Osborne Answers - Work Book Year 2
Osborne Answers - Work Book Year 2
Osborne Answers - Work Book Year 2
Financial Accounting
1 Financial statements and introduction to ethics 1
2 Incomplete records 3
3 Computer accounting 7
4 Partnership financial statements 7
5 Changes in partnerships 11
6 Accounting for limited companies 13
7 Statement of cash flows 18
8 Interpretation of accounting information 19
9 Accounting regulations and ethics 22
Management Accounting
10 Management accounting: the use of budgets 24
11 Absorption and activity based costing 28
12 Overheads and overhead absorption 34
13 Standard costing and variance analysis 37
14 Capital investment appraisal 39
1
CHAPTER 1 Financial statements and introduction to ethics
1.2
CRANTOCK LIMITED
INCOME STATEMENT FOR THE YEAR ENDED 31 MARCH 20-2
£000 £000
Revenue 2,295
Opening inventory 160
Purchases 1,200
1,360
Less Closing inventory 180
1,180
Cost of sales 1,115
Gross profit
Less expenses:
Administration expenses 240
Distribution expenses 500
740
Profit/(loss) for the year from operations 375
Less Finance costs –
Profit/(loss) for the year before tax 375
Less Tax 65
Profit/(loss) for the year after tax 310
1
CRANTOCK LIMITED
STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20-2
Current Assets
Inventory 180
Trade and other receivables 525
Cash and cash equivalents 75
780
Less Current Liabilities
Trade and other payables 395
Tax liabilities 65
460
Net Current Assets 320
1,420
Less Non-current Liabilities –
NET ASSETS 1,420
EQUITY
Issued Share Capital
Ordinary shares 700
Capital Reserve
Share premium 200
Revenue Reserve
Retained earnings 520
TOTAL EQUITY 1,420
1.4 Objectivity
A No compromise of professional judgement
2
CHAPTER 2 Incomplete records
2.3 A
2.5 C
2.7 C
2.9 £77,000
2.11 £125,000
2.13
TALIB ZABBAR
CALCULATION OF GOODS FOR OWN USE FOR THE YEAR ENDED 30 SEPTEMBER 20-7
£ £
Opening inventory 30,500
Purchases 89,500
Cost of inventory available for sale 120,000
Sales 160,000
Less Normal gross profit margin (40%) 64,000
Cost of sales 96,000
Estimated closing inventory 24,000
Less Actual closing inventory 23,500
Value of goods for own use 500
2.15 (a)
(b)
(c)
3
(d) COLIN SMITH
INCOME STATEMENT FOR THE YEAR ENDED 30 JUNE 20-5
£ £
Revenue 120,550
Opening inventory 25,000
Purchases 60,000
85,000
Less Closing inventory 27,500
Cost of sales 57,500
Gross profit 63,050
Less expenses:
Expenses 30,200
Depreciation: fixtures and fittings 5,000
Irrecoverable debts 550
35,750
Profit for the year 27,300
£ £ £
Non-current Assets Cost Depreciation Carrying
amount
Fixtures and fittings 50,000 15,000 35,000
Current Assets
Inventory 27,500
Trade receivables 35,000
Bank 1,210
63,710
Less Current Liabilities
Trade payables 30,000
Accrual of expenses 700
30,700
Net Current Assets 33,010
NET ASSETS 68,010
FINANCED BY
Capital
Opening capital* 69,500
Add Profit for the year 27,300
96,800
Less Drawings 28,790
68,010
* Opening capital: £
• assets at 1 July 20-4 102,500
• less liabilities at 1 July 20-4 33,000
• capital at 1 July 20-4 69,500
4
2.16
(a)
(b)
(c)
(d)
5
(e) SAM’S TRADING
INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-6
£ £ £
Revenue *249,060
Opening inventory 32,170
Purchases 184,750
Less Goods for own use 3,550
181,200
213,370
Less Closing inventory 35,470
Cost of sales **177,900
Gross profit 71,160
Less expenses:
Rent of shop premises 22,930
Loss on sale of shop fittings 640
Depreciation: shop fittings 2,630
General expenses 25,170
51,370
Profit for the year 19,790
£ £ £
Non-current Assets
Shop fittings at carrying amount 14,360
Current Assets
Inventory 35,470
Bank *4,040
39,510
Less Current Liabilities
Trade payables 16,830
Other payables: rent of shop premises 1,230
18,060
Net Current Assets 21,450
NET ASSETS 35,810
FINANCED BY
Capital
Opening capital **37,980
Add Profit for the year 19,790
57,770
Less Drawings ***21,960
35,810
*Bank: £4,410 – £1,590 (unpresented cheques) + £1,220 (cash paid in not yet credited) = £4,040
**Opening capital: £18,240 + £32,170 – £14,560 + £860 + £1,270 (opening bank) = £37,980
***Drawings: £18,410 + £3,550 goods for own use = £21,960
6
CHAPTER 3 Computer accounting
4.4 A
4.5 D
4.6 C
4.8
20-5 20-5
1 Jan Balances b/d 30,000 20,000
20-5 20-5
1 Jan Balances b/d 1,510 830
7
4.12 (a)
20-5 20-5
1 Apr Balances b/d 10,000 6,000
20-5 20-5
1 Apr Balance b/d – 1,060 1 Apr Balance b/d 1,550 –
(b)
SARA AND SIMON PENNY, TRADING AS ‘CLASS CATERERS’
INCOME STATEMENT FOR THE YEAR ENDED 31 MARCH 20-5
£ £
Revenue 44,080
Opening inventory 2,850
Purchases 11,300
14,150
Less Closing inventory 3,460
Cost of sales 10,690
Gross profit 33,390
Less expenses:
Wages 8,020
Rent and rates 4,090
Sundry expenses 1,500
Depreciation: office equipment 800
14,410
Profit for the year 18,980
Less appropriation of profit:
Salary: Sara 8,000
Interest allowed on partners’ capitals: Sara 1,000
Simon 600
1,600
9,380
Share of remaining profit:
Sara 4,690
Simon 4,690
9,380
8
STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20-5
£ £ £
Non-current Assets Cost Depreciation Carrying amt
Equipment 8,000 800 7,200
Current Assets
Inventory 3,460
Trade receivables 4,500
Bank 8,640
16,600
Less Current Liabilities
Trade payables 7,200
Other payables 110
7,310
Net Current Assets 9,290
NET ASSETS 16,490
FINANCED BY
Capital Accounts
Sara 10,000
Simon 6,000
16,000
Current Accounts
Sara 1,550
Simon (1,060)
490
16,490
4.13 (a)
Dr Partners' Capital Accounts Cr
A Adams J Beeson A Adams J Beeson
20-5 £ £ 20-4 £ £
30 Jun Balances c/d 30,000 20,000 1 Jul Balances b/d 30,000 20,000
20-5 20-5
1 Jul Balances b/d 30,000 20,000
20-5 20-5
1 Jul Balances b/d 209 2,349
Tutorial note: As the partners do not have a partnership agreement, the Partnership Act 1890 applies. This means that
profits and losses are shared equally between the partners.
9
(b) ANNE ADAMS AND JENNY BEESON, TRADING AS ‘A & B ELECTRICS’
INCOME STATEMENT FOR THE YEAR ENDED 30 JUNE 20-5
£ £ £
Revenue 250,140
Less Sales returns 1,360
Net sales 248,780
Opening inventory 26,550
Purchases 175,290
Less Purchases returns 850
174,440
200,990
Less Closing inventory 27,750
Cost of sales 173,240
Gross profit 75,540
Add income:
Decrease in provision for doubtful debts 13
75,553
Less expenses:
Rent and rates 8,170
Wages 29,020
Vehicle expenses 2,470
General expenses 6,210
Irrecoverable debts 175
Depreciation: vehicle 2,250
fixtures and fittings 400
48,695
Profit for the year 26,858
Share of profit:
A Adams 13,429
J Beeson 13,429
26,858
STATEMENT OF FINANCIAL POSITION AS AT 30 JUNE 20-5
£ £ £
Non-current Assets Cost Depreciation Carrying amt
Vehicle 12,000 5,250 6,750
Fixtures and fittings 4,000 1,200 2,800
16,000 6,450 9,550
Current Assets
Inventory 27,750
Trade receivables 6,850
Less provision for doubtful debts 137
6,713
Other receivables 250
Bank 22,009
Cash 1,376
58,098
FINANCED BY
Capital Accounts
A Adams 30,000
J Beeson 20,000
50,000
Current Accounts
A Adams 209
J Beeson 2,349
2,558
52,558
10
CHAPTER 5 Changes in partnerships
5.1 (a) • Goodwill can be defined as the difference between the value of a business as a whole, and the net value of its
separate assets and liabilities.
• Goodwill is used when changes are made to partnerships, eg the admission of a new partner or retirement of an
existing partner.
• The principle is that the agreed value of goodwill is shared amongst those partners who created the goodwill, and
is then charged to new partners as a premium for joining an established business.
• It is normal practice not to record goodwill on a partnership statement of financial position – this follows the
concept of prudence.
5.4 (a)
30,000 30,000
(b) Goodwill can be defined as the difference between the value of the business, and the net value of the separate
assets and liabilities.
