2007 AL P.II No. 1
ZigZag Company manufactures a variety of furniture. It adopts the job order costing system
in which a predetermined manufacturing overhead absorption rate is applied based on direct
labour hours. The budgeted total manufacturing overhead and direct labour hours for the year
ended 31 December 2006 were $300 000 and 50 000 hours respectively. The actual manufacturing
overhead for 2006 was spent as budgeted, but 62 500 direct labour hours were used.
Job # 123 for the production of 100 display frames was accepted in a hurry at a price of
$150 000 towards the financial year end 31 December 2005 and the order was carried out in
2006. The following shows the Estimated and actual cost information of Job # 123:
Estimated cost Actual cost Overspent
$ $ $
Direct material 75 000 88 000 13 000
Direct labour 50 000 50 000 —
Manufacturing overhead- applied at $6 per hour 12 000 15 000 3 000
Designer’s cost- allocated at $200 per hour 800 1 000 200
Total cost 137 800 154 000 16 200
The cost estimate was prepared by a salesman in compliance with the company’s standard costing policy.
The General Manager was very unhappy with the overspending. He held that the production manager should be accountable for the overspending of $16 200 for Job # 123.
Additional information relating to Job # 123:
(i) The standard cost of direct material is $30 per metre. The actual direct material cost included an unexpected additional delivery charge of $2 per metre incurred for special transport arrangements made during a typhoon.
(ii) In this rushed order, there was an unexpected material waste of 10% during production.
(iii) The standard cost of direct labour is $25 per hour. As there was an over-supply of labour in the market during the year, the pay rate dropped by 20%.
(iv) Designer’s time for job #123 was planned at 4 hours but ultimately 5 ours were spent. The designer’s total number of actual working hours in 2006 had increased to 125% of the budgeted level. The designer was paid at $32 000 per month as budgeted. Designer’s cost was to be allocated to various jobs based on actual rate and actual hours.
You are required to:
(a) Prepare a variance analysis for the direct material and direct labour of Job #123. (8 marks)
(b) Explain whether it is fair for the General Manager to hold the production manager accountable for the overspending on the following:
(i) Direct material
(ii) Manufacturing overhead applied (6 marks)
(c) Comment on the allocation of designer’s cost of $1000 to Job #123. (2 marks)
Suppose that for the purpose of preparing the 2007 budgeted, the direct labour hours available and the manufacturing overhead estimates would remain the same as those budgeted in 2006. However, 3000 idle labour hours are expected in 2007.
You are required to:
(d) Calculate ( to two decimal places) the budgeted manufacturing overhead absorption rate in 2007. Explain your answer. (3 marks)
From 1 September 2006, ZigZag Company started purchasing a single model of folding chairs
for resale and adopts the perpetual inventory system. As at 31 December 2006, accounting
records indicated closing stock of chairs as follows:
Purchases
/Issues
/Closing Stock
Date Quantity Cost ($) / Date Quantity / Quantity Cost ($)1 September 06 3 000 75 000 / 1 October 2006 2 000 / 1 000 25 000
5 November 06 5 000 155 000 / 5 000 155 000
10 December 06 2 000 76 000 / 2 000 76 000
8 000 256 000
Year-end physical stock count showed that there were only 6000 chairs in stock. Subsequent
Investigation revealed that 1600 chairs had been returned to the suppliers on 6 November
2006, but the inventory record had not been updated. The stock of chairs as at 31 December
2006 would be repackaged at $2 each and sold in the market at $35 each. The replacement cost
of the packaged chairs was $40 each.
You are required to:
(e) Calculate the closing stock value as at 31 December 2006 assuming that ZigZag Company adopts the following stock valuation method:
(i) first-in, first-out
(ii) weighted average (7 marks)
(f) Explain two reasons why the first-in, first-out method of stock valuation is preferred to last-in, first out method. (4 marks)
2007 AL P.II No. 2
Starry Ltd had the following information for preparing the 2007 master budget for
Product X:
Selling price $160 per unit
Direct material 0.5 kg per unit at $48 per kg
Direct labour 5 hours per unit at $15 per hour
In the production process, only the following three typed of factory overheads are incurred, each of which demonstrating a different cost behaviour. The maximum production capacity was 30 000 units. Information relating to factory overheads at different levels of production was shown as follows:
Level of production (units) 15 000 18 000 21 000 24 000 27 000 30 000
$ $ $ $ $ $
Factory overheads- Type 1 180 000 180 000 (i) 180 000 180 000 180 000
Type 2 240 000 240 000 240 000 300 000 (ii) 300 000
Type 3 355 000 400 000 445 000 (iii) 535 000 580 000
775 000 820 000 ? ? ? 1060 000
You are required to:
(a) Find the missing figures (i) to (iii) in the table above. (4 marks)
(b) Based on your answer to (a), identify and describe the cost behaviour for each of the three types of factory overheads. (3 marks)
(c) Calculate the contribution per unit of Product X and the total budgeted gross profit for the year 2007 at the level of maximum capacity. (4 marks)
As a similar product would be launched in the market in early 2007 by a competitor, it was estimated that the sales, and the selling price per unit, of Product X for 2007, 2008, 2009 would be reduced to 28 000 units at $155 each, 26 000 units at $150 each and 24 000 units at $145 each respectively.
One coping strategy is to acquire a patent for a new technology for the production of modified Product X, X+ which will be launched in January 2008 to replace the original Product X. The patent is to be paid by a lump sum payment of $1 200 000 in January 2007. It is estimated that the annual sales volume and selling price per unit of Product X+ can be maintained at 30 000 units and $160 respectively in 2008 and 2009. If Product X+ is produced, there will be no change in variable cost per unit and fixed factory overheads. Nor is any additional machinery required. However, a marketing executive will be employed from January 2008 onwards at $200 000 per year. If Product X+ is not produced, the surplus capacity will be left idle.
