Topic: Relevant Cost and Revenue

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  • 4 Marks

ICMA – Nov 2024 – L1 – Q3b – Relevant Cost Concepts

Explains two key concepts of relevant cost used in decision-making.

Relevant Cost
Relevant cost should be used for assessing the economic and financial consequences of any decision made by management. Only relevant cost and benefits should be taken into consideration when evaluating the financial consequences of a decision.

Required:
Explain TWO key concepts of relevant cost.

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  • 20 Marks

MA – Mar 2024 – L2 – Q5 – Relevant cost and revenue | Decision making techniques

This question determines the optimal units for in-house production versus outsourcing based on machine hour constraints and relevant cost analysis.

Hwerema Technologies produces various components for telecom companies. The demand for these components is increasing. However, Hwerema Technologies’ production facility is restricted to 50,000 machine hours. Therefore, the company is considering whether to import certain components to make up for the shortfall in production to meet market demand. In this respect, the following information has been gathered:

Factory overheads include fixed overheads estimated at GH¢1.50 per machine hour.

Required:
a) Determine the optimal units to be produced in-house and units to be imported. (16 marks)
b) State FOUR (4) qualitative considerations relevant to make-or-buy decisions. (4 marks)

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  • 20 Marks

MA – Dec 2023 – L2 – Q5 – Relevant cost and revenue | Decision making techniques

This question focuses on relevant costing for a special order and the distinction between marginal and differential costs.

Semenhyia Ltd is involved in the design and manufacture of custom-built factory equipment. The company has just received an enquiry about the supply of 10 machines from one of their regular clients, Kukua Ltd.

Kukua Ltd has informed the company that the maximum price they are willing to pay is GH¢5,200 per machine. The order would need to be completed within two weeks.

The following details relate to the production of the machines:

i) Materials per machine:

  • 10 units of Material A, which is used regularly by the company. The company has 120 units of Material A in stock, which originally cost GH¢120 per unit. The replacement cost of Material A is 20% higher than the original price.
  • 5 units of Material B. The company has 40 units of Material B in stock, as it was purchased a few years ago for use in the production of other equipment, which the company no longer produces. If this material is not used in the production of this order, it would never be used again. The original purchase price for Material B was GH¢190 per unit. The replacement cost is GH¢150 per unit, and the net realizable value is GH¢130 per unit.
  • 3 units of Material C. This material is used regularly and usually costs GH¢85 per unit. However, the earliest delivery time for new stock from the regular supplier is three weeks. An alternative supplier could deliver immediately but would charge GH¢90 per unit. Semenhyia Ltd has 600 units in stock, but 580 units are required to complete other orders over the next two weeks.

ii) Labour hours per machine:

  • 12 skilled labour hours, paid GH¢20 per hour. Skilled workers are part of the permanent workforce, with 125 surplus skilled hours available per month. Skilled workers are paid time and a half for overtime.
  • 22 unskilled labour hours, paid GH¢15 per hour, employed on a casual basis.

iii) Supervision: A supervisor currently paid GH¢56,500 per annum will oversee the project, but a replacement will be hired for the duration of the contract at a cost of GH¢8,500.

iv) Machine hours: Each machine requires 18 hours of processing time on factory equipment. If the order is not accepted, the equipment would be subcontracted to Fimi Ltd for a contribution of GH¢70 per hour.

v) Depreciation: The depreciation charge for using the equipment for this order would be GH¢4,000.

vi) Overheads: Overheads are absorbed at a rate of GH¢35 per skilled labour hour.

vii) Estimate costs: The planning department has incurred costs to date of GH¢600.

Required:

a) Explain relevant cost and state TWO (2) examples of relevant cost in short-term decision-making. (3 marks)

b) Determine, using relevant costing principles, whether or not Semenhyia Ltd should undertake the contract. Your answer must include an explanation for the inclusion or exclusion of each of the above points. (13 marks)

c) Distinguish between “marginal cost” and “differential cost”. (4 marks)

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  • 12 Marks

MA – May 2018 – L2 – Q4a – Relevant Cost and Revenue

Evaluate whether to organize a beauty pageant in-house or outsource to a third party using cost analysis.

