Cma Masters - Questions & Solutions

APPLIED COST & MANAGEMENT
ACCOUNTING QUESTIONS & ANSWERS

Question 1
Makondo Ltd produces and markets a variety of office equipment. The firm currently has net
sales of $80million per year. The firm has a functional structure and currently operates an
incremental budgeting system. The firm has a budget committee that is comprised entirely of
members of the senior management team. No other personnel are involved in the budget-
setting process.
Each member of the senior management team has enjoyed an annual bonus of between 10%
and 25% of their annual salary for each of the past five years. The annual bonuses are
calculated by comparing the actual costs attributed to a particular function with budgeted costs
for that function during the twelve month period ended 31 August in each year.
A new Finance Director, who previously held a senior management position in a ‘not for profit’
health organisation, has lately been appointed. Whilst employed by the health service
organisation, the new Finance Director had been the manager responsible for the operation of
a zero-based budgeting system which proved highly successful.
Required:
(a) As the new Finance Director, prepare a memorandum to the senior management team of
Makondo Ltd which ascertains and discusses: (i) Factors to be considered when implementing a
system of zero-based budgeting within Makondo Ltd; (12 marks)
(ii) The behavioural problems that the management of Makondo Ltd might encounter in
implementing a system of zero-based budgeting, recommending how best to address such
problems in order that they are overcome. (8 marks)
(b) Explain how the implementation of a zero-based budgeting system in Makondo Ltd may
differ from the implementation of such a system in a ‘not for profit’ health organisation.
(5 marks)
[Total 25 marks]
Suggested Solution 1
(a) Memorandum
To: Senior Management

From: Finance Director
Subject: Implementing zero-based budgeting (ZBB) at Makondo Ltd
Date: 7 December 2020
1 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Evaluation of the current budgeting system
We have been using a traditional approach to budgeting, the incremental budgeting approach.
Incremental budgeting is the traditional budgeting method whereby the budget is prepared by
taking the current period's budget or actual performance as a base, with incremental amounts
then being added for the new budget period. These incremental amounts will include
adjustments for things such as inflation, or planned increases in sales prices and costs. The
current year's budget or actual performance is a starting point only. Incremental budgeting
assumes that all current activities and costs are still needed, without examining them in detail.
There is no incentive for managers to try and reduce costs and in fact, they may end up
spending money just for the sake of it, knowing that if they don't spend it this year; they will
not be allocated the cash next year, since they will be deemed not to need it. Performance
targets are also often unchallenging, since they are largely based on past performance with
some kind of token increase. Therefore, managers are not encouraged to challenge themselves
and inefficiencies from previous periods are carried forward into future periods.
(i) Factors to consider about implementing ZBB at Makondo Ltd

Factor Explanation
Role of budget Currently operational budget holders are not involved in the planning
holders and budgeting process, but they will be integral to the new process.
However, their involvement should result in improved forecasts since
they have a more detailed knowledge of their areas of the business
than the directors.
However, the ZBB planning process is much more time consuming
than Makondo Ltd's current process, which makes it a more costly
process in terms of staff time. Moreover, because Makondo Ltd has
not employed this approach before, the staff may need training
before it can be introduced.
Allocation of One of the biggest differences between the ZBB approach and the
resources existing incremental approach at Makondo Ltd is that departments
will no longer be entitled to resources simply because they had similar
resources the previous year. Under the new approach, each process
or cost will have to be justified before it will be included in the next
year's budget.
However, in order to make these resource allocation decisions,
Makondo Ltd will need to establish clear criteria against which to rank
potentially conflicting requests for resources. It is possible that, even
with clear criteria, the allocation of resources will require subjective

value judgements, but this will become inevitable if clear criteria are
not established.
Impact on cost One of the benefits of adopting a ZBB approach is that it should lead
to Makondo Ltd's processes becoming more efficient and effective,
and therefore costs being reduced. However, there will inevitably be
costs associated with introducing ZBB – for example, the additional
time taken to prepare the budgets, and the cost of any training.
Therefore, before implementing ZBB, Makondo Ltd will need to assess
whether the potential operational benefits of ZBB (through cost
reduction) outweigh the costs of introducing it (through staff and
management time spent on budget preparation).
Data availability & Another feature of introducing ZBB will be that it requires Makondo
quality Ltd to analyse its cost behaviour patterns much more closely than it
currently does. Every cost has to be justified in order to be included in
the next year's budget.
However, in order to do this, Makondo Ltd's management information
systems need to be able to produce information in sufficient detail so
that expenditure can be accurately allocated to different functions, or
attributed to different processes and products. If Makondo Ltd's
current information systems are not capable of providing the level of
cost information required, then it will be very difficult for Makondo
Ltd to implement a ZBB system effectively.
More challenging The Finance Director's enthusiasm to move to a ZBB system suggests
targets they believe it will lead to greater efficiency within Makondo Ltd.
Consequently, the budgets under the new system may be more
challenging than under the existing system. However, it is important
that the managers appreciate that the driver behind the changes is
the desire to increase efficiency, rather than to reduce the amount of
bonuses payable. This point needs to be communicated clearly (see
part (b)), otherwise the managers will resist the new approach.
Existing culture If Makondo Ltd decides to move to a ZBB approach, there may also
need to be a degree of cultural shift involved. Under Makondo Ltd's
current approach, the budgeting process remains the sole
responsibility of the six members of the senior management team,
and the budget is then passed down to the rest of the company, in a
top-down approach. However, ZBB requires a more participative
approach, in which operational managers are directly involved in
planning and budgeting, which may feel somewhat alien to the senior

management team given the current top-down approach. On the
other hand, though, if the operational managers are involved in
preparing their own budgets, they are likely to accept more
ownership of the budgets and have a greater commitment to
ensuring that the budgets are achieved.
(ii) Behavioural problems and recommended ways of overcoming problems

Behavioural problem Explanation & Recommended action to overcome problem
Fear of blame culture The managers may also be concerned that if they have prepared the
detailed budgets themselves, they will then be blamed if the forecast
results are not achieved.
However, it is important that this type of blame culture does not
develop. The logic of changing the budget model is not to apportion
blame, but to involve the people who best understand the costs and
processes in each area of the business in setting the budgets for their
area of the business.
Importance of communication – In this respect, communication will
be very important. It is vital that the FD communicates the message
that the change in budget approach is driven by the desire to make
Makondo Ltd more successful and more competitive, not to make life
more difficult for the managers, or to blame them if budget targets
are not achieved. By contrast, Makondo Ltd should highlight to the
managers that the changes give them a greater opportunity to use
their knowledge of the business to set the budget targets. If the
managers feel they are more involved in the business decision
making, in the longer term this could actually help increase their
motivation.
Existing culture As we noted in part (a), the ZBB approach will require managers to
get involved in their own budgets. However, a legacy of Makondo
Ltd's current approach may be that the managers still try to build in
budgetary slack in order to try to generate more easily achievable
targets, and consequently get as much bonus as they can. However,
this potential problem should be addressed by the nature of the ZBB
process itself. The requirement that all costs or processes be justified
(for example in terms of the revenues they will generate) should help
identify any slack which managers are trying to build into their
budgets (for example, where a cost line is disproportionately high in
relation to related revenues).

Additional work load The time-consuming nature of the ZBB process is likely to represent a
significant increase in individual managers' workloads. Managers
are likely to resent this, particularly if they have to fit the additional
workload around their existing duties.
One option Makondo Ltd should consider here is the possibility of
staggering the full ZBB budgets (phased reviews) over a number of
years. A number of functions could be selected to prepare a full ZBB
budget each year so that, for example, each function only has to
carry out a full ZBB analysis once every three years. In the intervening
years, the functions budget could still be prepared on an incremental
basis.
Resistance to change A number of the managers may be skeptical about the motives
behind the introduction of a ZBB system. They are likely to be aware
that the change in approach could affect their bonuses, and may
therefore view the change in approach as an attempt to reduce their
bonuses.
Importance of communication – Again, effective communication will
be vital for overcoming this problem. The FD should give the
managers a full explanation of the ZBB process, and its potential
advantages – both to Makondo Ltd as a whole (through increased
efficiency or effectiveness) and to the individual managers, by having
more realistic budgets. Also, it is very important that the managers
still have the opportunity to earn bonuses under the new approach,
even if the mechanism for earning them is different.
Changes to bonus scheme – In order to maintain staff morale, the
bonus scheme should not be changed without first consulting the
managers and budget holders. However, the changes to the bonus
scheme need not necessarily be seen as a bad thing. At the moment,
it appears that bonuses depend on a single measure of performance
compared to budget. However, with the more detailed analysis of
costs and processes which will be necessary to support the ZBB
approach, it should be possible to establish much clearer links
between performance outcomes and bonuses received. In this
respect, there may even be opportunities for managers to earn
increased bonuses if performance exceeds expectations in key
performance areas.
(b) How ZBB implementation differs in not for profit health organisation

In the public sector, the budgeting process can be even more difficult, since the objectives of
the organisation are more difficult to define in a quantifiable way than the objectives of a
private company. For example, a private company's objectives may be to maximise profit. The
meeting of this objective can then be set out in the budget by aiming for a percentage increase
in sales and perhaps the cutting of various costs. If, on the other hand, you are budgeting for a
public sector organisation such as a hospital, then the objectives may be largely qualitative,
such as ensuring that all outpatients are given an appointment within eight weeks of being
referred to the hospital. This is difficult to define in a quantifiable way, and how it is actually
achieved is even more difficult to define.
Implementation of ZBB may differ in Makondo Ltd and ‘not for profit’ health organisation
because of a difference in each of the organisation's outputs. In a commercial company such as
Makondo Ltd the output can be quantitatively measured in terms of sales revenue, for
example. This is because there is a direct relationship between the expenditure that needs to
be input in order to achieve the desired level of output. In a ‘not for profit health organisation,
on the other hand, it is difficult to define a quantifiable relationship between inputs and
outputs. What is easier to compare is the relationship between how much cash is available for a
particular area and how much cash is actually needed. Therefore, budgeting naturally focuses
on inputs alone, rather than the relationship between inputs and outputs.
Ranking the packages can be difficult, since many activities cannot be compared on the basis of
purely quantitative measures. Qualitative factors need to be incorporated but this is difficult.
Top level management may not have the time or knowledge to rank what could be thousands
of packages. This problem can be somewhat alleviated by having a hierarchical ranking process,
whereby each level of managers rank the packages of the managers who report to them.
Certain costs are essential rather than discretionary and it could be argued that it is pointless to
carry out zero-based budgeting in relation to these. For example, heating and lighting costs in a
‘not for profit’ health organisation are expenses that will have to be paid, irrespective of the
budget amount allocated to them. Incremental budgeting would seem to be more suitable for
costs like these, as with building repair costs.
It could be argued that zero-based budgeting is far more suitable for a ‘not for profit’ health
organisation than for commercial organisation like Makondo Ltd. This is because, firstly, it is far
easier to put activities into decision packages in organisations which undertake set definable
activities. Secondly, it is far more suited to costs that are discretionary in nature or for support
activities. Such costs can be found mostly in not-for profit organisations or the public sector, or
in the service department of commercial operations.

