CA Final

Standard Costing – CA Final SCMPE Study Material is designed strictly as per the latest syllabus and exam pattern.

Standard Costing – CA Final SCMPE Study Material

Question 1.
(Traditional, Planning and Operational Variance)

Required:
Calculate Traditional Variances, Operational Variances, Planning Variance
Answer:
Traditional Variances:
Usage Variance = (9,000 Kgs. – 8,750 Kgs.) × ₹ 12.50
= ₹ 3,125 (F)
Price Variance = (₹ 12.50 – ₹ 13.00) × 8,750 Kgs.
= ₹ 4,375 (A)
Total Variance = ₹ 3,125(F) + ₹ 4,375 (A)
= ₹ 1,250 (A)

Operational Variances:
Usage Variance = (10,125 Kgs. – 8,750 Kgs.) × ₹ 11.50
= ₹ 15,812.50 (F)
Price Variance = (₹ 11.50 – ₹ 13) × 8,750 Kgs.
= ₹ 13,125 (A)
Total Variance = ₹ 15,812.50 (F) + ₹ 13,125 (A)
= ₹ 2,687.50 (F)

Planning Variances:
Usage Variance = (9,000 Kgs. – 10,125 Kgs.) × ₹ 12.50
= ₹ 14,062.50 (A)
Price Variance = (₹ 12.50 11.50) × 10,125 Kgs.
= ₹ 10,125 (F)
Total Variance = ₹ 14,062.50 (A) + ₹ 10,125 (F)
= ₹ 3,937.50 (A)

Question 2.
(Revising the budget)
Roshan Co. manufactures Stopers which it is estimated require 2 kg of material LMN at ₹ 10/kg. In week 21 Budget is to produce 250 Stoppers. 450 kg of LMN were purchased and used in the week at a total cost of ₹ 5,100. Later it was found that the standard had failed to allow for a 10% price increase throughout the material supplier’s industry. Roshan Co carries no stocks.
Required: Analyse the Planning and Operational Variance
Answer:
Planning and operational analysis
The first step in the analysis is to calculate:
(1) Actual Results
(2) Revised flexed budget (ex-post).
(3) Original flexed budget (ex-ante).

Question 3.
(Original and Revised Flexed Budgets)
Revising the budget A transport business makes a particular journey regularly, and has established that the standard fuel cost for each journey is 20 litres of fuel at ₹ 2 per litre. New legislation has forced a change in the vehicle used for the journey and an unexpected rise in fuel costs. It is decided retrospectively that the standard cost per journey should have been 18 litres at ₹ 2.50 per litre.
Required: Calculate the original and revised flexed budgets if the journey is made 120 times in the period.
Answer:
Original flexed budget:
120 × 20 × ₹2 = ₹ 4,800
Revised flexed budget:
120 × 18 × ₹ 2.50 = ₹ 5,400

Question 4.
(Planning and Operational Variance of Material Price and
Usage Variance)
(i) In the case of Material Purchase Price Variance, suppose the standard Price of Raw Material determined was ₹ 5.00 per unit, there is economic depression worldwide, so the price of raw material was estimated to change to ₹ 5.20.
the General Market Price per unit at the time of purchase was ₹ 5.18 on the purchase of sat 10.000 units of Ra w Material.
(ii) In the case of material Usage Variance, suppose the Standard Quantity per unit be 5 Kgs., Actual Production units be 250 and Actual Quantity of Material uses is 1,450kgs. Standard Cost of material per Kg. was ₹ 1. Because of shortage of Skilled Labour it was felt necessary to use Unskilled labour and that increased Material Usage by 20%. The variances to be computer to deal with the current environmental conditions will be:
Required:
Calculate Panning and operational Variance of Material Purchase Price Variance and Material Purchase Usage Variance.
Answer:
In this case the variances to be computed should be:
(i) Material Purchase Price Variance
Planning Variance:
= (Standard Price p.u – General market Price p.u.) × Actual Quantity Purchased
= (₹ 5.00 – ₹ 5.20) × 10,000 units = ₹ 2,000 (A)
Uncontrollable
Operational Variance:
= (General Market Price p.u. – Actual Price Paid p.u.) × Actual Quantity Purchased
= (₹ 5.20 – ₹ 5.18) × 10,000 units
= ₹ 200(F)

(ii) Material Usage Variance
Planning Variance*:
= (Original Std. Quantity in Kgs – Revised Std.) × Standard Price per Kg.
= (1,250 Kgs. – 1,500 Kgs) × ₹ 1
= ₹ 250 (A)
uncontrollable
Operational Variance (Controllable):
= (Revised Standard t Quantity in Kgs. – Actual Quantity Uses in Kgs.) × Std. Price per Kg.
= (1,500Kgs. – 1,450Kgs.) × ₹ 1 = Rs. 50(F)

Question 5.
(Planning and Operational Variance of Material Price and Usage Variance)
PWP company is manufacturing and selling a product ‘X’ in the market. Product ‘X’ requires product ‘D’ as an input raw material. The y Raw material ‘D’ had a standard direct material cost in the budget of 1 kg of material D @ ₹ 10 per kg which is ₹ 40 per unit of product ‘x’ manufactured.

Due to domestic riot supply of material to the market has disrupted, the average market price for Material D during the period was 11 per kg, and it was decided by the management of the company to revise the material standard cost to allow for this.
During this period company has manufactured 6,000 units of product X. They required 26,300 kg of Material D, which cost ₹ 2,78,780. For the purpose of further analysis company has appointed an expert.
Required ; Calculate:
(i) the material price planning variance
(ii) the material price operational variance and usage operational variance
Answer:
(i) The original standard cost was 4kg × ₹ 10 = ₹ 40,
The revised standard cost is 4kg × ₹ 11 = ₹ 44.
Material price planning variance
This is the difference between the original standard price for Material D and the revised standard price.

	₹ per kg
Original standard price	10.00
Revised standard price	11.00
Material price planning variance	1.00 (A)

The planning variance is adverse because the change in the standard price increases the material cost and this will result in lower profit.
The material price planning variance is converted into a total money amount by multiplying the planning variance per kg of material by the actual quantity of materials used.
Material price planning variance = 26,300 kg × ₹ 1.00 (A) = ₹ 26,300 (A).

(ii) Material price operational variance
This compares the actual price per kg of material with the revised standard price. It is calculated using the actual quantity of materials used.

26,300 kg of Material should cost(revised standard ₹ 11) = 2,89,300
They did cost = 2,78,780
Material price operational variance = 10,520 (F)

Material usage operational variance:
This variance is calculated by comparing the actual material usage with the standard usage in the revised standard, and then it is converted into a money value by applying the original standard price for the materials.

	kg of D
6,000 units of Product × should use (4kg)	24,000
They did us	26.300
Material usage (operational) variance in kg of D	2,300 (A)
Original standard price per kg of Material D	₹ 10.00
Material usage (operational) variance in	₹ 23,000 (A)

The variances may be summarised as follows:

Question 6.
(Planning and Operational Variance)
HDR Ltd produces units and incurs labour costs. A change in technology after the preparation of the budget resulted in a 25% increase in standard labour efficiency, such that it is now possible to produce 10 units instead of 8 units using 8 hours of labour-giving a revised standard labour requirement of 0.80 hours per unit. Details of actuals and budgeted for period XII are:

Required
(i) CALCULATE the variances for ‘X’ by
(a) Traditional Variance Analysis; and
(b) An approach which distinguishes between Planning and Operational Variances.
(ii) COMMENT on the results.
Answer:
(i) (a) Traditional Variances
Efficiency Variance = (1,100 hrs. – 1,200 hrs.) × ₹ 10
= ₹ 1,000 (A)
Rate Variance = (₹ 10 – ₹ 8.50) × 1,200 hrs.
= ₹ 1,800 (F)
Total Variance = ₹ 1,000 (A) + ₹ 1,800 (F) = ₹ 800 (F)

(b) Operational Variances
Efficiency Variance = (880 hrs. – 1,200 hrs.) × ₹ 10.00
= ₹ 3,200 (A)
Rate Variance = (₹ 10.00 – ₹ 8.50) × 1,200 hrs.
= ₹ 1,800 (F)
Total Variance = ₹ 3,200 (A) + ₹ 1,800 (F) = ₹ 1,400 (A)
Planning Variances
Efficiency Variance = (1,100 hrs. – 880 hrs.) × ₹ 10 = ₹ 2,200 (F)
Rate Variance = (₹ 10 – ₹ 10) × 800 hrs.
= ₹ 0
Total Variance = ₹ 2,200 (F) + ₹ 0 = ₹ 2,200 (F)

(ii) Comment
In this case, the separation of the labour cost variance into operational and planning components shows a large problem in the area of labour efficiency than might otherwise have been indicated. The operational variances are based on the revised (ex-post) standard and this gives a more meaningful performance benchmark than the original (ex-ante) standard.

Question 7.
(Planning and Operational Variance)
Managing Director of Petro-KL Ltd (PTKLL) thinks that Standard Costing has little to offer in the reporting of material variances due to frequently change in price of materials.
PTKLL can utilize one of two equally suitable raw materials and always plan to utilize the raw material which will lead to cheapest total production costs. However, PTKLL is frequently trapped by price changes and the material actually used often provides, after the event, to have been more expensive than the alternative which was originally rejected.
During last accounting period, to produce a unit of ‘P’ PTKLL could use either 2.50 Kg of ‘PG’ or 2.50 kg of ‘PD’. PTKLL planned to use ‘PG’ as it appeared it would be cheaper of the two and plans were based on a cost of ‘PG’of ₹ 1.50 per Kg. Due to market movements,
the actual prices changed and if PTKLL had purchased efficiently the cost would have been:
‘PG’ ₹2.25per Kg;
‘PD’ ₹2.00 per Kg
Production of ‘P’was 1,000 units and usage of ‘PG’amounted to 2,700 Kg at a total cost of t 6,480/-
Required
CALCULATE the material variance for ‘P’ by:
(i) Traditional Variance Analysis; and
(ii) An approach which distinguishes between Planning and Operational Variances. (10 Marks) [March 2019 MTP]
Answer:
(i) Traditional Variances (Actual Vs Original Budget)
Usage Variance = (2,500 Kg – 2,700 Kg) × ₹ 1.50
= ₹ 300(A)
Price Variance = (₹ 1.50 – ₹ 2.40) × 2,700 Kg
= ₹ 2,430 (A)
Total Variance = ₹ 300 (A) + ₹ 2,430 (A)
= ₹ 2,730 (A)

(ii) Operational Variances (Actual Vs Revised)
Usage Variance = (2,500 Kg – 2,700 Kg) × ₹ 2.25
= ₹ 450 (A)
Proce Variance = (₹ 2.25 – ₹ 2.40) × 2,700 Kg
= ₹ 405 (A)
Total Variance = ₹ 450 (A) + ₹ 405 (A)
= ₹ 855(A)

Planning Variances ‘
Controllable Variance = (₹2.00 – ₹2.25) × 2,500 Kg
= 625 (A)
Uncontrollable Variance = (₹ 1.50 – ₹2.00) × 2,500 Kg
= 1,250 (A)
Total Variance = ₹ 625 (A) + ₹ 1,250 (A)
= ₹ 1,875 (A)
Traditional Variance = Operational Variance + Planning Variance
Reconciliation
= ₹ 855 (A) + ₹ 1,875 (A)
= ₹ 2,730 (A)

Question 8:
(Planning and Operational Variance)
GRV is a chemical processing company that produces sprays used by farmers to protect their crops. One of these sprays ‘Agrofresh ’ is made by using either chemical A or chemical B. To produce one litre of Agrofresh spray they have the option to use either 12 litres of chemical A or 12 litres of chemical B. During the financial year, the purchase department of GRV has planned to use chemical B as it appeared that it would be the cheaper of the two and their plans were based on a cost of chemical B of ₹ 15 per litre.
Due to subsequent market movement during the year the actual prices changed and if the concerned department had purchased efficiently, the cost would have been

Chemical A	₹ 15.40 per litre
Chemical B	₹ 16.00 per litre

Production of Agrofresh spray was 1,000 litres and the usage of chemical B was 12,800 litres at a cost of ₹ 2,09,920.
You are the CEO of GRV and the Management Accountant has sent to you the following :
“I feel that in our particular circumstances the traditional approach to variance analysis is of little use as for some of our products we can utilize one of several equally suitable chemicals and we always plan to use such chemical which will lead to cheapest production costs. How’ever due to sharp market movements, we are frequently trapped by the sharp price changes which lead to the choice of expensive alternative at the end”
To check the reality in the content of the mail your CEO asked you, the cost accountant of the company:
(i) CALCULATE the material variance of Agi o Fresh by using
– Traditional Variance Analysis
– Planning and operational Variances (6 Marks)
(ii) ANALYSE how planning and operational variance approached the variances (2 Marks)
(iii) ANALYSE how the advanced variances at e useful to your organization (2 Marks) [May 2019 Exam]
Answer:
(i) Traditional Variances
Usage Variance = (12,000 It. – 12,800 It.) ₹ ₹ 15.00
= ₹ 12,000 (A)
Price Variance = (₹ 15.00 – ₹ 16.40) ₹ 12,800 It.
= ₹ 17,920 (A)
Total Variance = ₹ 12,000 (A) + ₹ 17,920 (A)
= ₹ 29,920 (A)

Operational Variances
Usage Variance = (12,000 1t. – 12,800 1t.) ₹₹ 16.00
= ₹ 12,800 (A)
Price Variance = (₹ 16.00 – ₹ 16.40) ₹ 12,800 It.
= ₹ 5,120 (A)
Total Variance = ₹ 12,800 (A) + ₹ 5,120 (A) = ₹ 17,920 (A)

Planning Variances
Controllable Variance = (₹ 15.40 – ₹ 16.00) ₹ 12,000 lt.
= ₹ 7,200 (A)
Uncontrollable Variance = (₹ 15.00 – ₹ 15.40) ₹ 12,000 lt.
= ₹ 4,800 (A)
Total Variance = ₹ 7,200 (A) + ₹ 4, 800 (A)
= ₹ 12,000 (A)
Reconciliation = ₹ 17,920 (A) + ₹ 12,000 (A) = ₹ 29,920 (A)
Direct Material Usage Operational Variance using Standard Price, and the Direct Material Price Planning Variance based on Actual Quantity can also be calculated. This approach reconciles the Direct Material Price Variance and Direct Material Usage Variance calculated in part.

(ii) Traditional variance analysis is applied based on the assumption that whole of the variance is due to operational deficiencies and the planning associated with setting the original standard is perfectly correct. But this assumption is not practical. When the conditions are volatile and dynamic, traditional variances need to be analysed into planning and operational variances. Planning variances try to explain the extent to which the original standard needs to be adjusted to reflect changes in operating conditions between the current situation and that imagined when the standard was originally derived. Planning variances are generally not controllable and may need to revise to cater the changes due to environmental/technological changes at a later stage. In certain situation planning variances can be considered controllable as well. Whereas operational variances explain the extent to which adjusted standards have been achieved. Operational variances are calculated after the planning variances have been established and are thus a realistic way of assessing performance. So, it Indicates a reality check of traditional variance analysis.

In GRV, as per traditional approach total variances are ₹ 29,920 (adverse), out of which ₹ 17,920 (adverse) accounts for total operational variance and ₹ 12,000 (adverse) is for total planning variance. It is necessary to analyse planning variances further. The planning variance of ₹ 12,000 (adverse) can be divided into an uncontrollable adverse variance of ₹ 4,800 and a controllable adverse variance of t 7,200. Similarly, total operational variance can be sub-classified as adverse price variance of ₹ 5,120 and adverse usage variance of ₹ 12,800. This analysis gives a clearer indication of the inefficiency of the purchasing function by the concerned department. Performance of the staff of the purchasing department should be evaluated/rewarded/based on variances which are controllable. If an adverse uncontrollable variance of ₹ 4,800 is reported in the performance reports this is likely to lead to dysfunctional motivation effects to the purchase department.

(iii) In today’s cutthroat competition managers must react quickly and accurately to the changes in technology, price fluctuation, consumer tastes, laws and regulations, economic conditions, political conditions, and international conditions etc. which are changing rapidly and dramatically. Accordingly, management accountant should be able to provide necessary inputs by a proper analysis of the things that pertains to his/her area like effect of changes in price. The unique features of advanced variance analysis are that, it considers different market conditions and changes in the dynamic environment.

Moreover, advanced variances classify variances into controllable and uncontrollable variances and helps the management to find out reasons for adverse variances so that corrective action can be taken. Similarly, if any adverse variances have arrived, because of changes in the market condition like inflation, it has to be differentiated from the other variances.

GRV is a type of organization where management of performance can be done only through advanced variance analysis. Advanced variance analysis of GRV shows that it has adverse planning variance as well as adverse operational variance. Further, the emergence of controllable and uncontrollable variances makes it a perfect case of advance variance analysis in GRV. In GRV, sharp price changes which lead to the choice of expensive alternative and efficiency of purchase department need to be analyzed, reported, and dealt separately by the joint effort of the management accountant and the top management. Hence, advanced variance analysis in GRV is an absolute necessity.