11
5.7 (a)
Dr Revaluation Account Cr
20-4 £ 20-4 £
31 Aug Capital accounts: 31 Aug Non-current assets (£74,000 – £50,000) 24,000
Reena (4/8) 12,000
Sam (2/8) 6,000
Tamara (2/8) 6,000
24,000 24,000
Dr Goodwill Account Cr
20-4 £ 20-4 £
31 Aug Capital accounts: 31 Aug Capital accounts:
Reena (4/8) 8,000 Reena (1/2) 8,000
Sam (2/8) 4,000 Tamara (1/2) 8,000
Tamara (2/8) 4,000
16,000 16,000
(b)
REENA AND TAMARA
STATEMENT OF FINANCIAL POSITION OF AS AT 1 SEPTEMBER 20-4
£
Non-current Assets (£50,000 + £24,000) 74,000
Current Assets 10,000
Bank (£25,000 – £22,000) 3,000
87,000
Trade payables (10,000)
77,000
Capital Accounts
Reena 45,000
Tamara 32,000
77,000
12
5.9
6.1 The report and accounts of a public limited company is available to every shareholder and contains the main elements of
financial statements:
• income statement (also known as a ‘statement of profit or loss’)
• statement of financial position
• statement of cash flows
• statement of changes in equity
• notes to the financial statements, including a statement of the company’s accounting policies
• directors’ report
• auditors’ report
6.3
Internal External
stakeholders stakeholders
Customers 4
Shareholders 4
Local community 4
Employees 4
13
6.5 (a) The published income statement of a limited company does not have to detail every single overhead or expense
incurred. However, IAS 1, Presentation of Financial Statements, requires that certain items must be detailed on the
face of the income statement, including:
• revenue
• finance costs
• tax expense
IAS 1 states that further detail may be needed to give information relevant to an understanding of financial
performance.
The income statement concludes by showing the profit or loss for the period after tax.
(b) For the income statement, expenses must be analysed either:
• by nature (raw materials, employee costs, depreciation, etc), or
• by function (cost of sales, distribution expenses, sales and marketing expenses, administrative expenses, etc)
The analysis selected will depend on which provides the more reliable and relevant information – the analysis by
nature is often appropriate for manufacturing companies, while the analysis by function is commonly used by trading
companies.
As Presingold plc is a trading company, the analysis by function would seem to be more appropriate.
14
6.11
MITHIAN PLC
INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-2
£ £
Revenue 2,640,300
Opening inventory 318,500
Purchases 2,089,600
2,408,100
Less Closing inventory 340,600
Cost of sales 2,067,500
Gross profit 572,800
Less expenses:
Distribution expenses 216,320
Administration expenses (note 1) 229,080
445,400
Profit/(loss) for the year from operations 127,400
Less Finance costs 20,000
Profit/(loss) for the year before tax 107,400
Less Tax 30,000
Profit/(loss) for the year after tax 77,400
15
MITHIAN PLC
STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 20-2
Current Assets
Inventory 340,600
Trade and other receivables 415,800
Cash and cash equivalents 20,640
777,040
EQUITY
Issued Share Capital
Ordinary shares of £1 each, fully paid 200,000
Capital Reserve
Share premium 40,000
Revenue Reserve
Retained earnings 120,650
TOTAL EQUITY 360,650
Working note 1 £
Administration expenses 220,180
Irrecoverable debts 8,900
229,080
16
6.13 C
6.15
POLBREEN LTD
(b) Equity £ £
(i) (ii)
Ordinary shares of 25p each W1 1,120,000 1,120,000
Share premium nil 90,000
Revaluation reserve 90,000 nil
Retained earnings 215,000 215,000
1,425,000 1,425,000
Tutorial note: either answer (i) or (ii) is correct – both share premium and revaluation reserve are capital reserves and
can be used for the bonus issue in order to keep retained earnings at their highest level.
17
CHAPTER 7 Statement of cash flows
7.2 B
7.4 A
7.9
WILLIAMS LIMITED
STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 30 SEPTEMBER 20-6
£ £
Profit from operations (Working) 14,500
Depreciation 11,600
Increase in inventory (3,800)
Increase in trade receivables (4,200)
Increase in trade payables 7,100
Cash from operating activities 25,200
Interest paid (2,200)
Tax paid (1,500)
Net cash from operating activities 21,500
Investing activities
Purchase of non-current assets (10,000)
Net cash used in investing activities (10,000)
Cash flows from financing activities
Repayment of non-current liabilities (bank loan) (7,000)
Dividends paid (8,200)
Net cash used in financing activities (15,200)
Net decrease in cash and cash equivalents (3,700)
Cash and cash equivalents at beginning of year (1,000)
Cash and cash equivalents at end of year (4,700)
18
Working for profit from operations
8.4 D
8.5 A
8.6 (a)
ABC plc XYZ plc
• Dividend yield 10% 2%
• Earnings per share 30p 36.7p
• Price earnings 5 10.9
• Dividend cover 2 4.6
(b) (1) XYZ plc is the better company for capital growth: less than a quarter of its earnings is paid out as dividends – the
rest is retained in the company to build for the future, which should be reflected in its share price in the years to
come.
(2) ABC plc has a much higher dividend yield than XYZ and is the better company for income. Nevertheless, ABC retains
half of its earnings, which should help its share price in the future.
19
8.11 (a)
REPORT
To: Louise Forsythe
From: AQA Accounting student
Subject: Shareholding in Kingham plc
Date: Today
(b)
Louise should be advised to consider maintaining her shares since, while gross profit margin has
deteriorated, profit in relation to revenue and return on capital employed have both improved. The company
is in a better financial position with reduced capital gearing and higher interest cover – both of these make
the company less risky.
Before making a final decision she should seek further financial information from the company.
20
8.12 (a) Relative performance of Gresham plc
Capital gearing is worse
• The percentage of non-current liabilities has increased in relation to the equity and non-current liabilities.