Signed: Finance Director
Question 2
In his overview of the contingency theory of management accounting, Otley (1980) specifies
that “a contingency theory must identify specific aspects of an accounting system which are
associated with certain defined circumstances and demonstrate an appropriate matching.”
(p.413). Thus contingency theory in management accounting describes the situational factors
and portrays that management accounting system is contingent upon such factors in reality.
(a) Discuss fully the contingency theory of management accounting and expand on ways in
which its components highlight and allow explanations of differences in management
accounting control systems. (10 marks).
(b) Explain the term ‘Business process re-engineering’ and how its application might enable
overall business performance to be improved. (7 marks)
(ii) Briefly discuss potential problems which may be encountered in the implementation of a
business re- engineering programme. (8 marks)
[Total 25 marks]
Contingency theory in management accounting describes the situational factors that
management accounting system is contingent upon. In his overview of the contingency theory
of management accounting, Otley (2016) specifies that “a contingency theory must identify
specific aspects of an accounting system which are associated with certain defined
circumstances and demonstrate an appropriate matching.” Although situational factors or
contingent factors vary organization to organization, the components are as follows:
External environment
The external environment of an organization influence management accounting systems.
External environment can be uncertain or certain, static or dynamic, simple or complex, and
turbulent or calm (Kloot, 2016). It has been suggested that organizations with a stable and
certain environment rely on financial performance measures particularly budgetary
conformance and other type of monetary variables. The management accounting system does
not require greater sophistication in such organizations and it works on presupposed targets
expected to remain valid for ensuing performance appraisals (Jusoh, 2014).
Corporate strategies and mission

The corporate strategies and firms’ strategic mission has a bearing on the level of management
accounting system at an organisation (Tsamenyi, Sahadev and Qiao, 2011). It is observed that
with low cost and defending strategies the firms main focus remains towards standardized or
limited product lines, lower costs, economies of scale, and ensuring operating efficiency
through cost, quality, and service leadership (Auzair, 2011). This focus, through undemanding
management accounting information system, necessitates SOPs for employees designed to
maximize efficiency and emphasizes on cost reduction and budget achievement to motivate
them (Mia and Chenhall, 2014). On the other hand, visionary firms with differentiation
strategies and competing mission tend towards more participative decision-making process and
reward employees and managers based on number of appraisal parameters including financial
variables such as budgetary achievements and non-financial variables such as product
innovation, market development, and growth (Tsamenyi et al., 2011). The management
accounting information systems in such organizations are relatively more advanced and
sophisticated with greater devolution and employees’ participation.
Technology
The nature of management accounting information system is dependent upon the intensity or
extent of technology. A relatively sophisticated management accounting information or control
system requires high technology mechanism to perform complex tasks and for information flow
in process production and mass production environments (Reid and Smith, 2012).
Business unit, firm, and industry variables

The size and structure of the firm and the type of industry in which it operates has an effect on
the management accounting information and control system. Larger organizations have been
found with more complex management accounting systems perhaps because such organization
are capable of arranging and organizing required resources to develop a relatively robust and
innovative kind of management accounting system (Jusoh, 2014). Control systems have also
been different in manufacturing organizations which operate largely on standard costs
procedures and depend heavily on variance analysis and other advanced costing and controlling
variables (Kloot, 2016). However, a majority of companies in the service sector have attributes
of discretionary cost and responsibility centres and relatively unsophisticated management
accounting and control systems.
a) Explain the term ‘Business process re-engineering’ and how its application might enable
overall business performance to be improved
Business Process Re-Engineering (BPR) is about rethinking the way that business processes such
as the finance function operate. Rather than carrying on with what has always happened, BPR

will make an organisation think about the processes and radically redesign them so that the
performance of the function and that of the business as a whole can be improved. It is
particularly relevant where a change is already happening. However, it can be applied at any
time. A notorious example of successful business process re-engineering is that of the global
motor giant, Ford Motors. The American automotive giant was compelled by the fact that
Japanese competitor Mazda had operated with an Accounts Payable team of only 5 employees.
In contrast, Ford had a whopping head count of 500 for the same department. Turning to
Business Process Reengineering, Ford Motors managed to achieve a 75% headcount reduction.
In Zimbabwe in 2019, POSB completed is business process reengineering exercise (Guest,
2019). It joined other banks such as FBC and CBZ which had already implemented a business
process re-engineering exercise (Guest, 2019).
Application of BPR
Stage 1 in the application of BPR:
The first stage in the application of BPR is to ask questions such as ‘what do we currently do?’
and ‘why do we do it?’.

The second stage is to discard non-valuing adding processes altogether; this is known as
process rationalization. Therefore, for example an organisation needs to ask questions such as,
is it necessary that the finance team prepare spreadsheets? Does the sales team actually use
the data? If the answer is no, then this finance process should be discarded as it is not adding
value.

The third stage in the application of BPR is to consider whether any of the processes that are
necessary and do add value can be carried out in a more efficient way. This is where processes
are redesigned, which under BPR requires radical and ambitious thinking that challenges how
things are done. BPR encourages creative use of IT and it is likely that the processing of business
systems could be greatly improved with investment in integrated information systems.
Impact of BPR on overall business performance

 BPR is useful in providing an organisation with cost advantages over competitors, and
with improved customer service. For example Ford Motors has successfully
implemented BPR.
 Because it is significant, rather than incremental, changes in working practices are
sought, an approach is encouraged which is more strategic than operational.

 BPR helps to reduce organisational complexity by focusing on core processes and driving
out unnecessary or uneconomic activities.
 It offers an alternative perspective on formulating strategy based upon operating
processes, rather than on products and markets.
 It helps to link together the functional areas of an organisation by focusing on processes
that cut across the value chain from inputs of materials and services to creating
customer satisfaction.
b) Potential problems which may be encountered in the implementation of a business re-

engineering programme
The implementation of the BPR often involves encountering specific practical problems
including the following:
A decline in morale.
Many service functions in an organisation – for example, marketing – rely heavily on trust,
motivation and enthusiasm. A re-engineering exercise may well erode these and lead to a
deterioration in performance. This may be a critical loss in some types of business.
A loss of communication and co-ordination.

Re-engineering typically involves stripping out layers of middle management in order to
produce a flatter and, hopefully, cheaper organisational structure. But middle management
often plays a subtle role in ensuring that different parts of an organisation know what each
other are doing.
A loss of quality and control.

Farming out both business processes and elements of production can achieve immediate cost
savings, but with adverse consequences for flexibility and quality. Outsourcing your firm’s
customer-service function to a call-centre company overseas results in a loss of control over
what happens, while the contracting involved makes it difficult to change any arrangements.
Dumbsizing
There are cases where organisations have reduced their headcount only to have to hire back
the same employees whom they had released.
Backward looking approach

It’s now widely accepted that BPR is in essence a backward looking approach. It takes what has
happened in the past and seeks to improve on it, but with limited regard for what’s going to
happen in future. The concept of revitalization, on the other hand, is in essence forward-

looking. It requires a business to evolve its operation by developing its products and markets
using a portfolio of options.
Lack of leadership support and low participation

Farina Group was one such organisation that has lack of higher management support that the
business reengineering was abandoned (Newman & Zhao, 2008). The top management from
Farina apparently did not want to change the business processes that are current existing when
BPR is being implemented.
Question 3
Machongwe Ltd has branded and well-defined a market in which it wishes to work. This will
provide an 'excellence' focus for an existing product range. Machongwe Ltd has acknowledged
a number of key competitors and proposes to focus on close co-operation with its customers in
providing products to meet their specific strategy and quality requirements. Efforts will be
made to improve the effectiveness of all aspects of the cycle from product design to after sales
service to customers. This will need inputs from a number of departments in the
accomplishment of the specific goals of the 'excelllence' product range. Efforts will be made to
advance productivity in conjunction with improved flexibility of methods.
An analysis of financial and non-financial data relating to the 'excellence' scheme is shown in
table 1 below:
Required:
(a) (i) Prepare a table ($m) of the total costs for the 'excellence' scheme for each of years
2017, 2018 and 2019 (as shown in table 1), detailing target costs, internal and external
failure costs, appraisal costs and prevention costs. The following information should be
used in the preparation of the analysis:
2017 2018 2019
Sales $30M $36M $40M
Target costs - variable (as % of sales) 45% 45% 45%
Fixed costs (total) $3M $3M $3M
Internal failure costs(% of total target cost) 25% 15% 10%
External failure costs(% of total target cost) 30% 20% 5%
Appraisal costs $0.6M $0.6M $0.6M
Prevention costs $3M $2M $1M
(ii) Explain the meaning of each of the cost classifications in (i) above and comment on their
trend and interrelationship. You should provide examples of each classification. (6 marks)

(b) Prepare an analysis (both discursive and quantitative) of the 'excellence' scheme for the
period 2017 to 2019. The analysis should use the information provided in the question,
together with the data in table 1. The analysis should contain the following:
(i) A definition of corporate 'vision or mission' and consideration of how the excellence scheme
may be seen as classifying and demonstrating a specific sub-set of this 'vision or mission'.
(4 marks)
(ii) Discuss and quantify the proposal in both marketing and financial terms.
(4 marks)
(iii) Explain the external effectiveness of the proposal in the context of ways in which i) Quality
and ii) Delivery are expected to affect customer satisfaction and hence the marketing of the
product. (4 marks)
(iv) Discussion of the internal efficiency of the scheme in the context of ways in which the
management of: i). Cycle Time and ii). Waste are expected to affect productivity and hence the
financial aspects of the proposal. (4 marks)
(v) Discussion of the links between internal and external aspects of the expected trends in
performance. (3 marks)
[Total 25 marks]
(a) Excellence Scheme
(i) Analysis of Total Costs
2017 2018 2019
$000 $000 $000
Sales 30 000 36 000 40 000
Target cost - variable 13 500 16 200 18 000
Target cost - fixed 3 000 3 000 3 000
Total target cost 16 500 19 200 21 000
Internal failure costs 4 125 2 880 2 100
External failure costs 4 950 3 840 1 050
Appraisal costs 600 600 600
Prevention costs 3 000 2 000 1 000
Total cost 29 175 28 520 25 750
(ii) Cost classifications