PieceJoz FM, a media organization, is considering hosting a two-day beauty pageant in June 2018. The show will be expensive to run and promote. There will be three cash prizes on offer for the pageant, namely:

  • 1st Place – GH¢5,000
  • 2nd Place = GH¢2,000
  • 3rd Place = GH¢1,000.

Other costs will include:

  • Three judges of the show will each be paid GH¢400 per day plus a one-off travel expense allowance of GH¢150.
  • Promotional costs of GH¢3,000 have been spent to date. A further GH¢1,000 per month will have to be incurred for the five months leading up to the pageant and GH¢4,000 in the month of the show.
  • Utility costs incurred each day of the pageant are estimated to follow the function GH¢200 + 5X where X is the number of contestants performing. The council expects 30 contestants per day.
  • Stocks of wood and steel to construct the stage. 400 metres of wood already in stock will be used. This originally cost GH¢20 per metre but will not be replaced. It was due to be sold to an employee at a price of GH¢8 per metre. 60 metres of steel that originally cost GH¢18 per metre is to be used. Steel has a scrap value of GH¢10 per metre. This steel will have to be replaced. The market price of steel has increased to GH¢15 per metre.
  • 140 labour hours to build the stage. Currently, PieceJoz FM maintenance employees are paid GH¢600 each, plus 20% employers’ costs for a 40-hour week. Two such employees will be idle for the week required to build the stage. The remaining labour will be hired in at a casual rate of GH¢10 per hour.

PieceJoz FM expects that:

  • 1,000 people will attend the beauty pageant on the first day and 2,000 on the final day.
  • Daily tickets will sell at GH¢12 per adult ticket and GH¢5 per child ticket. It is expected that ticket sales will be 40% children and 60% adult.
  • An event organizer called Magic Media has submitted a proposal to organize this program on behalf of PieceJoz FM at a fee of GH¢13,100 including utility cost of GH¢900.

Required:
a) Using the information above, advise, from a financial perspective, whether management of PieceJoz FM should organize the beauty pageant or outsource it to Magic Media.

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  • 20 Marks

MA – July 2023 – L2 – Q5 – Relevant cost and revenue, Decision making techniques

Calculate the minimum price for a special order using relevant costing principles, and discuss the relevance of fixed costs in decision-making scenarios.

You are the Management Accountant for Darkoah Publishing Ltd which has been asked to send a quotation for the production of a programme for the local village fair. The work would be carried out in addition to the normal work of the company. Because of existing commitments, employees would be required to work during weekends to complete the printing of the programme. A trainee accountant has produced the following cost estimate based upon the resources required as specified by the production manager:

You are aware that considerable publicity could be obtained for the company if you are able to win this order, and the price quoted must be very competitive.

The following notes are relevant to the cost estimate above: i) The paper to be used is currently in stock at a value of GH¢5,000. It is of an unusual colour and has not been used for some time. The replacement price of the paper is GH¢8,000, whilst the scrap value of what is in stock is GH¢2,500. The production manager does not foresee any alternative use for the paper if it is not used for the village fair programme.

ii) The inks required are not held in stock. They would have to be purchased in bulk at a cost of GH¢3,000. However, only 80% of the ink purchased would be used in printing the programme. No other use is foreseen for the remainder.

iii) Skilled direct labour is currently at full capacity, but additional labour can be hired. To accommodate the printing of the programmes, 50% of the time required would be worked at weekends, for which a premium of 25% above the normal hourly rate is paid. The normal hourly rate is GH¢4.00 per hour.

iv) Unskilled labour is presently under-utilised, and at present 200 hours per week are recorded as idle time. If the printing work is carried out at a weekend, 25 unskilled labour hours would have to occur at this time, but the employees concerned would be given two hours’ time off (for which they would be paid) in lieu of each hour worked.

v) Variable overhead represents the cost of operating the printing press and binding machines.

vi) When not being used by the company, the printing press is hired to outside companies for GH¢6.00 per hour. This earns a contribution of GH¢3.00 per hour. There is unlimited demand for this facility.

vii) Fixed production costs are those incurred by and absorbed into production, using an hourly rate based on budgeted activity.

viii) The cost of the estimating department represents time that has already been incurred during discussions with the village fair committee concerning the printing of its programme.