• This is evidenced by the positive cash flow shown for ‘Financing activities’ which, although it could have
represented a share issue, is more likely to be a loan raised.
• The higher the capital gearing percentage, the less secure will be the financing of the company and, therefore,
the future of the company.
• The increase from 34% to 42% is below the 50% level, above which investors and lenders would become
concerned, but could restrict the ability of the company to raise significant finance through loans in the future.
Current ratio is worse
• The balance of current assets to current liabilities has weakened – either fewer current assets or more current
liabilities.
• The current ratio has fallen below the acceptable ratio of 2:1 for a ‘traditional’ business, however many
businesses are able to work with a lower ratio when cash sales form a significant part of revenue.
• The statement of cash flows shows a decrease in cash and cash equivalents, a component of the current ratio.
• It seems likely that Gresham plc has purchased more non-current assets – this is supported by the ‘Investing
activities’ section of the statement of cash flows. While most of the cost of these new non-current assets will
have come from ‘Financing activities’ (ie a share issue or a loan raised), it is likely that some money from the
bank account has also been used, which has put a strain on the current ratio.
Interest cover is worse
• Gresham plc is more risky/there is less profit to meet finance costs.
• It may be more difficult to obtain finance in the future and there is likely to be a greater volatility of profits for
ordinary shareholders.
• This could be caused by lower profit from operations and/or higher finance costs.
• Gresham plc may have taken out more loans during the year – this is a possible explanation for the positive
cash flow shown for ‘Financing activities’ and the increase in the capital gearing percentage.
(b) Lenders
The profits indicate that they will be paid their finance charges; also the profits mean the company should not fail, so
they will be repaid their loans when they are due.
(c) Employees
The profits mean they are put into a better bargaining position for a pay rise. Employees may also be in a company
share scheme, so a prosperous company will make their shares worth more. The future growth of the company should
mean that their jobs are safe.
21
CHAPTER 9 Accounting regulations and ethics
9.1 D
9.7
Statement Fundamental principle of
ethical behaviour
The manager of an accountancy firm arranges appropriate training and supervision Professional competence
for staff and due care
An accountant suggests to a prospective client that the client’s current accountants Professional behaviour
are providing a poor service
An accounting report contains a misleading statement Integrity
An accountant must avoid situations that unduly influence professional judgement Objectivity
An accountant discusses the financial results of a client’s business with friends Confidentiality
9.9 The relevant fundamental principle of ethical behaviour is integrity. An accountant must not be associated with reports,
returns, communications, or other information that:
• contains false or misleading statements
• contains statements or information furnished recklessly
• omits or obscures information so as to be misleading
9.13 (a) Self-interest threat – Paul faces a self-interest threat to his fundamental ethical principles from the offer of the
corporate box at the rugby club. He must be careful to ensure that his judgement and behaviour are not influenced
by this.
Intimidation threat – Tom Hardy is putting time pressure on Paul to complete the work within the next week.
(b) Objectivity – as Paul has an interest in completing the work within the time available his objectivity may be
threatened.
Professional competence and due care – if Paul is put under time pressure to complete the work allocated to him
this may threaten his ability to carry it out competently and with appropriate due care.
(c) Paul should ensure that the offer is available to all members of staff, so that he is not getting preferential treatment.
He should also make it clear to Tom Hardy that, if he accepts the offer of the corporate box, it will not influence any
decisions he is asked to make.
Paul must ensure that he has adequate time to complete the work he has been allocated and if he does not then he
should request additional help to complete the work or inform Tom Hardy that the work will be delayed.
9.14 (a) For both Tom and Johanna this situation threatens their objectivity and confidentiality.
(b) The offer that the managing director has made constitutes an inducement, which he is offering in an attempt to
obtain confidential information. Tom cannot inform higher management in the organisation as the inducement has
come from the managing director. Depending on the amount of pressure that is being put on Tom the options
available to him are to:
• take legal advice
• inform a third party such as Tom’s professional accounting body
• tell Johanna, as she would benefit from the inducement
9.16 As Edward has not completed a VAT return before he must not mislead his employer about the extent of his expertise. He
must explain that he would like to take responsibility for this work but will need some training from an experienced member
of staff the first time that he works on the VAT return. His work should also be reviewed by a more senior member of staff
until he is confident that he has the necessary expertise.
He should not complete the VAT return without the necessary expertise.
22
9.17 Will has a duty of confidentiality to his client, therefore he cannot disclose the financial information that Rachel has
requested. In order for him to do so he would have to obtain authority from his client, which is very unlikely to be given.
9.20 There is an ethical issue here and John must take steps to resolve it:
1. The relevant facts
John is aware that New Glaze Ltd has liquidity problems. However, he is being asked to confirm to a potential
purchaser of the company that it has no liquidity problems.
2. The ethical issues involved
John is being asked to provide information that he knows to be incorrect to Clear Glass Ltd.
3. The fundamental principles
Integrity – John must be honest when he is providing the information to Clear Glass Ltd and must not let New
Glaze Ltd’s request affect this.