All the existing machines were purchased in 2002 at a cost of $1 200 000. The depreciation of $150 000 per year was include in fixed factory overheads. The product life of Product X and Product X+ would end in December 2009.
The cost of capital to Starry Ltd was 10%.
You are required to:
(d) Supporting with net present value calculations, advise Starry Ltd whether it is worthy to spend $1 200 000 to acquire the patent. ( Note: Assume that the lump sum payment is paid on the first day of 2007 whereas the revenue/costs will be received/paid at the end of each year. Calculations, where appropriate, should be based on the discounting factors given in the Appendix. Correct all amounts to the nearest dollars.) (7 marks)
(e) Explain why the cost of machinery and the related depreciation respectively is, or not, included in your calculations above. (3 marks)
Finally, Starry Ltd abandoned the idea of acquiring the patent. As only 28 000 units of Product
X would be produced in 2007, there was surplus capacity to produce for other companies. At
the end of 2006, Starry Ltd received production requests from three companies as follow:
Company A Company B Company C
Product A Product B Product C
Units required 2000 2000 2000
Contracted price per unit $133 $115 $100
Raw material usage per unit 0.5 kg 0.5 kg 0.5 kg
Raw material price per kg $48 $48 $48
Direct labour hours per unit 5 hours 4 hours 3 hours
Labour rate per hour $15 $15 $15
Variable overhead per unit $4 $4 $4
The maximum capacity of labour hours for 2007 would be 150 000 hours and Starry Ltd could choose to produce less than the required units of each of the three companies.
You are required to:
(e) To maximize the total contribution of Starry Ltd, calculate the number of units to be produced for each of the three companies and their respective contributions.
(9 marks)
2007 AL P.II No. 3
3. Ibex Company sells mountaineering supplies and the following relate to its first year of operation ended 31 December 2006:
50 samples costing $1250 each were given out in a sales promotion campaign to 50 customers for trial use for one month. Each of them paid $1000 for the sample. If a customer returned the sample in good condition, he could get back the $1000 cash. At year end, the status of these samples were as follows:
(1) 40 samples were returned with full refund of $1000 each given.
(2) 6 samples were reported as damaged. It was confirmed that they were not eligible for the cash refund and hence were kept by the customers.
(3) 4 samples were still within the one-month trial period and had not been returned by the customers.
All the returned samples were kept in the warehouse and would be sold to the staff at $300 each in the following year. The bookkeeper recorded only the $50 000 received as ‘deposits received from customers’.
You are required to:
(a) Calculate the cost of the sales promotion campaign to be accounted for in 2006, discuss the appropriate accounting treatment for the above. (10 marks)
Ibex Company spent $5 million during the year for acquired a patent from a famous scientist. The
patent had a remaining legal life of 8 years and was applied to a new Product X which was expected to
generate revenue for 5 years starting from 2006. $2 million was spent on exploring ideas for
developing a trademark for a future Product Z. It was estimated that the design would be finalized by
June 2007.
The total cost of $7 million had been capitalized as an intangible asset and amortised on a straight line
basis over 8 years. It is the company’s policy to provide a full year amortisation in all the relevant
financial years.
You are required to:
(d) Discuss the capitalization of the two expenditures, suggesting alternative accounting treatments where appropriate. (5 marks)
In December 2006, Ibex Company signed a contract with Youth Association for providing trainers and
the necessary suppliers for a mountaineering course held by the Association from March to May 2007.
The course fee is $2500 per person. Ibex Company would receive a lump sum of $30 000 plus 20% of
the gross fee. The lump sum fee would be received in two equal, non-refundable instalments - the first
on the day when the agreement was signed and the second upon completion of the course. At 31
December 2006, the Youth Association was still accepting applications and a total enrolment of 100
persons was expected. Ibex Company recorded the amount received of $15 000 as ‘other income’.
You are required to:
(c) Discuss the income recognition of the mountaineering course for the year ended 31 December 2006 in the books of Ibex Company, suggesting alternative accounting treatments where appropriate. (5 marks)
2007 AL P.II No. 4
4. Arno Company manufactures and sells bottled milk, which is currently selling at $6 per bottle. The
production mainly involves Process A which prepares pasteurised milk for bottling. Material is introduced at the start of Process A. Conversion costs are fixed per month and are assumed to be incurred evenly throughout the process. The following information relates to Process A in March 2007:
Opening work in progress 40 000 litres ( 60% completed), with materials $120 000 and conversion $ 15 000
Units started in the month 160 000 litres
Material cost $480 000
Conversion cost $175 000
Closing work in progress 20 000 litres (50% completed)
Normal loss one-sixth of the completed units (identified at the stage of completion)
Pasteurised milk is transferred to the bottling department. Bottling cost of $1.5 was incurred for each bottle,
which contains 1 litre of pasteurized milk. The company adopts the weighted average method for the valuation of
all types of stock.
You are required to:
(a) Draw up the Process A account for the month of March 2007, with separate columns for quantity( in litres)
and cost amounts. (6 marks)
(b) Calculate ( to two decimal places) the contribution per bottle of milk for March 2007. (2 marks)
The management of the company considers extending its business into the yogurt market from September
2007. Pasteurised milk from Process A is to be transferred to Process B for further processing into yogurt,
which is on average selling at $5 per 0.5-litre pack in the market. Each litre of yogurt requires 1.5 litres of
cost will be incurred for the production of yogurt.
For planning purposes, the variable production cost of pasteurized milk from Process A is assumed to be
$3.50 per litre. The fixed conversion cost, bottling cost and selling price of bottled milk remain uncharged.
You are required to: