)
So flexed labour budget = 15,840 * 1.25 = 19,800
Rate variance = (AR – BR) * Actual Hours
AR = 10
Actual hours = 18000/10 = 1,800
Budget Rate = flexed budget/actual hours = 19,800/1800 = 11
So rate variance = (10-11)*1800 = 1800 favourable
Answer is “D”
4: Budgets: Which TWO of the following hold true of zero based budgeting?
1. It can be highly time consuming

2. It challenges business segment owners to establish a budget from scratch
3. It is never impacted by the experience of what has gone before
4. It cannot be applied to an essential core service such as Finance
Statement 1 is true. Most budget processes can be highly time consuming, but the challenge
process and the starting from scratch makes ZBB particularly prone to being time consuming.
Statement 2 is true – this is essentially the definition of ZBB.
Statement 3 is false. Whilst it builds a budget by justification from scratch it will need to be
informed by what has gone before in terms of the likely process, the likely range of costs the likely
rate of costs etc. It is a justification from scratch but does not require the budget builder to use
wholly newly acquired assumptions.
Statement 4 is false. It may be that a core function such as Finance cannot face an existential
challenge – we have to meet certain finance obligations so it has to exist. But the composition of the
cost base and its various elements can all be challenged including the scope of services performed,
the cost rate, whether to outsource etc.
Answer is 1 & 2
5: Sales Budgets: Replay Limited is setting the sales budget for the next 12 months. They use
classic budgeting techniques and you have been given the following information:

2. There was a sales price increase of 10% at the mid-year point last year.
3. The last 12 months included a launch of a new product during the second half of the
year. That product added €4,500,000 to the total sales figure for the year, ending the
year showing steady sales of €1,000,000 per month.
4. Replay intend to expand into a new geographical centre in the coming year, spending
€500,000 on a marketing campaign with an expected addition to sales in the year of
€3,500,000
What would be the sales budget for the next 12 months, assume price stability and no changes to
underlying business volumes other than those stated
[Long Question c10 marks]
Classic budgeting uses the last year as a base – but we are required to “normalise” the actual
number in order to make it a good predictor of the next 12 months.
We are told that a new product was included last year at mid year. We need to reflect that on the
basis of a full 12 months as we would expect for the year ahead.
The full year last year was €46,500,000.
We take out that element that actually related to the new product = €4,500,000
So business without the new product = €46,500,000 - €4,500,000 = €42,000,000.
That included a mid-year sales price increase of 10% so to normalise the run-rate we need the
second half sales run rate. H1 + H2 = 42,000 and H2 = 1.1*H1. From this 2.1H1 = 42,000, so H1 =
20,000 and H2 = 22,000.
So our normalised run rate (excluding the new product) is 22,000 * 2 = 44,000
Our expected impact of the new product in the year ahead is €1,000,000 per month = €12,000,000
So the “normalised” base is €44,000,000 + €12,000,000 = €56,000,000. This is what we expect

revenue to be given we have a full 12 months of that new product at its current steady state rate of
sales.
Now we need to add in the impact of any new activities in the year ahead. We expect to earn
€3,500,000 from the new geographical sales. The €500,000 is a relevant budgeting amount – but for
the marketing budget and is not part of the sales budget.
So the sales budget for the year ahead = €56,000,000 + €3,500,000 = €59,500,000
6: Management Accounts: Which TWO of the following hold true of management accounts?
1. They need to be produced by law

3. They do not need to follow a prescriptive format
4. They need to reconcile to the financial accounts
Statement 1 is false. There is no legal requirement to produce management accounts. Company

directors have broad legal requirements to exercise due financial control and stewardship, and
regular managements accounts would usually be seen as an essential part of delivering on that
obligation but they are not compulsory and could be ignored if the directors were able to establish
via other means their compliance with their obligations.
Statement 2 is true – they do not need to be audited.
Statement 3 is true. There is no required format for management accounts. Typically, they be
structured in a way that best reflects how the business is managed, but that can be whatever the
business decides is reasonable.
Statement 4 is false. As they have no legal compulsion then they are not required to reconcile to
financial accounts. That said it is overwhelmingly advisable that they do in order to ensure
performance managed through the management accounts is duly reflected in the financial accounts.
In addition, if the use of management accounts is being used as a means to support the directors
meeting, in part, their fiduciary obligations then that reliance is strengthened if the data is
reconciled to the audited financial statements.
Answer is 2 & 3
7: Variance Analysis: During your year to date, your company suffered a one-month strike from a
sub-set of your direct labour. Production was maintained by using overtime hours with the rest of
the direct labour. Overtime is paid at standard rates plus 50%. Your production manager noted
that labour was generally more productive during overtime – she speculates it could be the
incentive of extra pay or the incentive to get home. The strike was resolved with an unbudgeted
negotiated pay rise for all direct labour, and standard hours were resumed. How would you
expect to see the labour cost variance analysed in your management accounts given these are the
only changes that impact the labour cost?
1. Zero activity variance, an unfavourable usage variance and an unfavourable rate

variance
2. Zero activity variance, an unfavourable usage variance and a favourable rate variance
3. Zero activity variance, a favourable usage variance and an unfavourable rate variance
4. Zero activity variance, a favourable usage variance and a favourable rate variance
a) 1 b) 2 c) 3 d) 4
We have maintained production, so absent of any other data we have a zero activity variance as
stated in each answer.
We only maintained production by adding hours and hence incurring the overtime premium, and we
settled an unbudgeted pay rise – so we should expect an unfavourable labour rate variance.
We are told that productivity increased in the overtime period – that is to say we made more
product per unit of labour. Hence our labour usage per unit of production would have been lower
during that period, so we should expect to see a favourable labour usage variance.
Answer is “C”
8: Non- Financial Measures: Which TWO of the following hold true of a balanced scorecard
approach to management accounting?
1. It places equal weight on financial and non-financial measures of performance

2. It offers a more holistic measure of business performance than the traditional view of
Profit & Loss and Balance Sheet.
3. It is limited to aspects of the business that are measurable
4. All inputs of a balanced scorecard should be refreshed monthly
Statement 1 is false. The balanced scorecard is more inclusive of both financial and non-financial
measures of performance, but the balance is in the inclusion not necessarily the weighting. For
example, more value could be placed on a financial measure such as meeting target sales, than on a
non-financial measure such as social media statistics, but the key is that one is not considered at the
exclusion of the other.
Statement 2 is true – the balanced scorecard typically includes the key financial data from the P&L
and Balance Sheet and expands that to include numerous other valuable business metrics
Statement 3 is true. There is no value in including an aspect that cannot be measured as we will not
be able to assess any progress. In reality, almost all aspects of business can somehow be measured
either directly or indirectly, but if something evaded all means of measurement then it should not be
included (remember S”M”ART)
Statement 4 is false. It may be good to visit the balanced scorecard monthly, and certainly the key
financial data can be assessed and refreshed monthly. There is no requirement that data be
monthly however, and for some non-financials, monthly data may not be available or appropriate –
for example if you were to survey your employees monthly regarding job satisfaction it would
probably self-determine an increasingly dis-satisfied response !!
Answer is 2 & 3
9: Variance Analysis: Your company are manufacturers of steel components. During the year to
date an extract of their management accounts shows:

Additionally, you are told that the components were budgeted to use 20kgs of materials per
component at a budget cost of €25 per kg, and that the actual price of materials was €24 per kg
The materials cost number includes the impact of a highly unusual theft of 1000 kgs of materials.
What should be the materials usage and rate variance if applying a flexible budget approach?
[Long Question – c10 marks]
First, we need to flex the budget amount according to sales volumes.
Actual Sales = 792,000, the budget sales amended for the change in price would be 900,000 *1.1 =
990,000. So the rate of growth due to volume is 792,000/990,000 = 0.8 or a reduction of 20%
The Usage Variance = (Actual Usage – Budget Usage)* Budget Rate
Actual Usage is unknown.
We know the total Material Cost is €240,000 and the price per kg was €24, so the total kgs for the
actual cost = 240,000/24 = 10,000kgs
That includes the theft amount of 1000kgs. That would not have been budgeted and is an unusual
one-off. The appropriate treatment of that would be to analysis separately and deal with as a site
security issue. Leaving it for inclusion in the usage variance could give rise to misleading
assumptions about the production process.
So actual usage for the purposes of the usage variance should be 10,000-1,000 = 9,000kgs
Budget usage can be derived from the budget numbers = total cost/cost per kg = 250,000/25 =
10,000kgs which is then scaled by the flexible budget by 80%= 10,000 *0.8 = 8,000kgs
So usage variance = (9000-8000)*25 = €25,000 and this is unfavourable as we have used more than
we budgeted for.
The rate variance = (AR-BR)*Actual Quantity = (24-25)*9,000 = €9,000 favourable as the actual price
is below that budgeted.
10: Non- Financial Measures: Which of the following could be valid human resources measures
on a balanced scorecard?
1. Benchmarking salaries against external salary surveys

2. Employee satisfaction surveys
3. Employee retention rates
4. Rate of successful new employee probation periods
a) 1 & 2 only b) 1, 2 & 3 only c) 1 & 3 only d) 1, 2, 3 & 4
Statement 1 is true. Benchmarking helps in assessing competitive pressures for staff retention and
informs pay determination decisions and budgeting
Statement 2 is true – employee engagement surveys (when delivered well!) can help in taking the
temperature of employee satisfaction, providing a channel to canvas employee opinions and
suggestions and reinforces the message that the management are listening.
Statement 3 is true. This is probably the key metric that encapsulates the human resource element
of the balanced scorecard as staff retention rates are key to establishing if the business is able to
retain and nurture it’s talent and experience
Statement 4 is true. This speaks more to the hiring function. Most companies have initial probation
periods, which act essentially as safety buffers during which the company has more powers to
terminate employment if there is evidence that the hire is unfit for the role. After probation the
employee has strengthened long term rights. Failures to pass the probation period would be
suggestive of poor quality hiring processes.
Answer is “D”
MEEN 30140
Week 11
Revision Week – Test 2

Course Topics
2]



Test 2 Format
⚫ Wednesday 20 April 3pm
⚫ 10 MCQs, each worth 5 marks
⚫ 3 longer computational questions – each worth 15-20 marks
⚫ Longer form answers require upload of images of answers in
order to achieve marks for workings
⚫ Exam will be 110 mins plus upload grace period of 10 mins
⚫ Be sure to give sufficient time for the long form questions.
3
Test 2 Format
⚫ MCQ practice – see question banks
⚫ Long form questions – see question banks and these revision
questions
⚫ There will be a full mock paper available this week to allow you a
chance to test you time management and be familiar with the
types of questions
4
Revision Questions
⚫ R1 – Sales Budgets
⚫ R2 – NPV
⚫ R3 – Cost Estimation
⚫ R4 – Variance Analysis
⚫ R5 – Limiting Factor
5
Revision Question – R1
6
7
R3: Cost Estimation: Resteasy runs a hotel in Galway with the

following results for the last two years of business:
2020 2021
Rooms (number) 100 120

Average occupancy (% rooms occupied) 80% 90%
Variable room costs (€ per occupied room per night) 60 60
Utility costs per annum 700,000 847,000
Fixed costs per annum 712,500 712,500
Resteasy hotel is open for 350 nights per annum.
Assuming an expected occupancy rate of 95% in 2022 for the 120

rooms, what would the average nightly sales price for an occupied
room need to be for Resteasy to achieve a target profit of €2,000,000
for the year?
8
R4:
9
R5:
10
Questions ?

(Finance) 11
MEEN 30140
Week 11
Revision Week – Test 2
1
Course Topics
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Test 2 Format
⚫ Wednesday 20 April 3pm
⚫ 10 MCQs, each worth 5 marks
⚫ 3 longer computational questions – each worth 15-20 marks
⚫ Longer form answers require upload of images of answers in
order to achieve marks for workings
⚫ Exam will be 110 mins plus upload grace period of 10 mins
⚫ Be sure to give sufficient time for the long form questions.
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Test 2 Format
⚫ MCQ practice – see question banks
⚫ Long form questions – see question banks and these revision
questions
⚫ There will be a full mock paper available this week to allow you a
chance to test you time management and be familiar with the
types of questions
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Revision Questions
⚫ R1 – Sales Budgets
⚫ R2 – NPV
⚫ R3 – Cost Estimation
⚫ R4 – Variance Analysis
⚫ R5 – Limiting Factor
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⚫ If you get a question like this – rejoice !!
⚫ The key is to normalise the past – that is to establish the relevant
run rate that is applicable to the year ahead
⚫ Eliminate one-offs, discontinued products etc
⚫ Establish the relevant run rate for products that continue into next year –
consider the rate at which sales are being earned at the end of the last year
and project that rate forward for next year
⚫ Overlay the normalised run-rate with plans for the year ahead
⚫ Constrict annual flows for products planned to be discontinued
⚫ Establish new revenue flows for new products in the year ahead
⚫ Factor in volume growth
⚫ Factor in sales price changes up/down
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⚫ Normalising the past:
⚫ We are given information regarding a new product in Q4, so we
have two product groups – pre-existing product for Q1-Q4, and
new products in Q4
⚫ We are told pre-existing product sales were €40,000 in Q1
⚫ We are told there was 10% increase in Q2 – hence sales were
40,000 * 1.1 = 44,000 in Q2.
⚫ We are told nothing thereafter so we assume they stay constant
at 44,000 per quarter.
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new products in Q4
40,000 * 1.1 = 44,000 in Q2.
⚫ We are told Q4 sales include a new product and totalled €60,000
⚫ Given pre-existing product sales are 44,000 in Q4, then we can
calculate that sales due to the new product in Q4 = 60,000 –
44,000 = 16,000
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⚫ Projecting the future
⚫ For pre-existing products, we are told only that there is a 5% price
increase at the end of H1.
⚫ So pre-existing sales = 44,000 per Q1 and per Q2, and
44,000*1.05 = 46,200 per Q3 and Q4 = a total of 180,400.
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⚫ For new product sales H1 is double the rate of Q4 last year,
which we calculated as 16,000. Therefore Q1 = 16000 * 2 =
32,000 and the same for Q2.
⚫ In the second half we have a 5% price increase and a 50%
volume increase so Q3 = 32,000 * 1.05 * 1.5 = 50,400, and the
same for Q4
⚫ New product Sales therefore = 164,800
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same for Q4
⚫ Total Sales = 180,400 + 164,800 = 345,200
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new products in Q4
40,000 * 1.1 = 44,000 in Q2.
⚫ We are told Q4 sales include a new product and totalled €60,000
⚫ Given pre-existing product sales are 44,000 in Q4, then we can
calculate that sales due to the new product in Q4 = 60,000 –
44,000 = 16,000
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same for Q4
⚫ Total Sales = 180,400 + 164,800 = 345,200
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⚫ This form of an NPV question is like asking for a benchmark – in
this case by how much would production costs have to be
reduced by installation of the new production line in order for the
investment to be attractive.
⚫ We know that attractive investments are where NPV>0
⚫ So if we set NPV to zero, and solve for the production saving, this
will give us the benchmark – ie savings need to be greater than
this number for NPV to be positive
⚫ We know the NPV is future cash flows * discount factor
⚫ And that future “income” in this instance is production savings per
unit * units produced.
⚫ Using that we can solve….
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Outflows:
⚫ Year 0 cash outflow is €136,000 and the PV = €136,000
⚫ Year 2 cash outflow is €100,000 and DF is 0.89 so PV =€89,000
⚫ Total PV of outflows = 136,000 + 89,000 = €225,000
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Outflows:
Inflows
⚫ Inflows per annum = units * production savings per unit * DF
⚫ Given production savings per unit is a constant then PV of inflows
= production savings per unit * ((Y1 units*DF)+(Y2 units*DF) +
(Y3 units*DF)
⚫ = ps per unit * ((70,000 * 0.89)+(77,750*0.8)+(87,500*.072))
⚫ =ps per unit * 187,500
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At NPV = 0
⚫ PV (Outflows) = PV (inflows)
⚫ So 225,000 = production savings per unit * 187,500
⚫ Production savings per unit = 225,000/187,500 = 1.2
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At NPV = 0
The answer is required as a percentage saving

We know existing production costs per unit are €4
So we need savings to be more than 1.2/4 = 30%.
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Outflows:
Inflows
⚫ Inflows per annum = units * production savings per unit * DF
⚫ Given production savings per unit is a constant then PV of inflows
= production savings per unit * ((Y1 units*DF)+(Y2 units*DF) +
(Y3 units*DF)
⚫ = ps per unit * ((70,000 * 0.89)+(77,750*0.8)+(87,500*).072))
⚫ =ps per unit * 187,500
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At NPV = 0
The answer is required as a percentage saving

We know existing production costs per unit are €4
So we need savings to be more than 1.2/4 = 30%.
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R3: Cost Estimation: Resteasy runs a hotel in Galway with the

following results for the last two years of business:
2020 2021
Rooms (number) 100 120

Average occupancy (% rooms occupied) 80% 90%
Variable room costs (€ per occupied room per night) 60 60
Utility costs per annum 700,000 847,000
Fixed costs per annum 712,500 712,500
Resteasy hotel is open for 350 nights per annum.
Assuming an expected occupancy rate of 95% in 2022 for the 120

rooms, what would the average nightly sales price for an occupied
room need to be for Resteasy to achieve a target profit of €2,000,000
for the year?
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The question is a target profit computation, which we know we need to

define as :
No of units = (Fixed Costs + Target Profit)/Contribution per unit
Except that the number of units is fixed – they are occupied room
nights and can be computed as:
350 nights * 120 rooms *95% occupancy = 39,900 nights
We therefore need to compute the other terms. We are given variable

costs and fixed costs, but we are also given utility costs which are
varying but are they directly variable?
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Nights in 2020 = 100*350*80% = 28000 nights

Utility cost per night = (700000/28000) = 25
Nights in 2021 = 120*350*90% = 37800 nights

Utility cost per night = (847000/37800) = 22.41
Utility is a MIXED cost.
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Nights in 2020 = 100*350*80% = 28000 nights

Nights in 2021 = 120*350*90% = 37800 nights

Using High – Low

Range of Cost = 847,000-700,000 = 147,000
Range of nights = 37,800 – 28,000 = 9,800
Cost per night = 147,000/9,800 = 15pn
Back solving, fixed cost element = 847,000 – (37,800*15) = 280,000
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So Total Fixed Costs = 712,500 plus 280,000 from mixed costs = 992,500
So target contribution = 992,500 plus profit target of 2,000,000 =

2,992,500
Given our number of units (occupied room nights) = 39,900
Then our target contribution per unit = 2992500/39900 = 75
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2,992,500
Variable costs per unit = 60 plus those in the mixed costs, 15 = 75
So sales price would need to be = 75 + 75 = 150.
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The question is a target profit computation, which we know we need to

define as :
No of units = (Fixed Costs + Target Profit)/Contribution per unit
Except that the number of units is fixed – they are occupied room
nights and can be computed as:
350 nights * 120 rooms *95% occupancy = 39,900 nights
We therefore need to compute the other terms. We are given variable

costs and fixed costs, but we are also given utility costs which are
varying but are they directly variable?
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Nights in 2020 = 100*350*80% = 28000 nights

Nights in 2021 = 120*350*90% = 37800 nights

Using High – Low

Range of Cost = 847,000-700,000 = 147,000
Range of nights = 37,800 – 28,000 = 9,800
Cost per night = 147,000/9,800 = 15pn
Back solving, fixed cost element = 847,000 – (37,800*15) = 280,000
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2,992,500
Variable costs per unit = 60 plus those in the mixed costs, 15 = 75
So sales price would need to be = 75 + 75 = 150.
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R4:
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⚫ The key approach to a variance analysis question is:
⚫ 1) eliminate one-offs that were not in the budget – being items
which if included in the rate or usage variance would be likely to
distort the outcome
⚫ 2) Identify the volume/activity variance by
⚫ i) comparing Sales Actual to Budget
⚫ Ii) rebase Actual Sales to Budget Sales Prices
⚫ iii) compute the volume variance as rebased Actual sales/Budget Sales
⚫ 3) Identify what you have been given from the key variable being
actual rates (labour cost per hour, materials cost per kg), and
actual usage ( labour hours per unit, material usage per unit)
⚫ 4) Use actual and budget totals to compute those variables not
directly given – eg (Actual Labour cost = Units * labour hours per
unit * labour cost per hour)
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⚫ First eliminate the one-off unbudgeted labour cost. So Actual
Labour cost = 630,500, and add back the grant, 25,000 =
adjusted labour cost = 655,500
⚫ Volume variance:
⚫ Sales = 966,000 vs Budget 800,000, but Sales price was 5%
above budget, so Actual Sales Volumes at budget price =
966,000/1.05 = 920,000
⚫ So volume variance = 920,000/800,000 = 1.15 or a 15% uplift
⚫ So adjusted Labour Budget = 500,000 * 1.15 = 575,000
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966,000/1.05 = 920,000
⚫ We know budget labour usage = 5hrs per unit
⚫ We know budget cost per hour = €20
⚫ So we can compute budget units as 500,000/(20*5) = 5,000 units
⚫ And hence flexed budget units = 5000*1.15 = 5.750 units
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⚫ Labour rate variance = (Actual rate – budget rate)* Actual Usage
⚫ Actual Rate = ?
⚫ Budget Rate = 20
⚫ Actual Usage = 5750 units at 6hrs per unit = 34500 hours
⚫ Given Actual Cost = 655,500, then actual rate must be actual
cost/actual usage = 655,500/34,500 = 19
⚫ So Labour Rate variance = (19-20)*34,500 = 34,500 and it is
favourable as the actual rate is below budget.
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⚫ Actual Rate = ?
⚫ Note as proof Usage variance = (5750*6 – 5750*5)*20 = 115,000

unfavourable as 6 hours is greater than 5.
⚫ 115,000 – 34,500 = 80,500 unfavourable total
⚫ Which equals 655,500 – 575,000 = 80,500
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966,000/1.05 = 920,000
⚫ We know budget labour usage = 5hrs per unit
⚫ We know budget cost per hour = €20
⚫ So we can compute budget units as 500,000/(20*5) = 5,000 units
⚫ And hence flexed budget units = 5000*1.15 = 5.750 units
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⚫ Actual Rate = ?
⚫ Note as proof Usage variance = (5750*6 – 5750*5)*20 = 115,000

unfavourable as 6 hours is greater than 5.
⚫ 115,000 – 34,500 = 80,500 unfavourable total
⚫ Which equals 655,500 – 575,000 = 80,500
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R5:
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⚫ A limiting factor question is identified by the inclusion of a scarce
resource – in this case labour hours
⚫ When we have a limited resource we need to prioritise our
products by optimising through reference to the scarce resource
⚫ First calculate the contribution per unit for each product
⚫ The calculate each product’s consumption of scarce resource per
unit
⚫ Calculate the contribution per unit of scarce resource for each
product
⚫ Prioritise the product with the highest contribution per unit of
scarce resource
⚫ Calculate the residual balance of scarce resource and then
reapply to the remaining products
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⚫ Hansel – Contribution = 12 per unit. Utilisation of labour = 5hrs
per unit. Therefore contribution per labour hour = 12/5 = 2.40
⚫ Gretel – Contribution = (26-15) = 11 per unit. Utilisation of labour

= 4 hrs per unit. Contribution per labour hour = 11/4 = 2.75
⚫ Hansel & Gretel Sets. Contribution = 12 + (20-15) = 17 per set.

Utilisation of labour = 5+4 = 9 per set. Contribution per labour
hour = 17/9 = 1.89
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hour = 17/9 = 1.89
⚫ So the hierarchy is 1 Gretel; 2 Hansel; 3 Sets
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⚫ Making Gretels we have capacity for 8400/4 = 2100 units but are
capped at a market size of 400.
⚫ Making 400 units provides contribution of 400*11 = 4,400
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⚫ Making Hansels we have capacity of (8400 – (400*4)) = 6,800/5 =
1,360 units but are capped at a market size of 1,100
⚫ Making 1,100 Hansels provides contribution of 1,100 * 12 =
13,200

13,200
⚫ That leaves capacity of (6,800 – (1,100*5)) = 1,300 hours
⚫ Making sets uses 9 hours per set
⚫ So contribution from sets = 1300/9*17 = 2,456
⚫ Total contribution = 4,400 + 13,200 + 2,456 = 20,056
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hour = 17/9 = 1.89
⚫ So the hierarchy is 1 Gretel; 2 Hansel; 3 Sets
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13,200
⚫ That leaves capacity of (6,800 – (1,100*5)) = 1,300 hours
⚫ Making sets uses 9 hours per set
⚫ So contribution from sets = 1300/9*17 = 2,456
⚫ Total contribution = 4,400 + 13,200 + 2,456 = 20,056
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Questions ?

(Finance) 49
MEEN 30140 – Class Test 2 – Mock - Questions
1: A company has fixed costs of €400,000 pa and a Contribution Margin Ratio of 25%. If variable
costs are €24 per unit, what are the sales units required if the company wants to target a profit of
€280,000pa?
a) 50,000 units b) 80,000 units c) 85,000 units d) 133,333 units
2. A company is profitable in total and manufactures four products.
Taylor has a positive contribution of €20 per unit.
May has a positive contribution of €10 per unit
Mercury has a positive contribution of €30 per unit.
Deacon has a negative contribution of €8 per unit.
The Deacon is sold as a loss leader for the Mercury which is an upgrade of the Deacon. Only
customers who have bought a Deacon can buy a Mercury and records show that 25% of Deacon
sales get upgraded to Mercury.
Assuming none of the factors above can be changed, which lines if any should the company
discontinue?
a) Mercury b) Deacon c) Deacon & Mercury d) None
3: The Musketeer group manufacture specialist fencing swords.
Athos Ltd manufactures tempered steel blades which they sell for €460 each earning a
contribution of €100 per blade.
Porthos Ltd fashion the tempered steel blades into razor sharp swords. They can access the blades
externally for €390 per blade and they sell the basic swords for €580 each after incurring variable
costs of €80 per sword.
Aramis Ltd buys the basic swords and engraves and decorates them and sells to the end market
for €820 per sword incurring variable costs of €160 per sword. Aramis can source the basic swords
externally from D’Artagnan Ltd for €500. D’Artagnan source their tempered steel blades from
Athos Ltd.
What is the optimal contribution per sword for the Musketeer Group?
a) €185 b) €190 c) €220 d) €260

4: WC Bogs Ltd manufactures toilets for use in domestic bathrooms. They currently buy in the
flush mechanism from an external firm for a cost of €30 per mechanism.
Your production manager approaches you with a plan to manufacture the flush mechanisms in-
house. He expects the variable costs of production to be €18 per mechanism, although he expects
there will be a defect rate of 10% in the first year whilst production quality is improved.
The production will require the use of additional unused factory floor space that is currently being
rented at a cost of €25,000 per annum and for which there is a plan to sublet to a neighbouring
business for €30,000 per annum.
If WC Bogs Ltd make 5,000 toilets per annum and each use one of the flush mechanisms, what is
the expected incremental annual contribution in the first year from moving to make the flush
mechanisms in house?
a) €20,000 b) €21,000 c) €25,000 d) €30,000
5: Your CEO is considering a new product and she has commissioned a report that provides the
following information:
1. The new product will require capital investment in a production line of €250,000 which
will have a residual value at the end of 5 years of €30,000
2. Estimated contribution is €50,000 in year 1, and then €80,000 per annum for the next 4
years
3. The report cost €20,000 to produce.
4. The new product will allow for the continued employment of some staff who were
otherwise set for immediate redundancy. Redundancy has been estimated will cost the
company €60,000.
What is the payback term for this new product for the purposes of determining a yes/no decision
for commencing the product?
a) 2.75 years b) 3.0 years c) 3.5 years d) 2.5 years
6: Which TWO of the following should be included as a project cost for the purposes of
determining whether or not to proceed with the project
1. Contribution that would have been earned by a product that will be discontinued as
part of the project proceeding
2. The cost of stock used in the project that would otherwise have been scrapped for no
value
3. A success fee due to a PR consultancy only if the project goes ahead
4. A feasibility report incurred costing €10,000 establishing the design options for the
project
7: Your CEO wants a top down estimate for the costs of construction of a new toll road. The road
will be 80km long.
Last year the company constructed a 100km toll road of equal materials composition and width for
a cost of €2,400,000, comprising €1,000,000 in excavation and preparation costs and €1,400,000 in
materials and labour costs.
Excavation costs last year included a one-off cost of €280,000 for a gully cut which the newly
proposed toll road is not expected to incur, all other excavation costs are incurred at an even rate
per km.
Materials and Labour are expected to cost 10% more per km than last year. New technologies are
expected to reduce the use of Materials and Labour by 10% per km compared to last year.
New environmental construction standards require an environmental reparation fund to be

financed by the construction company of €40,000
What should be the estimated cost of construction of the new toll road?
a) €1,696,000 b) €1,724,800 c) €1,736,000 d) €1,948,800
8: Which TWO of the following holds true when the results of a limited company per the
management accounts do not equal the results per the financial accounts?
1. They should always be equal as they are both prepared under the same overarching
set of accounting standards
2. There may be valid differences as there are certain financial accounting computations
and adjustments, such as provisions and tax computations, that may only be applied
as part of the annual financial accounting process
3. A year-end debtor going bankrupt a month after the year end with their debt
unsettled could be a justifiable difference between financial and management
accounts
4. The presence of sizeable differences always severely weakens any reliance the
directors can place on the regular review of management accounts as a means of
complying with their fiduciary duties
9: Your CEO wants to assess projects using the Accounting Rate of Return. The project has a very
significant initial capital outlay of €25,000,000 and lasts 5 years with a residual value of
€15,000,000. The CEO proposes using the reducing balance method of depreciation. Which TWO
of the following hold true as valid concerns you should draw to the attention of the CEO?
1. The ARR produces an average return over 5 years, but the actual annual return in the
accounts will be different at first and the CEO will need to be able to explain this is
dialogue with stakeholders
2. Moving to a straight line depreciation approach would result in a constant annual ARR
which is the same as the average annual ARR thus allowing for easier explanation.
3. The high residual value means this project is subject to significant estimation risk on
that value alone which could be material to the decision to proceed.
4. An NPV or IRR approach will always produce a significantly less positive outlook than
ARR as it will discount the significant residual value.
10. You have been given the following monthly production data and production overhead costs:
Units Cost
January 8,000 13,200
February 8,100 13,100
March 10,000 16,250
April 12,000 18,800
May 11,000 17,300
14,000 units?
a) €19,600 b) €20,800 c) €21,600 d) €21,722

11. Sharedspace Ltd make meeting room furniture that sell for €280 per set. They mark up
variable costs by 60% and sell 800 units per month. Sharedspace receive a bulk order to supply a
refit of local government buildings at their standard price. They are asked to make a total of 2000
sets over the course of the next 3 months. The production manager believes this may be
achievable using existing production facilities by running an extended shift adding 1500 hours per
month in overtime, but with the impact of reducing capacity for existing business to just 600 units
per month.
A) What is the existing contribution per unit? (3 marks)
B) If the overtime premium per hour is set at €6ph, what is the expected incremental contribution
from fulfilling the bulk order? (7 marks)
C) If Sharedspace want to make €104,250 in added contribution from meeting this order, what is
the maximum they can pay as an overtime premium per hour, over and above standard labour
cost? (5 marks)
12: Alpha Ltd are manufacturers of automotive components. During the year to date an extract
of their management accounts shows:
Actual Budget
- Sales €242,000 €200,000

- Labour Cost €46,200 €36,000
- Materials Cost €151,800 €120,000
Actual Labour cost was €10 per hour. Labour was budgeted to use 5 hours per unit.
Additionally, you are told that the components were budgeted to use 4kgs of materials per batch
at a budget cost of €50 per kg, but actually used 5kg per batch.
a) Prepare a flexed budget accounting for actual sales volumes (3 marks)

b) Prepare a variance report using a flexed budget to describe the labour rate and usage
variances, and the materials rate and usage variances (12 marks)
c) If a decision to switch to cheaper materials than budgeted for results in increased
production materials waste and delays, how might we expect to see such a decision
reflected in variance analysis of materials and labour? (5 marks)
13 You are considering a project that produces the following cash flows:
1) An initial capital outlay of €200,000 for new machinery which will have a residual value of
€30,224 at the end of the 3 year project term.
2) Annual Sales in units of:
a. Year 1: 25,000 units
b. Year 2: 30,000 units
c. Year 3: 40,000 units
3) Contribution per units is constant through the 3 years.
4) The company uses a discount rate of 12% and the relevant discount factors are:
a. Year 1 = 0.89
b. Year 2 = 0.80
c. Year 3 = 0.71
5) The IRR for the project is 14%, and the relevant discount factors for the IRR are:
a. Year 1 = 0.88
b. Year 2 = 0.77
c. Year 3 = 0.67
a) Using the IRR, calculate the contribution per unit for the project (6 marks)
b) Calculate the NPV for the project (5 marks)
c) Calculate the payback for the project (4 marks)
d) The IRR exceeds the required rate of return therefore we should invest in this project.
Discuss factors we should consider before making that decision (5 marks)
MEEN 30140 – Class Test 2 – Mock - Answers
1: A company has fixed costs of €400,000 pa and a Contribution Margin Ratio of 25%. If variable
costs are €24 per unit, what are the sales units required if the company wants to target a profit of
€280,000pa?
a) 50,000 units b) 80,000 units c) 85,000 units d) 133,333 units
Total Target contribution = 400,000 + 280,000 = 680,000
Breakeven units = Target Contribution/contribution per unit
CMR = contribution/sales which means 0.25 = contribution/sales
And variable costs = sales – contribution, which means 24 = sales - contribution
So, substituting, 24 = Sales -0.25*Sales
So, 0.75 Sales = 24, Sales = 32 per unit
So contribution = 8 per unit
So target sales (units) = 680,000/8 = 85,000
Answer is “C”
2. A company is profitable in total and manufactures four products.
Taylor has a positive contribution of €20 per unit.
May has a positive contribution of €10 per unit
Mercury has a positive contribution of €30 per unit.
Deacon has a negative contribution of €8 per unit.
The Deacon is sold as a loss leader for the Mercury which is an upgrade of the Deacon. Only
customers who have bought a Deacon can buy a Mercury and records show that 25% of Deacon
sales get upgraded to Mercury.
Assuming none of the factors above can be changed, which lines if any should the company
discontinue?
a) Mercury b) Deacon c) Deacon & Mercury d) None
Taylor contribution = 20 so continue
May contribution = 10 so continue
Mercury contribution = 30
Deacon contribution = -8
BUT, Deacon and Mercury are effectively a bundle which constitutes 4 Deacons for 1 Mercury.
The contribution of the bundle is therefore 4*-8+30 = -2
Therefore we would discontinue the Deacon and Mercury
Answer is “C”
3: The Musketeer group manufacture specialist fencing swords.
Athos Ltd manufactures tempered steel blades which they sell for €460 each earning a
contribution of €100 per blade.
Porthos Ltd fashion the tempered steel blades into razor sharp swords. They can access the blades
externally for €390 per blade and they sell the basic swords for €580 each after incurring variable
costs of €80 per sword.
Aramis Ltd buys the basic swords and engraves and decorates them and sells to the end market
for €820 per sword incurring variable costs of €160 per sword. Aramis can source the basic swords
externally from D’Artagnan Ltd for €500. D’Artagnan source their tempered steel blades from
Athos Ltd.
What is the optimal contribution per sword for the Musketeer Group?
a) €185 b) €190 c) €220 d) €260
If Athos – Porthos – Aramis, then sales price = 820.
Contribution is
i) Athos = 100
ii) Porthos = 580-460 – 80 = 40
iii) Aramis = 820 – 580 - 160 = 80
Total = 220
If Porthos sources externally then contribution from 580 = 580-390-80 = 110, which is less that the
100+40 contribution the group makes at this stage above so we would not source externally.
If Aramis source externally then contribution from 820 = 820-500-160 = 160. However as
D’Artagnan sources from Athos then there is an added 100 of contribution for the group, making 260
total
This is optimal
Answer is “D”
4: WC Bogs Ltd manufactures toilets for use in domestic bathrooms. They currently buy in the
flush mechanism from an external firm for a cost of €30 per mechanism.
Your production manager approaches you with a plan to manufacture the flush mechanisms in-
house. He expects the variable costs of production to be €18 per mechanism, although he expects
there will be a defect rate of 10% in the first year whilst production quality is improved.
The production will require the use of additional unused factory floor space that is currently being
rented at a cost of €25,000 per annum and for which there is a plan to sublet to a neighbouring
business for €30,000 per annum.
If WC Bogs Ltd make 5,000 toilets per annum and each use one of the flush mechanisms, what is
the expected incremental annual contribution in the first year from moving to make the flush
mechanisms in house?
a) €20,000 b) €21,000 c) €25,000 d) €30,000
Expected contribution saving per unit for making in house = external cost – internal cost
External cost = 30
Internal cost = 18, but with the defect rate 1 in 10 is worthless so we actually spend 10* 18 to
generate 9 saleable items so the adjusted cost per unit 180/9 = 20 per unit
So 30 -20 = an increment of 10 per mechanism, which over 5,000 mechanisms = 50,000
The floor space is an opportunity cost – as such we should factor it in at the lost opportunity cost
which is the €30,000 rather than the actual cost of €25,000
So the incremental annual contribution is 50,000 – 30,000 = 20,000.
Answer is “A”
5: Your CEO is considering a new product and she has commissioned a report that provides the
following information:
1. The new product will require capital investment in a production line of €250,000 which
will have a residual value at the end of 5 years of €30,000
2. Estimated contribution is €50,000 in year 1, and then €80,000 per annum for the next 4
years
3. The report cost €20,000 to produce.
4. The new product will allow for the continued employment of some staff who were
otherwise set for immediate redundancy. Redundancy has been estimated will cost the
company €60,000.
What is the payback term for this new product for the purposes of determining a yes/no decision
for commencing the product?
a) 2.75 years b) 3.0 years c) 3.5 years d) 2.5 years
So we need to establish the relevant cash flow profile.
The initial outlay is €250,000. We do not need to add the report cost as this is a sunk cost – it is
being incurred anyway and should not influence a yes/no decision.
However we should deduct the €60,000 redundancy cost as this is a cost that is avoided only if we
have a yes decision.
So initial outlay is 250,000 – 60,000 = 190,000
Year 1 cash flow is 50,000

