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Accounting For Managers: Bonanza Handtools LTD Proposal Add in library

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Question:

(1) Bonza Handtools Ltd. manufactures a popular power drill suitable for the home renovator. Financial and other data for this product for the last twelve months are as follows :

Sales

20000 units

Selling price

$130 per unit

Variable manufacturing cost    

$50 per unit

Fixed manufacturing costs 

$400000

Variable selling and administrative costs

$30 per unit

Fixed selling and administrative costs  

$300000.

The directors of Bonza Ltd. want to try to increase the profitability of this product and invited senior staff to suggest how this might be done. Three suggestions have been received.

  • The accountant, Jan Rossi, believes that a price increase of $10 per unit is the best way to boost profits. She would spend an additional $125000 on national advertising and contends, that if this is done, sales volume would not drop appreciably from last year.
  • The production manager, Tom Tune, thinks that an improved quality product could increase sales volume by 25% if accompanied by an advertising campaign costing $50000 aimed at tradespeople as well as home renovators. The improved quality would add $5 per unit to the variable cost. Mr Tune believes that the price should not be increased.
  • The sales manager, Mary Watson, wants to undertake a promotion campaign where a $10 rebate is offered on all drills sold during the three months beginning 1 April. Normally 6000 units are sold during that period and Ms Watson believes that this could be boosted to 10000 units if an advertising campaign costing $40000 were launched late in March. 

You have been asked by the Bonza board to comment on each of these three proposals. Draft a report in response to this request. You are not asked to make an outright choice, but rather to analyse the potential strengths and weaknesses. The sales volumes forecast by each staff member should be treated as estimates only and your report should examine the effects of variations in actual sales from these forecasts.

Give figures to support your comments and mention qualitative factors that may also be involved. 

(2). The Tassie Company estimates that next year it will manufacture and sell 150000 units of its product. On the basis of that level of activity, it has budgeted for the following costs and prices per unit:

Direct Material Cost

$2.50

Direct Labour Cost 

  3.00

Variable Factory Overhead

  1.50

Fixed Factory Overhead      

  2.00

Manufacturing Cost

  9.00

Variable Selling and Administrative Cost

  2.00

Fixed Selling and Administrative Cost  

  1.50

Total Cost   

12.50

20% Mark-up  

  2.50

Selling Price 

$15.00 

The Company has an opportunity to bid for the supply of an additional 40000 units of its product to a government department. No sales commission (variable selling and admin. cost) is involved and no additional fixed costs will be incurred. 

Give a reasoned opinion on the level of the bid that should be made in each of the following two circumstances: 

(i) The capacity of the Tassie Company's factory is 200000 units per year. 

(ii)  The capacity of the factory is only 180000 units per year.

(3) Critically discuss the following statements: Word limit for Question 3 - 750 words

  • ‘a budget is a forecast of what is expected to happen in a business during the next year’
  • ‘budgets are okay but they stifle all initiative. No manager would work for a business that applies control through budgets.’
  • ‘any sensible person would start with the sales budget and build up the other budgets from there.’
  • ‘a budget trying to be realistic will not motivate best performance.’
  • ‘only adverse variances are worth investigating, because favourable variances, by definition, must be good.’

(4) ABC Ltd makes trailers. It receives a special order to produce 350 trailers for a local retail outlet. The order will take 2,100 kg of material that costs $16.10 per kg and will require 1,400 direct labour hours and 525 machine hours. The following are the expected/budgeted annual costs for ABC Ltd:

Direct labour   

$327,600

Direct labour hours                           

  25,795

Direct materials

$193,200

Indirect costs    

$98,400

Machine hours   

  9,840 

 Required: 

  1. Calculate the overhead allocation rate: note that the process is labour-intensive
  2. Calculate the total costs of the special order
  3. Calculate the cost of the special order if ABC Ltd uses machine time as the basis for allocating overheads
  4. Calculate the minimum price per trailer that ABC Ltd could accept.
  5. Explain how segmented overhead cost pools and activity based costing can assist accurate costing for pricing purpose (200 words) 

(5) Write around 500 words explaining how segmenting the overheads can help in allocating overhead costs to individual jobs or services. You must support your discussion by real world examples and acknowledge the source of your information (referencing).