Internal failure costs
Internal failure costs are costs incurred when defective production occurs. They include:
 the variable cost of items that are scrapped when found to be sub-standard in quality
 the incremental cost of re-working items to bring them to the required quality standard
 the cost of production time lost due to failures and defects. If a factory is working at full
capacity and is unable to keep up with sales demand, this cost would include the
contribution lost as a consequence of producing less finished output and so selling less.
External failure costs

External failure costs are costs incurred when the quality problem arises after the goods have
been delivered to the customer. They include the costs of:
 dealing with customers’ complaints
 the costs of carrying out repair work under a guarantee or warranty
 transport costs incurred when recovering faulty items from the customer
 transport costs incurred in delivering repaired items or replacement items to the customer
 the costs of recalling all items from customers in order to correct a design fault
 legal costs, when a customer takes the organisation to court
 the cost of lost reputation: when an organisation gets a reputation for poor quality,
customers will stop buying from it.
Appraisal costs
Appraisal costs are the costs of checking the quality of work that has been done. The purpose of
appraisal is to prevent poor-quality work from leaving the factory. They include inspection and
testing costs.
Prevention costs
Prevention costs are the costs of action to prevent defects (or reduce the number of defects).
For example:
 designing products and services with in-built quality
 designing production processes of a high quality
 training employees to do their jobs to a high standard.
 carrying out regular maintenance check-ups on production
(b) Analysis of the excellence scheme

(i) Corporate vision
The question alludes to a view of business taken by Lynch and Cross, in whose 'performance
pyramid' corporate vision is what defines the following:
(1) The markets in which an organisation will compete (such as a new market for an existing
range of services)

(2) The bases upon which it will compete (such as a 'excellence scheme' focus for an existing
range of services) For the 'excelence scheme' proposal Machongwe Ltd's market has been
defined both in terms of its key competitors and the customers with whom it can co-operate.
Machongwe Ltd intend to compete on the following bases:
(1) Offering tailored services that meet the specific design and quality requirements of
customers.
(2) Improving the services offered and enhancing flexibility continuously
(3) Providing effective after-sales service
(ii) Market satisfaction and financial measures are objectives set at the corporate level.
Market satisfaction would cover objectives set for growth in markets. Financial
objectives would relate to improved revenues, margins and profitability. The data in the
schedule suggests a growth in total market size of 8% from 2017 to 2019. Machongwe
Ltd's share of this market is anticipated to increase from 12.5% to 15.4% over this
period. So Machongwe Ltd is expecting to enjoy an increased share of an expanding
market. Profits (sales less total costs) are projected to grow by $13m in the period
covered and net margins from 6% to 37.25%. This improvement in margins comes about
partly from a fall in the costs of rectification and paying out on rectification claims.
Machongwe Ltd is therefore anticipating a fall in certain costs of quality, particularly
external costs that impact on their reputation with customers.
(iii) Quality and delivery are operational activities that affect customer satisfaction and
hence external effectiveness. In terms of marketing, the proposal will be successful if
customers are satisfied, and if customers are satisfied there will be high levels of
customer satisfaction. Quality measures in the schedule cover rectification costs, which
are costs of quality. These external costs are expected to fall over the three years. Thus
rectification claims are projected to fall from $0.9m to $0.2m, which is a drop of 78%,
and cost for after sales rectification is expected to fall by $1m. Services not requiring
further rectification should increase from 95% to 98% in the period, which shows an
improvement in the quality of services to customers. Delivery effectiveness is measured
by how long it takes the customer to get the goods or services ordered. Sales attaining
the planned completion date are projected to increase from 90% to 99% in the period
covered.
(iv) In financial terms the proposal can be successful if productivity is high. Relevant
measures, therefore, include average cycle time, which is anticipated to fall from 6 to 5
weeks over the period covered, and idle capacity, which is a measure of waste and is
expected to fall from 10% to 2% from 2017 to 2019. Appraisal and prevention costs,

which are internal quality costs related to processes and incurred before products and
services go to the customer, are expected to fall or remain constant in total.
Question 4
Home Made Furnitures (HMF) is into the business of home and commercial furnishing. It was
established by Ringo in the year 2015. After graduating in interior designing, Ringo spent 3
years working for a commercial designing firm before establishing his own firm. Since its
inception, HMF has grown to achieve an annual sales turnover of $60 million during the year
2019. The revenue streams of HMF mainly include the following:
 Rich individual customers who get their villas furnished
 Specialty furnishing projects for clients like commercial hotels, restaurants and
hospitals.
For all its projects, HMF provides end-to-end solutions, including the designing, execution and
one-year maintenance post execution.
HMF has been using the job costing method for smaller customer orders and the contract
costing method for the bigger contracts. It has been using absorption costing all these years.
The control aspect is handled through the budgetary control system established in the
company. The information system is currently capable of handling the financial accounts. The
reports (like job-wise profitability, wastage generated, purchases made, etc.) required by the
management are prepared manually. Over the past 5 years, quite a few new furnishing
companies have come up and HMF now has tough competition to face. It cannot use the
traditional ‘cost plus’s basis for pricing as they have been out priced by the competition on
many occasions.
Ringo is concerned as the sales have not shown the desired growth although the industry
growth rate is good. He attributes the lacklustre performance of HMF to lack of a proper
information system. He claims that many decisions get delayed for want of information. The
company is unable to respond quickly to the changing needs of the business environment as
the systems are outdated and cannot keep pace with the changes.
Required:
(a) Assess why the traditional management accounting techniques are not sufficient for HMF in
the rapidly changing business environment. (9 marks)
(b) Suggest how information technology would help HMF to generate information to manage
its performance and achieve strategic objectives. (9 marks)
(c) Recommend four contemporary management accounting tools that HMF must adopt under
the given circumstances. (8 marks)
[Total 25 marks]

a) Assessment of the insufficiency of traditional management accounting techniques in
rapidly changing business environment
Traditional tools of management accounting are principally budgeting and budgetary control,
standard costing and variance analysis, and absorption costing.
There has been an increase in competition as a result of the new furnishing companies entering
the market, and so companies have often needed to become more innovative to survive.
Competitive advantage is a key to success and survival. The cost-plus method is one of the most
traditional and common pricing techniques. This cost-plus approach has gradually been
replaced by target costing in a modern environment. This addresses the pricing issue from the
other direction. It must be accepted that in a competitive market a company has little influence
over the selling price of its product.
In response to competitive pressures, many companies have become more flexible and willing
to adapt products to specific customer requirements, or to innovate and offer a wider range of
products. This has happened at HMF, which now produces a wider range of products and
appears to innovate continually in order to remain competitive. However, continuous
innovation and changing products mean that the usefulness of standard costing as a traditional
tool of management accounting is severely reduced. Standard costing, for example, has lost
much of its relevance. The business environment in the past was more stable whereas the
modern business environment is more dynamic and subject to change. As a result if a business
environment is continuously changing standard costing is not a suitable method because
standards cannot be established for a reasonable period of time. The focus of the modern
business environment is on improving quality and customer care whereas the environment in
the past was focused on minimising cost. The life cycle of products in the modern business
environment is shorter and therefore standards become quickly out of date. The increase in
automation in the modern business environment has resulted in less emphasis on labour cost
variances.
In manufacturing businesses, labour costs are a smaller proportion of total production costs
than they were in the past, and a costing system that apportions overhead costs on the basis of
labour time is inappropriate. For example, absorption costing as a traditional management tool
has lost much of its relevance. Some manufacturing companies apply lean manufacturing
concepts to their operations: lean concepts include just-in-time purchasing and manufacturing
(manufacturing to order and not for inventory), and minimising inventories. One of the few
purposes of absorption costing is to obtain a value for work-in-progress and finished goods.
When inventories are minimal, an absorption costing system is much too elaborate and costly

for this purpose, and its costs exceed its benefits. Simpler methods of inventory valuation can
be applied.
Manufacturing has become more machine intensive and, as a result, the proportion of
production overheads, compared to direct costs, has increased. Therefore, it is important that
an accurate estimate is made of the production overhead per unit. In addition, newer
manufacturing companies now than in the past produce standardised production-line products.
The environment in which firms like HMF operate is becoming increasingly uncertain and
dynamic, which means that budgets are likely to be a less reliable measure of performance than
they would be in a predictable and static environment. It may also be argued that financial
comparisons are not necessarily sufficient by themselves, because they do not consider non-
financial aspects of performance such as quality. This is especially important in competitive
environment like were HMF is operating.
b) How information technology helps in generating information

HMF is operating in a very competitive environment and the intensity of competitive
environment means that it is very important for HMF to analyse its competitors and their
strategies, as well as considering its own financial performance and strategies. In order to
compete, management needs to respond to changes in the competitive environment and to
consider strategy over the longer term as well as short-term profit. As a result, the need for
management information has expanded beyond being solely financial information such that it
now includes to external (competition) information as well as information that is relevant to
strategy and the long-term (including non-financial issues).
Information technology will enable the provision of information from a wider range of sources
that includes non-financial as well as financial aspects. Equally, external information will be
exploited by HMF, for example either analysing changes in market share, or benchmarking their
company's performance against competitors' performance.
Technology will also reduce the demands on accountants to produce and monitor information,
because operational staff can now generate this information and therefore monitor their own
performance. Information technology can lead to the point where operational managers are
able to access information on-line and even to prepare information (such as forecasts)
themselves. Authority can easily be delegated, and operational managers can be made
responsible for preparing their own budgets – something which, historically, was the function
of the management accountant. By using available IT software, line managers will be able to
produce their own budgets and budget control reports or other performance measures

In addition, this also means the Directors at HMF should all be aware of how well the each
division in the company is performing before the management accounts are even produced.
The reduced demands to produce and monitor information will enable the accountant's
expertise to be deployed in roles that deliver greater value to HMF. For example, if the
directors are evaluating different strategic options, the management accountant could play a
vital role in assessing the relevant costs and projected benefits of each option, and therefore in
determining which option looks like it will add most value to the business.
Information technology will compel HMF to become more strategic; looking at the wider, long-
term commercial implications of any strategies, not just short-term profits. Given that the
company's economic circumstances seem to be deteriorating in the short term, monitoring and
turning around short-term profits will also remain very important. This again suggests that
information technology could usefully combine traditional elements (such as cost control) with
newer elements (such as identifying strategic profit improvements).
c) Four contemporary management accounting tools to be adopted