Year 1 + 2 = 130,000
Years 1 + 2 +3 = 210,000
Interpolating between Y2 and Y3 = (190,000-130,000)/(210,000-130,000) = 60,000/80,000 = 0.75

years
So the payback period is 2.75 years
Answer is “A”
determining whether or not to proceed with the project
2. The cost of stock used in the project that would otherwise have been scrapped for no
value
3. A success fee due to a PR consultancy only if the project goes ahead
4. A feasibility report incurred costing €10,000 establishing the design options for the
project
Answer:
Statement 1 is true as it is an opportunity cost, which should be included.
Statement 2 is false. The stock is effectively free as it has no value under a no decision
Statement 3 is true. This cost is a cost that is only incurred if the project goes ahead so it is a
relevant differentiating cost between proceeding or not proceeding
Statement 4 is a classic sunk cost. It should not be included as it has been incurred whether the
project goes ahead or not
Answer is 1 & 3.
7: Your CEO wants a top down estimate for the costs of construction of a new toll road. The road
will be 80km long.
Last year the company constructed a 100km toll road of equal materials composition and width for
a cost of €2,400,000, comprising €1,000,000 in excavation and preparation costs and €1,400,000 in
materials and labour costs.
Excavation costs last year included a one-off cost of €280,000 for a gully cut which the newly
proposed toll road is not expected to incur, all other excavation costs are incurred at an even rate
per km.
Materials and Labour are expected to cost 10% more per km than last year. New technologies are
expected to reduce the use of Materials and Labour by 10% per km compared to last year.
New environmental construction standards require an environmental reparation fund to be
financed by the construction company of €40,000
What should be the estimated cost of construction of the new toll road?
a) €1,696,000 b) €1,724,800 c) €1,736,000 d) €1,948,800
Excavation costs = 1000000 – 280000 = 720000/100km = 7,200 per km last year
So estimate of excavation costs = 7200 * 80 = 576,000
Materials and Labour = 1400000/100 = 14,000 per km last year
Rate is expected to increase by 10% so = 14000 *1.1 = 15400 per km. But is expected to be efficient
so reducing to 90% = 15400 *0.90 = 13,860 per km (note the two 10%s do not net-off !!)
So estimated materials and labour = 80 * 13,860 = 1,108,800
Total Cost = 1108800 + 576000 + 40000 (reparations) = 1,724,800
Answer is “B”
8: Which TWO of the following holds true when the results of a limited company per the
management accounts do not equal the results per the financial accounts?
1. They should always be equal as they are both prepared under the same overarching
set of accounting standards
2. There may be valid differences as there are certain financial accounting computations
and adjustments, such as provisions and tax computations, that may only be applied
as part of the annual financial accounting process
3. A year-end debtor going bankrupt a month after the year end with their debt
unsettled could be a justifiable difference between financial and management
accounts
4. The presence of sizeable differences always severely weakens any reliance the
directors can place on the regular review of management accounts as a means of
complying with their fiduciary duties
Statement 1 is not true. Yes they are prepared under the same standards, but there are often
differences between management accounts which are not necessarily drawn up on a statutory entity
basis, or contain certain annual accounting adjustments that form part of the financial accounting
process.
Statement 2 is true. This is in some ways the inverse of statement 1 in that there can be valid
differences which reflect accounting elements that are not included in management accounts (eg
some companies may revise doubtful debt provision annually rather than monthly).
Statement 3 is correct. The fact that the bankruptcy occurs after the year end adds valuable
information about the recoverability of the year end amount – we would provide for that in financial
accounts, but the management accounts will typically be issued monthly and will probably have
been issued prior to the knowledge of the bankruptcy.
Statement 4 is incorrect. Where management accounts are prepared and reconciled to financial
accounts the key for directors is that there are valid explanations for differences – the size of the
differences is not really factor as some big numbers (eg tax, debt provisions) may only go through
the financial accounts. So it is not always worrying. It would weaken control in some examples if say
sizeable differences were occurring in fundamental business drivers such as sales and gross margin.
Answer is 2 and 3
9: Your CEO wants to assess projects using the Accounting Rate of Return. The project has a very
significant initial capital outlay of €25,000,000 and lasts 5 years with a residual value of
€15,000,000. The CEO proposes using the reducing balance method of depreciation. Which TWO
of the following hold true as valid concerns you should draw to the attention of the CEO?
1. The ARR produces an average return over 5 years, but the actual annual return in the
accounts will be different at first and the CEO will need to be able to explain this is
dialogue with stakeholders
2. Moving to a straight line depreciation approach would result in a constant annual ARR
which is the same as the average annual ARR thus allowing for easier explanation.
3. The high residual value means this project is subject to significant estimation risk on
that value alone which could be material to the decision to proceed.
4. An NPV or IRR approach will always produce a significantly less positive outlook than
ARR as it will discount the significant residual value.
Statement 1 is true. ARR computations are based on annual averages – which means they reflect in
average how the project will impact the accounts. We are given no information here about the
distribution of inflows which could be front-ended or back-ended and will mean the annual ARR
impact could be significantly different to the average
Statement 2 is false. It does remove some volatility in the depreciation flow and the path of the NBV
of the investment – but it will not be constant. It would not even be constant in a circumstance
where the inflows were constant since it is the ratio of the numerator to the denominator which
could only hold constant if income less depreciation is a constant ratio of the net book value – which
is only one possible path in many.
Statement 3 is true. We are told €25,000,000 is a very significant outlay from which can assume that
the €15,000,000 residual value in 5 years time is also very significant. Predicting any cash flow in 5
years time is fraught with estimation risk and in this case would need to be very carefully assessed.
Statement 4 is false. It is true that its will significantly discount the sizeable residual value. If inflows
in the rest of the project were relatively constant annually, and the company uses a non-negligible
discount rate then it is likely that the impact of using an NPV approach would generate a more
cautious outcome – but not always so. Again, we do not know the distribution of inflows, nor do we
know the discount rate. As cash flows tend towards the front end and as discount rates tend lower,
then that combination could produce an NPV benefit that outweighs the impact of discounting the
residual value. So we cannot say it would always be less favourable.
Answer is 1 & 3
Units Cost
January 8,000 13,200
February 8,100 13,100
March 10,000 16,250
April 12,000 18,800
May 11,000 17,300
14,000 units?
a) €19,600 b) €20,800 c) €21,600 d) €21,722
High Low method – uses volume of units (not cost)
High = April = 12,000
Low = Jan = 8,000
Range = 12,000-8,000 = 4,000
Cost range = 18,800 -13,200 = 5,600
So variable cost per unit = 5,600/4,000 = 1.40
Back solving using say Jan, 13,200 = FC + (8000 units * 1.40 pu) = FC + 11,200, so FC = 2,000
Projecting for June:
TC = FC + VC = 2000 + (14000*1.40) = 21,600
Answer is “C”
11. Sharedspace Ltd make meeting room furniture that sell for €280 per set. They mark up
variable costs by 60% and sell 800 units per month. Sharedspace receive a bulk order to supply a
refit of local government buildings at their standard price. They are asked to make a total of 2000
sets over the course of the next 3 months. The production manager believes this may be
achievable using existing production facilities by running an extended shift adding 1500 hours per
month in overtime, but with the impact of reducing capacity for existing business to just 600 units
per month.
A) What is the existing contribution per unit? (3 marks)
B) If the overtime premium per hour is set at €6ph, what is the expected incremental contribution
from fulfilling the bulk order? (7 marks)
C) If Sharedspace want to make €104,250 in added contribution from meeting this order, what is
the maximum they can pay as an overtime premium per hour, over and above standard labour
cost? (5 marks)
A) Sales Prices = €280 per set
Mark up is 60% so variable costs = 100/160*280 = 175 per unit (mark up is 60% so where mark up =
60%, variable cost =100% of variable costs, and sales price = 160% of variable costs: so variable cost
= 100/160ths of sales price)
Contribution per unit = 280-175 = 105
B) Gross Contribution = (Contribution per unit * No of units) less overhead premium
Contribution = (105*2000) – (1500 hours * 3months * 6per hour) = 210,000 – 27,000 = 183,000
However we have an opportunity cost of reduced production capacity.
Cost of supplying new contract = opportunity cost of 800-600 = 200 units per month. For 3 months
that is 200*3*105 = 63,000
So incremental contribution = 183,000 – 63,000 = 120,000
C) Target contribution = 104,250
So total required contribution, including opportunity cost = 104,250 + 63,000 = 167,250
Expected contribution using regular costs = 2000 * 105 = 210,000,
so maximum additional cost allowance = 210,000 – 167,250 = 42,750
1500 overtime hours per month = 3*1500 = 4500 overtime hours
Therefore the maximum additional cost per overtime hour allowable is 42,750/4500 = €9.5 per hour
12: Alpha Ltd are manufacturers of automotive components. During the year to date an extract
of their management accounts shows:
Actual Budget
- Sales €242,000 €200,000

- Labour Cost €46,200 €36,000
- Materials Cost €151,800 €120,000
Actual Labour cost was €10 per hour. Labour was budgeted to use 5 hours per unit.
at a budget cost of €50 per kg, but actually used 5kg per batch.
a) Prepare a flexed budget accounting for actual sales volumes (3 marks)

b) Prepare a variance report using a flexed budget to describe the labour rate and usage
variances, and the materials rate and usage variances (12 marks)
c) If a decision to switch to cheaper materials than budgeted for results in increased
production materials waste and delays, how might we expect to see such a decision
reflected in variance analysis of materials and labour? (5 marks)
A - First, we eliminate any one-offs – but there are none in this question
Then we establish the flex the budget using the activity variance.
Sales = 242,000 but with a 10% price variance so rebased Sales = 242,000/1.1 = 220,000
So the activity variance = 220,000/200,000 = 10% uplift in volumes
So Flexed labour = 36,000 *1.1 = 39,600
And flexed Materials = 120,000 *1.1 = 132,000
B – Labour Rate variance = (Actual Rate – Budget Rate)* Actual usage
Actual usage = actual cost/actual rate = 46,200/10 = 4,620 hours
Rate variance = (10-???) * 4,620 hours
We don’t know the Budget Rate, nor do we have enough information to resolve at this point. We
do know the budget hours per unit, so we may be able to resolve using data from our materials
variances…
Materials Rate Variance = (AR-BR)*actual units
Actual units = actual cost/actual rate = again we don’t have the data
We do have the data for the budget. We know that €120,000 budget materials cost was based on
€50/kg and 4kg per unit. So budget units = 120,000/ (50*4) = 600 units
Applying the volume variance, 600 units * 1.1 = 660 actual units
Actual units can now help resolve the missing data:
Actual Materials cost – actual cost/(actual usage per unit * actual units) = 151,800/(5*660) =
151,800/3,300= 46 pkg
So Materials Rate Variance = (46-50)*3,300 = €13,200 Favourable
Materials Usage Variance = (Actual Usage – Flexed Usage)*BR
Materials Usage Variance = (660*5 – 660*4) * 50 = €33,000 Unfavourable
Labour Rate Variance = Rate variance = (10-???) * 4,620 hours, from earlier
Budget rate = budget cost/ (budget units * budget hours per unit)
Which we now know = 36,000/(600*5) = 12ph
So Labour Rate Variance = (10-12)*4,620 = €9,240 Favourable
Labour Usage Variance = (actual hours – flexed budget hours) * BR
Labour Usage Variance = (4620 – 660*5) *12 = €15,840 unfavourable
C) Switching to cheaper materials would immediately show as a favourable rate variance within the
materials rate variance as we are paying less than we would have budgeted for.
Increased production waste would likely mean using more materials per unit of satisfactory finished
goods and as such we should expect an unfavourable materials usage variance.
Production delays may mean increased labour time as labour resources either need to be deployed
to remedy the delay or are waiting to become productive. This is likely to lead to an adverse labour
usage variance.
The labour rate variance is harder to assess. It could be unchanged if the skills mix of labour and the
hourly rates remain unchanged. But it could be unfavourable if either the company has to pay
overtime rates as a result of delays to standard working hours, or if the production issues results in
utilising more experienced and hence more expensive resources within the skills mix.
13 You are considering a project that produces the following cash flows:
1) An initial capital outlay of €200,000 for new machinery which will have a residual value of
€30,224 at the end of the 3 year project term.
2) Annual Sales in units of:
3) Contribution per units is constant through the 3 years.
4) The company uses a discount rate of 12% and the relevant discount factors are:
a. Year 1 = 0.89
b. Year 2 = 0.80
c. Year 3 = 0.71
5) The IRR for the project is 14%, and the relevant discount factors for the IRR are:
a. Year 1 = 0.88
b. Year 2 = 0.77
c. Year 3 = 0.67
a) Using the IRR, calculate the contribution per unit for the project (6 marks)
b) Calculate the NPV for the project (5 marks)
c) Calculate the payback for the project (4 marks)
d) The IRR exceeds the required rate of return therefore we should invest in this project.
Discuss factors we should consider before making that decision (5 marks)
A- To calculate the NPV we need to discount the future cash flows, in this case the contribution per
unit is unknown. However we can solve for it as it will be the only unknown in the case of the IRR
computation since we know in that case the NPV = 0
If we set the contribution per unit = “C”, Then for the IRR annual cashflows are:
Year 1 = 25,000 * C * 0.88 = 22,000C
Year 2 = 30,000 * C *0.77 = 23,100C
Year 3 = 40,000 * C * 0.67 +30224 *.67 = 26,800C + 20,250
And the sum of those cash flows must equal 200,000 for NPV to be zero
Sum of cash flows = 71900C +20,250 and that must = 200,000
So 71,900C = 200,000 – 20,250 and therefore C = 179,750/71900 = 2.5
B - Using this we can establish the annual cash flows as:
Initial outlay -200,000
Year 1 = 25,000 *2.5 = 62,500
Year 2 = 30,000 * 2.5 = 75,000
Year 3 = 40,000 * 2.5 = 100,000 plus 30,224 in residual value = 130,224

Then solving for the NPV at 12% DFs =
Year 1 = 62,500 * 0.89 = 55,625
Year 2 = 75,000 * 0.80 = 60,000
Year 3 = 130,224 * 0.71 = 92,459
NPV = (55,625+60,000+92,459) – 200,000 = €8,082
C – Payback can be established from the cumulative cash flows. Outlay = £200,000
Cumulative inflows:
Y1 = 62,500
Y2 = 62,500 + 75,000 = 137,500
Y3 -= 100,000 +137,500 = 237,500
(note we interpolate based on contribution cash flows. The assumption is that the residual
equipment value can only occur at the end of Y3 so is not included for the purposes of linear
interpolation.
Payback = 2 years plus (200,000 – 137,500)/100,000 = 2.625 years
D–
Where IRR exceeds the required rate of return then in principle we should be happy to invest. It will
also mean we have a positive NPV. We have no indication of Payback targets so cannot assess that
measure.
We should consider certain other factors.
Investment capital is a finite resource, and even though this project meets our investment hurdles,
there may be other projects competing for capital whose returns exceed this project and could be
preferable.
The results is actually quite marginal, being just a 2% excess over the required rate of return and a
relative low positive NPV.
This makes the outcome susceptible to estimation error. Using the discounted units it is possible to
compute that the contribution per unit of 2.5 need only fall by 11c to create a negative NPV. And
indeed the residual value of the equipment has a PV that exceeds the NPV of the project making the
decision in of itself reliant on the residual value estimate of used production equipment in 3 years
time.
Management should consider closely the sensitivities of estimation, they should consider
alternative uses of the investment capital, and if still happy then they should make the investment.
CLASS TEST 2 – Mock 2 - Questions
1: If a company has variable direct material costs of €13 per unit, variable direct labour of €5 per
unit, variable production overhead of €9 per unit and it has a sales price per unit of €36, what is
the business’s Contribution Margin Ratio?
a) 25% b) 33.3% c) 50% d) 100%
2. A company has existing manufacture of two products, X and Y and the production data is
shown below:
Product X Product Y
Annual Demand 2000 units 3000 units
Materials per unit 4kg 5kg
Sales Price per unit €80 €100
Variable Costs per unit €50 €60
A new product Z is expected to have annual demand of 1000 units, takes 6kg of material per unit
to produce and has total variable costs of €80 per unit.
Materials are limited to 25,000kgs for the year.
The sales price of product Z would need to exceed what amount to ensure the optimal production
plan includes production of all 1000 units of product Z?
a) €120 b) €125 c) €128 d) €132
3: Krispie Co has three subsidiaries SnapCo, CrackleCo and PopCo.
SnapCo sells product X with a sales price of €60 after applying a mark up of 50%.
CrackleCo distributes product X incurring an additional variable cost of €10 per unit, and sells for
€80 per unit. CrackleCo can source product X externally for €50.
PopCo retails product X to external customers incurring an additional cost of €20 per unit, it sells
for €120 per unit. PopCo can source Product X externally for €75 from a distributor who sources
their product from Snapco.
What is the optimal total contribution per unit of Product X at Krispie Co group level?
a) €40 b) €45 c) €50 d) €55

Units Cost
January 9,000 13,200
February 9,100 13,100
March 8,000 12,000
April 12,000 19,000
May 14,000 20,400
12,000 units?
a) €16,150 b) €16,400 c) €16,800 d) €17,600
5 Your construction engineer has responded to your request for optimistic, expected and
following; optimistic 1000 hours; most likely 1200 hours; pessimistic 2000 hours. Your forecast
rate for labour is €10/hr. What should you include as labour cost if employing the PERT analysis?
a) €12,000 b) €13,000 c) €14,000 d) €20,000
6: Which of TWO the following could be valid customer engagement measures on a balanced
scorecard?
1. Number of production defects

2. Rate of sales leads converted
3. Customer retention rates
4. Rate of goods returned under warranty
7: Which TWO of the following hold true of management accounts?
1. They need to be produced monthly

3. They need to include a variance against budget numbers
4. They can be used for both internal and external stakeholders
8: A project is being assessed using the company’s discount rate of 15%.
A software development project has cash outflows of €95,000 for year 1, and then collects €36,000
per annum in annual licence fees paid up front for each of the next 3 years.
Discount factors are Y1 0.87; Y2 0.76; Y3 0.66; Y4 0.57
Assuming development costs are paid entirely in arrears at the end of year 1, and up front licence
fees are received on the last day of the year prior to the licence term.
What is the best estimate of the IRR for the project?
a) 6.7% b) 14.4% c) 15.6% d) 29.1%
determining whether or not to proceed with the project?
2. The three month period of notice of a new project manager appointed recently
specifically for this project
3. Future costs that will need to be incurred in order to redesign the production line
specifically to deliver the project
4. Cost of a design options report already incurred which helped identify this project as
the optimal option
10: Your CEO wants a top down estimate for the costs of the design and installation of a new
software system. The system has 25 user functions and will have 40 users who will require
training. Recently your firm delivered a similar system incurring costs of:
1. €90,000 to design and implement 40 user functions, which included €10,000 in relation
to a mid-project change of scope for certain functions
2. €12,000 in training costs for 22 users, being training 4 sessions of €3,000 each capped
at 6 users per session due to availability of test environment interfaces in the
company’s training division.
Ignore inflation. What would be the best top down estimate of costs given that the conditions of
the previous system deliver are deemed likely to be analogous?
a) €71,000 b) €71,818 c) €77,250 d) €78,068

11: Makeright Ltd are manufacturers of plastic components. During the year to date an extract of
their management accounts shows:

at a budget cost of €10 per kg. And that actual usage of materials was 7kgs per batch.
The Actual Materials cost includes 100kgs of materials which were stolen rather than used in
production. The stolen materials cost the same per kg as the materials used in production.
A - How many batches were actually sold during the year? (5 marks)
B – What would be the materials rate variance if applying a flexible budget approach? (5 marks)
C – Describe three causal factors that could generate an unfavourable labour rate variance, which
if any may apply to Makeright given the data we have been given? (5 marks)
12 Your company uses a 15% required rate of return to assess investments. You are proposing a
new investment in a new product line, the relevant cash flow data is as follows:
I. There is an initial outlay of €149,100 in new machinery which will have a residual value of
€30,000 at the end of 4 years
II. Expected sales volumes are forecast as
d. Year 4: 65,000 units
III. The direct incremental production costs are €2.50 per unit and remain constant
throughout the four years and there are no other added costs
A - If there is to be a static fixed selling price per unit across the four years, that price would need
to exceed what amount per unit in order for the investment to be attractive when measured by
Net Present Value? (10 marks)
B – What would that sales price need to be if the company was to achieve a simple payback of
3.25 years? (5 marks)
c - Describe how a company might come to determine that their required rate of return should be
15% (5 marks)
(Assume contribution cash flows occur at the end of each year).
Discount factors are: Year 1 = 0.87, Year 2 = 0.76, Year 3 = 0.66, Year 4 = 0.57
13: Conundrum Limited is setting the sales budget for the next 12 months. They use classic
budgeting techniques and you have been given the following information:

2. There was a sales price increase at the start of Quarter 3 of last year of 10%.
3. The last 12 months included the discontinuation of production of an old product
“Relic” which totalled sales of €2,000,000 in that year. Conundrum continues to hold
some stock which it believes it can sell entirely next year for a total of €240,000.
4. The Sales manager added 4 new salespeople at the end of quarter 3 last year - they
were not involved in the sales of "Relic". The estimated impact on sales of all products
excluding Relic, was an increase of 20% in Quarter 4 compared to Quarter 3.
5. The sales manager is planning to make a further 4 hires at the start of Quarter 3 next
year, and estimates they will increase sales by 15% for the second half of the year
compared to the first half.
6. The sales price is expected to increase by 5% at the start of Quarter 4 next year.
A - What should be the total sales budget for the next 12 months, assume no changes to
underlying business volumes other than those stated? (10 marks)
B – The CFO is recommending that Conundrum adopt a Zero Based Budgeting approach to next
year. Describe the advantages and disadvantage of such an prroach compared to classic budgeting
techniques (5 marks)
CLASS TEST 2 – Mock 2 - Answers
1: If a company has variable direct material costs of €13 per unit, variable direct labour of €5 per
unit, variable production overhead of €9 per unit and it has a sales price per unit of €36, what is
the business’s Contribution Margin Ratio?
a) 25% b) 33.3% c) 50% d) 100%
Total variable costs = 13 + 5 + 9 = 27
Sales price = 36
Contribution = 36-27 = 9
CMR = contribution/sales price = 9/36 = 25%
Answer is “A”
2. A company has existing manufacture of two products, X and Y and the production data is
shown below:
Product X Product Y
Annual Demand 2000 units 3000 units
Materials per unit 4kg 5kg
Sales Price per unit €80 €100
Variable Costs per unit €50 €60
A new product Z is expected to have annual demand of 1000 units, takes 6kg of material per unit
to produce and has total variable costs of €80 per unit.
Materials are limited to 25,000kgs for the year.
The sales price of product Z would need to exceed what amount to ensure the optimal production
plan includes production of all 1000 units of product Z?
a) €120 b) €125 c) €128 d) €132
Cont/unit of scarce resource =
X = (80-50)/4 = 7.5
Y = (100-60)/5 = 8
Assume all Y is made = 3000*5 = 15,000kg, leaving 10,000kg which is enough to make Z in full
(1000*6 – 6,000) provided it is ranked ahead of X, ie contribution per unit of scarce resource must
exceed 7.5
Z = (sales price – 80)/6 = and that must exceed 7.5
So sales price must exceed 125.

Answer is “B”
3: Krispie Co has three subsidiaries SnapCo, CrackleCo and PopCo.
SnapCo sells product X with a sales price of €60 after applying a mark up of 50%.
CrackleCo distributes product X incurring an additional variable cost of €10 per unit, and sells for
€80 per unit. CrackleCo can source product X externally for €50.
PopCo retails product X to external customers incurring an additional cost of €20 per unit, it sells
for €120 per unit. PopCo can source Product X externally for €75 from a distributor who sources
their product from Snapco.
What is the optimal total contribution per unit of Product X at Krispie Co group level?
a) €40 b) €45 c) €50 d) €55

Snapco contribution = 60 – (vc*1.5) = 20
Crackleco contribution (from Snapco) = 80-60-10 = 10
Crackleco contribution (external ) = 80-10-50 = 20
Popco contribution (from Crackleco) = 120 – 20 – 80 = 20
Popco contribution (external) = 120 -20 – 75 = 25
Possible contribution chain for Krispieco
Snap – Crackle – Pop = 20 +10 + 20 = 50
External – Crackle – Pop = 20 + 20 = 40
External – external – Pop = 25
Snap – external – Pop = 20 + 25 = 45
The optimal is snap – crackle – pop = 50
Answer is “C”
Units Cost
January 9,000 13,200
February 9,100 13,100
March 8,000 12,000
April 12,000 19,000
May 14,000 20,400

12,000 units?
a) €16,150 b) €16,400 c) €16,800 d) €17,600
High – Low
= March v May
Range of units = 14000-8000=6000
Range of costs – 20400-12000 = 8400
Variable cost per unit = 8400/6000 = 1.4
Back solving for say May, TC = FC + VC, so 14000 = FC + (14000*1.4), so FC = 800
Projecting for June = 800 + (12,000*1.4) = 17,600
Answer is “D”
5 Your construction engineer has responded to your request for optimistic, expected and
following; optimistic 1000 hours; most likely 1200 hours; pessimistic 2000 hours. Your forecast
rate for labour is €10/hr. What should you include as labour cost if employing the PERT analysis?
a) €12,000 b) €13,000 c) €14,000 d) €20,000
Answer: PERT is a three point estimation technique for determining a quantity, in this case labour
hours. It uses three observations – optimistic, most likely and pessimistic and then weights them to
deliver an answer.
Pert =( (1*1000) + (4*1200) + (1*2000) ) / 6 = 1,300
So 1300 hours * 10 = 13,000
Answer is “B”
6: Which of TWO the following could be valid customer engagement measures on a balanced
scorecard?
1. Number of production defects

2. Rate of sales leads converted
3. Customer retention rates
4. Rate of goods returned under warranty
Statement 1 is false. Production defects is a function of production efficiency, and would be

measured in the internal process section of a balanced scorecard.
Statement 2 is true – this relates to the sales effort and how often customers buy our products
having engaged with our sales team
Statement 3 is true. This is probably the key metric that encapsulates customer relations being the
frequency with which we retain customers for repeat business
Statement 4 is false. Obviously a high level of returns under warranty could impact key customer
metrics such as retention. However it is a primary function of poor production and will be measured
in the internal process section of a balanced scorecard. It is leading indicator potentially of some of
the customer related measures.
Answer is 2 and 3
7: Which TWO of the following hold true of management accounts?
1. They need to be produced monthly

3. They need to include a variance against budget numbers
4. They can be used for both internal and external stakeholders
Statement 1 is false. Management accounts are often produced on a monthly basis but the
frequency should suit the business needs which could be more or less frequent than monthly.
Statement 2 is true – they do not need to be audited.
Statement 3 is false. Again like statement 1 it is widespread convention to include a comparison to

budget, but management accounts are bespoke to business need, and if a business chooses to
operate with no budget then that is entirely their call.
Statement 4 is true. Whilst most management accounts are used entirely for internal use, they are
often supplied as a key covenant (condition) to banks for monitoring business performance where a
bank has provided a loan.
Answer is 2 & 4
8: IRR: A project is being assessed using the company’s discount rate of 15%.
A software development project has cash outflows of €95,000 for year 1, and then collects €36,000
per annum in annual licence fees paid up front for each of the next 3 years.
Discount factors are Y1 0.87; Y2 0.76; Y3 0.66; Y4 0.57
Assuming development costs are paid entirely in arrears at the end of year 1, and up front licence
fees are received on the last day of the year prior to the licence term.
What is the best estimate of the IRR for the project?
a) 6.7% b) 14.4% c) 15.6% d) 29.1%
To estimate the IRR we should use the data given to compute the NPV at the given discount rate of
15% and then observe the answer to make a best guess of the IRR from the options provided.
NPV =
Year 1: Outflow 95,000 (development costs), Inflow 36,000 upfront licence fees = (59,000) * 0.87 =
(51,330)
Year 2: Inflow of 36000*0.76 = 27,360
Year 3: Inflow of 36,000 *0.66 = 23,760
NPV = -210
Given a slight negative NPV we can assume the IRR must be below the required rate of return but
only very slightly. 14.4% best fits of the options given.
Answer is “B”
determining whether or not to proceed with the project?
2. The three month period of notice of a new project manager appointed recently
specifically for this project
3. Future costs that will need to be incurred in order to redesign the production line
specifically to deliver the project
4. Cost of a design options report already incurred which helped identify this project as
the optimal option
1 – this is a classic opportunity cost and should be included as relevant for the purposes of
determining whether or not to proceed
2 – this is not relevant as the notice period needs to be paid whether proceeding with the project or
not
3 - this is relevant as it as specific future cost which is avoidable if we decide not to undertake the
project
4 – this is a classic sunk cost, it has already been incurred and is not relevant to a decision about
whether to proceed or not
The Answer is 1 and 3
10: Your CEO wants a top down estimate for the costs of the design and installation of a new
software system. The system has 25 user functions and will have 40 users who will require
training. Recently your firm delivered a similar system incurring costs of:
1. €90,000 to design and implement 40 user functions, which included €10,000 in relation
to a mid-project change of scope for certain functions
2. €12,000 in training costs for 22 users, being training 4 sessions of €3,000 each capped
at 6 users per session due to availability of test environment interfaces in the
company’s training division.
Ignore inflation. What would be the best top down estimate of costs given that the conditions of
the previous system deliver are deemed likely to be analogous?
a) €71,000 b) €71,818 c) €77,250 d) €78,068
First normalise the analogous example:
90,000 less the mid-scope change costs (as they should not recur) = 80,000 for 40 user functions =
80,000/40 = 2000 per user function
For the current project therefore = 25 * 2000 = 50,000 for development
Training is batch based. We have 40 users = 40/6 = 6.67 sessions but session need to be batched as
whole numbers so we will need to run 7 sessions to train 40 users.
Cost = 7 * 3000 = 21,000
Total Cost = 50,000 + 21,000 = 71,000
Answer is “A”
11: Makeright Ltd are manufacturers of plastic components. During the year to date an extract of
their management accounts shows:

at a budget cost of €10 per kg. And that actual usage of materials was 7kgs per batch.
The Actual Materials cost includes 100kgs of materials which were stolen rather than used in
production. The stolen materials cost the same per kg as the materials used in production.
A - How many batches were actually sold during the year? (5 marks)
B – What would be the materials rate variance if applying a flexible budget approach? (5 marks)
C – Describe three causal factors that could generate an unfavourable labour rate variance, which
if any may apply to Makeright given the data we have been given? (5 marks)
A - First, we need to flex the budget amount according to sales volumes.
Actual Sales = 154,000, which at the budget sales price would have been 154,000/1.1 = 140,000.
So the rate of growth due to volume is 140/100 = 1.4 or 40%