 

Answer: 

 (1) Bonanza Handtools ltd. proposal 

Performance of the company for the last 12 months

Calculation of profitability of Bonanza Hand tools for the last 12 months

Sales

2000 units

Per unit Selling Price

$ 130

Income

$26,00,000

Variable cost of manufacturing

$50

Total variable cost of manufacturing

$100,000

Fixed manufacturing cost

4,00,000

Per unit variable selling and administrative costs

$30

Total variable selling and administrative cost

$6,00,000

Fixed selling and administrative cost

$ 3,00,000

Net profit

$3,00,000

Proposal by accountant Jan Rossi 

Sales

20000 units

Per unit Selling price

 $           140.00

Income

 $ 28,00,000.00

Per unit Variable cost of manufacturing

 $             50.00

Total variable cost of manufacturing

 $ 10,00,000.00

Fixed manufacturing costs

 $   4,00,000.00

Per unit Variable selling and administrative costs

 $             30.00

Total variable selling and administrative cost

 $   6,00,000.00

Fixed selling and administrative costs

$3,00,000

Advertising cost

$1,25,000

Net profit

 $   3,75,000.00

Proposal by Tom Tune 

Sales

25000 units

Per unit Selling price

 $           130.00

Income

 $ 32,50,000.00

Per unit Variable cost of manufacturing

 $             55.00

Total variable manufacturing cost

 $ 13,75,000.00

Fixed manufacturing costs

 $   4,00,000.00

Per unit Variable selling and administrative costs

 $             30.00

Total variable selling and administrative cost

 $   7,50,000.00

Fixed selling and administrative costs

$3,00,000

Advertising cost

$50,000

Net profit

 $   3,75,000.00

 Proposal by Mary Watson 

 For three months beginning 1 April

Rest period

Sales

10000 units

14000 units

Per unit Selling price

 $           120.00

 $           130.00

Revenue

 $ 12,00,000.00

 $ 18,20,000.00

Variable per unit manufacturing cost

 $             50.00

 $             50.00

Total variable manufacturing cost

 $   5,00,000.00

 $   7,00,000.00

Fixed manufacturing costs

 $                              4,00,000.00

Variable selling and administrative per unit costs

 $             30.00

 $             30.00

Total variable selling and administrative cost

 $   3,00,000.00

 $   4,20,000.00

Fixed selling and administrative costs

$3,00,000

Net profit

 $                              4,00,000.00

(Chapman, Hopwood and Shields, 2007)

Among the three proposals offered to Bonza Ltd., the first proposal will result not result in the fall of the sales of the organization with the increase in cost per unit by $10. This will be adopted by additional investment in advertising. The company has to focus on improving the quality of the product. If the price of the product increases without increasing the cost of the product, then the volume of sales will reduce (Coombs, Hobbs and Jenkins, 2005).  The second proposal by Tom Tune will adopt the strategy of increasing the sales by improving the quality of the product. Although the cost of product will increase but the customers will prefer improved quality products (Epstein and Lee, 2010). The cost of production along with cost of manufacturing will increase. But there is uncertainty that the improve in quality will enhance the sales volume. In the third case, the profitability of the company will increase if the advertisement cost is adjusted. The income of the organization will increase in the third proposal. Among the three proposals, the third proposal will be beneficial for the organization (Khan & Jain, 2015).

(2) 

Units of sales

150000

Per unit price of selling

$15

Income

$ 2,250,000

Per unit total cost

$12.50

Total cost

$ 1,875,000

Total Profit

S 375,000

Condition 1 – The capacity of Tassie company factory is 2, 00,000 units 

Units of sales

150000

Per unit price of selling

$15

Income

$2,250,000

Per unit Total cost

$12.50

Total cost

$1875000

Extra Units of sales

40,000

Per unit price of sales

$15

Income

600,000

Per unit total cost

$10.50

Total cost

$420,000

Total Profit

S 555,000

 Condition 2 – Capacity of the factory is 180000 units per year 

Units of sales

150000

Per unit price of selling

$15

Income

$2,250,000

Per unit Total cost

$12.50

Total cost

$1875000

Extra Units of sales

30,000

Per unit price of sales

$15

Income

450,000

Per unit total cost

$10.50

Total cost

$315,000

Total Profit

S 510,000

 From the above two cases, it is evident that the profitability of the company will increase if it supplies additional 400000 units of the product to the government department. If the company sells additional 400000 units then profitability will be $555,000 and the profitability will be $510,000 if it sells additional 300000 units (Doupnik and Salter, 1995) ; (Young, 2015).

 

 
(3)
(a) Budget is the forecast of the future needs of the organization. It helps in the allocation of the resources. Preparation of budget is essential for an organization because it can have control over expenses. The organization will be able to meet the future capital needs. The profit of the organization can be estimated. The sales volume of the organization can be predicted from the estimation of the budget.
 
(b) Budget helps the manager in making key decisions of the organization. The manager will be able to identify the potential opportunities and threats concerning the organization from the budget. The manager can take strategies to overcome the problems encountered. This will help him to deal with business issues. However the business decisions in an organization cannot be controlled by budget. They must not serve as constraints which might lead to instability in the business organization (McCarthy et al., 2012).