Target costing
Target costing as a contemporary management accounting tool is appropriate for HMF because
it begins by specifying a product an organisation wishes to sell. This will involve extensive
customer analysis, considering which features customers’ value and which they do not. Ideally
only those features valued by customers will be included in the product design. A target price is
then set based on the customers’ perceived value of the product. This will therefore be a
market based price. This will take in to account the competitor products and the market
conditions expected at the time that the product will be launched. Hence a heavy emphasis is
placed on external analysis before any consideration is made of the internal cost of the product.
HMF will also have an early external focus to its product development. Since they have to
compete with others (new firms and existing firms) and an early consideration of this will tend
to make them more successful. Traditional approaches (by calculating the cost and then adding
a margin to get a selling price) are often far too internally driven.
Kaizen costing
If HMF strives for continuous improvement, its focus will be on cost reduction rather
monitoring performance against a standard cost. One of the main criticisms of standard costing
is that, as long as adverse variances are avoided, no attempt is made to seek further cost
savings. Kaizen costing is a more proactive approach that assumes improvements can always be
made – it promotes a culture in which all employees are constantly seeking to reduce
production costs. This is because it is based on the belief that nothing is ever perfect, so
improvements and reductions in the variable costs are always possible. It is an ongoing process

that strives to reduce costs by making improvements and removing waste. Successful
continuous improvement requires full commitment from senior managers at HMF, along with
effective, well-documented policies and procedures designed to log, examine and develop all
new ideas.
Activity based costing

Traditional costing systems which assume that all products consume all resources in proportion
to their production volumes, tend to allocate too great a proportion of overheads to high
volume products (which use fewer support services) and too small a proportion of overheads to
low volume products (which use more support services). Activity based costing (ABC) attempts
to overcome this problem. Activity-based costing may offer an alternative and more useful
approach to the analysis of overhead costs. Activity based costing involves the identification of
the factors which cause the costs of an organisation’s activities. Support overheads are charged
to products on the basis of their usage of the factor causing the overheads. In HMF’s
environment, the complexity of manufacturing has increased, with wider product ranges,
shorter product life cycles and more complex production processes. ABC is appropriate because
it recognises this complexity with its multiple cost drivers.
In a more competitive environment like where HMF operates, the company must be able to
assess product profitability realistically. ABC facilitates a good understanding of what drives
overhead costs. ABC is more complex but almost certainly more accurate.
In modern manufacturing systems, overhead functions include a lot of non-factory-floor

activities such as product design, quality control, and production planning and customer
services. ABC is concerned with all overhead costs and so it can take management accounting
beyond its ‘traditional' factory floor boundaries.
Lifecycle costing
Traditional costing techniques based around annual periods may give a misleading impression
of the costs and profitability of a product. This is because systems are based on the financial
accounting year, and dissect the product's lifecycle into a series of annual sections. Usually,
therefore, the management accounting systems would assess a product's profitability on a
periodic basis, rather than over its entire life. Lifecycle costing, however, tracks and
accumulates costs and revenues attributable to each product over its entire product lifecycle.
This technique works particularly well with target costing which proactively makes changes at
the product’s design stage to reduce costs and prevent unnecessary expenditure from being
‘locked in’. The overall lifecycle cost of a product should be reduced when effective target
costing is exercised prior to production.

Question 5
The People’s Savings Bank (P.O.S.B) is a bank Owned in the country by the Government of
Zimbabwe. It has a total of more than 65 branches across the country and also offers online
banking (access to services via computer) and telephone banking (access to customer service
agents over the telephone) to its customers. Recently, The People’s Savings Bank also began
offering its customers a range of mobile banking services, which can be accessed from
customers’ smartphones and tablet computers. Its customer-base is made up of both private
individuals and business customers. The range of services it offers includes:
Current accounts
Savings accounts
Business and personal bank loans
Mortgages (loans for property acquision )
The People’s Savings Bank’s vision is to be ‘the bank that gives back to its customers’ and their
purpose is ‘to help the people and businesses of Zimbabwe to live better lives and achieve their
ambitions’.
In order to achieve this, the bank’s values are stated as:

(1) Putting customers’ needs first, this involves anticipating and understanding customers’
needs and making products and services accessible to as many customers as possible.
The People’s Savings Bank has recently invested heavily in IT security to prevent fraud
and also invested to make more services accessible to disabled and visually impaired
customers.
(2) Making business simple, which involves identifying opportunities to simplify activities
and communicating clearly and openly.
(3) Making a difference to the communities they serve, which involves primarily helping
the disadvantaged and new homeowners but also supporting small and medium-sized
businesses (SMEs) and acting fairly and responsibly at all times.
Extracts from The People’s Savings Bank’s balanced scorecard are shown below:
Performance measure 2018 2018

Financial perspective Actual Target
Return on capital employed(ROCE) 14% 15%
Interest income $20 m $ 19m
Margin percentage(margin achieved on interest income) 10% 12%
Amount of new lending to SMEs 150m 180m
Customer perspective

Number of first-time home buyers who accessed mortgages 90 000 80 000
Number of complaints handled(per 1 000 customers) 2.5 3
Number of talking cash points installed for the visually impaired 200 190
Number of wheel chair ramps installed in branches across the country 65 60
Internal business process

Incidence of fraud on customer ‘s accounts or credit cards(per 1000 5 15
customers)
Number of business process re-engineered and simplified within the 3 6
bank
Number of new services made available through mobile banking 8 10
Online mobile up introduced 4 3
Learning and growth
Number of employees trained to provide advice to SMEs 2 000 2 500
Number of projects initiated to support community 5 4
Number of graduate trainees absorbed from the community ‘s most
disadvantaged areas 2 000 2 500
Number of community organisations supported or funded or funded 8 500 8 000

by volunteers from People’s Savings Bank)
Required:
(b) Using all of the information provided, including The People’s Savings Bank’s vision and
values, discuss the performance of The People’s Bank in 2018.
Note: Use each of the four headings of the balanced scorecard to structure your discussion.
(20 marks)
c) Explain the benefits of using the balance scorecard. (5marks)
[Total 25marks]
(a) Discussion of the performance of The People’s Bank in 2018.
The performance of the bank will be considered under each of the headings used in the
balanced scorecard:
Financial perspective
The People’s Savings Bank has had a year of mixed success when looking at the extent to which
it has met its financial targets. Its return on capital employed (ROCE) shows how efficiently it

has used its assets to generate profit for the business. The target for the year was 12% but it
has only achieved an 11% return. The People’s Savings Bank’s interest income, however, was in
fact $0·5m higher than its target, which is good. This may have been achieved by offering
slightly better interest rates to customers than competing banks, as the interest margin The
People’s Savings Bank achieved is slightly lower than target. The most likely reason for the
under target ROCE is therefore probably the investment which The People’s Savings Bank has
made in IT security and facilities for the disabled and visually impaired. Whilst this may have
reduced ROCE, this investment is essentially a good idea as it helps The People’s Savings Bank
pursue its vision and will keep customers happy. It will also, in the case of the IT security
investment, prevent the bank and its customers from losing money from fraud in the future.
The other performance measure, the amount of new lending to SMEs, is a little bit
disappointing, given The People’s Savings Bank’s stated value of making a difference to
communities. The failure to meet this target may well be linked to the fact that an insufficient
number of staff were trained to provide advice to SMEs and consequently, fewer of them may
have been successful in securing additional finance.
Customer perspective
With regard to its customers, The People’s Bank has performed well in the year. It has exceeded
its target to provide mortgages to new homeowners by 6,000.This is helping The People’s
Savings Bank pursue its vision of helping new homeowners. It has also managed to beat the
target for customer complaints such that there are only 1·5 complaints for every 1,000
customers, well below the target of 2. This may be as a result of improved processes at the
bank or improved security. It is not clear what the precise reason is but it is definitely good for
The People’s Savings Bank’s reputation. The bank has also exceeded both of its targets to help
the disabled and visually impaired, which is good for its reputation and its stated value of
making services more accessible.
Internal processes
The number of processes simplified within the bank has exceeded the target, which is good,
and the success of which may well be reflected in the lower customer complaints levels.
Similarly, the investment to improve IT systems has been a success, with only three incidences
of fraud per 1,000 customers compared to the target of 10. However, perhaps because of the
focus on this part of the business, only two new services have been made available via mobile
banking, instead of the target of five, which is disappointing. Similarly, it is possible that some
of the new systems have prevented the business from keeping its CO2 emissions to their target
level.

Learning and growth
The People’s Bank has succeeded in helping the community, exceeding both of its targets
relating to hours of paid volunteer work and number of community organisations supported by
volunteers or funding. These additional costs could have contributed to the fact that the bank
did not quite meet its target for ROCE.
However, the bank has not quite met its targets for helping small businesses and helping the
disadvantaged. As mentioned earlier, the shortfall in training of employees to give advice to
SMEs may have had an impact on The People’s Savings Bank’s failure to meet its target lending
to SMEs.
As regards the percentage of trainee positions, the target was only just missed and this may
well have been because the number of candidates applying from these areas was not as high as
planned and the bank has no control over this.
Overall, the bank has had a fairly successful year, meeting many of its targets. However, it still
has some work to do in order to meet its stated values and continue to pursue its vision.
Question 6
Mategwade is a mineral ore mining business in the country of Gwangwava Land. It owns and
operates four mines. A mine takes on average two years to develop before it can produce ore
and the revenue from the mine is split (25:75) between selling the ore under fixed price
contracts over five years and selling on the spot market. The bulk of the business’s production
is exported. A mine has an average working life of about 20 years before all the profitable ore
is extracted. It then takes a year to decommission the site and return the land to a useable form
for agriculture or other developments. Recent events One of Mategwade’s foreign competitors
surprised the market by becoming insolvent as a result of paying too much to acquire a
competitor when the selling price of their minerals dipped as the world economy went into
recession. As a result, the chief executive officer (CEO) wanted to know if this was likely to
happen to Mategwade. She had read about the Altman Z-score as a way of predicting corporate
failure and had a business analyst prepare a report calculating the Z-score for Mategwade. The
report is summarised in Appendix 1. The analyst had done what was asked and calculated the
score but had not explained what it meant or what action should be taken as a result.
Therefore, the CEO has turned to you to help her to make sense of this work and for advice
about how to use the information and how Mategwade should proceed into the future.
Required: (a) Evaluate both the result of the analyst’s calculations and the appropriateness of
these two models for Mategwade. (10 marks)
(b) Explain the potential effects of a mine’s lifecycle on Mategwade’s Z-score and the
company’s probability of failure. Note: You should ignore its effect on the Q-score. (7 marks)
(c) Give four detailed recommendations to reduce the probability of failure of Mategwade,
providing suitable justifications for your advice.

