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Notes ACCA Paper F2 (FIA Paper FMA) Management Accounting For exams in 2012

 

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ExPress Notes ACCA F2 Management Accounting

   

Contents

Page | 2

About ExPress Notes

3

1.

The Nature, Source and Purpose of Management Information

7

2.

Cost Accounting Techniques

12

3.

Budgeting

21

4.

Standard Costing

31

5.

Performance Measurement

40

© 2012 The ExP Group. Individuals may reproduce this material if it is for their own private study use only. Reproduction by any means for any other purpose is prohibited. These course materials are for educational purposes only and so are necessarily simplified and summarised. Always obtain expert advice on any specific issue. Refer to our full terms and conditions of use. No liability for damage arising from use of these notes will be accepted by the ExP Group.

 

 

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ExPress Notes ACCA F2 Management Accounting

   

START About ExPress Notes We are very pleased that you have downloaded a copy of our ExPress notes for this paper. We expect that you are keen to get on with the job in hand, so we will keep the introduction brief. First, we would like to draw your attention to the terms and conditions of usage. It’s a condition of printing these notes that you agree to the terms and conditions of usage. These are available to view at www.theexpgroup.com. Essentially, we want to help people get through their exams. If you are a student for the ACCA exams and you are using these notes for yourself only, you will have no problems complying with our fair use policy. You will however need to get our written permission in advance if you want to use these notes as part of a training programme that you are delivering. WARNING! These notes are not designed to cover everything in the syllabus! They are designed to help you assimilate and understand the most important areas for the exam as quickly as possible. If you study from these notes only, you will not have covered everything that is in the ACCA syllabus and study guide for this paper. Components of an effective study system On ExP classroom courses, we provide people with the following learning materials:    

The ExPress notes for that paper The ExP recommended course notes / essential text or the ExPedite classroom course notes where we have published our own course notes for that paper The ExP recommended exam kit for that paper. In addition, we will recommend a study text / complete text from one of the ACCA official publishers, but we do not necessarily give this as part of a classroom course, as we think that it can sometimes slow people down and reduce the time that they are able to spend practising past questions.

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The unique ExP & Me e-portal, which amongst other things allows “view again” of the classroom course that was actually attended. ExPand, our online learning tool and questions and answers database

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ExPress Notes ACCA F2 Management Accounting

 

  Everybody in the World has free access to ACCA’s own database of past exam questions, answers, syllabus, study guide and examiner’s commentaries on past sittings. This can be an invaluable resource. You can find links to the most useful pages of the ACCA database that are relevant to your study on ExPand at www.theexpgroup.com.

How to get the most from these ExPress notes  For people on a classroom course, this is how we recommend that you use the suite of learning materials that we provide. This depends where you are in terms of your exam preparation for each paper. Your stage in study for each paper

These ExPress notes

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Prior to study, e.g. deciding which optional papers to take

Skim through the ExPress notes to get a feel for what’s in the syllabus, the “size” of the paper and how much it appeals to you.

Don’t use yet

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Have a quick look at the two most recent real ACCA exam papers to get a feel for examiner’s style.

At the start of the learning phase

Work through each chapter of the ExPress notes in detail before you then work through your course notes.

Work through in detail. Review each chapter after class at least once.

Nobody passes an exam by what they have studied – we pass exams by being efficient in being able to prove what we know. In other words, you need to have effectively input the knowledge and be effective in the output of what you know. Exam practice is key to this.

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Make sure that you understand each area reasonably well, but also make sure that you can recall key definitions, concepts, approaches to exam questions, mnemonics, etc.

Try to do at least one past exam question on the learning phase for each major chapter.

 

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ExPress Notes ACCA F2 Management Accounting

   

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Your stage in study for each paper

These ExPress notes

ExP recommended course notes, or ExPedite notes

ExP recommended exam kit

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Practice phase

Work through the ExPress notes again, this time annotating to explain bits that you think are easy and be brave enough to cross out the bits that you are confident you’ll remember without reviewing them.

Avoid reading through your notes again. Try to focus on doing past exam questions first and then go back to your course notes/ ExPress notes if there’s something in an answer that you don’t understand.

This is your most important tool at this stage. You should aim to have worked through and understood at least two or three questions on each major area of the syllabus. You pass real exams by passing mock exams. Don’t be tempted to fall into “passive” revision at this stage (e.g. reading notes or listening to CDs). Passive revision tends to be a waste of time.

Download the two most recent real exam questions and answers.

The night before the real exam

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Don’t touch it!

Do a final review of the two most recent examiner’s reports for the paper you will be taking tomorrow.

At the door of the exam room before you go in.

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Leave at home.

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© 2012 The ExP Group. Individuals may reproduce this material if it is for their own private study use only. Reproduction by any means for any other purpose is prohibited. These course materials are for educational purposes only and so are necessarily simplified and summarised. Always obtain expert advice on any specific issue. Refer to our full terms and conditions of use. No liability for damage arising from use of these notes will be accepted by the ExP Group.

 

 

Read through the technical articles written by the examiner. Read through the two most recent examiner’s reports in detail. Read through some other older ones. Try to see if there are any recurring criticisms he or she makes. You must avoid these!

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ExPress Notes ACCA F2 Management Accounting

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ExPress Notes ACCA F2 Management Accounting

    Chapter 1

The Nature, Source and Purpose of Management Information

The Characteristics of Good Information The qualities of good information can be summarized in the word “ACCURATE”:        

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Accurate, Complete, Cost-beneficial, User-targeted, Relevant, Authoritative, Timely and Easy to use

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ExPress Notes ACCA F2 Management Accounting

   

 

KEY KNOWLEDGE Management Accounting   

The process of identification, measurement, accumulation, analysis, preparation, interpretation and reporting of information used by management to set targets, plan resource allocation, evaluate investment choices and monitor/control the operating performance and the orderly conduct of the business. Differences in purpose and scope, compared to Financial Accounting 

Aimed at internal users (as opposed to financial accounting, which is aimed at external stakeholders)

Focused on present and future performance (as opposed to financial accounting, which reports past performance)

Not required by law and not regulated by accounting frameworks (as opposed to financial accounting, which is a legal requirement and is regulated by accounting frameworks)

Focused on specific areas or activities (as opposed to financial accounting, which provides a holistic view of company’s performance)

Employs non-financial indicators as well financial, while financial accounting uses only financial measures.

Managerial Processes The key processes which face management can be divided into:

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Planning: Defining objectives and appropriate strategies for attaining them;

Decision-making: Making choices, not only with regard to the selection of strategies, but also along the way as implementation proceeds;

Control: Monitoring of performance during the course of business and taking remedial action steps as necessary

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ExPress Notes ACCA F2 Management Accounting

    Planning Planning occurs at different levels of the organisation:

Strategic

Strategic: covers the “big view” of the organisation. It answers the question “What business or businesses should we be in and what are our objectives?

Tactical 

Tactical: this embraces the short-term (budgetary periods);

Operational 

Functional (or operational) strategy: this refers to day-to-day target-setting

Responsibility centers Related to the above is the notion of responsibility that attaches to each level of an organisation: “Responsibility” centres

Cost Centres

Revenue Centres

Profit Centres

Investment Centres

Cost centres: Responsible for current expenses only Revenue centres: Responsible for revenues, but not current expenses other than marketing expenses Profit centres: Responsible for revenues and current expenses Investment centres: Responsible for revenues, current expenses and capital expenditure

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ExPress Notes ACCA F2 Management Accounting

   

 

KEY KNOWLEDGE Sources of data   

The sources of data are almost infinite, and they must be selected and evaluated carefully based on reliability and relevance.

 

KEY KNOWLEDGE Classifications of cost   

In financial accounting, it is a convention to break down costs into:

 

KEY KNOWLEDGE Production vs. Non‐Production costs   

Production costs: These are costs (both direct and indirect, also variable and fixed) which relate to the production of goods; this is also referred to as manufacturing or factory cost. It is these costs, accumulated, which provide the value at which goods are placed in inventory (prior to sale) and form the “cost of goods” value when sold. Non-production costs: These are expenses that are incurred independent of production and include administrative, selling, distribution and finance costs. These costs can have the character of “period” costs, as they relate to the period of time in which they occur.

 

KEY KNOWLEDGE Direct vs. Indirect costs   

Direct costs: are costs that can be directly attributable to a product. Indirect costs: these are costs that cannot be directly attributable to a product.

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ExPress Notes ACCA F2 Management Accounting

   

 

KEY KNOWLEDGE Fixed vs. Variable costs   

Fixed costs: are costs that remain constant regardless of the volume of production. A variety of indirect costs are fixed. Variable costs: vary in proportion with the volume produced. Direct costs are by their nature variable in behaviour.

“Although a variable cost increases with the level of activity, the variable cost per unit remains fixed, while a fixed cost per unit falls with a rise in the level of activity.” Other types of costs: Mixed costs: these are costs that contain a fixed and a variable element. Step costs: costs that remain fixed within a defined range of production, but at a certain level of output increase in a significant way to a new (fixed) level.