Applying to the materials budget, our flexible budget is therefore 40000 * 1.4 = 56,000
The Rate Variance = (Actual Rate – Budget Rate)* Actual Amount
Actual rate is unknown, budget rate is 10, and actual amount is unknown.
First we need to solve for the actual number of batches. We know from the budget data that we
would spend €40,000 when using 8kgs per batch at a cost of €10 per kg: so the budget number of
batches = cost/cost per batch = 40000/(8*10) = 500 batches.
We know volumes were up 40%, so actual batches = 500 *1.4 = 700 batches.
B - Actual usage was 7kgs per batch. So we actually used 700 batches *7kg per batch = 4,900kgs
Plus we lost 100kgs through theft so the total kgs expensed = 4900 + 100 = 5000kgs
So the actual rate per kg must be actual cost/actual kgs = 60000/5000 = €12 per kg
So the rate variance = (12-10) * 4900 = €9,800 unfavourable as actual is greater than budget
C – Causal factors of an unfavourable labour variance would be factors that result in the actual rate
being greater than the budget rate. These could include:
- Estimation error – we simply underestimated labour costs in our budget

- An unexpected pay increase – we uplift the actual amount we pay individual workers as
a result of a pay award that was not budgeted for
- A change in the labour mix. The labour rate is the average rate of variously skilled an
paid workers. We may have had to change the expected skills mix to more
experienced/skilled staff.
- Overtime rates. We may have had to significantly increase production and consequently
add additional shifts generating requirements to pay overtime which will usually be at a
rate in excess of standard pay rate
(marks will be awarded for other plausible reasons for adverse labour rate variances)
Given that in solving the Makeright question we can see a 40% uplift in sales volumes, then an
adverse labour variance would seem most likely caused by needed to add overtime in order to meet
greatly increased production demands.
12 Your company uses a 15% required rate of return to assess investments. You are proposing a
new investment in a new product line, the relevant cash flow data is as follows:
I. There is an initial outlay of €149,100 in new machinery which will have a residual value of
€30,000 at the end of 4 years
II. Expected sales volumes are forecast as
d. Year 4: 65,000 units
III. The direct incremental production costs are €2.50 per unit and remain constant
throughout the four years and there are no other added costs
A - If there is to be a static fixed selling price per unit across the four years, that price would need
to exceed what amount per unit in order for the investment to be attractive when measured by
Net Present Value? (10 marks)
B – What would that sales price need to be if the company was to achieve a simple payback of
3.25 years? (5 marks)
c - Describe how a company might come to determine that their required rate of return should be
15% (5 marks)
(Assume contribution cash flows occur at the end of each year).
Discount factors are: Year 1 = 0.87, Year 2 = 0.76, Year 3 = 0.66, Year 4 = 0.57
A - Cash Outflows
Year 0 = -149,100
Cash Inflows: we set the inflow = No if units * contribution per unit where contribution = sales price
“s” – variable costs of €2.50
Year 1 = 20,000 * 0.87 * (s-2.50)
Year 2 = 27,500*0.76 *(s-2.50)
Year 3 = 52,500 * 0.66 * (s-2.50)
Year 4 = 65,000 * 0.57 * (s-2.50) + 30,000 * 0.57
For parity NPV = 0
So, 149,100 = (s-2.50)*(17400 + 20900 + 34650 + 37050) +17,100
132,000 = (s-2.50) *110,000
(s-2.50) = 132,000/110,000 = 1.2
s = 3.70
B – Simple payback uses non discounted cash flows. These would be:
Outflow = 149,100
Inflows will be 3 years, plus 0.25 of year 4.
3 years = (20,000 +27,500 + 52,500) = 100,000 units
0.25 of year 4 = 65,000 *0.25 = 16,250 units
(note the residual value is specifically not realisable until the end of year 4 and therefore should not
be included the linear interpolation for the first 0.25 of the year’s cash flows).
So, payback is at 116,250 units.

To achieve this successfully, contribution = outlay, so 116250 * contribution per unit = 149,100
Contribution per unit = 149,100/116,250 = 1.2826. ( I will round up to 1.29 to ensure payback but
will accept an answer of 1.28)
So sales price = variable cost + contribution
= 2.50 + 1.29 = 3.79
c – The required rate of return represents the target rate of return required of investments made
within the company. The primary determinant of this rate is the rate of return required by the
company’s external investors. The Weighted Average Cost of Capital represents the target rate
required of the company in meeting the demands of investors. This will act as the starting point fro
determining the internal required rate of return.
Business management will then need to add a premium, or additional requirement over and above
the WACC. This premium compensates for two potential factors:
Firstly, not all investments will be successful, and management will want to achieve additional return
on successful investment decisions to buffer themselves against the occasional under-performer.
How much additional premium will depend on management’s perception of the riskiness of the
investment decisions they make.
Secondly, management will want to allow for extra returns to allow for performance-related pay
awards to staff involved in the successful delivery of investment returns.
The WACC, plus the assessed premium for risk and staff rewards should represent the internal
required rate of return.
13: Conundrum Limited is setting the sales budget for the next 12 months. They use classic
budgeting techniques and you have been given the following information:

2. There was a sales price increase at the start of Quarter 3 of last year of 10%.
3. The last 12 months included the discontinuation of production of an old product
“Relic” which totalled sales of €2,000,000 in that year. Conundrum continues to hold
some stock which it believes it can sell entirely next year for a total of €240,000.
4. The Sales manager added 4 new salespeople at the end of quarter 3 last year - they
were not involved in the sales of "Relic". The estimated impact on sales of all products
excluding Relic, was an increase of 20% in Quarter 4 compared to Quarter 3.
5. The sales manager is planning to make a further 4 hires at the start of Quarter 3 next
year, and estimates they will increase sales by 15% for the second half of the year
compared to the first half.
6. The sales price is expected to increase by 5% at the start of Quarter 4 next year.
A - What should be the total sales budget for the next 12 months, assume no changes to
underlying business volumes other than those stated? (10 marks)
B – The CFO is recommending that Conundrum adopt a Zero Based Budgeting approach to next
year. Describe the advantages and disadvantage of such an prroach compared to classic budgeting
techniques (5 marks)
A - Normalising last year sales = 68,300,000 – 2,000,000 (Relic) = 66,300,000
Q1*2 + Q1*1.1 + Q1*1.1*1.2 = 66,300,000 so 4.42Q = 66,300,000 Q = 15,000,000
so final quarter = 15,000,000 * 1.1 *1.1 = 19,800,000
So H1 next year = 19800000*2 = 39,600,000
Q3 next year = 19800000*1.15 = 22,770,000
Q4 next year = 22,770,000 *1.05 = 23,908,500
Total = 86,278,500
Plus legacy relic 240,000
= 86,518,500
B – Zero Based Budgeting starts with a blank page and challenges every budget component requiring
a justification of spend and of income assumptions.
It can overcome some of the shortcomings of classic budgeting techniques such as:
the rolling forward of “baked in” assumptions
the addition of buffers to ensure ease of delivery
the lack of challenge to accepted wisdoms
the inertia against significant strategic change
As such, it can be very successful in identifying significant cost savings by cutting back in areas which
cannot be strongly justified.
The disadvantages of Zero Based Budgeting include:
The time and effort required to complete the exercise
The cost of applying the techniques as external consultancy cost is frequently require over
and above internal resource
The challenge process can appear aggressive and could impact culture and morale
Risk becoming a slash and burn exercise cutting away all unjustified costs at the risk of
reducing capacity to expand or innovate.
(marks will be awarded for any 5 of the above points or indeed additional relevant points made)

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MEEN 30140

Professional Engineering (Finance)

4. Accounts Interpretation 10. Budgeting & Mangmt Acctg

5. Recap & Test Prep 11. Recap & Test Prep

6. Exam 1 12. Exam 2

Professional Engineering (Finance) 2

⚫ Brief has been issued see Bright Space

⚫ Represents 30% of the total course marks

⚫ Is due for submission on Weds April 27th

⚫ The deadline for submission of self-formed groups is 5pm

⚫ Must stick to the structure and the mandatory

⚫ Elements from weeks 1-6, but more to come from weeks

⚫ Make all reasonable assumptions – note your

⚫ Introduction & Executive Summary. [10 marks]

⚫ Financial accounting forecast [20 marks]

⚫ Cash flow forecast [10 marks]

⚫ Investment appraisal computation [20 marks]

⚫ Performance monitoring plan [15 marks]

Qualitative Assessment Elements:

⚫ Carefully consider your key assumptions

⚫ How do we price a product?

⚫ We need to know the cost of a product?

⚫ We need to apply a pricing technique

⚫ Fixed Costs: Costs that remain Fixed (in

Topic 6 Costing & Contribution 11

Topic 6 Costing & Contribution 12

Topic 6 Costing & Contribution 13

➢ Product costing is the function of calculating

1. Calculate Direct costs

2. Add on for Overheads and Profit

❖ Direct Material Costs: €138.00

❖ Direct Labour Costs:

Overhead Item Tot Cost Prod X Prod Y

Overhead Item Tot Cost Prod X Prod Y Tot Act’y

Tot. O/heads per Product (Add to Dir. Costs) €1,566 €1,504

Production usage per unit

⚫ They use Activity Based Costing to allocate Production Overheads and

Topic 6 Costing & Contribution 25

Production usage per unit A B

Topic 6 Costing & Contribution 26

Production usage per unit A B

Total Cost Per/unit

Topic 6 Costing & Contribution 27

Production usage per unit A B

Total Cost Per/unit

Topic 6 Costing & Contribution 28

Production usage per unit A B

Total Cost Per/unit

Topic 6 Costing & Contribution 29

2. Cost Plus: Calculate total cost of the

3. Market Pricing: Let the market dictate the

⚫ Differential Pricing (Market Segmentation)

The margin (‘profit’) made on a product

Selling Price: €60.00 *Variable Cost ...

Topic 6 Costing & Contribution 37

BEP (units) = Fixed Cost

From previous example, contribution is €20.00.

Topic 6 Costing & Contribution 38

CMR = Contribution as a % of Sales Price

Check! From earlier example BEP was 12,000 units.

Topic 6 Costing & Contribution 39

⚫ Used principally to fill capacity

⚫ See ‘Sean’s Shirts’ example.

⚫ Sean incurs a Direct Processing Cost of €5 to