Appendix 1 Analyst’s Report (extract)
The Altman Z-score model is: Z = 1·2X1 + 1·4X2 + 3·3X3 + 0·6X4 + X5
Another quantitative model (Q-score model) has been produced by academics working at Guus
main university based on recent data from listed companies on the small Gwangwava land
stock exchange.
It is: Q = 1·4X1 + 3·3X3 + 0·5X4 + 1·1X5 + 1·7X6
Where for both models: X1 is working capital/total assets;
X2 is retained earnings reserve/total assets;
X3 is profit before interest and tax/total assets;
X4 is market value of equity/total long-term debt (MVe/total long-term debt);
X5 is revenue/total assets; and
X6 is current assets/current liabilities.
Using the most recent figures from Mategwade’s financial statements (year ending September
20X4), Mategwade’s Altman Z-score is 3·5 and its score from the other model (Q) is 3·1.
For both models, a score of more than 3 (for Z or Q) is considered safe and at below 1·8, the
company is at risk of failure in the next two years.
(a) The results from both models indicate that Mategwade is not likely to become insolvent in
the next two years. However, there are good reasons to question the applicability of these
models to Mategwade’s business and so it would be dangerous to place too much reliance on
these results.
A quantitative model such as those presented here identifies financial ratios which significantly
differ in value between surviving and failing companies. Statistical analysis is then used to
choose the weightings for these ratios in a formula for a score which can be used to identify
companies which exhibit the features of previously failing companies. Obviously, the company
being analysed must be similar to those being used to build the model for the results to be
relevant.
The Altman Z-score was originally developed in the late 1960s and was based on data from US
companies, primarily in the manufacturing sector. Therefore, there are three reasons to
question the applicability of such data to Mategwade.
1. The world economy has changed significantly since Altman’s original work. The data for this
model is now nearly 50 years old.
2. The economy of the USA may not reflect the market in which Mategwade works.
3. The mining sector is not like general manufacturing, for example, it is highly capital
intensive with long periods of no revenue generation.

The Q-score model was based on recent data from Gwangwava land businesses. As for the Z-
score, Mategwade is not likely to be appropriately modelled by such data. The problems are:
1. The Q-score is based on data for Gwangwava land listed companies and Mategwade is a
mining company with an unusual pattern of revenue and costs supplying a global market. It is
therefore unlikely to be similar to the companies on the small Gwangwava land exchange, both
in its markets and its business model.
2. If Gwangwava land’s exchange is small, there may not be much data from failing companies
on which to base the model. Neither of the models addresses factors which may have a large
impact on Mategwade’s survival such as world commodity prices and foreign exchange rates.
(b) The lifecycle issues for Mategwade relate to the long timescale (23 years) for development
and use of a mine and the uneven cash flows over this lifecycle.
The initial development phase of two years will require large capital investments with no
revenue being generated. There is then a 20-year revenue-generating phase followed by a final
year of decommissioning costs with no revenue.
This will impact on the Z-score by making the score very volatile as the mines go through the
three phases of their lives.
 During the development phase, total assets are growing while revenue is zero. This will
mean that the X5 variable will be zero and the X1 and X3 variables will be falling, thus
lowering the score.
 During the working phase of the mine, the total assets will be static or falling (depending on
the accounting for reserves) while the revenue is high.
 Finally, during the decommissioning phase, the assets will be falling and again there will be
no revenue, so a low Z-score could be expected.
The fact that Mategwade has only four mines will mean that the phase of any one mine will
have a significant impact on the score.
If two mines are in development at the same time, then there is likely to be a large effect in
lowering the Z-score. It will be the scale of the financial resources which Mategwade can call on
over the life of the mines which will dictate its survival.
(c) The type of action which Mategwade’s board can take to reduce the risk of collapse of the
business is to grow the business by buying or developing many more mines, so that the failure
of any one project does not bring down the business. Staggering the development of the mines
would also help to address this issue.
The board could also seek to alter the proportion of revenues generated from long-term
contracts rather than the more volatile spot market. By signing over more of the production to
contracts of fixed revenues, the business’s cash flows will be more reliable.

The board could learn from the mistakes of their competitors by avoiding over-priced
acquisitions or other large project failures by performing suitable due diligence and risk analysis
in advance of the investment.
The board could be proactive in managing other major risks by using hedging techniques in
order to reduce volatile revenues due to:
 foreign exchange rate changes when the costs of the mines will all be denominated in local
currency; and
 commodity prices on the spot market.
Although the use of such techniques will be limited by the availability of long-term hedging
contracts.
Question 7
TsokaTsoka Engineering’s mission is to provide world-leading, reduced-emission, fuel-efficient
products for the motor industry in order to optimise shareholder returns. Tsoka Tsoka has
existed for only five years and is owned by its management and venture capitalists (VCs). The
management were all engineers who had been working on the basic research associated with
new fuel technologies and saw the opportunity to commercialise their expertise. Tsoka Tsoka is
highly regarded in the industry for its advanced, efficient fuel cell designs. As a result, the VCs
were eager to invest in Tsoka Tsoka and have assisted by placing experienced managers into
the business to aid the original engineering team. New product development Tsoka Tsoka is
developing hydrogen fuel cells for use in powering large motor vehicles such as buses and
trucks. They will replace standard petrol/diesel engines. The fuel cells have a clear advantage
over these older technologies in having lower carbon dioxide (a greenhouse gas) emissions. The
governments of many developed countries are keen to see cuts in such emissions and are
supportive of a variety of possible technological solutions to this issue (such as fuel cells,
electrical batteries and compressed natural gas). External business environment, takes five to
ten years to develop a viable product for sale in this motor market. There are a number of
companies developing fuel cells but Tsoka Tsoka is believed to have a two-year lead over them
and to be only three years away from commercial launch. Alternative power technologies like
the hydrogen fuel cells would be fitted by the major international vehicle manufacturers into
their vehicles for sale to their customers. The vehicle manufacturers will need to form a close
partnership with any engine producer in order to make their technologies compatible and this
has already begun to happen, with two of the major manufacturers signing deals with other
engine makers recently. A major problem which needs to be overcome with any of these new
technologies is that there must be an infrastructure accessible to the end users for refuelling
their vehicles (as the petrol station chains do for petrol engine vehicles at present).
Governments have indicated their desire to support the development of such technologies to
address environmental issues and to try to establish new, high-value industries in their

jurisdiction. They may do this through tax breaks and investment to support the development
of the refuelling infrastructure. Production of Tsoka Tsoka’ fuel cell uses a special membrane
which requires rare and expensive elements. Also, it has partnered with two other engineering
firms to subcontract the production of certain components in the fuel cell. Tsoka Tsoka has had
to share much of its fuel cell design with these firms in order to overcome certain engineering
difficulties. Also, there are a number of start-up companies developing the other technologies
mentioned previously, as well as large, existing diesel and petrol engine manufacturers who are
constantly reducing the emissions from their existing engines. The VCs have stressed the need
to analyse competition and competitive advantage in order to understand how to make the
business profitable in the long term. The chief executive officer (CEO) of Tsoka Tsoka wants to
understand the external business environment and its effect on performance management.
Required: (a) Using Porter’s five forces model, assess the impact of the external business
environment on the performance management of Tsoka Tsoka and give a justified
recommendation of one new performance measure for each of the five force areas at Tsoka
Tsoka. (16 marks)
(b) Discuss how the problems of defining the market in measuring a market share apply for
Tsoka Tsoka. (4 marks)
(c) Assess the risk appetite of the venture capitalists and discuss how this might impact on
performance measurement at Tsoka Tsoka. (5 marks)
[Total 25marks]
(a) Porter’s five forces analysis
Threat of new entrants
The threat of new entrants will be dictated by barriers to entry into the fuel cell market. These
appear to be high, given the long timescale and the high levels of technical expertise required
to develop a viable product. Also, the developer will need to have cultivated a strong
relationship with the major vehicle manufacturers who will be the customers for the product. A
suitable performance measure would be percentage of revenue derived from patented
products to measure the legally protected revenues of the business and so indicate the barrier
to entry. Stokeness will need to ensure that all technology developments are written up and
assessed for their patent possibility.
[Other measures could include ratio of fixed cost to total cost (measures capital required) or
customer loyalty (through long-term contracts to supply fuel cells to manufacturers).]
Threat of substitutes
The substitutes mentioned in the question are electrical batteries, compressed natural gas and
improved existing diesel/petrol engines. However, it is clear that improved diesel/petrol

engines would potentially have many lower barriers to cross as the technology is known to the
car industry and the infrastructure exists to deliver the fuel to the end-users of the cars.
The threat of each of these substitutes would be measured by an analysis of the comparative
cost of creating a viable alternative to the fuel cell. The performance in terms of power output
of the engine and emissions reductions compared to price would be critical. Management of
this aspect will entail monitoring fuel prices in the market, reviewing the appropriate technical
journals and attending conferences in order to identify these threats and their progress. This
will require the input of both finance and engineering staff at Tsoka Tsoka.
Power of suppliers
The suppliers have considerable power. There are rare raw materials used in production and
the price and availability of these will dictate possible output levels for fuel cell producers. This
is especially important, given the possibility of increased production that could flow if fuel cells
become the dominant way to power vehicles in the future. There is a danger that the market in
these materials is controlled by a few suppliers who can then dictate price. The engineering
subcontractors will also have power through their knowledge of the design elements of Tsoka
Tsoka’s product. It will be important for Stokeness to protect this by legally enforceable non-
disclosure agreements. There is a danger that this knowledge will lead the suppliers to consider
pre-emptive forward integration by taking over Tsoka Tsoka. The power of suppliers could be
measured by estimating the cost of shifting to an alternative supplier, which could be
considerable, given the innovative nature of the technology. These costs would have to include
the damage to value from the delay that such a shift would cause.
[Other measures could include cost of suppliers’ product compared to total cost of the fuel cell,
which indicates the importance of this component in production, and the number of suppliers as
it indicates the level of competition in that market.]
Power of customers
The customers are the major bus and truck manufacturers. Again, the customers will have a
large degree of influence, given their size and limited numbers if Tsoka Tsoka wants to access
the world market. There will need to be a partnership between the fuel cell maker and the
vehicle manufacturer in order to ensure that the technologies are compatible. There is the
threat that these powerful customers will seek to take over Tsoka Tsoka if its products prove
successful; however, this may be an attractive exit for the shareholders depending upon the
price offered. The power of customers can be measured by estimating their switching costs
which are likely to be high, given the technological compatibility issue. However, these costs
will only occur once the vehicle manufacturer has agreed to source from a particular supplier
(e.g. Tsoka Tsoka) and until an agreement is reached, the fuel cell supplier will be in the weaker
position. The vehicle manufacturer will also have the commercial power to be able to become a

new entrant to the market if it appears more profitable to do so. Tsoka Tsoka could seek to
manage these problems in two ways:
(a) quickly enter into an exclusive arrangement with one partner by emphasising the
technological lead that they hold over the competition. This will be lower risk but will cut
returns as the partner will then have pricing power; or
(b) seek to develop a product that will be attractive to multiple vehicle manufacturers and then
maximise price by playing them against each other. This appears less plausible in this
scenario, given the limited number of large manufacturers.
[Other measures could be the number of alternative customers, the level of discounts customers
demand and the number of alternative suppliers customers can chose from.]
Power of existing competition