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ExPress Notes ACCA F2 Management Accounting

    Chapter 2

Cost Accounting Techniques

Materials The ordering, receiving and issuing of materials from inventory must be controlled according to procedures and documented at all stages with forms appropriate to the purpose. The controls and procedures are designed to monitor inventory movements so as to minimise discrepancies and losses and theft. Economic Order Quantity This is a method which seeks to minimize the costs associated with holding inventory. To determine the total costs, the following data is required: Q = order quantity D = quantity of product demanded annually P = purchase cost for one unit C = fixed cost per order (not incl. the purchase price) H = cost of holding one unit for one year

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ExPress Notes ACCA F2 Management Accounting

    The total cost function is as follows: Total cost = Purchase cost + Ordering cost + Holding cost which can be expressed algebraically as follows: TC

= PxD

+ C x D/Q

+ H x Q/2

It is this total cost function which must be minimized. Recognizing that: 

PD does not vary;

Ordering costs rise the more frequently one places (during the year); and

Holding costs rise the fewer times one places orders (due to larger quantities being ordered each time),

It follows that there is a trade-off between the Ordering and the Holding costs. The optimal order quantity (Q*) is found where the Ordering and Holding costs equal each other, i.e. C x D/Q = H x Q/2 Rearranging the above and solving for Q results in

Labour Direct labour refers to work which is directly involved in the manufacture of a product. Indirect labour (e.g. the supervisor’s salary or that of a security guard) forms part of overhead costs.

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ExPress Notes ACCA F2 Management Accounting

    Absorption Costing

This is one method which seeks to make the link between overheads and (product) cost units. The diagram below provides a useful roadmap. Total Production Costs

Direct Costs

Indirect costs (overheads)

2. Allocate/Apportion to Cost Centers

Production A

Production B

Service C

1. Allocate 3. Reapportion from Service to Production Production A

Production B 4. Absorb

Cost Unit

The focus (above) is production. Overhead costs that are not incurred at the time of production do not find their way into inventory. It is useful to think of production costs as being those that end up as part of the inventory (valuation) while other (non-production) costs are incurred outside, and normally after the product leaves inventory.

Contribution Contribution is defined as the difference between Sales revenue and the marginal cost of sales, or Contribution = Sales – Variable costs (both production and non-production)

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ExPress Notes ACCA F2 Management Accounting

    Marginal costing

A marginal approach to costing focuses on the variable (marginal) costs generated in a business and considers fixed costs as period costs. This allows the company to be able to quantify the amount by which its costs rise, if it produces/sells an additional unit of output. Example Below is data on a manufacturing company. Selling price (per unit):

120

Cost card (per unit): Direct materials Direct labour Variable production O/Hs Total variable costs

45 18 9 72

There is a variable selling cost of $2 per unit Year 1 (units)

Year 2 (units)

Budget (normal) production

1,100

1,100

Actual Production Actual Sales

1,000 950

1,100 1,150

$16,500 $ 7,000

$16,500 $ 7,000

Actual fixed production O/Hs Actual SGA costs

Based on the above data, a profit and loss statement for the Years 1 and 2 is shown on the next page. Assume that the beginning inventory is zero.

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ExPress Notes ACCA F2 Management Accounting

    Profit/Loss (Marginal costing) Year 1 $ Sales (950/1,150 units)

Year 2 $

114,000

138,000

Less: Variable cost of sales Opening inventory

0

3,600

Production costs: o

Variable (1,000 x $72) (1,100 X $72)

Less: closing inventory (50 x $72)

72,000 79,200 0

(3,600) (68,400)

(82,800)

Less: Variable selling costs (950 x $2) (1,150 x $2)

(1,900)

Contribution

43,700

52,900

Less: Fixed production O/Hs Less: SGA costs

(16,500) (7,000)

(16,500) (7,000)

Profit

20,200

29,400

(2,300)

Inventory is valued at variable production costs.

Absorption Costing This method argues that focusing on marginal costs is potentially misleading in the longer run because fixed production costs have also to be covered. Accounting conventions require that fixed production costs be reflected in each unit produced.

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ExPress Notes ACCA F2 Management Accounting

    Revised cost card (Absorption costing) Cost card (per unit): Direct materials Direct labour Variable production O/Hs Fixed production O/Hs Total production costs

45 18 9 15 87

Profit/Loss (Absorption costing) Year 1 $ Sales (950/1,150 units)

Year 2 $

114,000

138,000

Less: Variable cost of sales Opening inventory

0

4,350

Production costs: o

o

Variable (1,000 x $72) (1,100 X $72)

72,000

Fixed (1,000 x $15) (1,100 X $15)

15,000

79,200

16,500

Less: closing inventory (50 x $87)

(4,350)

Over/(under) absorption

1,500

0 0 (84,150) 29,850

Gross Profit Less: Variable selling costs (950 x $2) (1,150 x $2)

1,900

Less: SGA costs

7,000

(100,050) 37,950

2,300

Profit

(8,900)

7,000

(9,300)

20,950

28,650

Inventory is valued at the full production costs.

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ExPress Notes ACCA F2 Management Accounting

    Summary of Absorption costing and Marginal costing formats

Absorption Costing

Marginal Costing

Variable/Fixed production costs

Variable production/ non-production costs

Revenue Less: Cost of Sales

Gross profit

Contribution

Less: Expenses Variable/Fixed non-production costs

Fixed production/ non-production costs

Net Profit

Job costing / Batch costing This refers to the calculation of costs associated with a specific job or customer order. This is appropriate in situations where each product or service is distinct, and possibly unique, in its delivery. Batch costing is similar to job costing; the distinction lies in the identification of costs with specific batches, which are numbered (separately identified) for this purpose.

Process Costing Process costing is a technique that applies to the mass production of a large number of identical products, moving through a series of processing stages. The accumulated costs of production can be averaged over the number of items produced. The average cost is determined by the following formula: Average cost per unit =

Total cost of inputs – Scrap value of rejected units No. of units of input – Normal loss

  The total cost of inputs refers to labour, materials and overhead costs of production. If losses occur along the way that necessitate the scrapping of defective units, then to the

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ExPress Notes ACCA F2 Management Accounting

 

  extent that these items fetch a scrap value, then that (scrap) value will reduce the total costs. Similarly, an accounting is made of the number of units introduced into a process with the expectation that a normal loss will be incurred. The number of good units emerging from a process will therefore be the number of units entering it, minus the expected number lost in processing. Abnormal gains and losses are accounted for as an adjustment to the accounts using the same value as the “good” output (deducted in the case of loss and added in the case of gains). Equivalent units (EU) This refers to the way in which partially-completed output (“work-in-progress” or WIP) is expressed. If an unfinished unit of product contains 35% of the labour and materials costs of a complete unit, then the unit has a degree of completion of 35% in terms of value. It is therefore considered to have an EU of 35%, which is normally expressed in monetary terms. Weighted average method The weighted average method makes no distinction between units that were started (but not finished) in a previous process and those started in the current process. Since all the units, when completed, are visually identical, processing costs are averaged over all the units. First-In-First-Out (FIFO) method The FIFO method does make a distinction between units that were started in a previous process and those begun in a current process. FIFO costing separates the costs that were incurred in the previous period from costs of the current period.

Joint products / By-products Joint products are two or more products that share a common processing path until the point of separation. Until they go their own (separate) ways, the costs of production during the joint processing cannot be physically distinguished. There are different methods used to apportion common costs to such products at the point of separation:

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Market value (based on expected sales price)

Number of units (litres, tons, or some other objective physical measurement)

Net realizable value = Final sales value – Incremental processing costs

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ExPress Notes ACCA F2 Management Accounting

   

By-products are goods which are incidental to the production process and which generate cash from sales, though the amount is modest in comparison to the overall revenues of the firm. The cash received for by-products can be viewed as a bonus that reduces production costs.

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ExPress Notes ACCA F2 Management Accounting

    Chapter 3

Budgeting

Budgeting: definition and purpose

Quantitative plan for the future, used to:

a) Communicate Objectives

b) Motivate Employees

b) Control Activities

b) Evaluate Performance

The master budget process  

Annual frequency, preferably revised on a regular basis (rolling budget) Based on organization’s objectives, expressed in financial, quantitative and qualitative measures

The operating budget sequence

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ExPress Notes ACCA F2 Management Accounting

          

Sales budget Production budget Ending inventory budget Direct materials budget, Direct labour budget, Factory overhead budget Cost of Sales budget R&D budget, Marketing budget, Distribution budget, Customer service budget, Admin budget Pro-forma income statement

The financial budget sequence   

Capital budget Cash budget Pro-forma balance-sheet and pro-forma statement of cash-flows

Operating budgets These are budgets that quantify the revenues and costs relating to a company’s activities at a disaggregated level, meaning that there is direct input from department and functional levels. They require both volume (e.g. units of output, quantities, hours, etc.) and price specifications. Operating budgets are modelled on what will emerge as the company’s income statement. Examples include:

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Sales budget

Production budget

Direct material usage

Direct material purchases

Direct labour budget

Factory overhead budget

Selling & distribution budget

Administrative expenses budget

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ExPress Notes ACCA F2 Management Accounting

 

  The “disaggregation” of budgets referred to above allows the practice of “responsibility” accounting.

Expected Value This is the average of possible outcomes weighted by the probability of each outcome. Profit/(Loss) 340 766 278 450 -230

Expected Probability Value 10% 20% 50% 18% 2% 100%

34.0 153.2 139.0 81.0 -4.6 402.6

Regression analysis This is a statistical tool used to describe the relationship between two sets of variables. The correlation coefficient – denoted by r -- measures the strength of the linear association between the variables. The range for r is: -1 < r < +1 The coefficient of determination measures the degree to which the variation in the dependent variable can be explained by the independent variable (x). It is denoted as r2 and its range is: 0 < r2 < 1 The use of spreadsheets is a basic skill that all accountants should possess.

Discounted cash flow (DCF) techniques The preeminence of cash Cash, both its receipt and possession, lies at the basis of economic value. Cash is used to pay the bills and bonuses. It is a better indicator of wealth when compared with measures defined by accounting conventions, such as accounting profit.

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ExPress Notes ACCA F2 Management Accounting

    Timing and value

Tracking and measuring cash flows on a time-adjusted basis is critical: cash received quickly can be used to repay debt (avoiding interest costs) or invested (earning interest). Cash paid with a delay can reduce costs (as long as penalties are not incurred). It follows that the longer one waits for a receipt of cash, the less that cash is worth in today’s terms. Among other factors, its purchasing value may diminish due to the effects of inflation. Instead of receiving USD 100 today, assume it will be received after one year. To compensate for the delay, what should the value be after one year?

Present Value (PV) 100

Future Value (FV) 100 x (1+r)

Interpreting “r”: 

As opportunity cost: what we “sacrifice” by not having it now.

As risk-adjusted rate: representing the riskiness of not getting the money back.

As cost of capital rate: representing the return that capital providers expect

From a company’s point of view, this is the rate of return that the business must generate for its capital providers (shareholders and lenders). If a company has to raise the necessary cash for its activities, then this is the rate it must pay. It reflects the opportunity cost to the investors (what investment alternatives they have) on a risk-adjusted basis.

Discounting The above relationship between PV and FV:

PV x (1+r) = FV

can be re-arranged to:

PV = FV (1+r)

with r representing the discount rate.

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ExPress Notes ACCA F2 Management Accounting

   

The above refers to “one-period” discounting, with r corresponding to the period. If discounting is done over more than one period, then the discounting effect will be: PV = FV (1+r)n where “n” refers to the number of periods. Thus, 100 received after two years, discounted at 10% p.a. will be PV = 100 = 82.6 (1.10)2 This reflects that the uncertainty of getting money back increases with time. This allows one to discount future values into present values and can be applied to a series of cash flows: Year:

1

2

3

4

5

Future Values:

100

100

125

105

140

If discounted at r = 10%, then the above cash flows can be restated at their present values: FV discounted:

100 1.10

100 (1.10)2

125 (1.10)3

105 (1.10)4

140 (1.10)5

PV:

90.9

82.6

93.9

71.7

86.9

Added together results in total PV = 426. Reducing future cash flows – of different timings and amounts – to one PV is a powerful tool. Note: If all the cash flows had been equal – say 100 – then the PV calculation would have been simplified: FV discounted:

Page | 25

100 1.10

100 (1.10)2

100 (1.10)3

100 (1.10)4

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100 (1.10)5

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ExPress Notes ACCA F2 Management Accounting

    PV:

90.9

82.6

75.1

68.3

62.1

The addition of the above is = 379 Net Present Value (NPV) To add meaning to the future cash flows, we can include the amount invested (which gives rise to the FVs): Year:

0

1

2

3

4

5

100

100

125

105

140

Investment: (200) FV: PV:

(200)

90.9

82.6

93.9

71.7

86.9

Year 0 amounts denote the present and are automatically = PV. The NPV of the above cash flows is therefore = 226. Discounted Payback We can apply the concept of discounting to the Payback method in order to capture the time value of money element. Year:

0

1

2

3

4

5

100

100

125

105

140

Investment: (200) FV: PV:

(200)

90.9

82.6

93.9

71.7

86.9

In the table above, the (simple) payback period is in Year 2. The Discounted Payback period is longer (Year 3). Relevant Cash Flows When evaluating projects, cash flow projections must meet the criteria of relevance.

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ExPress Notes ACCA F2 Management Accounting

   

Relevance refers to cash flows that are relevant to the decision whether to accept a project or not. Cash flows that are created (or discontinued) as a result of taking the decision (to undertake the project) are relevant; these are also called “incremental” cash flows. Included in relevant cash flows would be any investments in equipment and working capital required by the project. More subtle, but no less important, are any opportunity costs incurred as a result of accepting the project. Cash flows which occur whether the project goes ahead or not are not relevant. Also not relevant are: 

Sunk costs;

Committed costs;

Allocated (overhead) costs;

Non-cash expenses

Depreciation is an example of a “non-cash” expense. One may need to work with depreciation, however, if they are related to a calculation of taxes due. Any change in the amount of taxes paid is a very relevant cash flow! Internal rate of Return (IRR) The internal rate of return (IRR) is defined as the discount rate (r) at which the net present value (NPV) of a stream of cash flows will be equal to zero. In other words, If, at a discount rate r, NPV = 0, then IRR = r The IRR includes among its assumptions the following: any cash flows generated in the course of a project being evaluated are calculated as being reinvested at the IRR rate.

Comparison of NPV and IRR methods The following decision rules apply to appraisal methods: NPV: Positive NPV projects are acceptable; the higher the better. IRR: An IRR in excess of a hurdle rate (set by the company) indicates acceptability; the higher (the IRR) the better.

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ExPress Notes ACCA F2 Management Accounting

   

EXAMPLE    Year

0

1

A

-5,000

6,000

B

-7,500

8,850

IRR

NPV:

10%

14%

16%

20%

454

263

172

18%

545

263

129

Intuitively, IRR should be preferable, as it relates return to amount invested. Equal investment amounts do not necessarily remove the ambiguity.

EXAMPLE    Year

0

1

2

IRR

A

-500

B

-500

NPV (9%)

100

600

20%

97

500

155

25%

89

Principal budget factor When a budget is prepared, management must identify any factors that will prevent the company from surpassing a certain level of activity. A bank, for example, may be constrained from developing an extensive branch network owing to the scarcity of suitably-skilled professional staff; or production may be constrained by the built capacity of the plant or by the level of demand for a company’s products. In each of these cases, there is a limiting factor at work.

Fixed vs. flexible budgets Traditional budgets tended to be rigid, i.e. they were not subject to modification during the period to which they referred. Example

Page | 28

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ExPress Notes ACCA F2 Management Accounting

    A producer of office equipment has a budget for the coming year: Output: 1,000 Costs: Materials Labour Fixed O/Hs Total

units 75,000 200,000 100,000 375,000

After 3 months, the company observes that sales are running ca. 20% higher than originally projected and it has therefore increased its production by a similar amount. In order to look back at what its budget would have been had the actual (higher) level of activity been anticipated, management can prepare a “flexed” budget; this is effectively a re-calibration of the original budget. It allows management to re-focus their efforts without losing time tracking “artificial” spending excesses according to the original budget. Output: 1,200 Costs: Materials Labour Fixed O/Hs Total

units 90,000 225,000 100,000 415,000

Prepare a flexed budget for an output level of 1,075 units. Based on the data (below), the  

variable cost of labour is $125 per unit, and the fixed cost of labour is $75,000

Output:

1000

1200

Mats

75,000

90,000

Labour

200,000

225,000

Fix

100,000

100,000

Total

375,000

415,000

Therefore the cost of labour at output of 1,075 units is $209,375.

Page | 29

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ExPress Notes ACCA F2 Management Accounting

   

KEY KNOWLEDGE Behavioural Aspects of Budgeting There are numerous inter-relationships between types of budgets, budgeting processes and the motivation of employees: Top-Down budgets may be necessary from a coordination point of view; however they can be de-motivating to employees; Bottom-Up budgets allow useful employee input, but they may create exaggerated expectations on the part of the employee that his/her voice will be heard. Unrealistic budgets – with unachievable targets – can be de-motivating (as can budgets which are easily achieved, since most people stop working when they reach the targets!).

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ExPress Notes ACCA F2 Management Accounting

    Chapter 4

Standard Costing

Absorption Costing This method argues that focusing on marginal costs is potentially misleading in the longer run because fixed production costs have also to be covered. Accounting conventions require that fixed production costs be reflected in each unit produced. Fixed Overhead Absorption Rate (FOAR) =

Budgeted production O/H Budgeted level of production

Budget (normal) production

Year 1 (units) 1,100

Year 2 (units) 1,100

Actual fixed production O/Hs

$16,500

$16,500

Fixed Overhead Absorption Rate (FOAR) = $15 ($16,500/1,100)

Page | 31

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ExPress Notes ACCA F2 Management Accounting

   

Cost card (Absorption costing) Cost card (per unit): Direct materials Direct labour Variable production O/Hs Fixed production O/Hs Total production costs

45 18 9 15 87

Having established the OAR, we now have a basis on which the production department can keep track of the fixed overheads being generated as the manufacturing process proceeds.

Actual output (units) x OAR = Fixed O/H absorbed

Basic variance analysis

The following data is from a manufacturing company Budget Production: Sales: Sales Price:

1,100 units 1,000 units $120 / unit

Actual results Production: 1,000 units Sales: 950 units Materials: 4,900 kg, $45,025 Labour: 3,100 hrs, $19,050 Variable O/Hs: $9,250 Fixed O/Hs: $17,000 Sales price: $115 / unit Cost card (per unit) Materials (5kgs x $9 per kg) Labour (3hrs x $6 per hr) Variable O/Hs (3 hrs x $3 per hr) Fixed O/Hs (3 hrs x $5 per hr)

Page | 32

45 18 9 15 87

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ExPress Notes ACCA F2 Management Accounting

   

Variance calculations Sales volume variance (Absorption costing) 

Budgeted sales volume

Actual sales volume Sales volume variance @ standard margin ($120-$87)

1,000 950 50 (A) $1,650 (A)

Sales volume variance (Marginal costing) 

Budgeted sales volume

Actual sales volume

1,000 950

Sales volume variance 50 (A) @ standard contribution ($120-$72) $2,400 (A)

Sales price variance 

950 units should have sold @$120

114,000

Actual revenues (950 units x $115)

109,250

Sales price variance

4,750 (A)

Material variances (i)

Page | 33

Material price variance

Materials used (4,900 kg) should have cost @ $9

44,100

Materials (4,900 kg) did cost

45,025

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ExPress Notes ACCA F2 Management Accounting

    Materials price variance (ii)

$925 (A)

Material usage variance

1,000 units should have used @ 5 kg

5,000 kg

1,000 units did use

4,900 kg

Materials usage variance @ standard $9 Materials total variance:

100 kg (F) $900 (F) $ 25 (A)

Labour variances (i)

Labour rate variance

Labour (3,100 hrs) should have cost @ $6

18,600

Labour (3,100 hrs) did cost

19,050

Labour rate variance (ii)

$450 (A)

Labour efficiency variance

1,000 units should have taken @ 3 hrs

3,000 hrs

1,000 units did take

3,100 hrs

Labour efficiency variance @ standard $6 Labor total variance:

100 hrs (A) $600 (A) $ 1,050 (A)

Variable O/H variances (i)

Page | 34

Variable O/H expenditure variance

3,100 hrs should have cost @ $3

9,300

3,100 hrs did cost

9,250

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ExPress Notes ACCA F2 Management Accounting

    Variable O/H expenditure variance (ii)

50 (F)

Variable O/H efficiency variance

1,000 units should have taken @ 3 hrs

3,000 hrs

1,000 units did take

3,100 hrs

Variable O/H efficiency variance @ standard $3 Variable O/H total variance:

100 hrs (A) $300 (A) $ 250 (A)

Fixed O/H total variance (Absorption costing) 

Overhead actually incurred

$17,000

Overhead absorbed (1,000 units x $15)

$15,000

Fixed O/H total variance

$ 2,000 (A)

This can be broken down into two components: (i)

Fixed O/H expenditure variance

Budgeted O/H should have cost (1,100 units x $15) 16,500

Actual O/H cost Fixed O/H expenditure variance

(ii)

$500 (A)

Fixed O/H volume variance (Absorption Costing)

Budgeted production

1,100 units

Actual production

1,000 units

Fixed O/H volume variance @ standard $15

Page | 35

17,000

100 units (A) $1,500 (A)

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ExPress Notes ACCA F2 Management Accounting

    Interpreting variances Material price Favourable:

Unanticipated discounts received, better purchasing/negotiation, cheaper (substandard) materials

Adverse:

Price inflation, poor purchasing, better quality materials

Material usage Favourable:

Better quality materials, more efficient processing

Adverse:

Substandard material, waste, poor quality control, theft

Labour rate Favourable:

Low pay rates, cheap workers

Adverse:

Wage inflation

Labour efficiency Favourable:

More efficient production, motivated/better trained workers, better materials and/or equipment

Adverse:

Poorly trained workers, deficient work organization, materials or equipment

Overhead expenditure

Page | 36

Favourable:

Cost savings, more efficient use of ancillary services

Adverse:

Poor cost disciplines, complexity and bureaucracy

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ExPress Notes ACCA F2 Management Accounting

    Overhead volume Favourable:

Using production capacities beyond the level budgeted

Adverse:

Under-utilization of production capacities

Inter-connections among variances As can be seen above, a factor causing a favourable variance may at the same time be the cause of an adverse variance in another part of the company’s operations. It is management’s responsibility to understand these relationships and to be able to anticipate, and if possible quantify, the impact of their actions on overall performance. At the same time, management needs to review standards for their relevance and usefulness, as well as apply common sense to the materiality and controllability of specific variances.