 

 
(c) Sales budget is essential for an organization to identify the capacity of the organization to meet its deadlines. The profitability of the organization will be affected with the decline in the volume of sales. The budget of the organization is prepared on the basis of the resources available in the organization. The goals of the organization can be met by keeping a balance between expenses and income.
 
(d) Realistic budgets may sometimes be de motivating for the organization. It might not be able to derive the best performance. The realistic budget might put excessive pressure on the employees. The higher management authority will put work burden on the employees. The employees have to work hard to meet the deadline.
 
(e) The variances of budget can have adverse effects on the organization. This may reduce the profitability of the organization. Thus the variances have to be monitored. The favorable variances will enhance the growth of the organization in future. The management will be able to identify the major issues affecting the organization by considering the adverse variances from the budget. This will provide better solutions to the organization (Vitez, 2015). 
 

(4)1. Overhead allocation rate 

          Rate of labor hour = $ 12.70014

          Cost of Labor = $17780.19

          Indirect cost = $98400

          Cost of material = $33810

          Other cost = $6667.571 

          Overhead allocation rate = $5.5342 

  1. Total cost of special order

          Special order material cost = $43810

          Cost of labor = S17780.19

          Other cost = $6667.571 

          Special order total cost = $ 58257.76 

  1. Cost of special order of ABC ltd. 

          Rate of overhead per hour = $10

          Cost of material = $33810

          Cost of labor = $14000

          Other cost = $5250

          Total cost = $ 53060 

  1. Each retailer minimum price of ABC ltd 

         Cost = $58257.76

         Units = 350

         Minimum cost = $166.45 

5. Accurate costing using segmented overhead costs and activity based costing –

The expenses can be distinguished into fixed and variable using segmented overhead expenses. It helps in segregation of the expenses in the manufacturing of the product. The expenses that have been segmented can be identified with various types of operational assets. This will ensure a positive connection between the expenses that are standard and the operational expenses. The segmentation of the overhead cost will help to identify the various expenses which are related to the cost of production. It will add value to the product. In activity based costing, the variable expenses are recorded and results in apportionment of the items. The stocks can be valued by distribution of the overhead expenses. This will help to know the productive cost of the item. The organization can maximize their value by apportioning the expenses to various cost pools.

 

(5) Segmentation of overhead will help in the allocation of overhead cost to the individual job

Segmentation helps in segregating the resources into respective units. The income and expenses can be allocated efficiently with segmentation. It will help the manager of the organization identify the segment of the business that will be profitable for the organization. Majority of the overhead expenses are power, rent, light, depreciation and management expenses that do not occur from a specific department. These expenses must be segregated in order to distribute the expenses efficiently (Kenkel, 2015).

Example –

1. Indirect allocation cost can be the cost to upgrade the copying and fax machine of organization. The administrative expenses such as supply expenses of ink , paper , petty cash expenses , expenses of communication such as fax bills and phone bills can be considered as overhead expenses.

2. The labor expenses of the organizations that are not directly related to the production or operation of the business is regarded as indirect cost or overhead cost. They include contract workers, consultants, employees that are temporary. Other overhead expenses related to labor includes excess expenses of labor supply , insurance expenses , rents and taxes,

3. Overhead allocation costs can also be fringe benefits. They are generally considered in taxation. Holiday pay, sick leave which is paid and compensated vacation days. Other fringe benefit includes health insurance, life insurance and retirement benefits (Vogt, 2015). 

 

References 

Chapman, C., Hopwood, A. and Shields, M. (2007). Handbook of management accounting research. Amsterdam: Elsevier.

Coombs, H., Hobbs, D. and Jenkins, D. (2005). Management accounting. London: SAGE Publications.

Doupnik, T. and Salter, S. (1995). Advances in international accounting. Greenwich, Conn.: JAI Press.

Epstein, M. and Lee, J. (2010). Advances in management accounting. Bingley: Emerald.

Kenkel, P. (2015). Understanding, Allocating, and Controlling Overhead Costs. 1st ed. [ebook] pp.1-6. Available at: https://university.uog.edu/cals/people/pubs/mgt/f217.pdf [Accessed 6 Jan. 2015].

Khan & Jain, (2015). Management Accounting. pp.1-13.

McCarthy, J., Shelmon, N., Mattie, J. and Gross, M. (2012). Financial and accounting guide for not-for-profit organizations. Hoboken, N.J.: Wiley.

Vitez, O. (2015). Why Is it Important for a Business to Budget?. [online] Small Business - Chron.com. Available at: https://smallbusiness.chron.com/important-business-budget-385.html [Accessed 6 Jan. 2015].

Vogt, C. (2015). What Are Examples of Indirect Allocation?. [online] Small Business - Chron.com. Available at: https://smallbusiness.chron.com/examples-indirect-allocation-26377.html [Accessed 6 Jan. 2015].

Young, D. (2015). Management Accounting in Health Care Organizations

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