The power of existing competition appears low as Tsoka Tsoka has a two-year lead in
development. It will be important to protect this legally by patenting innovations as soon as
possible and, also, ensuring the strictest commercial confidentiality is maintained within Tsoka
Tsoka and their commercial partners.
The power of existing competitors can be measured by market share once the market forms.
However, at this development stage of the industry, a measure such as time to market (the
expected commercial launch date of a viable fuel cell) would be more appropriate. This will aid
management focus on delivering the product as rapidly as possible, thus maintaining Tsoka
Tsoka’s competitive advantage and avoiding time over-runs in development which will strain
the cash flows of the company and may lead to unwelcome further calls for funding from the
VCs.
[Other measures could be partnership agreements (with car manufacturers) signed or projected
revenues/volumes under such agreements.]
[Tutor note: The use of ideas such as patent protection, time to market and partnering with a
vehicle manufacturer are relevant under several of the headings and credit is given provided the
point is suitably justified to the particular force being
discussed at that point of the answer.]
(b) Market definition

The CEO’s concerns over the definition of market in market share are justified, as there are a
variety of possibilities. If Stokeness were to take an ambitious view, then they could measure
the market as the total commercial vehicle market and measure the number of vehicles
powered by Tsoka Tsoka’s fuel cell compared to the total number of vehicles. This would be a
measure of competitive performance against all existing engine technologies including existing
petrol/diesel. It would be more realistic to use the number of new vehicles sold rather than all
vehicles in existence in this measure.

A second possibility exists in this scenario for comparing the number of vehicles with Tsoka
Tsoka’s fuel cell compared to the number using any of the alternative engine technologies (fuel
cells, electrical, compressed natural gas). However, Tsoka Tsoka could take an even less
ambitious view and consider just the market for fuel cells, therefore measuring Tsoka Tsoka’s
performance against only other fuel cell makers.
The board must make a choice as to the market they are competing in or maybe decide the
firms that they see as their main competitors, and then use this to define the market and so the
performance measure.
(c) Venture capitalists
The VCs are likely to be rational investors seeking maximum return for minimum risk. However,
they will have invested in a number of companies and so are prepared for investments to fail,
provided that some of their investments perform very well.
Therefore, they will be risk seeking in technology start-ups such as Tsoka Tsoka.
The VCs have placed employees within the management team and so have a high degree of
influence on Tsoka Tsoka. They will be looking at medium/long-term returns, given the nature
of the project, through net present value based on projected revenues. Of more immediate
concern will be the worry that Tsoka Tsoka runs out of cash before it has a viable product to sell
and so cost control measures (variances from budget) and cash outflow will be key measures at
present. They will have stated a rough timescale to exit the investment on provision of the
initial funds and they will monitor performance to plan on this basis. Progression towards an
exit will require Tsoka Tsoka to pass various milestones (e.g. to file patents, to sign contracts
with customers); timely achievement of these would be useful performance indicators, as well
as purely financial ones such as meeting the cash flow projections.
Question 8
The Marketing division is an online retailer of consumer products such as books and music. The
division has exceeded its profit targets in recent years but the division manager, Tom sawyer, is
not satisfied about future prospects. Tom has just received the report of a consultant who he
hired to carry out a strategic assessment of the division. The consultant was free to choose
whatever metrics he felt provided the most important indication of the division’s strategic
performance. The data relates to the most recent financial year and has been collected for both
the critical division and on an estimated basis for a major competitor. Both the marketing
division and the major competitor sell directly to the public from their websites and both offer
customers completely free postage and packing. The following data has been provided by the
consultant:
Marketing Division Competitor
Number of products offered for sale at any one time 20,000 15,000
Digital media as a percentage of all items sold 10% 15%

Average delivery cycle time for physical items (working days) 4 7
Physical items returned by customers as damaged in transit 0.5% 0.25%
Product prices as percentage of recommended retail prices (average) 90% 88%
Average number of orders per customer per year 12 8
REQUIREMENT:
(a) Critically evaluate the importance of each of the six metrics listed above in terms of
strategic performance and (for each metric) briefly assess the performance of the
marketing l division as compared with its competitor.
(b) Recommend and justify two other significant performance metrics which should be
used to assess the strategic performance of the marketing division and its competitor.
(4 marks)
(a) Critical evaluation of the importance of the six performance metrics
Number of products: Unlikely to be of major strategic importance. Both Marketing division and
the competitor offer large enough product ranges to generate significant web traffic, and it is
unlikely that an online shopper would be deterred from visiting a website just because a
specific item is not in stock. The online shopper can easily buy that particular item from another
website with minimal additional effort, and since there is free p & p there is no incentive for a
shopper to necessarily buy everything from one site. Insofar as there is a difference, Marketing
division’s bigger product range enables it to make more sales than the competitor, but will not
necessarily create more customer loyalty.
Digital media %: Again, it is not clear that there is a strategic advantage in having a higher (or
lower) concentration on digital media. It depends on the profitability of each type of product
and the trend in customer demand (e.g., digital books remain a much smaller niche than
physical books). The free p & p offered to customers creates a cost which must be absorbed by
the retailers in the case of physical products, but there is no significant marginal cost in
delivering digital products. So it is not clear which retailer’s percentage is preferable.
Delivery cycle time: This is of considerable strategic importance; the shorter the cycle, the
more quickly the customer’s “need” for the product is fulfilled. Rapid delivery cycle time can
help a retailer build market share and even make buyers tolerant of higher prices than those
available from other retailers. The Marketing division’s time of 4 days puts it in a much stronger
position than its competitor (7 days) and this is potentially a significant foundation for long-
term financial success.

Items returned: In relative terms, Marketing division is receiving twice as many returns as the
competitor (0.5% vs 0.25%). to an extent, this reduces the competitive advantage of the faster
delivery cycle time: there is little advantage to a customer in receiving a delivery quickly and
then having to return it. reputational damage is likely to result so that not only the individual
customer is affected. the competitor enjoys an advantage with only 1 in 400 items being
returned.
Product prices as % of RRP: Pricing is part of virtually any strategy, so this variable is important.
Of course there are both “low price” and “high price” strategies, so it is not clear whether the
Marketing division or its competitor has the more favourable score on this metric. On the one
hand, the competitor appears to have marginally lower prices which should be a source of
competitive advantage. However, as indicated above, Marketing division’s superior delivery
cycle time may make customers less price-sensitive and thus enable Marketing division to “get
away with” charging higher prices and earning bigger margins. Another consideration is that
since Marketing division and its competitor do not sell exactly the same product range it is not
clear that the difference in “average” prices is reflected in differences in the prices of specific
items.
Average number of orders per customer per year: This metric is not a good indicator of
strategic performance because it is open to two completely different interpretations. On the
one hand, more orders per year may indicate a more loyal customer base and in that sense
marketing division may have achieved a better strategic performance than its competitor.
Alternatively, it might simply be the case that the average number of items per customer order
is smaller in the case of marketing division than in the case of its competitor. Given the
economies of scale (in terms of p & p costs absorbed by the retailer) a small number of large
orders is likely to be preferable to a large number of small orders.
(b) Two other significant performance metrics

Number of new products added to the range offered for sale each month. The first step in
generating sales is to drive traffic to the website, and shoppers are more likely to visit a site if
new items are on offer.
Average size of physical customer orders. for the reasons explained in the answer to part (a), it
is necessary to know this average size in order to place a meaningful interpretation on the
“average number of orders per customer per year” which is included in the consultant’s report.
Question 9
The Plastic division manufactures three products, product A, product B & product C. selling
prices for each product are set partly by reference to the cost of production as indicated by the

company’s product costing system. Production overheads amount to $1,710,000 per month
and at present these are allocated to products on a machine hour basis. Labour costs amount to
$12 per direct labour hour.
The following summary of a typical month’s production activities is available:

Product A Product B Product C
Units of output per month 2,000 5,000 10,000
Machine hours per unit 1 3 4
Direct labour hours per unit 0.75 1 1.25
Direct materials cost per unit $20 $12 $25
Number of production setups per month 60 100 200
Number of materials movements per month 100 150 200
Number of inspections per month 70 80 90
The division is considering the implementation of an activity-based costing (abc) system
instead of its existing product costing system. To facilitate this, the division’s accountant has
carefully analysed the nature of the monthly overhead expenditure and has determined that
the total $1,710,000 monthly overhead expenditure relates to the various activities in the
following proportions:
Costs relating to operating of machinery 10%
Costs relating to production setups 40%
Costs relating to materials movements 25%
Costs relating to inspections 25%
Total 100%
REQUIREMENT:
(a) Using the information provided above, estimate the production cost per unit for each of the
three products using:
(i) The division’s existing product costing system, and (ii) an ABC system. (13 marks)
(b) Compare and contrast the effects of the two costing systems in this case. In particular,
provide a specific assessment as to why the costs of each product differ between each of the
two systems and critically evaluate whether and how the division should use the activity-based
costing information as a basis for revising its product selling prices.
a.(i) Existing product costing system
Calculation of total machine hours
Product A (2,000 units x 1 machine hour) 2,000

Product B (5,000 units x 3 machine hours) 15,000
Product C (10,000 x 4 machine hours) 40,000
Total machine hours 57,000
𝑂𝑣𝑒𝑟ℎ𝑒𝑎𝑑 𝑒𝑥𝑝𝑒𝑛𝑑𝑖𝑡𝑢𝑟𝑒
Machine hour OAR = 𝑀𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠
$1,710,000
= 57,000
= $30 per machine hour
Calculation of the unit costs (Existing product costing)
Product X Product Y Product Z

Direct materials 20 12 25
Direct labour (0.75; 1; 1.25) x $12 9 12 15
Prime cost 29 24 40
Production overheads (1; 3; 4) x $30 30 90 120
Unit production cost 59 114 160
a (ii) Activity based costing