Reconciliation of budgeted profit and actual profit Operating statement Prepare a reconciliation between the profit budgeted and that realized. Budgeted profit (Absorption costing)

33,000

Sales volume variance

1,650 (A)

Sales price variance

4,750 (A) 26,600

Cost variances: Materials

F

Price Usage

A 925

900

Labour

Page | 37

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ExPress Notes ACCA F2 Management Accounting

    Rate

450

Efficiency

600

Variable Expenditure

50

Efficiency

300

Expenditure

500

Fixed

Volume 950

1,500 4,275

Actual profit

3,325 (A) 23,275

Note: Closing inventory is valued at standard cost Operating Statement based on Marginal costing Budgeted contribution (Marginal costing) Sales volume variance

2,400 (A)

Sales price variance

4,750 (A)

48,000

40,850 Cost variances: Materials

F

Price Usage

A 925

900

Labour Rate

450

Efficiency

600

Variable

Page | 38

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ExPress Notes ACCA F2 Management Accounting

    Expenditure

50

Efficiency 950

300 2,275

Actual contribution Fixed O/Hs Budgeted Fixed O/Hs Expenditure variance Actual profit

Page | 39

1,325 (A) 39,525

16,500 500

(17,000) 22,525

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ExPress Notes ACCA F2 Management Accounting

    Chapter 5

Performance Measurement

Mission Statement  

It sets the broad purpose of the organisation It is articulated in a mission statement, which is an open-ended statement outlining the core values of the business, defining the industry the firm competes in, and describing the general way of doing business.  

KEY KNOWLEDGE Financial Performance measures Included in financial performance measures is a range of ratios:   

Page | 40

Efficiency ratios (e.g. asset turnover, debtor days and creditor days); Gearing ratios (e.g. debt equity ratio); Liquidity ratios (e.g. current ratio and quick ratio);

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ExPress Notes ACCA F2 Management Accounting

     

Profitability ratios (e.g. gross margin, operating margin and ROCE); Interest ratios (e.g. interest coverage).

Value for Money A useful way to judge performance in a not-for-profit organization is to apply the Value-forMoney method can be useful. It incorporates three elements, referred to as the 3 E’s: 

Economy: Getting the best deal on inputs

Efficiency: Converting inputs into the maximum number of outputs

Effectiveness: Ensuring that organizational objectives are being met

   

KEY KNOWLEDGE The scope of performance measurement Balanced scorecard The balance scorecard addresses a number of parameters (or “perspectives”) in monitoring business performance by asking the following questions:

Page | 41

Financial perspective: “To succeed financially how should we appear to our shareholders?”

Customer perspective: “To achieve our vision how should we appear to our customers?”

Internal business processes: “To satisfy our shareholders and customers what business processes must we excel at?”

Learning and growth: “To achieve our vision how will we sustain our ability to change and improve?”

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ExPress Notes ACCA F2 Management Accounting

    Return on Investment (ROI) at the Divisional Level

Earnings can be measured at the divisional level in relation to the financial resources they use. The ROI measure is very similar to ROCE (return on capital employed) with the only exception being the use of profit in the formula: ROI

=

Net Profit Capital Employed

ROI as defined above is commonly used for investment appraisal and for business sector (divisional) performance, whereas ROCE is common at the overall corporate level.

EXAMPLE A division head with an actual ROI of 20% may be reluctant to accept a project offering a 15% ROI, especially if his bonus is based on ROI achieved. If the corporate overall ROI target is 12%, then the division head is missing a value-creating opportunity. Residual Income (RI) Convert results into monetary magnitudes: Residual Income

=

Divisional EBIT (minus) Imputed interest

Where Imputed interest

= Capital Employed X Capital charge (or cost of capital)

A positive result adds profits to the division beyond the incremental capital cost. An investment should be accepted if the RI is positive.

  Non-financial performance indicators NFPIs are important because:

Page | 42

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ExPress Notes ACCA F2 Management Accounting

    

They broaden management’s view of what needs to be mastered and measured in the organization; if financial measures alone were used, there is the risk of focusing only on improving financial results in the short-term while neglecting the long-term viability of the business;

Employees, especially at the operational level, can relatemore easily to NFPIs (no. of tons of steel processed; length of time it takes to cook a cheeseburger);

Companies increasingly resort to NFPIs since operational measures may provide a leading (or early) indicator of what becomes visible only later in the financial results; in other words, management can react more quickly to problems (e.g. customer surveys that indicate a significant drop in customer loyalty, which can endanger the medium/long-term health of a business)

(end of ExPress Notes)

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ACCA F2 2012 ExPress Notes