Question 9.
(Planning and Operational Variance)
Ski Slope had planned, when it originally designed its budget, to buy its artificial ice for ₹ 10/per kg. However, due to subsequent innovations in technology, producers slashed their prices to ₹ 9.70 per kg. and this figure is now considered to be a general market price for the purpose of performance assessment for the budget period. The actual price paid was ₹ 9.50, as the Ski Slope procurement department negotiated strongly for a better price. The other information relating to that period were as follows:

Required
(i) Calculate the variance for ice by
(a) Traditional Variance analysis; and
(b) An approach which distinguishes between planning and operational Variance
(ii) INTERPRET the result [May 2019 RTP]
Answer:
(i) (a) Traditional Variances
Usage Variance = (27,500 Kgs. – 27,225 Kgs.) × ₹ 10
= ₹ 2,750 (F)
Price Variance = (₹ 10 – ₹ 9.50) × 27,225 Kgs.
= ₹ 13,612.50 (F)
Total Variance = ₹ 2,750 (F) + ₹ 13,612.50 (F)
= ₹ 16,362.50 (F)

(b) Operational Variances
Usage Variance = (26,125 Kgs. – 27,225 Kgs.) × ₹ 9.70
= ₹ 10,670 (A)
Price Variance = (₹ 9.70 – ₹ 9.50) × 27,225 Kgs.
= ₹ 5,445 (F)
Total Variance = ₹ 10,670 (A) + ₹ 5,445 (F)
= ₹ 5,225 (A)

Planning Variances
Usage Variance = (27,500 Kgs. – 26,125 Kgs.) × ₹ 10
= 13,750 (F)
Price Variance = (₹ 10 – ₹ 9.70) × 26,125 Kgs.
= ₹ 7,837.50 (F)
Total Variance = ₹ 13,750 (F) + ₹ 7,837.5O (F)
= 21,587.50 (F)

(ii) Interpretation
It is important to note that an innovation in technology is outside the control of Ski Slope and is, by nature, a planning ‘error’. Equally, the better negotiation of a price should be recognized as an operational matter. Operational variances are self- evidently under the control of operational management, so operational efficiency must be assessed with only these figures in mind. The material procurement department has clearly done well by negotiating a price reduction beyond the market dip. One might question the quality of the ice, as the usage variance is adverse (possibly the ice fails to cover the field and so more is required). Obviously, the favourable price variance is mailer than the adverse usage variance, thus, overall performance is quite poor. A supervisor cannot assess variances in isolation from each other.

Question 10.
(Planning & Operational Variance)
KONY Ltd., based in Kuala Lumpur, is the Malaysian subsidiary of Japan’s NY corporation, headquartered in Tokyo. KONY’s principal Malaysian businesses include marketing, sales, and after-sales service of electronic products & software exports products. KONY set up a new factory in Penang to manufacture and sell integrated circuit ‘Q50X-N’. The first quarter’s budgeted production and sales were 2,000units. The budgeted sales price and standard costs for ‘Q50X-N’ were as follows:

	RM	RM
Standard Sales Price per unit		50
Standard Costs per unit
Circuit X (10 units @ RM 2.5)	25
Circuit Designers (6 hrs. @ RM 2)	12	(37)
Standard Contribution per unit		13

Actual results for the first quarter were as follows:

	RM’000	RM’000
Sales (2,000 units)		158
Production Costs (2,000 units)
Circuit X (21,600 units)	97.20
Circuit Designers (11,600 hours)	34.80	(132)
Actual Contribution (2,000 units)		26

The management accountant made the following observations on the actual results-
“In total, the performance agreed with budget; however, in eveiy aspect other than volume, there were huge differences. Sales were made at what was supposed to be the highest feasible price, but we now feel that we I could have sold for RM82.50 with no adverse effect on volume. The Circuit X cost that was anticipated at the time the budget was prepared was RM 2.5 per unit. However, the general market price relating to efficient purchases of the Circuit X during the quarter was RM 4.25 per unit. Circuit designers have the responsibility of designing electronic circuits that make up electrical systems. Circuit Designer’s costs rose dramatically with increased demand for the specialist skills required to produce the ‘Q50X-N’, and the general market rate was RM 3.125 per hour – although KONY always paid below the normal market rate whenever possible. In my opinion, it is not necessary to measure the first quarter’s performance through variance analysis. Further, our operations are fully efficient as the final contribution is equal to the original budget. ”
Required
COMMENT on management accountant’s view. [MAY 2020 RTP]
Answer:
Comment
As the management accountant states, and the analysis (W.N.1) presents, the overall variance for the KONI is nil. The cumulative adverse variances exactly offset the favourable variances i.e. sales price variance and circuit designer’s efficiency variance. However, this traditional analysis does not clearly show the efficiency with which the KONI operated during the quarter, as it is difficult to say whether some of the variances arose from the use of incorrect standards, or whether they were due to efficient or inefficient application of those standards.

In order to determine this, a revised expost plan should be required, setting out the standards that, with hindsight, should have been in operation during the quarter. These revised ex-post standards are presented in W.N.2.

As seen from W.N.3, on the cost side, the circuit designer’s rate variance has changed from adverse to favourable, and the price variance for component X, while remaining adverse, is significantly reduced in comparison to that calculated under the traditional analysis (W.N.l); on the sales side, sales price variance, which was particularly large and favourable in the traditional analysis (W.N.l), is changed into an adverse variance in the revised approach, reflecting the fact that the KONI failed to sell at prices that were actually available in the market.

Further, variances arose from changes in factors external to the business (W.N .4), which might not have been known or acknowledged by standard-setters at the time of planning are beyond the control of the operational managers. The distinction between variances is necessary to gain a realistic measure of operational efficiency.
W.N.l
KONY India Ltd.
Quarter-1

Operating Statement

W.N.2
Statement Showing Original Standards, Revised Standards, and Actual Results for Quarter 1

Original Standards (ex-ante) Revised Standards (ex-post) Actual
Sales 2,000 units X RM 50.00 RM
1,00,000 2,000 units X RM 82.50 RM
1,65,000 2,000 units X RM 79.00 RM
1,58,000
Circuit
X 20,000 unit s X RM 2.50 RM 50.000 20,000 units X RM 4.25 RM 85,000 21.600 units X RM 4.50 RM 97,200
Circuit
Designer 12,000 hrs. X RM 2.00 RM 24,000 12,000 hrs. X RM 3.125 RM .37,500 11,600 hrs. X RM 3.00 RM 34,800

W.N.3
Statement Showing Operational Variances

Particulars	(₹)	(₹)
Operational Variances		16,500 (A)
Sales Price [(RM 79.00 – RM 82.50) × 2,000 units]	7,000 (A)
Circuit × Price [(RM 4.25 – RM 4.50) × 21,600 units]	5,400 (A)
Circuit × Usage [(20,000 units – 21,600 units) × RM 4.25]	6,800 (A)
Circuit Designer Rate [(RM 3.125 – RM 3.00) × 11,600 hrs.]	1,450 (F)
Circuit Designer Efficiency [(12,000 hrs – 11,600 hrs.) × RM 3.125]	1,250 (F)

W.N.4
Statement Showing Planning Variances

Particulars	(₹)	(₹)
Planning Variance		16,500 (F)
Sales Price [(RM 82.50 – RM 50.00) × 2,000 units]	65,000 (F)
Circuit X Price [(RM 2.50 – RM 4.25) × 20,000 units]	35,000 (A)
Circuit Designer Rate [(RM 2.00 – RM 3.125) × 12,000 hrs.]	13,500 (A)

Question 11.
(Variance Analysis in Activity Based Costing)
N & S Co. (NSC) is a multiple product manufacturer. NSC pr oduces the unit and all overheads are associated with the delivery of units to its customers.

Particulars	Budget	Actual
Overheads (₹)	4,000	3,900
Output (units)	2,000	2,100
Customer Deliveries (no.’s)	20	19

Required
CALCULATE Efficiency Variance and Expenditure Variance by adopting ABC approach.
Answer:
Computation of Variances
Efficiency Variance = Cost Impact of undertaking activities more/less than standard
= (21 deliveries* – 19 deliveries) × ₹ 200
= ₹ 400 F
(*) \(\left(\frac{20 \text { Deliveries }}{2,000 \text { units }}\right)\) ₹ 2,100 units.

Expenditure Variance = Cost impact of paying more/less than standard for actual activities undertaken
= 19 deliveries × ₹ 200 – ₹ 3,900
= ₹ 100 (A)

Question 12.
(Variance Analysis of ABC)
Raju is Chief Financial Officer of Millets, com, an internet company that enables customer to aider for delivery of different millets by accessing its website. Raju is concerned with the efficiency and effectiveness of the financial function. He collects the following information for three finance activities in 2021.
Rate per unit of Cost Driver

The output measure is the number of deliveries which is the same as the number of remittances. The following additional information are also given:

	Budgeted	Actual
Number of deliveries	10,00,000	9,48,000
Delivery Batch size	5	4.468
Travel expenses Batch size	500	501.587

Required
CALCULATE the flexible budget variances for 2021 to :
(i) Receivable Activities (2 Marks)
(ii) Payable Activities (4 Marks)
(iii) Travel expense Activities (4 Marks)
(Ignore fractions in all calculations) [May 2019 Exam]
Answer:
Activity-based costing, flexible-budget variances for finance function activities.
(i) Receivables
Receivables is an output unit level activity. Its flexible-budget variance can be calculated as follows:
Flexible Budget Variance = Flexible Budget Costs – Actual Costs
= ₹ 6.39 × 9,48,000 – ₹ 7.50 × 9,48,000
= ₹ 60,57,720 – ₹ 71,10,000
= ₹ 10,52,280 (A)

(ii) Payables
Payables is a batch level activity.

	Static-Budget Amounts	Actual Amounts
Number of deliveries	10,00,000	9,48,000
Batch size (units per batch)	5	4.468
Number of batches (a/b)	2,00,000	2,12,175
Cost per batch	₹ 29	₹ 28
Total payables activity cost (c × d)	₹ 58,00,000	₹ 59,40,900

Step 1: The number of batches in which payables should have been processed
= 9,48,000 actual units/5 budgeted units per batch
= 189,600 batches

Step 2: The flexible-budget amount for payables
= 1,89,600 batches × ₹ 29 budgeted cost per batch
= ₹ 54,98,400
The flexible-budget variance can be computed as follows:

Flexible-Budget Variance
= Flexible-Budget Costs – Actual Costs
= 1,89,600 × ₹ 29 – 2,12,175 × ₹ 28
= ₹ 54,98,400 – ₹ 59,40,900
= ₹ 4,42,500 (A)

(iii) Travel Expenses
Travel expenses is a batch level activity.

	Static-Budget Amounts	Actual Amounts
a. Number of deliveries	10,00,000	9,48,000
b. Batch size (units per batch)	500	501.587
c. Number of batches (a/b)	₹,000	1,890
d. Cost per batch	₹ 76	₹ 74
e. Total travel expenses activity cost (c × d)	₹ 1,52,000	₹ 1,39,860 ‘

Step 1: The number of batches in which the travel expense should have been processed
= 948,000 actual units/500 budgeted units per batch
= 1,896 batches

Step 2: The flexible-budget amount for travel expenses = 1,896 batches × ₹ 76 budgeted cost per batch
= ₹ 1,44,096

The flexible budget variance can be calculated as follows:
Flexible Budget Variance
= Flexible-Budget Costs – Actual Costs = 1,896 × ₹ 76 – 1,890 × ₹ 74 = ₹ 1,44,096 – ₹ 1,39,860
= ₹ 4,236 (F)

Question 13.
(Variance analysis of ABC)
SPS Limited uses activity based costing to allocate variable manufacturing overhead costs to products. The company identified three activities with the following information for last quarter:

Required
(i) CALCULATE variable overhead expenditure variance and variable overhead efficiency variance for each of the activities using activity based costing. Clearly indicate each variance as favourable or unfavourable/adverse. (6 Marks)
(ii) INTERPRET the results of variable overhead efficiency variance as calculated in (i) above in respect of indirect materials and product testing activity. (2 Marks)
(iii) IDENTIFY the variances that should he investigated according to company policy. Show calculations to support your answer.
(2 Marks)
The company produced 80,000 units in the last quarter. Company policy is to investigate all variances above 5% of the flexible budget amount for each activity. [Nov. 2019]
Answer:
(i) Indirect Materials:
= Cost Impact of undertaking activities more/less than standard
= (0.50kg. × 80,000 units – 48,000 kg.) × ₹ 20
= ₹ 1,60,000 (A)

Expenditure Variance = Cost impact of paying more/less than standard for actual activities under- taken
= 48.000 kg. × ₹ 20 – ₹ 9,40,000
= ₹ 20,000 (F)

Product Testing
Efficiency Variance = Cost Impact of undertaking activities more/less than standard
= (10 mins. × 80,000 units – 7,40,000 mins.) × ₹ 3
= ₹ 1,80,000 (F)

Expenditure Variance = Cost impact of paying more/less than j standard for actual activities under-taken
= 7,40,000 mins × ₹ 3 – ₹ 2,50,000
= ₹ 30,000 (A)

Energy:
Efficiency Variance = Cost Impact of undertaking activities more/less than standard
= (4 mins. × 80,000 units – 3,60,000 mins.) × ₹ 0.20
= ₹ 8,000 (A)

Expenditure Variance = Cost impact of paying more/less than standard for actual activities undertaken
= 3,60,000 mins × ₹ 0.20 – ₹ 70,000
= ₹ 2,000 (F)

(ii) Indirect Materials
SPS actually spent 48,000 kg. or 8,000 kg. more than the standard allows. At a predetermined rate of ₹ 20 per kg., efficiency variance is 1,60,000 (A). Since actual quantity were higher than the standard, the variance is unfavourable. This adverse variance, could have been caused by the inferior quality, result of carelessness handling of materials by production workers or could as a result of change in methods of production, product specifications or the way in which quality of the product is checked or controlled.

Product Testing
Favourable efficiency variance amounting to ₹ 1,80,000 indicates that fewer testing minutes were expended during the quarter than the standard minutes required for the level of actual output. This may be due to employment of a higher skilled labour or improvement of skills of existing workforce through training and development leading to improved productivity etc.

(iii) Flexible Budget

Indirect Materials	= (0.50 kg. × 80,000 units) × ₹ 20 = ₹ 8,00,000	= ₹ 8,Q0,000 × 5% = ₹ 40,000
Product Testing	= (10 mins. × 80,000 units) × ₹ 3 = ₹ 24,00,000	= ₹ 24,00,000 × 5% = ₹ 1,20,000
Energy	= (4 mins. × 80,000) × ₹ 0.20 = ₹ 64,000	= ₹ 64,000 × 5% = ₹ 3,200

Efficiency Variance for all the three activities are more than 5% of their flexible budget amount. So, according to the company policy, efficiency variances should be investigated.

Alternative
Statement Showing Identification of Variances to be investigated

Question 14.
(Material, Labour Planning & Operational Variance, Variance Analysis of ABC)
JPY Limited produces a single product. It has recently autotmated part of its manufacturing plant and adopted Total Quality Management (TQM) and Just-in- Time manufacturing system. No inventories are held for material as well as for finished product. The company currently uses standard absorption costing system. Following are related to fourth quarter of 2020-21;

	Budget	Actual
Production and Sales	1,00,000 units	1,10,000 units
Direct Materials	2,00,000 kg. @ ₹ 30/kg	2,50,000 kg. @ ₹ 31.20/kg.
Direct Labour Hours	25,000 hrs. @ ₹300/ hr	23,000 hrs. @ ₹ 300/ hr.
Fixed Production Overhead	₹ 3,20,000	₹ 3,60,000

Production overheads are absorbed on the basis of direct labour hours.
The CEO intends to introduce activity based costing system along with TQM and JIT for better cost management. A committee has been formed for this purpose. The committee has further, analysed and classified the production overhead of fourth quarter as follows:

	Budget	Actual
Costs:
Material Handling	₹ 96,000	₹ 1,24,000
Set Up	₹ 2,24,000	₹ 2,36,000
Activity:
Material Handling (orders executed)	8,000	8,500
Set Up (production runs)	2,000	2,100

Revision of standards relating to fourth quarter were made as below:

	Original Standard	Revised Standard
Material Content per unit	2 kg	2 .25 kg
Cost of Material	₹30 per kg	₹31 per kg
Direct Labour Hours	15 minutes	12 minutes

Required
(i) CALCULATE Planning and Operational Variances relating to material price, material usage, labour efficiency, and labour rate.
(ii) CALCULATE overhead expenditure and efficiency variance
using Activity Based Costing principles.
Answer:
(i) Workings

Material
Traditional Variances
Usage Variance = (2,20,000 Kgs. – 2,50,000 Kgs.) × ₹ 30
= ₹ 9,00,000 (A)
Price Variance = (₹ 30.00 – ₹ 31.20) × 2,50,000 Kgs.
= ₹ 3,00,000 (A)
Total Variance = ₹ 9,00,000 (A) + ₹ 3,00,000 (A)
= ₹ 12,00,000 (A)

Planning Variances
Usage Variance = (2,20,0000 Kg. – 2,47,500 Kg.) × ₹ 30
= ₹ 8,25,000 (A)
Price Variance = (₹ 30 – ₹ 31) × 2,47,500 Kgs.
= ₹ 2,47,500 (A)
Total Variance = ₹ 8,25,000 (A) + ₹ 2,47,5000 (A)
= ₹ 10,72,500 (A)

Operational Variances
Usage Variance = (2,47,500 Kg. – 2,50,000 Kg.) × ₹ 31
= ₹ 77,500 (A)
Price Variance = (₹ 31.00 – ₹ 31.20) × 2,50,000 Kg.
= ₹ 50,000 (A)
Total Variance = ₹ 77,500 (A) + ₹ 50,000 (A)
= ₹ 1,27,500 (A)
Direct Material Usage Operational Variance using Standard Price, and the Direct Material Price Planning Variance based on Actual Quantity can also be calculated. This approach reconciles the Direct Material Price Variance and Direct Material Usage Variance calculated in part.
Labour
Traditional Variances
Efficiency Variance = (27,500 hrs. – 23,000 hrs.) × ₹300
= ₹13,50,000 (F)
Rate Variance = (₹300 – ₹300) × 23,000 hrs.
= NIL
Total Variance = ₹ 3,50,000 (F) + NIL
= ₹ 13,50,000 (F)

Planning Variances
Efficiency Variance = (27,500 hrs. – 22,000 hrs.) × ₹ 300
= ₹ 16,50,000 (F)
Rate Variance = (₹ 300 – ₹ 300) × 22,000 hrs.
= NIL
Total Variance = ₹ 16,50,000 (F) + 0
= ₹16,50,000 (F)

Operational Variances =
Efficiency Variance = (22,000 hrs. – 23,000 hrs.) × ₹ 300
= ₹ 3,00,000 (A)
Rate Variance = (₹ 300 – ₹ 300) × 23,000 hrs.
= NIL
Total Variance = ₹ 3,00,000 (A) + 0
= ₹ 3,00,000 (A)
Direct Labour Efficiency Operational Variance using Standard Rate, and the Direct Labour Rate Planning Variance based on Actual Hours can also be calculated. This approach reconciles the Direct Labour Rate Variance and Direct Labour Efficiency Variance calculated in part.