Calculation of cost pools
Costs relating to operating of machinery (10% x 1,710,000) 171,000
Costs relating to production set ups (40% x 1,710,000) 684,000
Costs relating to material movements (25% x 1,710,000) 427,500
Costs relating to inspections (25% x 1,710,000) 427,500
Total overheads 1,710,000
Calculation of the cost driver rates
Related to operation
$171,000
= $3/machine hour
57,000
Set up
$684,000
= $1,900/ production set up
60+100+200

Material Movement
$427,500
= $950/ material movement
100+150+200
Inspection
$427,500
= $1,781.25/inspection
70+80+90
Calculation of overheads
Operation
Product A (2,000 machine hours x $3) 6,000
Product B (15,000 machine hours x $3) 45,000
Product C (40,000 machine hours x $3) 120,000
Set up
Product A (60 production set ups x $1,900) 114,000
Product B (100 production set ups x $1,900) 190,000
Product C (200 production set ups x $1,900) 380,000
Material Movements
Product A (100 material movements x $950) 95,000
Product B (150 material movements x $950) 142,500
Product C (200 material movements x $950) 190,000
Inspection
Product A (70 inspections x $1,781.25) 124,687.50
Product B (80 inspections x $1,781.25) 142,500.00
Product C (90 inspections x $1,781.25) 160,312.50
Calculation of the unit cost (Activity based costing)

Direct materials 40,000 60,000 250,000

Direct labour 18,000 60,000 150,000
Prime cost 58,000 120,000 400,000
Production overheads:
Operation 6,000 45,000 120,000
Set up 114,000 190,000 380,000
Material movements 95,000 142,500 190,000
Inspection 124,687.50 142,500 160,312.50
Total production cost 397,687.50 640,000 1,250,312.50
Output 2,000 5,000 10,000
Unit product cost $198.84 $128.00 $125.03
b. Comparison of effects of the two costing systems

The effect can be illustrated as follows:
ABC
Unit product cost $198.84 $128.00 $125.03
Less: Prime cost 29 24 40
Overhead per unit 169.84 104.00 85.03
Existing system ABC Difference No of units Overheads

Product A 59 169.84 +110.84 2,000 +221,680
Product B 114 104.00 -10.00 5,000 -50,000
Product C 160 85.03 -74.97 10,000 -749,700
Products A and B are the lowest volume products but they use more supports services. In this
case the existing product costing system has allocated a small proportion of overheads whereas
activity based costing has allocated more overheads on the basis of the use of support services.
Similarly, Product C is a high volume product but uses fewer support services. In this case the
existing product costing system (absorption costing) has allocated a great proportion of
overheads whereas activity based costing has allocated less overheads on the basis of the use
of support services.

Since costs related to operating of machinery are 10% of the total overhead expenditure. This
means only 10% of the overheads are driven by volume with the other 90% driven by support
services such as setting up, movement of materials and inspections. Products A and B seem to
demand more of these support services but the existing system has allocated less overheads on
the basis of low volumes for Products A and B. Products A and B are relatively minor volume
products but still require a fair amount of support services/ activities, that is, they involve a fair
amount of hassle. This is explained by the table of number of unit, produced per activity.
Production set-ups
Product A (2,000 units/60 setups) 33 units/set up
Product B (5,000 units/ 100 setups) 50 units/set up
Product C (10,000 units/200 set ups) 50 units/ set up
Productivity on material movements

Product A (2,000 units/100 material movements) 20 units per material movement
Product B (5,000 units/150 material movements) 33 units per material movement
Product C (10,000/200 material movements) 50 units per material movement
Productivity on inspections
Product A (2,000 units/70 inspections) 26 units per inspection
Product B (5,000 units/80 inspections) 63 units per inspection
Product C (10,000 units/90 inspections) 111 units per inspection
Using absorption costs products A and B seem to be underpriced and product C is overpriced.
ABC can therefore be used to adjust the selling prices of products A and B by increasing the
prices to truly reflect the effect of the overheads involved. Similarly, product C’s price may be
reduced to ensure the product remains competitive. This is in line with the comments of many
who feel that ABC provides a fairer unit cost better reflecting the effort required to make
different products. However, certain factors should be considered before adjusting the selling
price. If demand for the product A and B is relatively elastic, then sales volumes are likely to
change if ABC is introduced. Conversely, if demand for product A and B is relatively inelastic,
this means that sales volumes would be expected to be largely unchanged despite an increase
in price.
Question 10
Fashion Plus is a manufacturer of leather bags. It is a well-known brand in the market. Robin
was appointed as the CEO of Fashion Plus four years ago (after the death of his father who was

the previous CEO). He has a dominant and arrogant style of working and does not take into
consideration the ideas suggested by other board members.
Waterman, a newly appointed director of Fashion Plus, wonders why Fashion Plus has not
come up with any new product over the last three years and also has no projects under
consideration. In his opinion, in this competitive era, the company should try to give something
innovative to the customer. At the same time, diversification could also help Fashion Plus to
remain in competition. Therefore, Waterman suggests that, along with manufacturing leather
bags, Fashion Plus should start manufacturing leather shoes. However, Robin does not like the
idea. In addition, Waterman expects that other members of the board will not support him
because they appear to him to be passive.
With the growth in retail chains (where many varieties are available), Fashion Plus is facing
tough competition. The sales of Fashion Plus have been showing a decreasing trend over the
last two years, as have the profits. In addition, the market share of Fashion Plus has declined
from 33% to 17% over the last four years.
The financial information of Fashion Plus is as follows:
Statement of financial position
2019 2018
$000 $000
Non-current assets
Land and buildings (net) 216.00 195.75
Property ,Plant and equipment (net) 249.75 465.75 237.60 433.35
Current assets
Inventory 162.00 135.00
Receivables 46.50 37.10
Cash at bank 0.75 209.25 2.05 174.15
675 607.50
Shareholder’s funds
Ordinary shares(50 cents per share) 67.50 67.50
Reserves 145.80 213.30 141.75 209.25
Loan funds
15% debentures ($100 par) 152.55 152.55
Term loans 94.50 247.05 60.75 213.30
Current liabilities
Dividends payable 12.15 12.15
Tax payable 6.75 10.80

Trade payables 195.74 214.55 162.00 184.95
675 607.50
Extracts from statement of comprehensive income

2019 2018
$000 $000
Sales 586.80 633.60
Earnings before interest and taxes 56.70 66.50
Interest (27.00) (23.50)
Earnings before tax 29.70 43.00
Taxation @25% (7.43) (10.75)
Available to shareholders 22.27 32.25
Dividend (19.00) (19.00)
Retained earnings 3.27 13.25
Required:
(a) Calculate the Z score for Fashion Plus and comment on the probability of the failure of
Fashion Plus. (10 marks)
(b) Identify the qualitative information which indicates that Fashion Plus might fail. (5 marks)
(c) Recommend the performance improvement strategies that may be adopted by Fashion Plus
(10 marks
(a) Z score calculation
Variable Formular 2019 2018
X1 Working capital 209.25 − 214.55 174.15 − 184.95
Total assets 675 607.5
= -0.0079 = -0.0178
X2 Retained earnings 145.8 141.75
= 0.216 = 0.2333
X3 PBIT 56.7 66.50
= 0.084 = 0.1095
X4 Book value of equity 213.30 209.25
6 Total liabilities 247.05 + 214.55 213.30 + 184.95
= 0.4621 = 0.5254

X5 Revenue 586.80 633.60
= 0.8693 = 1.0430
Z Score = 0.717x1 = 0.717(-0.0179) + = 0.717(-0.0178) +
+ 0.847x2 + 0.847(0.216) + 0.847(0.2333) +
3.107x3 + 0.420x4 3.107(0.084) + 3.107(0.1095) +
+ 0.998x5 0.420(0.4621) + 0.420(0.5254) +
0.998(0.8693) 0.998(0.0430)
= 1.5 = 1.79
The Z score for Fashion Plus in 2019 is 1.50 which is slightly above the danger level of 1.23. It
has fallen over the past two years between 1.79 and 1.50 During this period the variables
making up the model have been mostly declining. Roughly a large proportion of the decline in
the Z score arises from variable X4 which has fallen from 0.5254 to 0.4621. The bulk of the
movement arises from a significant increase in long term borrowings from $465m to $1,261m.
The other variable that has seen most decline is variable X3 (PBIT/TA) falling from 0.1095 to
0.084 which reflects a fall in profits ($66.5 to $56.7) and an increase in total assets ($607.5 to
$675) thus the company has failed to extract profit from available assets. X5(Revenue/TA) also
follows the same trend falling from 1.0430 to 0.8693 which reflects a fall in revenue ($633.60 to
$586.80) and an increase in total assets ($607.5 to $675) thus the company has failed to
generate revenue from available assets.
(b) Qualitative issues

Argenti's A score model is based on the idea of a correlation between poor management and
corporate failure. A number of the problems that Fashion Plus is currently experiencing are
identified in Argenti's model, which suggests that they increase the risk that Fashion Plus
suffering a business failure. So, using the Argenti A score model, we can break down the
problems Fashion Plus is experiencing into three broad categories: defects, mistakes made and
symptoms of failure.
Using the Argenti A score model, the problems a company is experiencing may be broken down
into three broad categories: defects, mistakes made and symptoms of failure. Looking at
Fashion Plus, defects exhibited are a dominant chief executive officer, a failure to keep the chief
executive in check and passive senior management. Mistakes made by Fashion Plus include a
reliance on one project (leather bags) to fuel growth, which is risky and relies on the success of
the project. Another mistake Fashion Plus is mainly funded by debt thus gearing has risen from

102% to 116% and interest cover has declined from 2.8 times to 2.1 times. This reliance on debt
funding leads to a risk of failure to service debt payments.
Management defects
Leadership – The Chief Executive appears autocratic. Despite all the other directors wanting to
make valuable contributions, the Chief Executive often over-rules them. In this respect, as well
as the Chief Executive being autocratic, we can also suggest that the rest of the Board are weak
which is equally much a problem for Fashion Plus.
Mistakes
Failure to add new projects – For the last three years Fashion Plus has relied on leather
products and has therefore failed to add new products to sustain its operations.
Symptoms of trouble
Decrease in profitability – Fashion Plus's operating profit has fallen both in absolute terms and
in percentage terms (from 33.25 to 22.27) between 2018 and 2019. Given the context of rising
competition and failure to introduce new products, this is perhaps not surprising. In
conjunction with the other factors we have identified, if Fashion Plus's profitability keeps falling
then this is likely to be a symptom of trouble.
Falling market share – Fashion Plus’s sales decreased by 7.4% between 2018 and 2019. Further
to that its share of the market has reduced from 33% to 17% over the last four years. This
should be seen as an increasing cause for concern.
Increasing debt – Total debt has increased from $213.3 to $247.05m between 2018 and 2019,
leading to a fall in Fashion Plus's ratio (cash flow from operations / total debt) from 0.01 to
0.003.
Performance improvement strategies

Related diversification
With market share declining for leather bags, Fashion Plus can use its competences to engage in
related diversification by introducing other leather related products such as leather shoes.
Product development
Fashion Plus should conduct market research and introduce a cocktail of new products in order
to survive the tough economic conditions.
Penetration pricing strategy

This strategy should be used in conjunction with the product development strategy when they
launch products because it has been stated that other entities are already offering a variety of

products. This means to penetrate the market there is need to charge low prices initially and
then later increase them.
Active and participating board members

For performance to improve the board should work collectively in order to improve Fashion
Plus’s performance. This is because the board is responsible collectively.
Question 11
The Oil Presser division is analysing expanding its total quality management program. It already
has a TQM program in place. However, one of its customers, ZIMGOL, is asking all suppliers to
become ISO9000-qualified, a process that certifies that that the firm met various standards.
Once suppliers are ISO 9000- qualified, ZIMGOL can reduce its inspection costs. Not all of the
suppliers will be certified, and those that are will receive more business from ZIMGOL. ZIMGOL
purchases raw cooking oil from The Oil Presser. After earning ISO9000 certification, The Oil
Presser estimates that it will have to incur the following annual incremental costs as long as it
wants to maintain its certification:
Annual incremental costs to be ISO 9000 certified
Training $60 000
Inspection $95 000
Prevention $ 65 000
Direct materials +12%
Direct labour +16%
To produce the current quality or rotors (before ISO9000 certification, the budgeted selling
price and standard cost data per rotor follow:
Selling price 20.00
Less standard costs:
Direct material 6.00
Direct labour 4.00
Manufacturing overhead (all fixed) 3.50
Selling and administrative (all variable) 2.50
Unit cost 16.00
Unit profit 4.00
Unless The Oil Presser receives ISO9000 certification, it will lose ZIMGOL’s business of 130 000
units per unit per year. Management estimates that the higher quality of the rotor that meets
quality criteria will allow The Oil Presser to add 15 000 rotors to its existing sales from new and
continuing customers. The Oil Presser is currently selling 500 000 rotors per year.

a) In view of the expected benefits, discuss the benefits of ISO Certification.
(15marks)
b) Discuss how the oil presser can benefit from benchmarking exercise (10 marks)
[Total 25 marks]
Benefit Explanation
Wastages are limited Too often businesses repeat the same mistakes because they don’t
have a system to record and correct problems as they occur. ISO
requires you to maintain careful records of problems, seek out
their root causes and come up with lasting solutions. The result is
less waste, better quality and lower costs.
“There’s so much waste that comes from rework and defective
products and services that could be prevented,” Mohamud says.
“With ISO, you figure out what the problem is and correct it. You
also make it part the organization’s knowledge so you prevent it
from reoccurring.”
Output/Outcomes
Risk minimisation The best way to deal with quality issues is to prevent them from
occurring in the first place. To achieve this goal, ISO standards
require the identification of potential risks to the business and
requires them to be controlled in a structured way. This risk-
based thinking leads to fewer surprises, improved planning, more
effective decision-making and better relationships with suppliers,
customers and employees.
Llllllll
Decision making & ISO requires you monitor, measure, analyze and evaluate the
control over business effectiveness of your quality management system. By doing so, you
will generate performance metrics that allow you to judge how
well you’re doing and where you need to improve. These are
powerful tools for gaining insight into your business and making
better decisions.
As an internationally recognized quality management system,

achieving ISO certification will support your marketing and help
increase your sales. Indeed, many large companies require their
suppliers to be ISO certified. And certification can be particularly
important if you want to enter foreign markets.

Customer retention &
attraction
Llllllll
Awarding of tenders
Standards
Staff support & When things are not done in an organized fashion, we see a lot of
morale confusion and doubt for the employees. Employee morale
improves when they know you are committed to eliminating waste
and producing the highest quality products and services. ISO also
requires you define tasks (who does what), eliminate skills gaps in
your business and communicate your quality policies to
employees.
Question 12
Pari group of Hospitals a hospital that provides healthcare services to the general public. The
hospital provides services related to paediatrics, gynecology, cancer and other general
ailments. It has state-of-the-art facilities for the patients and well-equipped diagnostic
laboratories and operation theatres.
The hospital is funded by grants that are allocated by the central government every year, which
cover all the operating expenses of the hospital. There are special allocations provided for
purchase of new equipment and creation of any new facilities. It employs a total staff of 280,
comprising professional doctors and nurses.
The hospital was founded about sixty years ago and has been, since then, operating
successfully. However, the central grants committee of the central government has recently
raised concerns over the increasing amount of grants being allocated to this hospital. They feel
that the hospital could do with lesser grants. They also suspect that there is a lot of wastage of
money that can be avoided through proper performance evaluation.
The management of the hospital has taken the comments of the committee very seriously and
has taken up the matter to assess their existing performance management system. Currently,
the performance of the hospital is measured using both financial and non-financial
performance measures. The Chief Executive Officer (CEO) of the hospital recently attended a
training programme, where he learned about the tool of benchmarking. He would like to know
if it can be used effectively for the hospital to enhance the performance and reduce wastage.
Required:
(a) Explain the concept of benchmarking and its usefulness for a public sector organisation like
this hospital. (7 marks)

(b) Discuss how benchmarking can be implemented in the hospital to achieve the objective of
performance improvement. Also, briefly enumerate the performance parameters that can be
benchmarked. (13 marks)
(c) explain the weakness of assessing performance through benchmarking (5marks)
(Total 25marks)
(a) Benchmarking and its benefits
Benchmarking is the establishment, through data gathering, of targets and comparators which
allow relative levels of performance (and particularly underperformance) to be identified. The
sources of data used in benchmarking can be internal (historical data; or data from other
business units) or external (data from competitors; or best-in-class performers). By adopting
identified best practices, it is hoped that performance will improve.
Potential benefits of benchmarking

1. Comparing an organisation's (or business unit's) performance with that of another
highlights how much room there is for improvement.
2. Benchmarking focuses on key areas of performance and may be used to set targets which
are challenging but evidently 'achievable' (because they have already been achieved by the
comparator).
3. The sharing of information, comparing past failures and successes, can be a spur to
innovation.
4. It should be possible to identify achievable cost savings, and realistic targets should help to
improve budgeting.
(b) Introducing a system of benchmarking

The introduction of a system of benchmarking can be divided into stages. It needs to be
carefully planned, and is likely to need significant resources in terms of management time.
Step 1: Review and assess current practices, and then set objectives for the benchmarking
study.
Step 2: Establish key performance indicators and targets for the purchasing department. These
may include a target level of negotiated discounts, cost of sales ratios, inventory levels, costs
per order and overall costs of running the department.

Step 3 Select external organisations (or internal functions) which reflect 'best practice' to
study. It is possible Pari Group may need to negotiate an agreement with an external
organisation (not necessarily in the same industry) to obtain data from its purchasing
department to use for benchmarking purposes.
Step 4: Measure the performance of Pari Group divisions, and that of the division (or
organisation) it is being benchmarked against.
Step 5 Compare performances so that management can focus on where improvements need to
be made.
Step 6 Design and implement improvement programmes as necessary.
Step 7 Monitor improvements and refine programmes if necessary.
When selecting an appropriate benchmark basis, Pari Group should ask itself the following
questions.
1. Is it possible and easy to obtain reliable comparator information?
2. Is there any wide discrepancy between different internal divisions (if Pari Group is using
internal benchmarking)?
3. Can similar processes be identified in non-competing environments and are these non-
competing companies willing to co-operate?
4. Is there sufficient time to complete the study, or might management and/or staff time be
more usefully spent on other things?
(c) Problems when implementing benchmarking

1. It implies there is one best way of doing business – arguably this boils down to the
difference between efficiency and effectiveness, which is what Pari Group is concerned
with. A process can be efficient, in terms of man hours spent for example, but its output
may not be useful (may be too expensive, or poor quality).
2. There may be behavioural issues to consider, as the staff of the division may feel
threatened by the study and resist any planned changes. Tactful management is essential,
and the reasons for the study must be properly communicated.
3. It is often only a catching-up exercise rather than a means of developing anything
distinctive. After the benchmarking exercise, a competitor might improve performance in a
different way.
4. Benchmarking will only highlight differences in the relative performance of JHK's purchasing
department and its comparator. Benchmarking will not necessarily illustrate the reasons for

those differences. However, if there are underlying differences between the two
departments, simply trying to replicate the processes and procedures from the comparator
department in Pari Group’s department may not lead to corresponding improvements in
performance in the department.
ABOUT THE COMPILER OF SUGGESTED SOLUTIONS
Tawanda. T. Herbert is the Co-Founder and Managing Partner of Herbert and Co. Chartered
Accountants. Among other qualifications, he is a holder of the following qualifications:
ACCA, CIMA, CIS, M.Com in Applied Accounting and B.Sc. (Hon) in Applied Accounting. He is
also a PHD in Accounting candidate.
For more information visit my website: www.herbertmentor.com

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APPLIED COST & MANAGEMENT

ACCOUNTING QUESTIONS & ANSWERS

To: Senior Management

1 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

(i) Factors to consider about implementing ZBB at Makondo Ltd

2 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

3 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

(ii) Behavioural problems and recommended ways of overcoming problems

4 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

5 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

6 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Corporate strategies and mission

7 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Business unit, firm, and industry variables

8 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Stage 2 in the application of BPR:

Stage 3 in the application of BPR:

Impact of BPR on overall business performance

9 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

b) Potential problems which may be encountered in the implementation of a business re-

A loss of communication and co-ordination.

A loss of quality and control.

Backward looking approach

10 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Lack of leadership support and low participation

11 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

(ii) Cost classifications

External failure costs

(b) Analysis of the excellence scheme

13 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

14 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

15 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

16 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

b) How information technology helps in generating information

17 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

c) Four contemporary management accounting tools to be adopted

18 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Activity based costing

In modern manufacturing systems, overhead functions include a lot of non-factory-floor

19 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

In order to achieve this, the bank’s values are stated as:

Performance measure 2018 2018

20 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Internal business process

Number of community organisations supported or funded or funded 8 500 8 000

21 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

22 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

23 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

24 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

25 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

26 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

27 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

28 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

Power of existing competition

(b) Market definition

29 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

30 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

31 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

(b) Two other significant performance metrics

32 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

The following summary of a typical month’s production activities is available:

33 Compiled by T T Herbert (0773 038 651 / 0712 560 772) www.herbertmentor.com

= $30 per machine hour