Required: a) Prepare a revised cost estimate using a relevant cash flow approach, showing clearly the minimum price that the company should accept for the order. Give reasons for each resource valuation in your cost estimate. (17 marks)

b) Briefly discuss the statement “fixed costs are never relevant for decision making scenarios”.

(3 marks)

 

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  • 18 Marks

MA – Nov 2018 – L2 – Q3b – Relevant cost and revenue

Analysis of machine utilization, identification of bottlenecks, and comparison of marginal costing versus throughput accounting in a production setting.

KYC Ltd makes three products: Hand Chew (HC), Yogurt Swallow (YS), and Canned Lick (CL). All three products are sold as a package and so are offered for sale each month to be able to provide a complete market service. The products are fragile, and their quality deteriorates rapidly once they are manufactured. The products are produced on two types of machines and worked on by a single grade of direct labour. Five direct employees are paid GH¢8 per hour for a guaranteed minimum of 160 hours each per month. All of the products are first molded on machine type 1 and then finished and sealed on machine type 2. The machine hour requirements for each of the products are as follows:

Product Machine Type 1 (Hours/Unit) Machine Type 2 (Hours/Unit)
HC 1.5 1
YS 4.5 2.5
CL 3 2

The capacity of the available machines type 1 and 2 are 600 hours and 500 hours per month respectively. Details of the selling prices, unit costs, and monthly demand for the three products are as follows:

Product HC (GH¢/Unit) YS (GH¢/Unit) CL (GH¢/Unit)
Selling price 91 174 140
Component cost 22 19 16
Other direct material cost 23 11 14
Direct labour cost at GH¢8 per hour 6 48 36
Overheads 24 62 52
Profit 16 34 22

Maximum monthly demand (units):

  • HC: 120
  • YS: 70
  • CL: 60

Although KYC Ltd uses marginal costing and contribution analysis as the basis for its decision-making activities, profits are reported in the monthly management accounts using the absorption costing basis. Finished goods (inventories) are valued in the monthly management accounts at full absorption cost.

Required:

i) Calculate the machine utilization rate per month for each machine and explain which of the machines is the bottleneck/limiting factor. (4 marks)

ii) Using the current system of marginal costing and contribution analysis, calculate the profit-maximizing monthly output of the three products. (5 marks)

iii) Explain why throughput accounting might provide more relevant information in KYC’s circumstances. (4 marks)

iv) Using a throughput approach, calculate the throughput-maximizing monthly output of the three products. (5 marks)

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  • 10 Marks

MA – May 2020 – L2 – Q5a – Relevant cost and revenue, Decision making techniques

Determine the optimum production plan for Blasius Ltd based on given resource constraints and calculate the total contribution.

Blasius Ltd is a leading manufacturer of furniture in Ghana. The company manufactures these three garden furniture products – chair, bench, and table. The budgeted unit cost and resource requirements of each of these items are detailed below:

Product Chair (GH¢) Bench (GH¢) Table (GH¢)
Timber cost 5.00 15.00 10.00
Direct labour cost 4.00 10.00 8.00
Variable overhead cost 3.00 7.50 6.00
Fixed overhead cost 4.50 11.25 9.00
Total Cost 16.50 43.75 33.00

Budgeted volumes per annum:

Product Quantity
Chair 3,500
Bench 1,900
Table 1,350

These volumes are believed to equal the market demand for these products. Fixed overhead costs are attributed to the three products on the basis of direct labour hours. The cost of the timber is GH¢2.00 per square metre.

The products are made from a specialized timber. A memo from the purchasing manager advises you that because of a problem with the supplier, this specialized timber is limited in supply to 20,000 square metres per annum.

The sales director has already accepted an order for 500 chairs, 100 benches, and 150 tables which, if not supplied, would incur a financial penalty of GH¢2,000. These quantities are NOT included in the market demand estimates above.

The selling prices of the three products are:

Product Selling Price (GH¢)
Chair 20.00
Bench 50.00
Table 40.00

Required:

a) Determine the optimum production plan and state the total contribution that this would yield. (10 marks)

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  • 4 Marks

MA – May 2020 – L2 – Q4c – Decision making techniques, Relevant cost and revenue

Explain how a management accountant can use make or buy analysis and limiting factor principles to solve management problems.

c) Explain how a management accountant can use make or buy analysis and the limiting factor principles to achieve optimal solutions to an internal management problem. (4 marks)

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  • 5 Marks

MA – Nov 2018 – L2 – Q2a – Relevant cost and revenue

Discuss the relevance of classifying costs as fixed or variable in decision-making processes, with a focus on their relevance or irrelevance to decisions.

Costs may be classified as fixed or variable. This classification method is useful for decision-making because variable costs are relevant costs whereas fixed costs are irrelevant.

Required:
Explain this statement.

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  • 10 Marks

MA – May 2019 – L2 – Q3b – Relevant cost and revenue

Explain lifecycle costing and calculate the cost per unit of software considering the entire lifecycle.

Oria Software Ltd, a computer software company, is developing a new accounting package, “Future Accounting”. The following are the budgeted amounts for the product over a four-year product life-cycle:

Year Year 0 Year 1 Year 2 Year 3 Year 4
Estimated quantity in units 3,500 5,000 2,000 500
GH¢ GH¢ GH¢ GH¢ GH¢
Research & Development costs 360,000
Design costs 240,000 250,000
Production costs:
Variable cost per unit 42 35 35 40
Fixed costs 150,000 150,000 120,000 100,000
Marketing costs:
Variable cost per unit 40 35 10 22
Fixed costs 30,000 20,000 12,000 15,000
Distribution costs:
Variable cost per unit 20 22 18 10
Fixed costs 50,000 60,000 40,000 30,000
Customer service costs:
Variable cost per unit 8 12 14 10
Fixed costs 80,000 85,000 45,000 –

To be profitable, Oria Software Ltd must generate revenues to cover costs for all six business functions taken together and, in particular, its high non-production costs. The company has therefore proposed a selling price of GH¢250 per software over the entire product life cycle.

Required:
i) Explain lifecycle costing and identify TWO (2) benefits Oria Software Ltd will derive from using lifecycle costing. (3 marks)
ii) Calculate the cost per software taking into account the entire lifecycle and comment on the proposed selling price. (7 marks)

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  • 15 Marks

MA – May 2019 – L2 – Q3a – Relevant cost and revenue

Discuss blanket overhead rate and prepare an overhead analysis sheet, including re-apportionment of service department costs.

Bobich Ltd manufactures plastic containers for the pharmaceutical industry. The factory, in which the company undertakes all its production, has two production departments, namely: Cutting and Shaping, and two service departments, namely: Stores and Maintenance.

The information below was extracted from the company’s budget for its financial year ended 31 March 2019:

Allocated Overhead Costs GH¢
Cutting Department (Cutting) 14,000
Shaping Department (Shaping) 16,000
Stores Department (Stores) 3,500
Maintenance Department (Maintenance) 2,800
Other Production Overheads GH¢
Factory rent 525,000
Factory building insurance 70,000
Plant & machinery insurance 39,000
Plant & machinery depreciation 58,500
Canteen subsidy 150,000
Direct Costs GH¢
Cutting Department 144,000
Shaping Department 210,000

The following additional information is also provided:

Cutting Shaping Stores Maintenance
Floor area (square meters) 18,000 12,000 3,000 2,000
Value of Plant & Machinery (GH¢) 300,000 50,000 25,000 15,000
Number of stores requisitions 1,000 500 – –
Maintenance hours required 2,700 2,000 300 –
Number of employees 34 60 4 2
Machine hours 12,000 2,200 – –
Labour hours 9,000 15,000 – –

Required:
i) Explain what is meant by the term “blanket overhead rate.” (2 marks)
ii) Prepare an overhead analysis sheet based on the above information. You must clearly state the basis used for any apportionments. (7 marks)
iii) Re-apportion the service department costs and calculate the most appropriate overhead rate for each department. (Rate should be calculated to two decimal places). (3 marks)
iv) State THREE (3) reasons why companies calculate pre-determined overhead absorption rates. (3 marks)

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  • 15 Marks

MA – May 2017 – L2 – Q4a – Relevant cost and revenue, Decision making techniques

Advise on the selection of a camp meeting venue using relevant costing.

Straight-to-Heaven Church is planning its annual camp meeting in December 2017. The church has four branches, and the annual camp meeting is the first major program after all the head pastors attended a leadership conference on the theme “Blending faith and Science in Church Decision Making.”

The General Overseer of the church wishes to apply the scientific principles learned at the conference in deciding between two major venues for the 2017 annual camp meeting. Hitherto, the General Overseer or his wife would veto where annual camp meetings are held. The following information is relevant for the decision:

  1. Seven pastors will facilitate the camp meeting. ‘Food 4 All’ restaurant will be assigned the responsibility of providing food for the pastors. They have indicated that a meal for a pastor would cost GH¢5. This cost is expected to increase by one-half if a pastor attends the camp with his wife. All pastors will be fed three times daily, but only three pastors plan to attend the conference with their wives. Church members will take care of their own feeding, but all camp expenses of pastors will be borne by church members.
  2. Water to be served at the camp meeting: 100 bags of sachet water at GH¢2 each and 25 boxes of 750ml bottled water at GH¢13 per box.
  3. The church plans to either have the conference at Ahayede (A) or Bonebon (B) camp sites. Accommodation cost per head per day at Ahayede is GH¢2 for the first 400 participants and GH¢1.5 for any additional participant. Bonebon will not charge any fee, but the church will have to show appreciation, which will be in the neighborhood of GH¢2,000 after the camp.
  4. Ahayede Campsite will require the payment of electricity and water bills of GH¢300 and GH¢500, respectively.
  5. It is expected that 96 liters of fuel at GH¢3.12 per liter will be needed at Bonebon campsite.
  6. Transportation cost for chairs and canopies will be GH¢400 if the camp is undertaken at Ahayede and GH¢300 if the camp is sited at Bonebon. Each church member’s transportation cost will be GH¢3 if Ahayede is chosen as the venue, but this figure is expected to double if the camp is taken to Bonebon.
  7. Pastors’ appreciation: Apart from the General Pastor, who will receive GH¢500, each pastor will receive GH¢300 as appreciation support.
  8. The church plans that 700 church members and pastors will take part in the annual camp meeting if it is undertaken at Bonebon, while 500 members will attend the camp if it is held at Ahayede, even though the two camp sites can each take 1,000 people. The camp will last for 5 days.

Required:

i) Using relevant costing, advise management of the church on the site they should hold the annual camp meeting.

(8 marks)

ii) Suggest TWO qualitative factors that should be considered in deciding on the venue. (4 marks)

iii) Explain the term “sunk costs” and identify THREE examples of sunk costs. (3 marks)

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  • 10 Marks

MA – May 2016 – L2 – Q5b – Decision Making Techniques, Relevant Cost and Revenue, Divisional Performance

Decision Making Techniques, Relevant Cost and Revenue, Divisional Performance

Unity Company Ltd is preparing for next season’s operations. The company has provided the following information relating to its three products:

TO GE DA
Selling Price GH¢18.5 GH¢16.2 GH¢12.6
Material Cost (@ GH¢1.75 per kg) GH¢8.75 GH¢10.5 GH¢3.5
Labour Cost (@ GH¢2.2 per labour hour) GH¢7.7 GH¢4.4 GH¢7.7
Annual Demand 2,150 units 3,235 units 1,556 units

The company can only make available a total of 18,560 hours in the short run.