Objectivity – he must not allow the request from the directors of New Glaze Ltd to affect his professional
judgement.
Professional behaviour – he must avoid bringing the accountancy profession into disrepute by agreeing to the
request.
4. The established internal procedures
It is most likely that Maxwell and Payne’s internal procedures will require John to discuss this issue with the senior
partners. It is very important that the issue and the discussion are documented.
5. Alternative courses of action
• John must advise the directors of New Glaze Ltd that if Clear Glass Ltd contacts Maxwell and Payne he must
reply honestly to its request for information.
• He must ensure that he keeps the senior partners of Maxwell and Payne fully informed of the situation.
23
CHAPTER 10 Management accounting: the use of budgets
10.3 C
10.6 (a)
(b) £17,500
10.8 (a)
JIM SMITH
CASH BUDGET FOR THE SIX MONTHS ENDING 30 JUNE
24
Notes:
• no depreciation – a non-cash expense – is shown in the cash budget
• customers pay one month after sale, ie trade receivables from January settle in February
• suppliers are paid one month after purchase, ie trade payables from January are paid in February
(b) The cash budget shows the maximum bank overdraft to be £3,000 in May.
Jim Smith could avoid the need for a bank overdraft in one or more of the following ways (the question asks for two
ways):
• by commencing his business with a higher initial capital, eg £13,000
• by buying the van on hire purchase or leasing instead of outright purchase
• by reducing his purchases to £3,000 for each of January and February
• by asking his suppliers for two months’ credit for the initial purchases of £4,500 made in January
• by asking his customers to pay more quickly
10.10 (a)
ANTONIO’S SPECIALITY FOOD SHOP
CASH BUDGET FOR THE SIX MONTHS ENDING 28 FEBRUARY 20-2
Workings
Cash to trade payables (with cash discount)
• November: £10,000 + £10,000 (half of December’s sales in advance) = £20,000 ÷ 2 = £10,000 x 75% = £7,500 x 0.98
(2% cash discount) = £7,350 paid in November.
• December: £10,000 ÷ 2 = £5,000 x 75% = £3,750 x 0.98 = £3,675 paid in December.
25
(b)
ANTONIO’S SPECIALITY FOOD SHOP
BUDGETED INCOME STATEMENT FOR THE SIX MONTHS ENDING 28 FEBRUARY 20-2
£ £
Revenue 58,000
Opening inventory 5,000
Purchases *43,500
48,500
Less Closing inventory 5,000
Cost of sales 43,500
Gross profit **14,500
Add Discount received 435
14,935
Less expenses:
Wages, rent and expenses 12,000
Depreciation of non-current assets
(15,000 x 10%) ÷ 2, ie six months 750
12,750
Profit for the period 2,185
£ £
Non-current Assets
At cost 15,000
Less Depreciation 3,750
Carrying amount 11,250
Current Assets
Inventory 5,000
Trade receivables 600
Bank 1,335
6,935
Less Current Liabilities
Trade payables 2,250
FINANCED BY
Capital 13,750
Add Profit for the period 2,185
15,935
26
(c) The cash budget shows that Antonio will exceed the bank manager’s proposed overdraft limit of £3,500 in November
and December.
Antonio could keep within an overdraft limit of £3,500 in one or more of the following ways:
• by increasing his capital by £1,000
• by borrowing £1,000 from a friend or relative
• by buying the extra inventory in early December rather than in November
• by asking his suppliers for two months’ credit in November and December
• by restricting his credit sales to 10% of sales in November and December
10.11 (a) CASH BUDGET OF RAJ, SAM AND TAM FOR APRIL, MAY AND JUNE
Receipts
Fees – Raj W1 16,275 13,730 12,850
Fees – Sam W2 10,820 12,350 11,275
Fees – Tam W3 8,380 7,365 6,660
Total receipts for month 35,475 33,445 30,785
Payments
Operating expenses minus depreciation 16,225 16,225 16,225
Purchase of car 30,000
Drawings – Raj 5,400 3,000 4,800
Drawings – Sam 2,500 3,750
Drawings – Tam 1,800 2,250
Bank interest W4 78
Total payments for month 25,925 52,975 23,353
Net cash flow 9,550 (19,530) 7,432
Opening bank balance (overdraft) 2,180 11,730 (7,800)
Closing bank balance (overdraft) 11,730 (7,800) (368)
Workings
April May June
W1 Cash receipts from fees – Raj
March fees 7,275
April fees 9,000 8,730
May fees 5,000 4,850
June fees 8,000
16,275 13,730 12,850
27
(b) Bank overdraft
• An overdraft is a flexible financing arrangement which, although intended more to cover the net current asset
requirements of a business, works here for the purchase of the car.
• The cash budget for the three months show a maximum overdraft of £7,800 in May, reducing to £368 in June.
If there is a positive net cash flow in subsequent months, the overdraft will be eliminated and total interest
charged should be less than £100.
• The risks are that an overdraft is repayable on demand, (although the bank may not ask for repayment) and
that the interest rate charged will increase.
Bank loan
• A loan is finance provided for a specific purpose – here for the purchase of a car.
• The loan period is for four years, which seems appropriate for a car – if it is sold earlier there will be a facility
to repay the outstanding balance.
• Here the bank is offering to loan 80% of £30,000 = £24,000, with RST & Co paying £6,000 of the cost
immediately. This latter amount will not cause the bank account to go into overdraft.
• Interest on the loan will be £24,000 x 5% = £1,200 in the first year.
• The advantage of a bank loan is that monthly repayments will be for a set amount which can be budgeted for.
Conclusion
• The bank overdraft is the cheaper route for purchasing the car, although this will cause short-term use of the
bank overdraft facility.
• The bank loan offers fixed repayments, with less pressure on the bank balance, but the interest charged is
more costly.
Tutorial note: sources of finance available to businesses are covered in Accounting for AQA: AS and A-level year 1,
Chapter 13.
11.1 C
11.3 A
11.4 (a) • cost units – units of output to which costs can be charged
• cost centres – sections of a business to which costs can be charged
(b) Suggestions to include:
COST UNIT COST CENTRE
• firm of accountants client hour partner in firm
tax department
administration
28
11.5 Suggestions to include:
1. Sections of a theatre which could be used as cost centres:
Productions
Bar
Confectionery
Printing and advertising (or marketing)
Box office, stewarding and programme sales
Administration
Maintenance and cleaning of buildings
• COOK-IT LIMITED
INCOME STATEMENT: 10,000 BARBECUES
£ £
Revenue (10,000 x £90) 900,000
Direct materials (10,000 x £30) 300,000
Direct labour (10,000 x £25) 250,000
PRIME COST 550,000
Overheads (fixed) 150,000
TOTAL COST 700,000
PROFIT FOR THE YEAR 200,000
29
11.9 (a)
ACTIVTOYS LIMITED
INCOME STATEMENT FOR THE YEAR ENDED 31 DECEMBER 20-1
30
11.10 (a)
DURNING LIMITED
INCOME STATEMENT FOR THE MONTH ENDED 30 APRIL 20-4
Working notes:
Closing inventory is calculated on the basis of this month’s costs:
marginal costing, variable costs only, ie £0.80 + £1.60 = £2.40 per unit x 2,000 units = £4,800
absorption costing, variable and fixed costs, ie £34,000 ÷ 10,000 units = £3.40 per unit x 2,000 units = £6,800
(b) The difference in the profit figures is caused only by the closing inventory figures: £4,800 under marginal costing, and
£6,800 under absorption costing. With marginal costing, the full amount of the fixed production overheads has been
charged in this month’s income statement; by contrast, under absorption costing, part of the fixed production
overheads (here £10,000 x 20%* = £2,000) has been carried forward in the inventory valuation.
* 2,000 units in inventory out of 10,000 units manufactured
31
11.12 (a) Activity based costing is a costing method which attributes overheads to output on the basis of activities. The cost per
unit of a product can be calculated based on its use of activities.
The steps to applying activity based costing are:
1. The overhead costs which are incurred by the same activity are grouped together in cost pools, eg the costs
of purchasing goods to be used in production.
2. The cost driver – the factor which influences the costs – is then identified, and the rate for each cost is
calculated, eg the cost of placing a purchase order for goods to be used in production.
3. The rate for each cost is attributed to production, based on the use of the activity, eg if a product requires two
purchase orders to be placed, it will be attributed with the cost of two activities.
(b) • Today’s capital intensive, low-labour industries are very different from older industries which are labour
intensive, or where production requires the use of heavy machinery. Traditionally, older industries have
attributed overheads to output on the basis of direct labour hours, or machine hours. Such methods are not
appropriate for modern, complex methods of production.
• In capital-intensive industries, overheads often form a high proportion of total costs and are complex in nature.
They need to be accounted for in a more sophisticated way than would be the case under absorption costing,
eg absorbing overhead costs under one basis – such as direct labour hours – does not acknowledge the
complex nature of the overheads and production processes.
• Often modern flexible manufacturing methods require short production runs, with the ability to switch from one
product to another at short notice. This is in contrast to older industries where the same product is produced
over a long production run. These differing production methods impact on costs such as setting up equipment,
which will be much larger per unit of output for small production runs than for large ones. Activity based costing
is able to attribute the cost of overheads to output on the basis of activities – something which absorption
costing would not do.
11.13 (a) calculation of weekly overheads for set-ups and quality inspections
£ £
set-ups: product Aye 5 x £250 1,250
product Bee 50 x £250 12,500
13,750
quality inspection: product Aye 5 x £150 750
product Bee 50 x £150 7,500
8,250
TOTAL 22,000
At present the weekly overheads are attributed to output on the basis of labour hours:
£
product Aye (500 hours) 11,000
product Bee (500 hours) 11,000
TOTAL 22,000
(b) activity based costing:
£ £
product Aye
5 set-ups at £250 1,250
5 quality inspections £150 750
2,000
product Bee
50 set-ups at £250 12,500
50 quality inspections £150 7,500
20,000
TOTAL 22,000
32
(c) • By using activity based costing, there is a more accurate reflection of the cost of the activities of set up and
quality inspection.
• The cost of 50,000 units of product Aye is reduced by £9,000 (ie £11,000 – £2,000), while the cost of 50,000
units of product Bee is increased by £9,000 (ie from £11,000 to £20,000).
• This may well have implications for the viability of product Bee, and for the selling prices of both products.
• With marginal costing, the focus is on the contribution – both by product and in total.
• Fixed production costs are treated as a period cost – ie a cost of time (such as a week, as here) rather than being
product related.
Absorption costing
Product Exe Product Wye Total
£ £ £ £ £
revenue 200,000 160,000
less direct materials 60,000 40,000
direct labour 20,000 20,000
PRIME COST 80,000 60,000
fixed production costs *18,000 *18,000
TOTAL COST 98,000 78,000
equals profit for the week 102,000 82,000 184,000
* 2,000 direct labour hours for each product per week, so fixed production costs are £36,000 ÷ 2 = £18,000 per product.
• With absorption costing, the focus is on profit – both by product and in total.
• Overhead costs are absorbed by production before profit is calculated.
• With activity based costing, which is a development of absorption costing, the focus is on identifying the
overhead costs for a particular activity.
• It gives more accurate costing information and shows that smaller batches (as here with product Wye) cost
33
more to produce.
11.17 Advantages of using absorption costing to calculate a selling price:
• As absorption costing calculates a total cost – variable costs and fixed costs – all overheads are recovered in the
selling price.
• Overhead absorption rates are often based on either machine hours or labour hours – whilst these may not be
entirely accurate, they provide a reasonable estimate of overhead costs.
• The percentage cost-plus mark-up can be varied to suit market conditions but, provided the business sets selling
price above total cost, a profit will be made.
Advantages of using activity based costing to calculate a selling price:
• Activity based costing produces more accurate cost information than absorption costing because cost drivers are
used to identify the activity which causes costs to be incurred.
• It is more objective than absorption costing because it is able to identify, and differentiate between, the overhead
costs relating to different products.
• It leads to the more accurate calculation of selling prices because overhead costs are analysed to the products
which use the activities.
12.2 B
12.6 (a)
OVERHEAD ANALYSIS SHEET
FOR JANUARY 20-8
Accountancy department Management department
Budgeted total overheads (£) 22,143 17,251
Budgeted lecturer hours 1,525 1,300
Budgeted overhead absorption rate (£) 14.52 13.27
(b)
OVERHEAD ANALYSIS SHEET
COURSE: FINANCE FOR MANAGERS
Accountancy department Management department
Lecturer hours 45 20
Budgeted overhead absorption rate (£) 14.52 13.27
Overhead absorbed by course (£) 653.40 265.40
34
(c) 35 hours x 47 weeks = 1,645 direct labour hours per employee
Machining Dept: 6 employees = 9,870 hours = £5.12 per direct labour hour
Finishing Dept: 3 employees = 4,935 hours = £4.75 per direct labour hour
(d) Depending on the method and type of production, the company is most likely to use overhead absorption rates based
on:
• direct labour hours, or
• machine hours
The OAR selected may vary from one department to another, depending on whether departments are labour-intensive
or machine-intensive. The labour hour rate is a popular method because overheads are absorbed on a time basis.
However, the machine hour is particularly appropriate where expensive machinery is used in a department.
12.11 (a) Direct labour hour: (3 hours x 80 seats) + (3.5 hours x 40 seats)
= 380 direct labour hours per month = £2.63 per hour (£1,000 / 380 hours).
Machine hour: (1 hour x 80 seats) + (2.5 hours x 40 seats)
= 180 machine hours per month = £5.56 per hour (£1,000 / 180 hours).
(c) The machine hour rate charges most to 'de luxe' model. On balance, direct labour hours may be the best method to
use because the products are more labour-intensive than machine-intensive.
12.13
Total Day care Surgical Operating Administration
ward ward theatre
£ £ £ £ £
Overheads 112,195 28,750 42,110 32,260 9,075
Administration – 1,650 4,125 3,300 (9,075)
35,560 –
Operating theatre – 20,320 15,240 (35,560) –
112,195 50,720 61,475 – –
12.14
35
12.15 (a)
Fixed overheads for Basis of Total New car sales Used car sales Servicing Administration
four weeks ended apportmnt
28 April 20-4 £ £ £ £ £
Depreciation of non-current Carrying
assets amount 8,400 2,100 1,260 4,200 840
36
Other property overheads Floor space 4,500 1,800 1,350 900 450
(b) Budgeted fixed overhead absorption rate for the servicing centre:
£23,575 ÷ 1,025 hours = £23.00 per direct labour hour
12.17 (a)
Machining £ Finishing £
Budgeted overhead absorption rate 14.50 per hour 18.75 per hour
(c)
Overheads Overheads Difference Under/over
incurred absorbed absorbed absorption
£ £ £
Finishing department 26,550 27,550 1,000 over-absorption
13.2 B
13.4 A
13.6 B
13.7 (a) Standard costing sets the planned cost for materials, labour and overheads in a period of time.
Many businesses establish a standard or budgeted cost for their output in advance of production. Standard costs can
then be compared with actual costs and variances calculated.
(b) The main advantages of standard costing are that it can be used:
• to help with decision-making – for example, with price setting
• to assist in planning – for example, to plan the quantity and cost of resources needed for production
• as a means of controlling costs – standard costs are compared with actual costs and variances calculated so
that action can be taken by the responsible manager or department when appropriate
13.10
£ p £ p £ p £ p
Material price variance 120.00 FAV 200.00 ADV 500.00 FAV 250.00 ADV
Material usage variance 100.00 ADV 400.00 FAV 1,000.00 FAV 100.00 FAV
Materials variance 20.00 FAV 200.00 FAV 1,500.00 FAV 150.00 ADV
13.11
£ p £ p £ p £ p
Labour rate variance 7.00 ADV 4.00 ADV 15.00 FAV 15.00 ADV
Labour efficiency variance 10.00 FAV 15.00 ADV 72.00 ADV 48.00 ADV
Labour variance 3.00 FAV 19.00 ADV 57.00 ADV 63.00 ADV
37
13.12 (a) Material price variance
800 kg x (75p – 80p) = £40 ADVERSE
Material usage variance
75p per kg x (900 kg – 800 kg) = £75 FAVOURABLE
TOTAL MATERIALS VARIANCE £675 – £640 = £35 FAVOURABLE
Labour rate variance
140 hours x (£10 – £11) = £140 ADVERSE
Labour efficiency variance
£10 per hour x (150 hours – 140 hours) = £100 FAVOURABLE
TOTAL LABOUR VARIANCE £1,500 – £1,540 = £40 ADVERSE
(b) • the managers responsible for each section of the business will be asked to explain the reason for any
significant variances of their section
• the buying department should explain the 5p per kilo adverse variance in the cost of materials – perhaps better
quality materials have been purchased, or there has been a price increase, or there has been an adverse
exchange rate fluctuation
• the production department should explain the favourable variance in materials usage – perhaps better quality
materials have been used with less wastage, or the workforce is better trained in using the materials
• the human resources department will need to explain the £1.00 per hour higher labour rate – perhaps there
has been a pay rise; alternatively, overtime rates may have had to be paid, which the production department
will be asked to explain
• the production department should be asked to explain the favourable variance in labour efficiency – perhaps
more use has been made of machines, or the workforce is better trained, or better quality materials have been
used
• it may be that variances are linked, eg more expensive materials have less wastage; skilled employees (on
higher pay rates) work more efficiently
• corrective action may need to be taken in some areas despite the overall favourable variance in total cost
(c)
ZELAH LTD
SALES RECONCILIATION STATEMENT FOR THE YEAR
£
BUDGETED sales (20,000 UNITS AT £5 each 100,000
Sales volume variance (ADV) (10,000)
Sales price variance (FAV) 18,000
Actual sales (18,000 UNITS AT £6 each) 108,000
38
(d) Sales price variance:
– higher selling price than expected
– less competition, or
– smaller discounts offered to customers
13.15 D
14.3 C
14.4 B
39
(b)
REPORT
To: Managing Director
From: AQA Accounting Student
Date: Today
40
14.9 (a)
THE CHESTER CARPET COMPANY
Working paper for the financial appraisal of a new machine
for the production department
PAYBACK PERIOD
Year Cash flow Cumulative
cash flow
£ £
0 (65,000) (65,000)
1 17,000 (48,000)
2 25,000 (23,000)
3 31,000 8,000 £23,000* required
4 28,000 36,000
* £31,000 – £8,000
(b)
REPORT
To: General Manager
From: AQA Accounting Student
Date: Today
41
14.10 (a) The net cash flows are:
£
year 0 (110,000)
year 1 20,000
year 2 60,000
year 3 80,000
year 4 80,000
year 5 85,000
Payback period
The development costs are recovered in the first half of year 3: £20,000 + £60,000 + (£30,000/£80,000). Thus the
payback period is 2 years and 4.5 months/2 years and 19.5 weeks/2 years and 136.9 days. Note that these assume
even cash flows during the year.
42
(b)
REPORT
To: Managing Director
From: AQA Accounting Student
Subject: Development of new product
Date: Today
This report carries out an appraisal of the ‘Zelahcold’ project, based on the information provided.
It would be relevant to know:
1. whether there are any additional cash flows beyond year 5
2. whether the introduction of ‘Zelahcold’ will affect sales of our existing products
The net present value technique relies on discounting relevant cash flows at an appropriate rate of return –
10 per cent for this project.
The proposal to develop the new product is acceptable from a financial viewpoint because it returns a positive
net present value of £125,245 at a discount rate of 10 per cent. This calculation assumes that all cash flows
occur at the end of each year.
The payback period is 2 years and 4.5 months/19.5weeks/136.9 days. These calculations assume even cash
flows during the year.
Both project appraisal methods show that the project meets with the company’s criteria of:
• a positive net present value at a discount rate of 10 per cent, and
• a maximum payback period of three years
These show that, from a financial viewpoint, the project should be carried out.
14.12 A
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