Required:

i) Provide the optimal production plan for Unity Ltd for the ensuing period.
(5 marks)

ii) What is the total incremental benefit of producing DA instead of GE, assuming available resources can only meet the demand for DA?
(3 marks)

iii) Indicate the shadow price of the production plan and state the basic assumption under which this price will apply.
(2 marks)

 

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  • 2 Marks

MA – May 2016 – L2 – Q5a – Decision Making Techniques, Relevant Cost and Revenue

Explain the concept of shadow price in decision making.

Explain the term shadow price.

(2 marks)

 

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  • 5 Marks

MA – May 2016 – L2 – Q4c – Relevant cost and revenue

Determine the cost per unit under different day rate schemes and assess the advisability of introducing a high day rate scheme.

HK Manufacturing Company is considering introducing a high day rate incentive scheme. An experiment with one of its average workers showed that an employee is likely to produce 1,500 units in a 40-hour week if she was paid GH¢25 per hour, but 1,800 units if she was paid GH¢31.25 per hour.

Assume that production overhead is added to cost at the rate of GH¢25 per direct labour hour.

Required:

i) Determine the cost per unit of output under both the low day rate scheme and high day rate scheme.
(3 marks)

ii) Is it advisable to introduce the high day rate scheme?
(2 marks)

 

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  • 13 Marks

MA – May 2016 – L2 – Q4b – Decision Making Techniques,Relevant Cost and Revenue,

Evaluate a supplier's offer based on Economic Order Quantity and differentiate between a bin card and a store ledger card.

MM Company Ltd., a manufacturer of groundnut paste, wishes to know whether it is advisable to stick to its economic orders or accept a special order from a foreign supplier for the supply of groundnuts. The following information has been provided:

  • Purchase price per bag of groundnut: GH¢360
  • Holding cost per annum is 10% of the cost of a bag of groundnut
  • Ordering cost per annum: GH¢7.7
  • Annual demand of groundnut paste: 6,000 bags
  • Normal usage per month: 520 bags
  • Minimum usage per month: 500 bags
  • Maximum usage per month: 700 bags

Required:

i) The foreign supplier promises a reduction in the price of a bag of groundnut by 8% if MM Company is willing to order 3,000 units each time it wants to order. Advise MM.
(10 marks)

ii) What is the difference between a bin card and a store ledger card?
(3 marks)

 

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  • 2 Marks

MA – May 2016 – L2 – Q4a – Relevant Cost and Revenue

Calculate the amount of material ordered based on given inventory information.

Material X is a key raw material of XOXO Ltd. The storekeeper is interested in knowing the units they have placed on order because the supporting documents have been destroyed by fire. She is able to provide the following information: Immediately before the fire, materials in inventory were 1,250 units; materials requested by the factory but yet to be supplied were 375 units, and inventory balance was 3,255 units.

What is the amount of material X that XOXO has ordered from its suppliers?

(2 marks)

 

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  • 20 Marks

MA – May 2016 – L2 – Q3 – Transfer Pricing, Divisional Performance, Relevant Cost and Revenue, Decision Making Techniques

Calculate profitability under different costing methods and evaluate an outsourcing offer, including additional decision factors.

Anim Shoes Ltd produces and sells Ghana-made shoes with two main departments: production/sales and repairs departments. The production and sales department produces and sells 10,000 pairs of shoes each year. Due to the low quality of raw materials available in the country, the company includes an additional GH¢11 in the cost of a pair of shoes sold to cater for one-year after-sales repairs. On average, it is expected that a quarter of the total pairs of shoes sold would come back for repairs a year after sale. Repair works on a pair of shoes take 2 labour hours, and it is estimated that total repair cost on the quarter of shoes will be GH¢27,500.

In addition to providing repair services to the production and sales department, the repair department sometimes picks up offers from outside the company. Such external offers are billed at full cost and a margin on sales of 20%. The following is the breakdown of the average repair cost of a pair of shoes:

Cost Item Cost (GH¢)
Material 2.50
Labour (1.5 per hour) 3.00
Variable Overheads 1.00
Fixed Overheads 2.30

Required:

i) Calculate the individual profits of the Production/Sales department, Repairs department, and Anim Ventures if repairs are done by the repairs department of Anim Ventures at either full cost plus 20% margin on sales or at marginal cost.
(8 marks)

ii) Pee Shoe Repairs has offered to repair each pair of shoes for Anim Ventures at GH¢10.00, a price which is cheaper than what the repairs department is offering. Should Anim Ventures accept this offer?
(5 marks)

iii) Identify THREE other factors Anim Ventures should consider in finalizing the decision in (ii) above.
(3 marks)

iv) Explain TWO principles of a good transfer pricing method.
(4 marks)

 

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  • 20 Marks

MA – Nov 2015 – L2 – Q3 – Decision making techniques | Relevant cost and revenue

Analyze whether to discontinue Double beds and whether to accept a new order for all bed sizes.

Obonku Limited produces Single, Double, and King-size beds for sale to hotels in West Africa. Its manufacturing plant is located in Tema and is currently operating at 100% capacity. Below is the annual output and sales for each product and the associated costs:

Product Single bed Double bed King Size bed
Units sold 5,000 units 3,500 units 4,000 units
Sales (GHS) 2,500,000 2,800,000 3,800,000
Costs:
Material cost 750,000 1,400,000 1,520,000
Labour costs 600,000 1,050,000 1,200,000
Manufacturing O’head 200,000 650,000 300,000
Administrative cost 200,000 100,000 200,000
Total cost 1,750,000 3,200,000 3,220,000
Profit/Loss 750,000 (400,000) 580,000

The Director of Obonku is of the view that the Double bed product line is not doing well and should not be produced any longer. The following additional information has been provided:

  1. 40% of the labor cost for all bed types are fixed costs.
  2. 50% of the manufacturing overhead is variable for all products.
  3. 80% of the administrative cost is fixed.

Alom Hotel Limited, situated in Elmina, has requested 80 units of each bed and is ready to procure them at the current prices. Obonku Ltd can only produce more if they increase production capacity in the short term at an additional cost of GHS 80,000.

Assuming that costs and prices remain the same, you are required to:

a) Advise whether the company should shut down the production of Double beds. (10 marks)
b) Should the company accept the new order assuming Double beds will still be produced? (10 marks)

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  • 13 Marks

MA – May 2016 – L2 – Q2b – Cost-Volume-Profit (CVP) Analysis, Relevant Cost and Revenue

Calculate break-even points, operating leverage, and expected income for two rent options for a bakery.

Anima Ventures wants to start a new bakery at Bodwease in Ashanti Region. She plans to rent a storeroom for her operations under the following terms and conditions:

Option 1 Option 2
Fixed Rent Charge GH¢5,000 GH¢3,000
Variable Rent – 10% of selling price of each loaf

The following data are also relevant for her business:

  • Selling Price: GH¢5.00
  • Material Cost (Flour): GH¢0.80
  • Material Cost (Margarine): GH¢0.70
  • Labour Cost: GH¢0.50

Required:

i) Determine the break-even point in units under each option.
(2 marks)

ii) Calculate the degree of operating leverage (DOL) for the two options if 10,000 loaves of bread are to be sold in the current year.
(4 marks)

iii) What would be the expected operating income if sales increase by 25% next year?
(4 marks)

iv) Which of the two options would you recommend to Anima Ventures and why?
(3 marks)

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