(ii) Material Handling
Efficiency Variance = Cost Impact of undertaking activities more/less than Standard
= (8,800 orders* – 8,500 orders) × ₹ 12
= ₹ 3,600(F)
*(8,000 orders /1,00,000 units) × 1,10,000 units
Expenditure Variance = Cost impact of paying more/less than standard for actual activities undertaken
= 8,500 orders × ₹12 – ₹1,24,000
= ₹22,000 (A)

Setup
Efficiency Variance = Cost Impact of undertaking activities more/ less than standard
= (2,200 runs* – 2,100 runs) × ₹ 112
= ₹ 11,200 (F)
*(2,000 runs/1,00,000 units) × 1,10,000 units
Expenditure Variance = Cost impact of paying more/less than standard for actual activities undertaken
= 2,100 runs × ₹112 – ₹2,36,000
= ₹ 800 (A)

Question 15.
(Learning Curve Impact on Variance; Life Cycle Costing)
DK International is developing a new product. During its expected life, 16,000 units of the product will be sold for ₹ 102 per unit. Production will be in batches of 1,000 units throughout the life of the product.
The direct labour cost is expected to reduce due to the effects of learning for the first eight batches produced. Thereafter, the direct labour cost will remain constant at the same cost per batch as in the 8th batch.
The direct labour cost of the first batch of 1,000 units is expected to be ₹ 55,000 and a 90% learning effect is expected to occur. The direct material and other non-labour related variable costs will be ₹ 50 per unit throughout the life of the product.
There are no fixed costs that are specific to the product.
The learning index for a 90% learning Curve = – 0.152; 8^-0.152 = 0.729; 7^-0.152 = 0.744
Required
(i) CALCULATE the expected direct labour cost of the 8*h batch. (3 marks)
(ii) CALCULATE the expected contribution to be earned from the product over its lifetime. (3 marks)
(iii) CALCULATE the rate of learning required to achieve a lifetime product contribution of ₹ 5,00,000, assuming that a constant rate of learning applies throughout the product’s life. (4 marks) [May 2019 Exam]
Answer:
(i) Total Direct Labour Cost for first 8 batches based on learning curve | of 90% (when the direct labour cost for the first batch is ₹ 55,000)
The usual learning curve model is
y = ax^b
Where
y = Average Direct Labour Cost per batch for x batches
a = Direct Labour Cost for first batch
x = Cumulative No. of batches produced
b = Learning Coefficient/Index
y = ₹ 55,000 × (8)^-0.152
= ₹ 55,000 × 0.729
= ₹ 40,095
Total Direct Labour Cost for first 8 batches
= 8 batches × ₹ 40,095
= ₹ 3,20,760
Total Direct Labour Cost for first 7 batches based on learning curve of 90% (when the direct labour cost for the first batch is ₹ 55,000)
y = ₹ 55,000 × (7)^-0.152
= ₹ 55,000 × 0.744
= ₹ 40,920
Total Direct Labour Cost for first 7 batches
= 7 batches × ₹ 40,920
= ₹ 2,86,440
Direct Labour Cost for 8^th batch
= ₹ 3,20,760 – ₹ 2,86,440
= ₹ 34,320

(ii) Statement Showing “Life Time Expected Contribution”

Particulars	Amount (₹)
Sales (₹ 102 × 16,000 units)	16,32,000
Less: Direct Material and Other Non Labour Related Variable Costs (₹ 50 × 16,000 units)	8,00,000
Less: Direct Labour	5,95,320
Expected Contribution	2,36,680

(*) Total Labour Cost over the Product’s Life
= ₹ 3,20,760 + (8 batches × ₹ 34,320)
= ₹ 5,95,320

(iii) In order to achieve a Profit of ₹ 5,00,000 the Total Direct Labour Cost over the Product’s Lifetime would have to equal ₹ 3,32,000.
Statement Showing “Life Time Direct Labour Cost”

Particulars	Amount (₹)
Sales (₹ 102 × 16,000 units)	16,32,000
Less: Direct Material and Other Non Labour Related Variable Costs (₹ 50 × 16,000 units)	8,00,000
Less: Desired Life Time Contribution	5,00,000
Direct Labour	3,32,000

Average Direct Labour Cost per batch for 16 batches is ₹ 20,750 (₹ 3,32,000/16 batches).
Total Direct Labour Cost for 16 batches based on learning curve of r% (when the direct labour cost for the first batch is ₹ 55,000)
y = ₹ 55,000 × (16)^b
₹ 20,750 = ₹ 55,000 × (16)^b
0.3773 = (16)^b
log 0.3773 = b × log 2⁴
log 0.3773 = b × 4 log 2
log 0.3773 = \(\frac{(\log r)}{(\log 2)}\) × 4 log 2
= log 0.3773 = log r⁴
0.3773 = r⁴
r = ⁴0.3773
r = 78.37%

Alternative:
In order to achieve a contribution of ₹ 5,00,000, the total labour cost over the product’s lifetime would have to be ₹ 8,32,000 – ₹ 5,00,000 = ₹ 3,32,000.This equals an average batch cost of ₹ 3,32,000/16 = ₹ 20,750/-. This represents ₹ 20,750/₹ 55,000 = 37.73% of the cost of the first batch.
16 batched represent 4 doublings of output.
Therefore, the rate of learning required = \(\sqrt[4]{0.3773}\) = 78.37%

Question 16.
(Learning Curve Impact on Variance)
The learning curve as a management accounting has now become or going to become an accepted tool in industry, for its applications are almost unlimited. When it is used correctly, it can lead to increase business and higher profits; when used without proper knowledge, it can lead to lost business and bankruptcy. State precisely:
(i) Your understanding of the learning curve:
(ii) The theory of learning curve;
(iii) The areas where learning curves may assist in management accounting; and
(iv) Illustrate the use of learning curves for calculating the expected average units cost of making.
(a) 4 machines
(b) 8 machines
Using the data below:
Data:
Direct Labour need to make first machine = 1,000 hrs.
Learning curve = 90%
Direct Labour cost = ₹ 15 per hour.
Direct materials cost = ₹ 1,50,000
Fixed cost for either size orders = ₹ 60,000.
Answer:
Statement showing computation of cost of making 4 machines & 8 machines:

Average cost of making 4 machines ₹ 1,77,150
Average cost of making 8 machines ₹ 1,68,435

Question 17.
(Learning Curve Impact on Variance)
Z.P.L. C experience difficulty in its budgeting process because it finds it necessary to qualify the learning effect as new products are introduced. Substantial product changes occur and result in the need for retraining. An order for 30 units of a new product has been received by Z.P.L.C So far, 14 have been completed; the first unit required 40 direct labour hours and a total of 240 direct labour has been recorded for the 14 units. The production manager expects an 80% learning effect for this type of work.
The company use standard absorption costing. The direct costs attributed to the centre in which the unit is manufactured and its direct materials costs are as follows:

	₹
Direct material	30.00 per unit
Direct Labour	6.00 per hour
Variable overhead	0.50 per direct labour hour
Fixed overhead	6,000 per four-week operating period.

There are ten direct employees working a five-day week, eight hours per day. Personal and other downtime allowances account for 25% of total available time.
The company usually quotes a four-week delivery period for orders.
You are required to:
(i) Determine whether the assumption of an 80% learning effect 1 is a reasonable one in this case, by using the standard formula y = ax^b
Where Y = the cumulative average direct labour time per unit (productivity)
a = the average labour time per unit for the first batch,
x = the cumulative number of batches produced,
b = the index of learning.
(ii) Calculate the number of direct labour hours likely to be required for an expected second order of 20 units.
(iii) Use the cost data given to produce an estimated product cost for the initial order, examine the problems which may be created for budgeting by the presence of the learning effect.
Answer:
(i) Total time taken to produce 14 units
Y = ax⁶
Y = 40(14)^-0.322 = 17.14
Total time = 17.14 × 14 = 239.96 = 240 hours
It is true that learning ratio 80% is effective.

(ii) 30 units
Y = 40(30)^-0.322 = 13.3 80 hours (Average time)
50 units
Y = 40(50)^-0.322 = 1 1.35 hours (Average time)
Total time for 30 units = 13.38 × 30 = 401.4 hours
Total time for 50 units = 11.35 × 50 = 567.5 hours
Time taken for 20 units from 31 to 50 units (567.5 – 401.4) = 166.1 hours

(iii) Man hours = 10 × 8 × 5 × 4 = 1,600
(-) down time = 400.
= 1,200

Fixed Cost per hour = 6,000/1,200 = ₹ 5
Computation of total cost for the initial order
Material (30 × 30) = ₹ 900.0
Labour (401.4 × 6) = ₹ 2408.4
Variable Overheads (0.5 × 401.4) = ₹ 200.7
Fixed Overheads (5 × 401.4) = ₹ 2007.0
Total = ₹ 900.0 + ₹ 2408.4 + ₹ 200.7 + ₹ 2007.0 = ₹ 5516.1

Question 18.
(Learning Curve Impact on Variance)
A firm received an order to make and supply eight units of standard product which involves intricate labour operations. The first unit was made in 10 hours. It is understood that this type of operations is subject to 80% learning rate. The workers are getting a wages rate of ₹ 12 per hour.
(i) What is the total time and labour cost required to execute the above order?
(ii) If a repeat order of 24 units is also received from the same customer, what is the labour cost necessary for the second order?
Answer:
80% Learning Curve results are given below:

Production (Units)	Cumulative Average Time (hours)	Total Time (hours)
1	10	10
2	8	16
4	6.4	25.6
8	5.12	40.96
16	4.096	65.54
32	3.2768	104.86

Labour time required for first eight units = 40.96 hours
Labour cost
required for 8 units = 40.96 hours × ₹ 12/hr = ₹ 491.52
Labour time for 32 units = 104.86 hours
Labour time for first eight units = 40.96 hours
Labour time required for 2nd order for 24 units = 63.90 hours
Labour cost for 24 units = 63.90 hours × ₹ 12/hr = ₹ 766.80

Question 19.
(Learning Curve Impact on Variance)
The usual learning curve model is Y = a^xb where Y is the average time per unit for x units.
a is the time for first unit
x is the cumulative number of units
b is the learning coefficient and is equal to log 0.8/log 2 = 0.322 of a learning rate of 80%
Given that a = 10 hours and learning rare 80%, you are required to Calculate:
(i) The average time for 20 units.
(ii) The total time for 30 units.
(iii) The time for units 31 to 40.
Given that log 2 = 0.301, Antilog of 0.5811 = 3.812 log 3 = 0.4771, Antilog of 0.5244 = 3.345. log 4 = 0.6021, Antilog of 0.4841 = 3.049.
Answer:
(i) Y = AX^b
Y = 10(20)^-0.322
Taking log on both sides
Log y = log 10 + log 20^(-0.322)
Log y = log 10 – (0.322) log 20
= 1 – (0.322) log 20
= 1-(0.322) × (1.3010)
= 1-0.41892
= 0.5811 1
Logy = 0.5811
Y = Anti log (0.5811) = 3.812 hrs (average time)

(ii) Log y = log 10 + log 30^(-0.322)
Logy = 1 – (0.322) × (1.4771)
= 1 – (0.4756) = 0.5244
Y = anti log (0.5244) = 3.345 hrs (average time)
Total time = 3.345 × 30 = 100.35 hrs

(iii) Log y = log 10 + log 40^(-0.322)
= 1 – (0.322) × (1.6021)
Log y = 0.4841
Y = anti log (0.4841) = 3.049 hrs
Total time = 40 × 3.049 = 121.96 hrs
Time from 31 to 40 units = 121.96 – (100.35) = 21.61hrs

Question 20.
(Learning Curve impact on Variance, Reconciliation)
City International Co. is a multiproduct firm and operates standard costing and budgetary control system. During the month of June firm launched a new product. An extract from performance report I prepared by Sr. Accountant is as follows:

Particulars	Budget	Actual
Output	30 units	25 units
Direct Labour Hours	180.74 hrs.	118.08 hrs.
Direct Labour Cost	₹ 1,19,288	₹ 79,704

Sr. Accountant prepared performance report for new product on certain assumptions but later on he realized that this new product has similarities with other existing product of the company. Accordingly, the rate of learning should be 80% and that the learning would cease after 15 units. Other budget assumptions for the new product remain valid.
The original budget figures are based on the assumption that the labour has learning rate of 90% and learning will cease after 20 units, and thereafter the time per unit will be the same as the time of the final unit during the learning period, i.e. the 20th unit. The time \ taken for 1st unit is 10 hours.
Required
Show the variances that reconcile the actual labour figures with revised budgeted figures (for actual output) in as much detail as possible.
Note:
The learning index values for a 90% and a 80% learning curve are – 0.152 and – 0.322 respectively.
[log 2 = 0.3010, log 3 = 0.47712, log 5 = 0.69897, log 7 = 0.8451, antilog of 0.6213 = 4.181, antilog of 0.63096 = 4.275]
Answer:
Working Note
The usual learning curve model is
y = ax^b
Where
y = Average time per unit for x units
a = Time required for first unit
x = Cumulative number of units produced
b = Learning co-efficient
W.N.1
Time required for first 15 units based on revised learning curve of 80%
(when the time required for the first unit is 10 hours)
y = 10 × (15)^-0.322
log y = log 10 – 0.322 × log 15
log y = log 10 – 0.322 × log (5 × 3)
log y = log 10 – 0.322 × [log 5 + log 3]
log y = 1 – 0.322 × [0.69897 + 0.47712]
log y = 0.6213
y = antilog of 0.6213
y = 4.181 hours
Total time for 15 units = 15 units × 4.181 hours
= 62.72 hours
Time required for 25 units based on revised learning curve of 80%
(when the time required for the first unit is 10 hours)
y = 10 × (14)^-0.322
log y = log 10 – 0.322 × log 14
log y = log 10 – 0.322 × log (2 × 7)
log y = log 10 – 0.322 × [log 2 + log 7]
log y = 1 – 0.322 × [0.3010 + 0.8451]
log y = 0.63096
y = antilog of 0.63096
y = 4.275 hrs
Total time for 14 units = 14 units × 4.275 hrs
= 59.85 hrs
Time required for 25 units based on revised learning curve of 80%
(when the time required for the first unit is 10 hours)
Total time for first 15 units = 62.72 hrs
Total time for next 10 units 28.70 hrs + [(62.72 – 59.85) hours × 10 units]
Total time for 25 units = 62.72 hrs + 28.70 hrs
= 91.42 hrs

W.N.2
Computation of Standard and Actual Rate
Standard Rate = \(\frac{₹ 1,19,288}{180.74 \text { hrs. }}\)
= ₹ 660.00 per hr.
Actual Rate = \(\frac{₹ 79,704}{118.08 \mathrm{hrs} .}\)
= ₹ 675.00 Per hour

W.N.3
Computation of Variances
Labour Rate Variance = Actual Hrs × (Std. Rate – Actual Rate)
= 118.08 hrs × (₹ 660.00 – ₹ 675.00)
= ₹ 1,771.20 (A)
Labour Efficiency Variance = Std. Rate × (Std. Hrs – Actual Hrs)
= ₹ 660 × (91.42 hrs – 118.08 hrs)
= ₹ 17,595.60 (A)

Statement of Reconciliation (Actual Figures Vs Budgeted Figures)

Particulars	₹
Actual Cost	79,704.00
Less: Labour Rate Variance (Adverse)	1,771.20
Less: Labour Efficiency Variance (Adverse)	17,595.60
Budgeted Labour Cost (Revised)*	60,337.20

Budgeted Labour Cost (Revised)*
= Std. Hrs. × Std. Rate
= 91.42 hrs. × ₹ 660
= ₹ 60,337.20

Question 21.
(Reconciliation and Analysis of Variances)
Trident Toys Ltd. manufactures a single product and the standard cost system is followed.
Standard cost per unit is worked out as follows:

	₹
Materials (10 Kgs. @ ₹ 4 per Kg)	40
Labour (8 hours @ ₹ 8 per hour)	64
Variable overheads (8 hours @ ₹ 3 per hour)	24
Fixed overheads (8 hours @ ₹ 3 per hour)	24
Standard Profit	56

Overheads are allocated on the basis of direct labour hours. In the month of April 2021, there was no difference between the budgeted and actual selling price and there were no opening or closing stock during the period.
The other details for the month of April, 2021 are as under

	Budgeted	Actual
Production and Sales	2,000 Units	1,800 Units
Direct Materials	20,000 Kgs. @ ₹ 4 per kg	20,000 Kgs. (a) ₹ 4 per kg
Direct Labour	16,000 Hrs. @ ₹ 8 per Hr.	14,800 Hrs. (a ₹ 8 per Hr.
Variable Over­heads	₹ 48,000	₹ 44,400
Fixed Over­heads	₹ 48,000	₹ 48,000

Required
(i) RECONCILE the budgeted and actual profit with the help of variances according to each of the following method:
(A) The conventional method
(B) The relevant cost method assuming that
(a) Materials are scarce and are restricted to supply of 20,000 Kgs. for the period.
(b) Labour hours are limited and available hours are only 16, 000 hours for the period.
(c) There are no scarce inputs. (12 Marks)
(ii) COMMENT on efficiency and responsibility of the Sales Manager for not using scarce resources. (8 Marks) [May 2018 Exam]
Answer:
(I) Computation of Variances
Material Usage Variance = Standard Price × (Standard Quantity – Actual Quantity)
= ₹ 4.00 × (18,000 × Kgs. – 20,000 Kgs.)
= ₹ 8,000(A)
(1,800 units × 20,000 Kgs./2,000 units)
Labour Efficiency = Standard Rate × (Standard Hours – Variance Actual Hours)
= ₹ 8.00 × (14,400 hrs. – 14,800 hrs.)
= ₹ 3,200(A)
*(1,800 units × 16,000 hrs./2,000 units)
Variable Overhead Efficiency Variance = Standard Variable Overheads for Production – Budgeted Variable Over heads for Actual hours
= (14,400 hrs. × ₹ 3.00) – (₹ 3.00 × 14,800 hrs.)
= ₹ 1,200(A)
Fixed Overhead Volume Variance
= Absorbed Fixed Overheads – Budgeted Fixed Overheads
= (14,400 hrs. × ₹ 3.00) – (16,000 hrs. × ₹ 3.00)
= ₹ 4,800(A)
Sales Margin Volume Variance = Standard Margin – Budgeted Margin
= (1,800 units × ₹ 56.00) – (2,000 units × ₹ 56.00)
= ₹ 11,200 (A)
Sales Contribution Volume Variance
= Standard Contribution – Budgeted Contribution
= (1,800 units × ₹ 80.00) – (2,000 units × ₹ 80.00)
= ₹ 16,000 (A)
Statement Showing “Reconciliation Between Budgeted Profit & Actual Profit”

Notes
Scarce Material
Based on conventional method, direct material usage variance is ₹ 8,000 (A) i.e. 2,000 Kg. × ₹ 4. In this situation material is scarce, and, therefore, material cost variance based on relevant cost method should also include contribution lost per unit of material. Excess usage of 2,000 Kg. leads to lost contribution of ₹ 16,000 i.e. 2,000 Kgs. × ₹8. Total material usage variance based on relevant cost method, when material is scarce will be: ₹ 18,000 (A) + ₹ 16,000 (A) = ₹ 24,000 (A). Since labour is not scarce, labour variances are identical to conventional method.

Excess usage of 2,000 Kgs. leads to loss of contribution from 200 units i.e. ₹ 16,000 (200 units × ₹ 80). It is not the function of the sales manager to use material efficiently. Hence, loss of contribution from 200 units should be excluded while computing sales contribution volume variance.
(*) →
Therefore, sales contribution volume variance, when materials are scarce will be NIL i.e. ₹ 16,000 (A) – ₹ 16,000 (A).
Scarce Labour
Material is no longer scarce, and, therefore, the direct material variances are same as in conventional method. In conventional method, excess labour hours used are: 14,400 hrs. – 14,800 hrs. = 400 hrs. Contribution lost per hour = ₹ 10. Therefore, total contribution lost, when labour is scarce will be: 400 hrs. × ₹ 10 = ₹ 4,000. Therefore, total labour efficiency variance, when labour hours are scarce will be ₹ 7,200 (A) i.e. ₹ 3,200 (A) + ₹ 4,000 (A).
Excess usage of 400 hrs. leads to loss of contribution from 50 units i.e. ₹ 4,000 (50 units × ₹ 80). It is not the function of the sales manager to use labour hours efficiently. Hence, loss of contribution from 50 units should be excluded while computing sales contribution volume Variance.
($) →
Therefore, sales contribution volume variance, when labour hours are Scarce will be ₹ 12,000 (A) i.e. ₹ 16,000 (A) – ₹ 4,000 (A).
Fixed Overhead Volume Variance
(#) →
The fixed overhead volume variance does not arise in marginal costing system. In absorption costing system, it represents the value of the under or over absorbed fixed overheads due to change in production volume. When marginal costing is in use there is no overhead volume variance, because marginal costing does not absorb fixed overheads.

(ii) Comment on Efficiency and Responsibility of the Sales Manager
In general, Gross Profit (or contribution margin) is the joint responsibility of sales managers as well as of production managers. On one hand the sales manager is responsible for the sales revenue part, on the other hand the production manager is accountable for the cost- of-goods-sold component. However, it is the top management who needs to ensure that the target profit is achieved by the organization.

The sales manager is accountable for prices, volume, and mix of the product, whereas the production manager must control the costs of materials, labour, factory overheads and quantities of production. The purchase manager must purchase materials at budgeted prices. The personnel manager must employ right people at the right place with appropriate wage rates. The internal audit manager must ensure that the budgetary figures for sales and costs are being adhered by all departments which are directly or indirectly involved in contribution of making profit. Thus, sales manager is not responsible for contribution lost due to excess usage or inefficient usage of resources in case of scarce resources. Hence, such contribution lost must be excluded from the sales contribution volume variance.

Question 22.
(Reconciliation of Budget Profit to Actual Profit through Marginal Costing)
Osaka Manufacturing Co. (OMC) is a leading consumer goods company. The budgeted and actual data of OMC for the year 2020-21 are as follows-

Particulars	Budget	Actual	Variance
Sales/Production (units)	2,00,000	1,65,000	(35,000)
Sales (₹)	21,00,000	16,92,900	(4,07,100)
Less: Variable Costs )	12,66,000	10,74,150	1,91,850
Less: Fixed Costs (t)	3,15,000	3,30,000	(15,000)
Profit	5,19,000	2,88,750	(2,30,250)

The budgeted data shown in the table is based on the assumption that total market size would be 4,00,000 units but it turned out to be
3,75,0 units.
Required
PREPARE a statement showing reconciliation of budget profit toactual profit through marginal costing approach for the year 2020-21 in as much detail as possible.
Answer:
Statement of Reconciliation – Budgeted Vs Actual Profit

Particular	₹
Budgeted Prolit	5,19,00
Less: Sales Volume Contribution – Planning Variance (Adverse)	52,125
Less: Sales Volume Contribution – Operational Variance (Adverse)	93,825
Less: Sales Price Variance (Adverse)	39,600
Less: Variable Cost Variance (Adverse)	29,700
Less: Fixed Cost Variance (Adverse)	15,000
Actual Profit	2,88,750

Workings:
Basic Workings

Calculation of Variances:
Sales Variances:
Volume Contribution Planning* = Budgeted Market Share % × (Actual Industry Sales Quantity in units – Budgeted Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
= 50% × (3,75,000 units – 4,00,000 units) × ₹ 4.17
= 52,125 (A)
(*) Market Size Variance

Volume Contribution Operational** = (Actual Market Share % – Budgeted Market Share %) × (Actual Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
= (44% – 50 %) × 3,75,000 units × ₹4.17
= 93,825 (A)
(**) Market Share Variance
Price = Actual Sales – Standard Sales
= Actual Sales Quantity × (Actual Price – Standard Price)
= 1,65,000 units × (₹ 10.26 – ₹ 10.50)
= 39,600 (A)

Variable Cost Variances
Cost = Standard Cost for Production – Actual Cost
= Actual Production × (Standard Cost per unit- Actual Cost per unit)
= 1,65,000 units × (₹6.33 – ₹6.51)
= 129.700(A)

Fixed Cost Variances
Expenditure = Budgeted Fixed Cost – Actual Fixed Cost
= ₹ 3,15,000 – ₹ 3,30,000
= ₹ 15,000 (A)

Question 23.
(Investigation of Variances)
NZSC’O Ltd. uses standard costing system for manufacturing its single product ‘ANZ’ Standard Cost Card per unit is as follows:

	(₹)
Direct Materia! (1 kg per unit)	20
Direct Labour (6 hrs @ ₹ 8 per hour)	48
Variable Overheads	24

Actual and Budgeted Activity Levels in units for the month of Feb’21 are:

	Budget	Actual
Production	50,000	52,000

Actual Variable Costs for the month of Feb’ 21 are given as under:

Direct Material	10,65,600
Direct Labour (3,00,000 hrs)	24,42,000
Variable Overheads         ,	12,28,000

Required
INTERPRET Direct Labour Rate and Efficiency Variances.
Answer:
INTERPRETATION
Direct Labour Rate Variance:
Adverse Labour Rate Variance indicates that the labour rate per hour paid is more than the set standard. The reason may include among other things such as:
(1) While setting standard, the current/future market conditions like pending labour negotiation/cases, has not been considered (or predicted) correctly.
(2) The labour may have been told that their wage rate will be raised or bonus will be paid if they work efficiently.

Direct Labour Efficiency Variance:
It indicates that the workers has produced actual production quantity in less time than the time allowed. The reason for favourable labour efficiency variance may include among the other things as follows:
(1) While setting standard, workers efficiency could not be estimated properly, this may happen due to non-observance of time and motion study.
(2) The workers may be new in the factory, hence, efficiency could not be predicated properly.
(3) The foreman or personnel manager responsible for labour efficiency, while providing his/her input at the time of budget/standard, has 1 adopted conservative approach.
(4) The increase in the labour rate might have encouraged the labours to do work more efficiently.
In this particular case it may have happened that since labour payment has been increased labour efficiency has also been increased. In a nutshell y because of additional labour rate (Adverse), labour efficiency has gone up §: (Favourable)
Workings
Labour Rate Variance = Standard Cost of Actual Time – Actual Cost
= (SR × AH) – (AR × AH)
Or
= (SR – AR) × AH
= (₹ 8.00 – ₹ 8.14) × 3,00,000 hrs.
= ₹ 42,000 (A)
Working
Actual Labour Rate per hour = \(\frac{\text { Actual Paid }}{\text { Actual Hours }}\)
= \(\frac{₹ 24,42,000}{3,00,000 \mathrm{hrs}}\)
= ₹ 8.14
Labour Efficiency Variance = Standard Cost of Standard Time for Actual Production Standard Cost of Actual Time
= (SH × SR) – (AH × SR)
Or
= (SH – AH) × SR
= (3,12,000 hrs. – 3,00,000 hrs.) × ₹ 8.00 = ₹ 96,000 (F)
Working:
Standard Hours = Actual Production × Std. hrs. per unit
= 52,000 units × 6 hrs.
= 3,12,000 hrs.

Question 24.
(Investigation of Variance)
A company is planning to improve its profit level at least by 10% from the preliminary budget estimates of a profit of ₹ 32,80,000 for the coming year. It has worked out the following profit improvement plan:
(i) In the year just concluded the sales of the company were 10% of the total market of 12,00,000 units. For the preparation of the original budget estimate, the same market demand and the same share of market for the company was envisaged. Now it has been estimated that the total market demand will increase by 18 % and the company’s market share will increase to 11% from the present level of 10%.
(ii) The products are sold in two sizes – large and medium. The sales mix of each size was 50:50 so far. Now it is planned that the sales will be 40% of large and 60% of medium. The medium packs and large packs have a contribution of ₹ 10 and ₹ 8 per pack respectively. The budget proposes to raise the price in such a manner that the contribution per pack will increase by ₹ 0.60 for each size.
(iii) There will bean additional expenditure on sales promotion worth ₹ 78,000.
(iv) The company proposes to save ₹ 19,000 by saving on interest cost in the coming year by better financial management.
You are required to draw a profit improvement plan in financial terms and spell out separately the effect of various factors on profit. [May 2018 Exam] (10 Marks)
Answer:
Statement Showing Change in Profit

Total Improvement in Profit ₹ 3,77,448 (11.51%).

Workings
Budget for Original and Revised Contribution

Question 25.
(Sales Variance)
T-tech is a Taiwan based firm, that designs, develops, and sells audio equipment. Founded in 1975 by Mr. Boss, firm sells its products throughout the world. T-tech is best known for its home audio systems and speakers, noise cancelling headphones, professional audio systems and automobile sound system. Extracts from the budget are shown in ; the following table:
Home Audio System Division Jan ’ 2021

System	Sales (units)	Selling Price (₹)	Standard Cost (per System) (₹)
3.000 WPMPO	1,500	18,750	12,500
5,000 WPMPO	500	50,000	26,250

The Managing Director has sent you a copy of an email he received from the Sales Manager ‘K’. The content of the email was as follows:
“We have had an outstanding month. There was an adverse Sales Price Variance on the 3,000 W PMPO Systems of ₹ 22,50,000 but I compensated for that by raising the price of 5,000 W PMPO Systems. Unit sales of 3,000 WPMPO Systems were as expected but sales of the 5,000 W PMPOs were exceptional and gave a Sales Margin Volume Variance of 23,75,000.1 think I deserve a bonus!”
The managing Director has asked for your opinion on these figures. You got the following information.
Actual results for Jan’ 2021 were:

System	Sales (unit)	Selling Price ₹
3,000 W PMPO	1,500	17,250
5,000 W PMPO	600	53,750

The total market demand for 3,000 WPMPO Systems was as budgeted but as a result of suppliers reducing the price of supporting UHD TV System the total market for 5,000 WPMPO Systems raised by 50% in Jan’2021.
The company had sufficient capacity tomeet the revised market demand for 750 units of its 5,000 WPMPO Systems and therefore maintained its market share
Requited
(i) CALCULATE the following Operational Variances based on the revised market details:
– Sales Margin Mix Variance
– Sales Margin Volume Variance. (4 marks)
(ii) COMMENT briefly on the measurement of the K’s performance. (6 marks) [May 2018 RTP]
Answer:
(i) Statement Showing Sales Margin Mix Variance:

(ii) A Planning Variance simply compares a revised standard (that should or would have been use if planners had known in advances what was going to happen) to the original standard. A planning variance is considered as not to be controllable by management.
The market size is not within the control of the sales manager and therefore variances caused by changes in the market size would be regarded as planning variances.
However, variances caused by changes in the selling price and consequently the selling price variances and market shares would be within the control of the sales manager and treated as operating variances.

The market size variance compares the original and revised market sizes. This is unchanged for 3,000 W PMPO Systems so the only variance that occurs relates to the 5,000 W PMPO Systems and is ₹ 59,37,500 (F) [250 system × ₹23,750].
It is vital to make this distinction because as can be seen from the scenario the measurement of the “K”s performance is incomplete if the revised market size is ignored.
The favourable volume variance of ₹ 23,75,000 referred to in the “K”s e-mail is made up of two elements, one of which, the market size, is a planning variance which is outside his control. It is this that has caused the overall volume variance to be favourable, and thus ‘K’ is not responsible for the overall favorable performance.

Question 26.
(Investigation of Variances)
Queensland Chemicals (QC) manufactures high-quality chemicals C-1, C-2 and C-3. Extracts from the budget for last year are given below:

	C-l	C-2	C-3
Sales Quantity (kg)	1,000	3,250	750
	₹/kg	₹/kg	₹/kg
Average Selling Price	17,600	2,560	22,400
Direct Material (Cflfl) Cost	8,000	1,280	9,600
Direct Labour Cost	3,200	480	4,800
Variable Overhead Cost	320	48	480

The budgeted direct labour cost per hour was ₹ 160.
Actual results for last year were as follows:

	C-l	C-2	C-3
Sales Quantity (units)	900	3,875	975
	₹/kg	₹/kg	₹/kg
Average Selling Price	19,200	2,480	20,000
Direct Material (C2H6O) Cost	8,800	1,200	10,400
Direct Labour Cost	3,600	480	4,800
Variable Overhead Cost	480	64	640

The actual direct labour cost per hour was ₹ 150. Actual variable overhead cost per direct labour hour was ? 20. QC follows just in time system for purchasing and production and does not hold any inventory.
Required
INTERPRET the Sales Mix Variance and Sales Quantity variance in terms of contribution. (10 Marks) [Aug. 2018 MTP]
Answer:
Variance Interpretation
The sales quantity variance and the sales mix variance describe how the sales volume contribution variance has been affected by a change in the total quantity of sales and a change in the relative mix of products sold.

From the figures arrived for the sales quantity contribution variance, we can observe that the increase in total quantity sold would have gained an additional contribution of ₹ 2,124,600, if the actual sales volume had been in the budgeted sales proportion.

The sales mix contribution variance shows that the variation in the sales mix resulted in a curtailment in profit by 5,70,600. The change in the sales mix has resulted in a relatively higher proportion of sales of C-2 which is the chemical that earns the lowest contribution and a lower proportion of C-1 which earn a contribution significantly higher. The relative increase in the sale of C-3 however, which has the highest unit contribution, has partially offset the switch in mix to C-2.

Workings
Statement Showing Standard Contribution

Sales Contribution Mix Variance

Sales Contribution Quantity Variance

Question 27.
(Total Variance)
Apple Ltd., is following three variances method to analyse and un-derstand production overhead variances. The three variances for a particular year were reported as given below:

Production overhead expenditure variance	94,000 A
Production overhead volume variance	1,00,000 F
Production overhead efficiency variance	48,000 F

The other particulars furnished from the records of the company are:

Standard machine hours for the year	11,500
Closing balance in the Production Overhead Control Account	₹ 18,00,000
Fixed overhead rate per hour	₹ 125
Variable overhead rate per hour	₹ 80

Required:
COMPUTE the following by considering the additional information also:
(i) Actual machine hours
(ii) Budgeted machine hours
(iii) Total Fixed Production Overhead amount
(iv) Applied Production Overhead amount (10 Marks)
Additional Information

• Expenditure variance was computed totally for fixed and variable overheads.
• Volume variance is applicable to fixed overhead only.
• Efficiency variance is applicable only to variable overhead and fixed overhead efficiency variance was already included in volume variance. [Nov. 2018 Exam]

Answer:
(i) Calculation of Actual Machine Hours
Efficiency Variance = ₹ 48,000 (F) given
= Standard Variable Overhead Rate per Hour (Standard Hours – Actual Hours)
₹ 48,000(F) = ₹ 80 × (11,500 hrs. – Actual Hours)
Actual Hours = 10,900 hrs.

(ii) Budgeted Machine Hours
Volume Variance = ₹ 1,00,000 (F)
= Standard Fixed Overhead Rate per × Hour (Standard Hours – Budgeted Hours)
₹ 1,00,000 (F) = ₹ 125 × (11, 500 hrs. – Budgeted Hours)
Budgeted Hours = 10,700 hrs.
Total Fixed Production Overhead*
Fixed Production Overhead = Standard Fixed Overhead Rate per Hour × Budgeted Hours
= ₹ 125 × 10, 700 hrs.
= ₹ 13.37,500
* Assumed Budgeted
Applied Manufacturing Overhead
= Standard Overhead Rate per Hour × Standard Hours
= ₹ 205 × 11, 500 hrs.
= ₹ 23,57,500
ALTERNATIVES (iii) & (iv)

(iii) Total Fixed Production Overhead
Expenditure Variance = Fixed Production Overhead(Budgeted) + Budgeted Variable Overheads for Actual Hours – Actual Overheads ₹ 94,000 (A) = Fixed Production Overhead + 10,900 hrs. × ₹ 80 – ₹ 18,00,000
Fixed Production Overhead – ₹ 8,34,000

(iv) Applied Manufacturing Overhead
= Actual Overhead Incurred + Total Variance
= ₹ 18,00,000 + ₹ 54,000
= ₹ 18,54,000

Working Notes
Total Variance = Expenditure Variance + Efficiency Variance + Volume Variance
= ₹ 94,000 (A) + ₹ 48,000 (F) + ₹ 1,00,000 (F)
= ₹ 54,000 (F)

Question 28.
Case Study (Control Through Standard Costing System)
‘HAL’ is a manufacturer, retailer, and installer of Cassette Type Split AC for industrial buyers. It started business in 2001 and its market segment has been low to medium level groups. Until recently, its business model has been based on selling high volumes of a standard AC, brand name ‘Summer’, with a very limited degree of customer choice, at low profit margins. ‘HAL’s current control system is focused exclusively on the efficiency of its manufacturing process and it reports monthly on the following variances: material price, material usage and manufacturing labour efficiency. ‘HAL’ uses standard costing for its manufacturing operations. In 2018, HAL’ employs 20 teams, each of which is required to install one of its ‘Summer’ AC per day for 350 days a year. The average revenue per ‘Summer’ AC installed is ₹ 36,000. ‘HAL’ would like to maintain this side of its business at the current level. The ‘Summer’ installation teams are paid a basic wage which is supplemented by a bonus for every AC they install over the yearly target of 350. The teams make their own arrangements for each installation and some teams work seven days a week, and up to 12 hours a day, to increase their earnings. ‘HAL’ usually receives one minor complaint each time a ‘Summer’ AC is installed and a major complaint for 10% of the ‘Summer’ AC installations.

In 2016, HAL’ had launched a new AC, brand name ‘Summer-Cool’. This AC is aimed at high level corporates and it offers a very large degree of choice for the customer and the use of the highest standards of materials, appliances, and installation. ‘HAL’ would like to grow this side of its business. A ‘Summer-Cool’ AC retails for a minimum of ₹ 1,00,000 to a maximum of X₹ 5,00,000. The retail price includes installation. In 2017 the average revenue for each ‘Summer-Cool’ AC installed was ₹ 3,00,000. Currently, ‘HAL’has 7 teams of ‘Summer-Cool’ AC installers and they can install up to 240 AC a year per team. These teams are paid salaries without a bonus element. ‘HAL’ has never received a complaint about a ‘Summer-Cool’ AC installation.

HAL’s business is generated from repeat orders, recommendations, and local press advertising. It employs three sales executives who earn an annual salary of ₹ 3,00,000 each. It offers a six-month money back guarantee and this has to be fulfilled for l%of its installations. HAL’ has always been in profits but was shocked to see that in its results in 2017 it only earned 0.2% net profit on its turnover.
Required
(i) EVALUATE the appropriateness of ‘HAL’s current control system, (8 Marks)
(ii) RECOMMEND four Critical Success Factors (CSFs) which could assist ‘HAL’ in achieving future success. (8 Marks)
(iii) ADVISE ‘HAL’ about the changes it could implement in its standard costing and reporting system to achieve improved control. (4 Marks) [Nov. 2018 RTPJ
Answer:
(i) HAL’s Control System HAL’s current control system is ‘focusedexclu- sively’ on the manufacturing process and its efficiency even though HAL is also a retailer and installer of industrial ACs. It is suitable for HAL’s control system to monitor manufacturing efficiency with the help of the three variances: material usage, material price and manufacturing labour efficiency. No reasons have been given for 4 focusing on these three variances and there may be other variances which can provide useful control information that are not currently
computed for example, labour rate and material yield. Although HAL uses standard costing, it is unclear whether it calculates product costs. A lack of product costs computation may be the reason that it was shocked about its 2017 profit margin. Standard costing could be in criticism for misdirecting management’s attention. Thus, in the case of a ‘Summer- Cool’ AC where the highest standards of materials are used, it is pertinent that the quality of the finished product is not compromised. Therefore, it might be proper to accept an unfavourable material price variance to maintain the product’s standards. Variance analysis should not be done in isolation but a holistic view needs to be taken about HAL’s operations and the current control system may not lead to this. HAL is not currently controlling and monitoring aspects which are important for competitive success.

HAL’s Critical Success Factors have not been identified yet. There is monthly reporting of variances but in addition to this, there should also be follow-up actions for outcome resulting from these reports. However, a month is not inevitably the relevant reporting period for all aspects of HAL’s business. If there is a production problem leading to excessive materials wastages, a month is too long time to wait before remedial action are taken. Therefore, real-time or coexistent reporting may be more relevant for manufacturing operations. A major deficiency of HAL’s control systems is that they do not extend to retailing and installation activities. The ‘Summer’ installation teams are incentivized to complete ACs which could be good for their productivity. However, there is a high level of complaints associated with their work. As there is no evident means of the installation team’s work, the reasons of the complaints cannot be identified.

(ii) Critical Success Factors (CSF) are elements tied to the strategy of business and they represent objectives that business is trying to achieve, as a corporation, as a department or as a business unit, Critical success factors may vary over time and may include items like employee attitudes, manufacturing flexibility etc. There are a range of CSF’s which could be appropriate for HAL. They include: CSF: Installations Quality There are different quality expectations for the two ACs and there have been different levels of quality achieved, can be seen in the historic pattern of complaints. This strongly implies that the quality of installation should be tracked as a separate CSF for each AC. This CSF is important for HAL due to cost implications of rectifications and guarantee claims. It is also important to consider that because of the effect that poor quality will have on HAL’s future business.

CSF: Customer Satisfaction Like quality, this CSF will need to be monitored separately for each AC. Customer satisfaction encompass the complete life of a transaction beginning with the initial enquiry about a purchase and continuing after installation for the life of the AC. Customer satisfaction will have an influence on HAL’s future ; business which is dependent, in part, on repeat orders and recommendations. This CSF will also show the market’s view of HAL’s brand.

CSF: Brand Performance HAL has two distinct brands. They are directed at different market segments and have different associated attributes. ‘Summer’ ACs offer limited choice to the customer and : retail, on average, for ₹ 36,000. HAL would like to maintain this business at its present level (7,000 ACs a year minimum) ₹ 252 million revenue. HAL needs to ascertain where this brand is situated in its life-cycle and what marketing activities may be required to support it. The ‘Summer-Cool’ brand is aimed at a different market segment and HAL would like to grow this aspect of its business which produces revenue of ₹ 504 million. The success of both brands is important for the continual success of HAL and this CSF indicate a complete view of performance.

CSF: Manufacturing Excellence HAL manufactures all the ACs which ! it sells and installs. Manufacturing must be a substantial part of HAL’s total costs and a significant contributor to profitability. Currently, HAL monitors some limited aspects of manufacturing through its control system. However, there are many other aspects which have not been reported upon, for example- innovation, labour absentism, manufacturing flexibility and investment in technology. This CSF is much broader than the current control system. It also assists in searching for competitiveness.

(iii) Standard Costing and Reporting System HAL may be required to abandon or modify its standard costing and reporting system. The rationale behind this is that the current control system might lead to an inappropriate emphasis being placed on certain aspects of performance. It is noteworthy that the installations for ‘Summer’ AC is causing a substantial level of complaints whereas there has never been a complaint made about a ‘Summer Cool’ AC. It could be that the different remuneration arrangements for the ACs’ installation teams have led to this and as the complaint level is an important aspect of the CSF ie. Customer Satisfaction, HAL may need to modify its remuneration arrangements.

It should also reckon whether it would be benefited from a broader range of variance reporting, for example, it may find reporting useful to report on labour rates and material yield. For all CSFs, HAL will need to determine the appropriate reporting intervals. Although it is useful to synchronize this with the accounting reporting cycle, CSFs and KPIs do not necessarily coexist with accounting period ends. Some KPI’s may require to be reported in real-time, for example, material wastage, others may be of a longer duration like Customer Satisfaction. There is a strong argument for disassociation of the CSFs reporting from the financial reporting cycles.

Question 29.
(Reconciliation, Investigation of Variance)
Established in the year 1999, Fast Food Company is the pioneer of fast food in Southampton. It delivers a truly fresh, affordable, made to order sandwiches, burger, and other meal in a friendly and relaxed environment. The popularity of the sandwiches, burger etc. continued to grow over the decades but one thing remained the same and that was its core values and principles:

• Always provide exceptional service to valued guests;
• Provide the highest quality menu items at a price everyone can afford and enjoy; and
• Keep operating costs low and ensure to have great systems in place and never stop improving.

It provides a comfortable place for people to unwind over interesting conversations. From the beginning, as it continues to grow, it is guided by passion for delighting customers by serving fresh, delicious food right in front of customer.
The performance report* for FY 2018-19 was presented at the management committee meeting as follows:

* burger segment
The Management Accountant of FF believed that the size of the fast-food market deriving the budget number of burgers to be sold is over-estimated. He has computed the value of the sales volume contribution planning variance to be 26,062.50 adverse. 2
Further, the report also included customer’s feedback and the majority £ of comments were regarding delay in service time. One of feedback was as follows:

“I ordered two burgers at 2:10 pm. After half an hour (30 minutes) j of waiting I called the waiter and asked him what happened? he told me that he will check with kitchen. I got the order after 45 minutes of waiting, this cafe is not good in delivery time”
The budgeted data shown in the table is based on the assumption that total market size would be 4,00,000 units.
Required
(i) PREPARE a reconciliation statement of budgeted profit to actual profit through marginal costing approach in as much ) detail as possible.
(ii) EXPLAIN the implications of the reconciliation statement.
(iii) Management is worried about customer’s feedback. ADVISE measures to improve delivery service time. [Nov. 2019 R.TP]
Answer:
(i) Statement of Reconcilliation – Budgeted Vs Actual Profit

Particulars	£
Budgeted Profit	2,59,500
Less: Sales Volume Contribution – Planning Variance (Adverse)	26,062.50
Less: Sales Volume Contribution – Operational Variance (Adverse)	46,912.50
Less: Sales Price Variance (Adverse)	19,800
Less: Variable Cost Variance (Adverse)	14,850
Less: Fixed Cost Variance (Adverse)	7,500
Actual Profit	1,44,375

Workings:
Basic Workings
Budgeted Market Share (in %) = \(\frac{2,00,000 \text { units }}{4,00,000 \text { units }}\)
= 50%
Budgeted Contribution = £10,50,000 – £6,33,000 = £4,17,000
Average Budgeted Contribution (per unit)

= £2.085
Volume Contribution Planning = Budgeted Market Share % × (Actual Industry Sales Quantity in units – Budgeted Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
⇒ £26,062.50 (A) = 50% × (Actual Industry Sales Quantity in units – 4,00,000 units) × £2.085
⇒ Actual Industry Sales Quantity = 3,75,000 units
⇒ Actual Market Share (in %) = \(\frac{1,65,000 \text { units }}{3,75,000 \text { units }}\) £3.255
= 44%
Standard Sales Price per unit = \(\frac{£ 10,50,000}{2,00,000}\)
= £5.25
Actual Sales Price per unit = \(\frac{£ 8,46,450}{1,65,000}\)
= £5.13
Standard Variable Cost per unit = \(\frac{£ 6,33,000}{2,00,000}\)
= £3.165
Actual Variable Cost per unit = \(\frac{£ 5,37,075}{1,65,000}\)
= £3.255

Calculation of Variances
Sales Variances
Volume Contribution Operational = (Actual Market Share % – Budgeted Market Share %) × (Actual Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
= (44% – 50 %) × 3,75,000 units × £2.085
= £46,912.50 (A)
Price = Actual Sales – Standard Sales
= Actual Sales Quantity × (Actual Price – Standard Price)
= 1,65,0 units × (£5.13 – £5.25)
= £19,800 (A)

Variable Cost Variances
cost = Standard Cost for Production – Actual Cost
= Actual Production × (Standard Cost per unit – Actual Cost per unit)
= 1,65,000 units × (£3.165 – £3.255)
= £14,850 (A)

Fixed Cost Variances
Expenditure = Budgeted Fixed Cost – Actual Fixed Cost
= £1.57,500 – £1,65,000
= £7,500 (A)

(ii) Implications of Reconciliation Statement
In the revised statement, the sales volume variance has been detailed by the way of two variances i.e. planning and operational variances. This kind of detailed information assists the company to check, which kind of variances are under the management control and which are not. FF has adverse volume contribution planning variance and the reason of could be the environmental/ market changes, that was not anticipated at the time of budget preparation, so they are not under management control and hence, no one is responsible for this. On the other hand, the sales volume contribution operational variance was under control of the managers and they should be held responsible for the same. The reason of adverse sales volume contribution operational variance could be unsuccessful direct selling efforts/marketing efforts. FF has adverse sales price variance as well. It indicates that the burgers were sold for lower price than standard. The reason of this could be unforeseen market competitive price, tapping new’ market etc.

Further, revised reconciliation statement delivers little information about the variable cost and fixed cost variances. They both are adverse. Fixed cost consists of many items such as salaries, annual maintenance cost, rent and insurance etc. Often fixed cost items are not affected in short run in response to change in the level of activity, but they might change in response to other factors such as price. This may cause increase expenditure on fixed overheads. A meaningful analysis of fixed cost variance requires a line to line comparison of budgeted cost with actual cost.

In case of FF, the variable cost may be made up of large individual different items such as vegetables, gas, indirect labour, regular maintenance cost etc. Control of variable cost also requires line by line analysis for each individual item. The adverse variable cost variance simply reveals that FF incurred more on variable cost than expected. However, it is necessary to take into consideration the causes of this adverse variance which is beyond the control of the management, for instance, the unusual price hike in vegetables in case of unseasonal rainfall.

(iii) Measures to Improve Fast Food Delivery Service Time
Customers expect that their food order to be delivered quickly. From customer’s feedback in the question, it is evident that FF has a problem in food delivery, due to which, customers go unsatisfied. The reason of late delivery could be non- availability of raw material on time or employees not working properly etc. The reason of employees not working properly could be job dissatisfaction which may be due to improper working conditions, low salary, or no reward for overtime etc.

In order to reduce delivery time, raw material should be made available in stock based on daily requirement. FF may follow quantitative approach to inventory problems, which lays down clear guidelines that when to re-order or alert the management in exceptional situations.
In addition, FF must also address the issues related to employee and involve them in a loop. FF could improve the employee satisfaction with proper working conditions, better pay, training, and growth opportunities.
Moreover, it is important that customers should be informed about approximate delivery time since this will reduce customer’s anxiety and will proactively reduce any complaints over long waits for delivery of food. If unexpected delays occur, it is important to communicate with customers, apologies for the delay and inform them about the new approximate delivery time along with valid reason.
In addition to this, FF can also introduce pagers or install electronic board displaying ticket number or seif-serve kiosks allowing customers to roam around or order in advance so that they do not have long waiting time.

Question 30.
Case Scenario (Interpretation of Variance)
Natural Spices manufactures and distributes high-quality spices to gourmet food shops and top quality restaurants. Gourmet and high- end restaurants pride themselves on using the freshest, highest-quality ingredients.
Natural Spices has set up five state of the art plants for meeting the ever- growing demand. The firm procures raw material directly from the centers of produce to maintain uniform taste and quality. The raw material is first cleaned, dried and tested with the help of special machines. It is then carefully grounded into the finished product passing through various stages and packaged at the firm’s ultraclean factory before being dispatched to customers.
The following variances pertain to last week of operations, arose as a consequence of management’s decision to lower prices to increase volume.

Sales Volume Variance	18,000 (F)
Sales Price Variance	14,000 (A)
Purchase Price Variance	10,000 (F)
Labour Efficiency Variance	11,200 (F)
Fixed Cost Expenditure Variance	4,400 (F)

Required
(i) IDENTIFY the‘Critical Success Factors’for Natural Spices,
(ii) EVALUATE the management’s decision with the ‘Overall Corporate Strategy’ and ‘Critical Success Factors’.
Answer:
(i) Gourmet and high-end restaurants recognises Natural Spices on the basis of its high quality of spices. Therefore, quality is most critical success factor of Natural Spices. There are other factors which cannot be ignore such as price, delivery options, attractive packing etc. But all are secondary to the quality.

(ii) Deliberate action of cutting price to increase sales volume indicates that firm is intending to expand its market to retail market and street shops which is price sensitive.
Purchase Price Variance is clearly indicating that firm has purchased raw material at lower price which may be due to buying of lower quality of material. Similarly, positive Efficiency Variance is indicating cost cutting and stretching resources.

It appears that firm is intending to expand its market to retail market and street shops by not only reducing the price but also compromising its quality which is opposing its current strategy of high quality.
Management should monitor the trends of variances on regular basis and take appropriate action in case of evidence of permanent decline in quality. Here, customer feedback is also very important.

Question 31.
(Investigation of Variance)
Aquatic Feed (AF) is the leading manufacturer of fish and other sea animal feed. AF has made its credit pioneering effort and service for over one decade in development of culture, processing and exports with its state-of-art fish feed and processing plants. Hallmark of AF is constant upgradation of aquaculture technology bringing latest developments in the field to the doorstep of the Indian aquaculture farmer. It stands-as a leading provider of high quality feed, best technical support to the farmer and caters to the quality standards of global customers.
One of its fish feed product is “B” which is produced by mixing and heating three ingredients: B1, B2 and B3. It uses a standard costing system to monitor its costs.
The standard material cost for 100 Kg. of “B” is as follows:

Ingredients	Standard Qty. (Kg)	Cost per Kg. (₹)	Cost per 100 Kg. of “B” (₹)
B1	42	3	126
B2	62	6	372
B3	21	2	42
	125		540

Notes:
+ B1, B2 and B3 are agricultural products. Their quality and price change significantly every year. Standard prices are determined at the average market price over the last three years. AF has a purchasing manager responsible for purchasing and pricing.

• The standard mix is decided by the Managing Partner having 15 years’ rich experience in aquaculture field. The last time this was done at time of launching the “B” that was six years back. The standard mix has not been changed since.
• Mixing and heating process are subject to some evaporation loss.

In current month 4,605 Kg. of “B” was produced, using the following ingredients:

At every month end, the production manager receives a statement from the Managing Partner. This statement contains material price and usage variances for the month and no other feedback on the efficiency of the processes is provided.
Required
EVALUATE the performance measurement system in AF.
Answer:
The statement reported, ₹ 2,062 favourable material price variance. The responsibility for controlling the materials price variance is usually the purchasing manager’s. Undoubtedly, in current scenario, the price of materials is largely beyond his or her control; however, the price variance can be influenced by such factors as quality, quantity discounts, distance of supplier’s location, and so on. These factors are often under the control of the purchase manager. The production manager is responsible for material usage and cannot be held responsible for the material price variance.

Since total usage variance reported, ₹ 1,406 favourable, production manager could assume good performance. However, if usage variance is considered in more detail, through the mix and yield calculations, it can be observed that variance was driven by a change in the mix and by using a mix of ingredients which was different from standard, it has resulted in a saving of ₹ 840; Similarly, it has led to a favourable yield. It is worthwhile to note that changing the mix could impact the product quality and sales as well, however, no information has been given about this.

Prices and quality of three agriculture ingredients are changing significantly every year. Using ex ante prices and usage standards can implicit an outdated view of variances. Failing to separate variances caused by uncontrollable factors and planning errors from variances caused by controllable factors can be demoralizing for the managers.

In addition, managers are not involved in setting the standard mix and the same has not been changed for six years despite continuous changes in the quality and prices of the ingredients. This can also mislead the managers i.e. to carryout control activities which are based on the outdated standards.

Furthermore, a true image is missing in relation to managers’ performance as statement does not include any feedback or comments on the variances. Even no follow up is being taken on the same.
Overall, it appears that AF is not having comprehensive performance measurement system and this could adversely impact the firm in long run.
Working:

Question 32.
(Variance Analysis)
YLtd., based in Kuala Lumpur, is the Malaysian subsidiary of Japan’s NY corporation, headquartered in Tokyo. Y’s principal Malaysian businesses include marketing, sales, and after – sales sendee of electronic products & software exports products. Y set up a new factory in Penang to manufacture and sell integrated circuit ‘Q50X-N’. The first quarter’s budgeted production and sales were 2,000 units. The budgeted sales price and standard costs for ‘Q50X-N ’ were as follows:

	RM	RM
Standard Sales Price per unit		50
Standard Costs per unit
Circuit X (10 units @ RM 2.5)	25
Circuit Designers (6 hrs. @ RM 2)	12	(37)
Standard Contribution per unit		13

Actual results for the first quarter were as follows:

	RM ’000	RM’000
Sales (2,000 units)		158
Production Costs (2,000 units)
Circuit × (21,600 units)	97.20
Circuit Designers (11,600 hours)	34.80	(132)
Actual Contribution (2,000 units)		26

The management accountant made the following observations on the actual results-
“In total, the performance agreed with budget; however, in every aspect other than volume, there were huge differences. Sales were made at what was supposed to be the highest feasible price, but we now feel that we could have sold for RM82.50 with no adverse effect on volume. The Circuit X cost that was anticipated at the time the budget was prepared was RM 2.5 per unit. However, the general market price relating to efficient purchases of the Circuit X during the quarter was RM 4.25 per unit. Circuit designers have the responsibility of designing electronic circuits that make up electrical systems. Circuit Designer’s costs rose dramatically with increased demand for the specialist skills required to produce the ‘Q50X-N’, and the general market rate was RM 3.125 per hour – although Y always paid below the normal market rate whenever possible. In my opinion, it is not necessary to measure the first quarter’s performance through variance analysis. Further, our operations are fully efficient as the final contribution is equal to the original budget.”
Required
COMMENT on management accountant’s view. (10 Marks) [Oct. 2020 MTP]
Answer:
Comment:
As the management accountant states, and the analysis (W.N. 1) presents, the overall variance for the Y is nil. The cumulative adverse variances exactly offset the favourable variances i.e. sales price variance and circuit designer’s efficiency variance. However, this traditional analysis does not clearly show the efficiency with which the Y operated during the quarter, as it is difficult to say whether some of the variances arose from the use of incorrect standards, or whether they were due to efficient or inefficient application of those standards.

In order to determine this, a revised ex post plan should be required, setting out the standards that, with hindsight, should have been in operation during the quarter. These revised ex post standards are presented in W.N. 2.
As seen from W.N. 3, on the cost side, the circuit designer’s rate variance has changed from adverse to favourable, and the price variance for component X, while remaining adverse, is significantly reduced in comparison to that calculated under the traditional analysis (W.N.l); on the sales side, sales price variance, which was particularly large „ and favourable in the traditional analysis (W.N.l), is changed into an g adverse variance in the revised approach, reflecting the fact that the Y failed to sell at prices that were actually available in the market.

Further, variances arose from changes in factors external to the business (W.N. 4), which might not have been known or acknowledged by standard-setters at the time of planning are beyond the control of the operational managers. The distinction between variances is necessary to gain a realistic measure of operational efficiency.
W.N.l Y
Quarter-1
Operating Statement

W.NT. 2
Statement Showing Original Standards, Revised Standards, and Actual Results for Quarter 1

W.N. 3
Statement Showing Operational Variances

W.N. 4
Statement Showing Planning Variances

Question 33.
(Variance Analysis)
ZMInc. is a family un business based in Country Z. It is a manufacturer of two types of flooring rolls, one for industrial usage and the other for domestic residential use, throughout mainland of Country Z. The company started with the production of residential domestic flooring. It is now an established player in this market. In the recent years, the company pioneered into making flooring rolls for industrial usage. The management has the following information about the budgeted and actual data for 2020.

In late 2019, a marketing research estimated market volume for industrial and domestic flooring at 8 m Rolls. Actual market volume for 2020 was 7 m Rolls. Actual sales trend of ZM Inc. is indicative of the sales trends for individual products in the future years, it is likely that they might continue to sell a similar sales trajectory.
A newly appointed accountant has computed following variances from the above data:

‘m ’ refers to million; assume figures in this chart are correct.
Required
Assuming yourself as a performance management expert of ZM, the CEO has asked you to:
(i) ANALYSE the variances computed by the accountant;
(ii) ADVISE strategic inputs on ‘two types of flooring rolls’ to help out her in strategic decision making. [Nov. 2020 RTP]
Answer:
(i) Analysis of Variances
It can be seen that total unit sales increased by 40,000 rolls resulted in a favourable volume variance. Therefore, a potential increase of Z$2.3 m in contribution margin was achieved as a result of change in sales volume compared with budgeted volume. The volume variance is further divided into a mix and quantity variance. In the case of ZM, mix variance came out to be Z$0.60 m favourable and the quantity variance came out to be favourable Z$ 1.70 m. Favourable mix variance Z$0.60 m indicates that the sales mix shifts toward the industrial flooring rolls ie. high contribution product. ZM sold 40,000 more rolls than were budgeted, resulting in Z$1.70 m favourable quantity variance. Therefore, it is necessary to identify the reasons behind the increase in sales. The reasons may be competitor’s distribution issues, better customer services, or growth in overall market. Further insight into reasons of quantity variance can be gain by analyzing market share and size variances. ZM gain 2 market share percentage points from 10% budgeted share to the actual share of 12%. The Z$5.95 m favourable market share variance may be the effect of the decline in contribution margin rate.

The impact of changing market size on contribution margin can be traced through market size variance. Market size variance is Z$4.25 m adverse as actual market size decreased 12.5% compared to budgeted market size. Further, it appears that accountant has missed to compute the price variance which is a substantial part of the analysis. If we look closely at the data given, the price variance for domestic as well as industrial roll can be computed without difficulty. The price variance for domestic flooring rolls as well as industrial flooring rolls is unfavourable; this indicates that the both varieties were sold a lower margin than standard. This throughout analysis shows a negative impact of Z$ 5.785 m on contribution margin for which price variance is the main contributor. Revised structures after the computation of price variance are as under:

Workings
Contribution Price Variance

(ii) Strategic Inputs
The actual sale of industrial flooring rolls is 35% higher than projections. However, actual contribution margin of Z$47.5 is marginally lower than standard contribution margin of Z$50 per unit. This indicates that ZM may have cut its selling price to maintain or gain market share. Therefore, industrial flooring rolls are in the Growth

Phase of product life cycle. Due to increase in demand, there is a possibility of higher sales and profits to be made in future years. Similarly, the actual sale of domestic flooring roll is 5% lower than the expectations. However, actual contribution margin is Z$27 per roll i.e. 32.5% lower than the standard contribution margin. This indicates that ZM may have sold these at substantially reduced price to maintain the sales volume. Therefore, the domestic residential flooring rolls might be in the Decline Stage of product life cycle.

The market size for flooring rolls has reduced from an expectation of 80 lacs rolls to 70 lacs rolls. Therefore, the market size has shrunk significantly by 12.5% for the year 2019. This is a threat to profitability of business. The management has to understand the reasons behind this shrinkage. For example, dwindling demand maybe on account of cheaper substitutes available for flooring rolls. The management has to take cognizance of this threat to business. A positive for ZM is that its actual market share for flooring rolls was higher than expected at 12%. An increase in market share would have a beneficial impact on the company’s profitability. Also, despite the shrinkage in market size, demand for industrial flooring rolls seems to be on the rise. This could | be an opportunity for the management to consider.

As explained above, the industrial flooring rolls seem to be in the Growth Stage of product life cycle, while the domestic residential rolls are in the Decline Stage. Industrial flooring rolls have a higher contribution margin per roll as compared to domestic residential rolls. Accordingly, ZMmav consider phasing out domestic flooring rolls and concentrate on industrial flooring rolls. In view of shrinking market conditions, it would be more profitable to phase out the weaker product and concentrate on the fast moving and profitable product. At the same time, since domestic flooring roll still has significant demand, the strategy to phase out this product may have to be done in a phased and well-planned manner. In view of the shrinking market size, ZM should not end up losing its market share due to phasing out domestic flooring rolls.

For Your Conceptual Understanding
“Budgeted Vs Actual Figures”

Market Size Variance
= Budgeted Market Share % × ( Actual Industry Sales Quantity in units – Budgeted Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
= 10% × (70,00,000 Rolls – 80,00,000 Rolls) × ZS 42.50
= Z$ 4.25 m (A)

Market Share Variance
= (Actual Market Share % – Budgeted Market Share %) × (Actual Industry Sales Quantity in units) × (Average Budgeted Contribution per unit)
= (12% – 10%) × 70,00,000 Rolls × Z$ 42.50
= Z$ 5.95 m (F)

Question 34.
Case Study (Investigation of variance)
Bhatia Motor Works (BMW) is one of the renowned coach builders (fabricator) in North India, with a mission to design and fabricate high-quality buses that are innovative in style and engineering; whilst maintaining standards of reliability. BMW has market both locally and internationally.

Human resource at BMW is highly skilled and well versed with latest tools and techniques of respective functional area. BMW is innovative company and always try to improve its performance.
Till date standard costing at BMW is limited only up to calculation of variance. Analysis and classification of variances are never performed. But newly appointed cost controller is highly motivated Recently, post his appointment, the budgetary system at BMW was revamped drastically as part of cost efficiency drive. Same was done to give best response to variance identified, if any. Not only this, but cost controller is also interest in incorporation of relevant costing and learning curve in standard costing and budgetary control system. With help of management accountant, he able to fetch following data, pertaining to different divisions-

Fabrication division of BMW manufactures two products seat handle (product code B-SH- 101) and seat cover (B-SC-102) with BMW logo imprint on both apart from fabrication. Product B-SH-101 takes 6 men hours to make while product B-SC-102 takes 12 hours. In a month of 25 actual working days of 8 hours each, 1,200 units of B-SH-101 and 750 units of B-SC-102 were produced. BMW employs 75 men in the department responsible for producing these two products. The budgeted hours are 1,86,000 per annum. No. of budgeted working days were 26 but due to break-down, production function actually remains in operation for 25 days only.
Painting Division
The budget was prepared by management accountant for painting division based upon performance report of last year, he assumes that
workers learning curve rate will be 95%. But workers are skilled and specification of task is well known to them, so they assure their manager of 90% learning curve rate (learning index value will be -0.152). Since BMW believe in participatory budgeting, hence management accountant revised the budget estimate post feedback from worker’s group.
In each month 15 buses are made ready for delivery’ after painting & fabrication. It is estimated that initial bus will take 20 hours for painting. It is estimated that learning will be terminated post 6th unit.

Extracts and Values from tables
Log 2 = 0.3010, Log 3 = 0.4771, Log 5 = 0.6990; Anlilog of 1.1827 is 15.23, Antilog of 1.2808
is 19.08 and Antilog of 1.1948 is 15.66.

Required
(i) Is favourable variance being conclusive proof of efficiency, or investigation of variances is essential? ILLUSTRATE.
(ii) EXPLAIN planning and operating variance.
(iii) Standard cost used for variance analysis is not always relevant cost’. EXPLAIN the importance of relevant cost while determine standard cost for variance analysis.
(iv) ‘Largely the standard yardsticks are static in nature, during a particular period for ease of variance analysis for said period; but not in case of labour related standard yardsticks; due to learning curve’ASSESS the validity of the statement, in light of need of recognition of learning curve, while establishing the standards.
(v) COMPUTE revised budgeted labour hours for management accountant incorporating learning curve.
(vi) EXPLAIN and INTERPRET control ratios.
Answer:
(i) Investigation of variances are essential
Variance identified post comparison of actual cost against standard cost are not a conclusive sign of performance. No doubt variances are strong indicator of the potential problem. However, investigation of root cause of the adverse variances is necessary. Some of variances are composite of in nature (for e.g., material usage variance can be further classified in material efficiency and material yield variance) hence break down them in part and investigation of each element becomes essential.

So even favourable variances need to be investigated. To understand this statement a suitable illustration can be of raw materials that too in competitive pricing environment. Suppose inferior quality good (whose price is comparatively less) is ordered, on the one side favourable price variance will arise; on the other side most likely there will be substantially more scrap & rework, and thus a higher usage variance.

(ii) Planning & Operating Variances
Planning Variance – These variances are arising due to revision of standards. In order to compute planning variance original standard needs to be compared with a revised standard. Revised standard is that standard, which may be used as yard stick, if what happen earlier known to person responsible for planning. These are also known as planning variance Operating Variance – These variances are on account if variance of actual performance or results from revised standard.

(iii) Variance Analysis and Relevant cost
d Traditional approach to variance analysis is to compute variance based on acquisition cost (incurred out of pocket) and standard price for the acquisition of such resources. This may be misleading when resources are scarce in nature, because if scarce resources are not effectively used; it will not only increase the purchase cost (because finance cost is also incurred in addition to acquisition cost) but also result in loss of contribution.
Hence it makes sense, if we incorporate relevant costing to variance analysis; in term of contribution lost on scarce resource/bottleneck activities. To illustrate, while computing material usage variance, lost contribution should be embedded in standard price (to reflect how efficiently, scarce resources is being used) as foilows- (Standard Quantity – Actual Quantity) × Relevant Standard Price
Where, relevant standard price is standard cost of acquisition of scarce resource (material) added by contribution lost (for else product, where this material; otherwise supposed to be used)

(iv) Recognition of learning curve while establishing the standards
Learning Curve recognises the progression of learning potential of people, it presumes worker become quicker if he repeats the process. Now this presumption has implication on standard setting process, in regard to computation of labour related variance and interpretation thereto.
Due to learning curve, standard time established soon become outdated yardstick for performance evaluation, hence computing labour variance with such out-dated standard date is meaningless from prospective planning and control.
Hence in order to accommodate, rapid change in form of reduction of time required/taken producing further each unit of same product with identical specification; effect of learning curve should be considered while computing labour variance. Effect of learning curve should be in embedded while setting the standard.
Even in case of material related variances, learning curve has critical implication; because while producing identical product for second time or thereafter; there is high probability of elimination of defect and wastage. Same may improve both the material price and usage variances. Variable production overhead, which are associated to labour hours may also impacted by learning curve. Hence considering the effect of learning curve is essential for  material and overhead variances too.

(v) Revised budgeted hours
A learning curve is geometric with the general form Y = ax^b Whereas-
Y = cumulative average time per unit or batch a = time taken to produce initial quantity.
x = the cumulative units of production or, if in batches, the cumulative number of batches b = the learning index or coefficient
Time taken to paint 6th unit is 13.08 hours i.e. (91.38 – 78.30) (See working note 1 & 2)
Time required to paint unit 6th onwards = 13.08 hours (because learning curve will cease post 6th unit)
Revised budgeted time required to paint 15 buses = 78.3 hours (for first 5) + 13.08 hours × 10 units (next 10 – 6th to 15th) = 78.3 hours + 130.8 hours = 209.10 hours
Working note 1 – Time required for painting first 6 buses
Y = 20 × (6)^-0.152
Log Y = Log 20 – 0.152 × Log 6
Log Y = Log 20-0.152 × Log (2 × 3)
Log Y = Log 20-0.152 × (Log 2 + Log 3)
LogY = 1.3010 – 0.152 × (0.3010 + 0.4771)
LogY = 1.3010 – 0.152 × (0.7781)
LogY = 1.3010 – 0.1183
LogY = 1.1827
Y = antilog of 1.1827
Y = 15.23 hours
Time required for painting first 6 buses is 91.38 hours (15.23 hours × 6 buses)
Working note 2 – Time required for painting first 5 buses
Y = 20 × (5)^-0.152
Log Y = Log 20 – 0.152 × Log 5
Log Y = 1.3010 – 0.152 × (0.6990)
Log Y = 1.3010 – 0.1062
Log Y = 1.1948
Y = antilog of 1.1948
Y = 15.66 hours
Time required for painting first 5 buses is 78.3 hours (15.66 hours × 5 buses)

(vi) Control Ratios
Activity Ratio measures the level of activity attained over a period by expressing number of standard hours required for actual production as percentage of the budgeted hours, as follows-
\(\frac{\text { Standard hours for actual production } \times 100}{\text { Budgeted hours }}\)
= (16,200/15,500) × 100 = 104.52%
104.5296 signify that BMW is need to work 4.52% extra than what it budgeted for to manufacture what actually it manufactured.

Capacity Ratio indicates the actual utilisation of budgeted hours. It is a measure which express actual working hour as percentage of budget hours (or maximum possible number of working hours).
\(\frac{\text { Actual working hours } \times 100}{\text { Maximum possible working hours }}\)
= (15,000/15,500) × 100 = 96.77%

96.77% signify that BMW actually worked for 96.77 hours against every 100 possible hours.
Or Budgeted Capacity is utilised up to 96.77% and 3.23% capacity remains unutilised.
Note –
Instead of formula used above, Capacity Usage Ratio can also be measured usingbelow mentioned formula-
\(\frac{\text { Actual hours worked } \times 100}{\text { Maximum possible working hours }}\)

Calendar Ratio is a measure where actual number of working days are expressed as number of working days during budgeted period.
= \(\frac{\text { Actual number of working days in a period } \times 100}{\text { Number of working days in related budgeted period }}\)
= (25/26) × 100 = 96.15%

Efficiency ratio indicates the degree of efficiency attained in production. It is expressed in term of standard hours for actual production as a percentage of the actual hours spent > in producing that work.
\(\frac{\text { Standard hours for actual production } \times 100}{\text { Actual hours worked }}\)
= (16,200/15,000) × 100 = 108%
108% signify that efficiency is 108% or task for which 108 hours is available finished in 100 hours.

Working Notes 1 – Calculation of standard hours for actual production

Working Notes 2 – Calculation of monthly budgeted hours
Annual budgeted hour = 1,86,000
Monthly budgeted hour = 1,86,000 hours/12 months = 15,500

Working Notes 3 – Calculation of actual hours for actual production

No.Particulars	Quantum in No.
1. No. of days production function worked	25
2. No. of hour in day	8
3. No. of worker in division	75
Total actual hours for month	15,000

Note – All calculations are on monthly basis.

Question 35.
During September 2020, Sandy offers bundling and item packing facilities (for standard size 24” × 12” × 10”) to give best facility to satisfy its industrial customers ’ need at the Great Ocean Warehouse. Sandy plans to pack 93,750 items at the rate of ₹ 4.50 per item. Sandy estimates that variable cost (all resources) will be equal to ₹ 1.50 per item packed and that fixed costs (rent, electricity, and maintenance charges) will be equal to ₹ 58,000 p.m. In September 2020, Sandy packed 1,12,500 items and received ₹ 5,06,250 as total revenue. However, Sandy paid ₹1,80,000 on resources (including urgent purchase of tape at retail price). In addition, Sandy paid ₹ 70,000 to the warehouse administration for rent, electricity, and maintenance charges. (This past September was unusually hot, and Sandy is charged a percentage of the warehouse’s actual electricity bill.)
Required
PREPARE a budget reconciliation report along with suitable analysis.
Answer:
Workings
The following table show’s Sandy’s budget profit and actual profit for the month of September 2020:

Particulars	Budgeted Profit	Actual Profit
Items packed	93,750	1,12,500
Revenue (₹)	4,21,875	5,06,250
Less: Variable Costs	1,40,625	1,80,000
Contribution Margin (₹)	2,81,250	3,26,250
Less: Fixed Costs	58,000	70,000
Profit (₹)	2,23,250	2,56,250

Analysis
Sandy’s standard selling (packing) price is ₹ 4.50 per item and her standard variable cost is₹ 1.50 per item. Therefore, Sandy’s budgeted revenue = 93,750 × ₹ 4.50 = ₹ 4,21,875 and her budgeted variable costs = 93,750 ×₹ 1.50 =₹ 1,40,625. From the table, we can identify that Sandy’s actual profit for September 2020 was 33,000 higher than his budgeted profit (₹ 2,56,250 – ₹ 2,23,250) ie., Sandy’s total profit variance is ₹ 33,000 (F).

₹Sandy’s sales contribution volume variance equals to the difference between his standard contribution and budgeted contribution. Each item is budgeted to contribute 3.00 toward profit; since Sandy packed 18,750 more items than budgeted, the increase in volume should have contributed ₹ 56,250 = 18,750 × ₹ 3.00 to actual profit. Therefore, Sandy’s sales contribution volume variance is ₹ 56,250 (F).

Sandy’s overall variable cost variance equals to the difference between her standard variable costs and her actual variable costs, or ₹ 1,68,750- ₹ 1,80,000 = ₹ 11.250 (A). But there is not adequate data to segregate Sandy’s variable cost variance into price and quantity elements. To compute these variances, we would require the amount of resources Sandy budgets to use per item packed and the actual & budgeted price of each resource i.e., an adverse variable cost variance can arise as Sandy used more resources per item packed and/or She paid more than budgeted for the resources used). While the issue appears to suggest that Sandy’s adverse variable cost variance arose due to spending more on tape than planned, it is not sure that the entire ₹ 11,250 variance is attributable to this. In fact, it is likely that the tape price variance was greater than ₹ 11,250 (A) and that Sandy had a favourable resource quantity variance to offset this.
Sandy’s fixed cost expenditure variance equals the difference between budgeted and actual fixed costs, or ₹ 58,000 – ₹ 70,000 = ₹ 12,000
We can now prepare the following budget reconciliation report:

Item	Amount (₹)
Budgeted Profit	2,23,250
Sales Volume Variance	56,250 (F)
Variable Cost Variance	11,250 (A)
Fixed Cost Expenditure Variance	12,000 (A)
Actual Profit	2,56,250

Ouestion 36.
Y Ltd., based in Kuala Lumpur, is the Malaysian subsidiary of Japan’s NY corporation, headquartered in Tokyo. Y’s principal Malaysian businesses include marketing, sales, and after-sales service of electronic products & software exports products. Y set up a new factory in Penang to manufacture and sell integrated circuit ‘Q50X-N’. The first quarter’s budgeted production and sales were 2,000 units. The budgeted sales price and standard costs for ‘Q50X-N’ were as follows:

	RM	RM
Standard Sales Price per unit		50
Standard Costs per unit
Circuit X (10 units @ RM 2.5)	25
Circuit Designers (6 hrs. @ RM 2)	12	(37)
Standard Contribution per unit		13

Actual results for the first quarter were as follows:

	RM ’000	RM ’000
Sales (2,000 units)		158
Production Costs (2,000 units)
Circuit X (21,600 units)	97.20
Circuit Designers (11,600 hours)	34.80	(132)
Actual Contribution (2,000 units)		26

The management accountant made the following observations on the actual results-
“In total, the performance agreed with budget; however, in every aspect other than volume, there were huge differences. Sales were made at what was supposed to be the highest feasible price, but we now feel that we could have sold for RM 82.50 with no adverse effect on volume. The Circuit X cost that was anticipated at the time the budget was prepared was RM 2.5per unit. However, the general market price relating to efficient purchases of the Circuit X during the quarter was RM 4.25 per unit. Circuit designers have the responsibility of designing electronic circuits that make up electrical systems. Circuit Designer’s costs rose dramatically with increased demand for the specialist skills required to produce the ‘Q50X-N’, and the general market rate was RM 3.125per hour – although Yalways paid below the normal market rate whenever possible. In my opinion, it is not necessary to measure the first quarter’s performance through variance analysis. Further, our operations are fully efficient as the final contribution is equal to the original budget. ”
Required
COMMENT on management accountant’s view. (10 Marks) [Oct 2020 MTP]
Answer:
Comment
As the management accountant states, and the analysis (W.N.l) presents, the overall variance for the KONI is nil. The cumulative adverse variances exactly offset the favourable variances i.e. sales price variance and circuit designer’s efficiency variance. However, this traditional analysis does not clearly show the efficiency with which the KONI operated during the quarter, as it is difficult to say whether some of the variances arose from the use of incorrect standards, or whether they were due to efficient or inefficient application of those standards.

In order to determine this, a revised ex post plan should be required, setting out the standards that, with hindsight, should have been in operation during the quarter. These revised ex post standards are presented in W.N. 2.

As seen from W.N. 3, on the cost side, the circuit designer’s rate variance has changed from adverse to favourable, and the price variance for circuit X, while remaining adverse, is significantly reduced in comparison to that calculated under the traditional analysis (W.N.l); on the sales side, sales price variance, which was particularly large and favourable in the traditional analysis (W.N.1), is changed into an adverse variance in the revised approach, reflecting the fact that the KONI failed to sell at prices that were actually available in the market.

Further, variances arose from changes in factors external to the business (W.N .4), which might not have been known or acknowledged by standard-setters at the time of planning are beyond the control of the operational managers. The distinction between variances is necessary to gain a realistic measure of operational efficiency.
W.N.1
KONY India Ltd.
Quarter-1

W.N.2
Statement Showing Original Standards, Revised Standards, and Actual Results for Quarter 1

W.N.3

Particulars	(Rs.)	(Rs.)
Operational Variances		16,500 (A)
Sales Price [(RM 79.00 – RM 82.50) × 2,000 units]	7,000 (A)
Circuit X Price [(RM 4.25 – RM 4.50) × 21,600 units]	5,400 (A)
Circuit X Usage [(20,000 units – 21,600 units) × RM 4.25]	6,800 (A)
Circuit Designer Rate [(RM 3.125 – RM 3.00) × 11,600 hrs.]	1,450 (F)
Circuit Designer Efficiency [(12,000 hrs.- 11,600 hrs.) × RM 3.125]         ‘	1,250 (F)

W.N.4

Particulars	(Rs.)	(Rs.)
Planning Variance
Sales Price [(RM 82.50 – RM 50.00) × 2,000 units]	65,000 (F)
Circuit X Price [(RM 2.50 – RM 4.25) × 20,000 units]	35,000 (A)	16,500 (F)
Circuit Designer Rate [(RM 2.00 – RM 3.125) × 12,000 hrs.]	13,500 (A)

Question 37.
ZAINA Private Limited is a manufacturing company of electrical equipment. The company is facing the possibility of a strike by its direct production workers engaged on the assembly of one of its machines. The Trade Union is demanding an increase of 8% backdated.
The Machine whose production (Ceiling Fans) would be affected by the strike is sold to distributors at a discount of 25% from the current recommended selling price of ₹ 2,000. The estimated costs for the Ceiling Fans are:

Particulars	Fixed Cost (₹)	Variable Cost (₹)
Production	8,00,000	1,200 Per Ceiling Fan
Distribution	3,00,000	80 Per Ceiling Fan
Total Cost	11,00,000	1,280 Per Ceiling Fan

Direct labour comprises 60% of the variable production cost. The budgeted output is 30,000 Ceiling Fans in 50 working weeks per year. If the strike takes place, the following situations are expected by the company:
(a) Maintenance staff, whose wages are included in the fixed production costs, would used to carry out an overhaul of the conveyor system using materials worth ₹ 50,000. This work would otherwise be undertaken by an outside contractor at a cost including materials ₹ 1,50,000.
(b) Sales of 500 Ceiling Fans would be lost to completion. The balance that could ordinarily have been produced during the strike period, could however, be sold, but these ceiling fans would have to be produced in overtime working which would be at an efficiency rating of 80% of the normal. This would also entail additional fixed costs of ₹ 40,000 and wage payments at time and one-half.
Required
(i) CALCULATE the profit or loss with and without strike.
(ii) Taking, purely economic point of view, ADVISE the management to allow the strike to go ahead, rather than agree to the Union’s demand.
(iii) LIST-Any two factors, not considered in yours above evaluation that may have adverse financial effects for the company, if the strike were to take place. (10 Marks) [Nov. 2020 Exam]
Answer:
(i) Statement Showing the profit or Loss with and without Stirke

(ii) If there is no strike, it will yield a financial advantage of 20,65,220. Therefore, from a purely economic point of view, management should accept union’s demand.

(iii) These factors, not considered in above evaluation, that may have adverse effects, if the strike were to take place are:

• There will be knock on effect of wage increase and all other workers will start demanding it.
• Customers gone to competitors may not even return.
• Loss of goodwill.
• Behavioural effects after strike period and their impact on work.
• Strain in relation between trade union, labour, and management.

Question 38.
(Labour Variance & Interpretation)
KRI Sanitation Ltd. manufactures a single product and the standard cost system’ is followed standard cost per unit is calculated as below:

Particulars	Amount (₹ )
Direct Materials (4 kg. @ ₹ 7 kg.)	28
Direct Labour (5 Hours @ ₹ 9 per hour)	45
Variable overheads (6 Hours @ ₹ 2 per hour)	12

The other data for the month of June 2020 is given below:

Particulars	Budgeted	Actual
Production and Sales	15,000 units	₹ 13,800 units
Direct Material	60,000 kg. (a ₹ 7 per kg.	60,000 kg. @ ₹ 7 per kg.
Direct Labour	75,000 Hours @ ₹ 9 per hour	₹ 5,69,600 (for 71,200 hours)
Variable Overheads	1,80,000	1,72,500

Required
(i) CALCULATE following variances:

• Direct Labour Rate Variance
• Direct Labour Efficiency Variance (3 Marks)

(ii) INTERPRET the result. (7 Marks) [Nov. 2020 Exam]
Answer:
(i) Calculation of Variances →
Labour Rate Variance = Standard Cost of Actual Time – Actual Cost
= (SR × AH) – (AR × AH)
Or
= (SR – AR) × AH
= (₹ 9.00 – ₹ 8.00*) × 71,200 hrs.
= ₹ 71,200(F)
(*) Actual Labour Rate per hour = \(\frac{\text { Actual Paid }}{\text { Actual Hours }}\)
Actual Paid Actual Hours = \(\frac{₹ 5,69,600}{71,200 \mathrm{hrs} .}\)
= ₹ 8.00
Labour Efficiency Variance = Standard Cost of Standard Time for Actual Production – Standard Cost of Actual Time
= (SH × SR) – (AH × SR)
Or
= (SH – AH) × SR
= (69,000$ hrs. – 71,200 hrs.) × ₹ 9.00
= ₹ 19,800 (A)
($) Standard Hours = Actual Production × Std. hrs. per unit
= 13,800 units × 5 hrs.
= 69,000 hrs.

(ii) Interpretation of Variances →
The favourable rate variance indicates that expenditure was 71,200 less than the standard because a lower than standard rate was paid for each hour of labour (i.e. ₹ 8 per hr. against ₹ 9 per hr.), this could mean that I less skilled labour was used than provided for in the standard; and this then lowered efficiency with the result that the efficiency was lower than expected, result in adverse efficiency variance of ₹ 19,800; and perhaps poor materials handling and high rates of rejections too (this is indicated by adverse material usage variance of ₹ 33,600. This throughout analysis shows a positive impact of ₹ 17,800 on profit for which labour rate variance is the main contributor.
Workings
Material Usage Variance = Standard Cost of Standard Quantity for Actual Production – Standard Cost of Actual Quantity
= (SQ × SP) – (AQ × SP)
Or
= (SQ – AQ) × SP
= (52,000$ kg. – 60,000 kg) × ₹ 7.00
= ₹ 33,600
Standard Quantity = Actual Production × Std. Qty. per unit
= 13,800 units × 4 kg.
= 55,200 kg.
Not-Ignored Variables Overheads.

Alternative
Interpretation of Variances
The favourable rate variance indicates that expenditure was 71,200 less than the standard because a lower than standard rate was paid for each hour of labour (i.e. ₹ 8 per hr. against ₹ 9 per hr.), this could mean that
(i) Less skilled labour was used than provided for in the standard.
(ii) Fall in the overall wage rates in the market due to an increase in the supply of labour.
(iii) Inappropriately high setting of the standard cost of direct labour which may be attributed to inaccurate planning.
Labour efficiency variance of 19,800(A) means that efficiency was lower than expected or more actual labour hours required than standard labour hours. The reasons may include:
(i) Hiring of lesser skilled labour than the standard.
(ii) Achieving Lower learning curve during the period than anticipated in the standard.
(iii) Idle time incurred during a period caused by disruption or stoppage of work. Poor materials handling and high rates of rejections also affects labour efficiency.
In a nutshell, due to Lower labour rate variance (Fav), labour efficiency (Adv) has come down.

Question 39.
(Reconciliation between Budgeted Profit and Actual Profit)
Sri Manufacturers Ltd. manufactures a single product. Standard cost per unit is as follows:

Particulars		₹
Materials	12 kgs × ₹ 5 per kg	60
Labour	10 hrs × ₹ 7per hour	70
Variable Overheads	10 hrs × per hour	30
Fixed Overheads	10 hrs × per hour	30
Profit		60
Selling Price		250

Overheads are allocated on the basis of direct labour hours. In the month of March 2020 there was no difference between the budgeted and actual selling price and there was no opening and closing stock during the period.
The other details for the month of March 2020 are as under:

	Budgeted	Actual
Product and sales	2,500 units	2,000 units
Direct Materials	30,000 kgs @ 5 per kg	30,000 kgs @ 5 per kg
Direct Labour	25,000 hrs @ ₹ 7 per hour	22,500 hrs @ ₹ 7 per hour
Variable Overheads	₹ 75,000	₹ 67,500
Fixed Overheads	₹ 75,000	₹ 75,000

Required
RECONCILE the budgeted and actual profit with the help of variances according to each of the following methods:
(i) The conventional method (3 Marks)
(ii) The relevant cost method assuming that
(a) Materials are scarce and are restricted to supply of 30,000 kgs for the period. (3 Marks)
(b) Labour hours are limited and available hours are only 25,000 hours for the period. (4 Marks) [Jan 2021 Exam]
Answer:
Computation of Variances
Material Usage Variance
= Standard Price × (Standard Quantity – Actual Quantity)
= ₹ 5.00 × (24,000 Kgs. – 30,000 Kgs.)
= ₹ 30,000 (A)

Labour Efficiency Variance
= Standard Rate × (Standard Hours – Actual Hours)
= ₹ 7.00 × (20,000* hrs. – 22,500 hrs.)
= ₹ 17,500 (A)

Fixed Overhead Volume Variance
Absorbed Fixed Overheads – Budgeted Fixed Overheads
= (20,000 hrs. × ₹ 3.00) – (25,000 hrs. × ₹ 3.00)
= ₹ 15,000 (A)

Sales Margin Volume Variance = Standard Margin – Budgeted Margin
= (2,000 units × ₹ 60.00) – (2,500 units × ₹ 60.00)
= ₹ 30,000 (A)

Sales Contribution Volume Variance
= Standard Contribution – Budgeted Contribution
= (2,000 units × ₹ 90.00) – (2,500 units × ₹ 190.00)
= ₹ 45,000 (A)

Statement Showing “Reconciliation between Budgeted
Profit & Actual Profit”

Notes
Scarce Material
Based on conventional method, direct material usage variance is ₹ 30,000 (A) i.e., 6,000 Kg. × ₹ 5. In this situation material is scarce, and, therefore, material cost variance based on relevant cost method should also include contribution lost per unit of material. Excess usage of 6,000 Kg. leads to lost contribution of ₹ 45,000 i.e., 6,000 Kgs. × ₹ 7.5. Total material usage variance based on relevant cost method, when material is scarce will be: ₹ 30,000 (A) + ₹ 45,000 (A) = ₹ 75,000 (A). Since labour is not scarce, labour variances are identical to conventional method.

Excess usage of 6,000 Kgs. leads to loss of contribution from 500 units i.e., ₹ 45,000 (500 units × ₹ 90). It is not the function of the sales manager to use material efficiently. Hence, loss of contribution from 500 units should be excluded while computing sales contribution volume variance.
(*)→ Therefore, sales contribution volume variance, when materials are scarce will be NIL i.e., ₹ 45,000 (A) – ₹ 45,000 (A).

Scarce Labour
Material is no longer scarce, and, therefore, the direct material variances are same as in conventional method. In conventional method, excess labour hours used are: 20,000 hrs. – 22,500 hrs. = 2,500 hrs. Contribution lost per hour = 1 9. Therefore, total contribution lost, when labour is scarce will be:
2,500 hrs. × ₹ 19 = ₹ 22,500. Therefore, total labour efficiency variance, when labour hours are scarce will be 140,000 (A) i.e., ₹ 17,500 (A) + ₹ 22,500 (A).

Excess usage of 2,500 hrs. leads to loss of contribution from 250 units i.e., ₹ 22,500 (250 units × ₹ 90). It is not the function of the sales manager to use labour hours efficiently. Hence, loss of contribution from 250 units should be excluded while computing sales contribution volume Variance,
($)→ Therefore, sales contribution volume variance, when labour hours are scarce will be 122,500 (A) i.e., ₹ 45,000 (A) – ₹ 22,50Q (A).
Fixed Overhead Volume Variance:
(#) → The fixed overhead volume variance does not arise in marginal costing system. In absorption costing system, it represents the value of the under or over absorbed fixed overheads due to change in production volume. When costing is in use there is no overhead volume variance, because 4 marginal costing does not absorb fixed overheads.

Question 40.
(Reconciliation}
Williams Footwear (WF)is a shop that focuses on shoes for various sports I and activities like jogging, cricket, tennis, oral hockey. Budgeted profit for the WF is calculated considering an average selling price of ₹ 500 per pah of shoes and an average cost of ₹ 350 per pair of shoes. The super visor of the WF has discretion in staffing and in setting prices. Usually, the WF is staffed for 65G hrs per month ai a badgered rate of ₹ 125 per hr. In addition to this base wages, sales staff gas a payment equal to 5.Sts of takings, Moreover, staffing levels are not expected, to change in response to “little’ changes in shoe sales. For Sep’ 2021, the IFF had budgeted sales of 2,250 pairs of shoes and 650 staffing hrs.
Actual results for Sep’2021 were as follows:

Pairs of shoes sold	2,500
Revenue	12,00,000
Less: Cost of shoes	8,25,000
Less: Staff – additional payment	66,000
Less: Staff – base wages @ 1 125 per hour	78,125
Profit	₹ 2,30,875
Note – little” changes in shoe sales specified as ± 12%.

Required
(i) PREPARE a reconciliation statement of budgeted profit to actual profit.
(ii) COMMENT on supervisor’s performance. [Nov 2021 RTP]
Answer:
(i) Reconciliation Statement Budgeted and Actual Profit (Sep’ 2021)

Budgeted profit	1,94,375
Sales volume variance (F)	30,625
Sales price variance (A)	50,000
Shoe cost variance (F)	50,000
Staff cost variance-commission (F)	2,750
Staff cost variance-base wage (F)	3,125
Actual profit	₹ 2,30,875

The performance seems good. It shows that the supervisor of the WF passed on a 5.7% decrease in shoe cost to customers (same is also revealed through the entirely offsetting of the shoe cost variance and price variance), ie. shoe costs decreased by ₹20 per pair, from a standard cost of ₹ 350 per pair to an actual cost ₹330 per pair. Additionally, the selling price decreased by ₹20 per pair, from a standard price of ₹ 500 per pair to an actual price of ₹480 per pair. In turn, the reduction in the selling price appeared to produce a favourable sales volume variance and a reasonable increase in profit.
Since the reduction in the selling price, staff commissions also were lower than budgeted. Moreover, the ₹50,000 reduction in revenue led to 0.055 × ₹ 50,000 = ₹2,750 less in commission costs.
Lastly, staffing was 25 hours under budget, leading to a savings of 25 × ₹ 125 = ₹3,125. Therefore, the supervisor attained an increase in sales with lesser staff hours.
Overall, it appears that the manager has done a great job of making revenue and controlling costs.
Workings
Statement Showing Budgeted and Actual Profit (Sep’ 2021)

	Budgeted Data	Actual Data
Units (pairs of shoes)	2,250	2,500
Price per pair of shoes	₹ 500.00	₹ 480.00
Cost per pair of shoes	₹ 350.00	₹ 330.00
Commission rate	₹ 27.50 (5.5% of ₹ 500)	₹ 26.40 (5.5% ₹480)
Contribution	₹ 122.50	₹ 123.60
Revenue	₹ 11,25,000	₹ 12,00,000
Less: Cost of shoes	7,87,500	8,25,000
Less: Staff – additional payment (commission)	61,875	66,000
Less: Staff – base wages	81,250	78,125
Profit	₹ 1,94,375	₹ 2,30,875

Computation of variances
Total Profit Variance = ₹ 2,30,875 – ₹ 1,94,375
= ₹ 36,500 (F)

Sales Contribution Volume Variance = StandardContribution-Budgeted Contribution
= ₹ 122.50 × ₹ 2,500 – ₹ 122.50 ₹ 2,250
= ₹ 3,06,250 – ₹ 2,75,625 = ₹ 30,625 (F)

Sales Price Variance = Actual Revenue – Standard Revenue
= ₹ 480 × 2,500 – ₹ 500 × 2,500
= ₹ 12,00,000 – ₹ 12,50,000 = ₹ 50,000 (A)

Shoe Cost Variance*
= ₹ 350 × 2,500 – ₹330 × 2,500
= ₹ 8,75,000 – ₹ 8,25,000 = ₹ 50,000 (F)

Staff Cost Variance-commission*
= ₹ 27.50 × 2,500 – ₹ 26.40 × 2,500
= ₹ 68,750 – ₹ 66,000 = ₹2,750

Staff Cost Variance (base wage) = ₹81,250 – ₹78,125 = ₹3,125(F).
(*) Note- The cost variance (for both shoe and staff-commission) equal to the difference between the standard cost and the actual cost.

Importation, Exportation and Transportation of Goods – CA Final IDT Study Material is designed strictly as per the latest syllabus and exam pattern.

Importation, Exportation and Transportation of Goods – CA Final IDT Study Material

Question 1.
Write a note on “Project Imports” under the Customs Tariff Act, 1975 projects and the minimum investment criteria if any. [May 2008, 5 Marks]
Answer:
Meaning of Project Import

• Project Import means import of plant & machinery and any other things
• which are required to establish a new project
• for manufacturing or producing or processing
• any approved things
• in India or substantially expending existing project established in India

Requirements of Project Import

• Several machinery, instruments and apparatus are required for setting up a project.
• These project components fall under different chapter, heading etc. of Customs Tariff Act, 1975
• Which also attracts duty at different rates, resulting into complexity
• so a new Tariff item was specified under Heading 9801
• to cover project import and presently it is charged at a consolidated rate of custom duty.

Eligible Projects
Many projects are eligible projects like

1. Industrial Plants
2. Irrigation Projects
3. Power Projects
4. Mining Projects
5. Projects for oil or mineral exploration and
6. Any other projects notified by the Central Government.

Question 2.
Under what circumstances provisional assessment under Sec. 18 of the Customs Act, 1962 can be made? [May 2009, 2 Marks]
Answer:
Sec. 18(1) of the Customs Act, 1962 provides the various circumstances, in which provisional assessment can be directed by proper officer:

• Inquiry: Importer / Exporter furnished all Documents / Information but Proper Officer still deems it necessary to make further enquiry.
• Documents/Information: The necessary Document have not been produced by Importer/ Exporter.
• Test: It is deemed necessary to carry out chemical or other tests on Goods.

Question 3.
Moris Lal has imported goods from Germany and is finally re-assessed u/s 18(2) of the Customs Act, 1962 for two such consignments. Particulars are as follows:

Date of provisional assessment : 12th December, 2017
Date of final re-assessment 2nd February, 2018
Duty demand for 1st consignment : ₹ 1,80,000
Refund for the 2nd consignment : ₹ 4,20,000
Date of refund made by the department : 28th April, 2018
Date of payment of duty demanded : 5th February, 2018

Determine the interest payable and receivable, if any, by Moris Lai on the final re-assessment of the two consignments, with suitable notes thereon. [May 2018 (Old), 4 Marks]
Answer:

Case	Statutory Provision	In the given case
1	Interest Payable by Importer As per section 18(3) of the Customs Act, 1962 : Any importer is liable to pay interest at the rate of 15% p.a.(Notification No. 33/2016-Cus. (NT) dated 1-3-2016), on any amount payable consequent to the re-assessment order from the first day of the month in which the duty is provisionally assessed till the date of payment.	Moris Lai is liable to pay following interest in respect of 1st consignment: = ₹ 1,80,000 × 1596 × 67/365 = ₹ 4,956 (rounded off)
2	Interest Payable to Importer If any amount refundable consequent to the reassessment order is not refunded within 3 months from date of re-assessment of duty, interest is payable to importer on unrefunded amount at the specified rate till the date of refund of such amount in terms of section 18(4) of the Customs Act, 1962.	Since refund has been made (28-4-2018) within 3 months from the date of re-assessment of duty (02-2-2018), interest is not payable to Moris Lai on duty refunded in respect of 2nd consignment.

Examiner’s Comment
Though most of the examinees correctly considered the rate of interest as 1596 p.a., but they erred in considering the period for which interest is payable. They wrongly considered the period starting from the date of provisional assessment till the date of payment of duty demanded while computing interest in respect of 1st consignment, whereas in the said case, interest is payable from the first day of the month in which the duty is provisionally assessed till the date of payment in terms of section 18(3) of the Customs Act, 1962.

Question 4.
Laxmi Company imported goods valued at ₹ 10,00,000 vide a Bill of Entry presented before the proper officer on 15th December, 2018, on which date the rate of customs duty was 20%. The proper officer decided that the goods should be subject to chemical or other test and therefore, the same were provisionally assessed at a value of 110,00,000 and Laxmi Company paid provisional duty of ₹ 2,00,000 on the same date. Laxmi Company wants to voluntarily pay duty of ₹ 1,50,000 on 20th January, 2019.
(1) Can Laxmi Company provisionally pay the duty and what are the conditions which are to be complied before such payment is made?
(2) Determine the amount of interest payable, if any, under section 18 of the Customs Act, 1962 assuming that the payment of ₹ 1,50,000 as stated above is made on 20th January, 2019 and that the final duty is assessed on 31st January, 2019 at ₹ 4,00,000 and the balance duty is paid on the same day. [May 2019 (Old), 5 Marks]
Answer:

Case	Statutory Provision	In the given case
1	Provisional assessment of duty is permitted in case where the proper officer deems it necessary to subject any imported goods or export goods to any chemical or other test [Section 18 of the Customs Act, 1962],	Laxmi Company can pay the duty on provisional basis. Before, the provisional assessment of duty, the importer must furnish such security as the proper officer deems fit for the payment of the deficiency, if any, between the duty finally assessed/ re-assessed and the duty provisionally assessed.
2	Section 18 of the Customs Act, 1962 further stipulates that the importer is liable to pay interest, on any amount payable consequent to the final assessment order @ 15% p.a. from the first day of the month in which the duty is provisionally assessed till the date of payment thereof.	The amount of interest payable will be = [₹ 1,50,000 × 15% × 51/365] + [₹ 50,000 × 15% × 62/365] = ₹ 3,144 + ₹ 1,274 = ₹ 4,418

Question 5.
M/s Vijay Exports, an EOU, is purchasing electricity generated by the captive power plant of its sister unit. The furnace oil required for running the captive power plant was imported by the assessee (M/s. Vijay Exports) and supplied to sister unit for generation of electricity. The assessee also claimed exemption on import of furnace oil under a relevant exemption notification.

However, the assessee sought a clarification from the Development Commissioner seeking as to whether import of furnace oil and receipt of electricity would be liable to duly. The Development Commissioner replied in favour of the assessee and thereafter, the assessee claimed the exemption.

A show cause notice demanding duty was issued on the assessee invoking extended period of limitation of 5 years on grounds that the entitlement of duty free import of fuel for its captive power plant, and not the consumer of electricity, generated from that power plant.
Is the action of the department justified in light of the provisions of the Customs Act, 1962? Discuss with the help of a decided case law. [May 2014, 3 Marks]
Answer:
Statutory Provision
Sec. 28(4) of the Customs Act, 1962 provides for extended period of limitation ie. 5 years for issue of show cause notice in case of non-levy, non-payment etc., of custom duty due to collusion, any wilful mis-statement etc. on the part of assessee. So, if there is no collusion, any willful mis-statement etc. on the part of assessee, then the extended period of show cause notice can’t be invoked.

In the given case
The assessee has worked bona fide, because it has consulted about its doubt availability of exemption from the Development Commissioner of EOU, before claiming exemption. So, there is no wilful misstatement on the part of the assessee to attract the extended period of limitation.

The Supreme Court also gave same view in case of Uniworth Textiles Ltd. v. CCEx [2013].

Question 6.
Explain briefly the meaning of Entry Inward and Entry Outward in the Customs Law. [May 2014, 3 Marks]
Answer:
Meaning of Entry Inward (Sec. 31): Entry inward is a permission given by proper officer, to the master of a vessel for unloading of any imported goods from the vessel.

1. Condition:
After Submission of Import General Manifest as per Section 30 of Customs Act, 1962, the proper officer will give entry inward only when he is satisfied that all information is true and fair.

2. Entry Inward is not Required:
Any of the goods shall not be unloaded unless entry inward has been granted but this does not apply for passengers, baggage, perishable items and import by post.

3. Date of Entry Inward:
For the purpose of Sec. 15(1)(a) of the Customs Act, 1962, the date of entry inward is the date recorded in the Customs Register and not the date of actual entry of vessel.

4. Entry Outward :
As per Sec. 39 of the Customs Act, 1961, the master of vessel shall permit the loading of any export goods, only if the proper officer has given an order in this regard. This order is called entry outward.
However, loading of baggage and mail bags doesn’t required entry outwards. Again, entry outward is not necessary for aircraft and vehicles.

Question 7.
Can the time-limit prescribed under Sec. 48 of the Customs Act, 1962 for clearance of the goods within 30 days be read as time-limit for filing of bill of entry under Sec. 46 of the Customs Act, 1962. You may take the help of case law, if any, for your decision. [Nov. 2013, 3 Marks]
Answer:
The said issue came up for consideration before the High Court in case of C Cus v. Shreeje Overseas (India) Pvt. Ltd. 2013 (289) E.L.T. 401 (Guj.).

The High Court noted that through Sec. 46 of the Customs Act, 1962 does not provide any time limit for filing a bill of entry by an importer upon arrival of goods, Sec. 48 of the Act permits the authorities to sell the goods after following the specified procedure if the same are not cleared for home consumption/warehoused/ transhipped within 30 days of being unloaded at the custom station.

The High Court, however, held that the time limit prescribed under Sec. 48 for clearance of the goods within 30 days cannot be read into Sec. 46 and it cannot be inferred that Sec. 46 prescribes any time limit for filing of bill of entry.

Authors Point of View

As per Section 46 of Customs Act, 1962. The importer shall present the bill of entry before the end of the next day following the day (excluding holidays) on which the aircraft or vessel or vehicle carrying the goods arrives at a customs station at which such goods are to be cleared for home consumption or warehousing.

Where the bill of entry is not presented within the time so specified and the proper officer is satisfied that there was no sufficient cause for such delay, the importer shall pay such charges for late presentation of the bill of entry as may be prescribed.

Charges for late presentation of the bill of entry @ ₹ 5,000 per day for the initial 3 days of default and ₹ 10,000 per day for each day of default thereafter.

Question 8.
An importer filed a bill of entry after 60 days of filing Import General Manifest. The Deputy Commissioner of Customs imposed a penalty of ₹ 10,000 for late filing of the bill of entry. Since, importer wanted to clear the goods urgently, he paid the penalty. Can penalty be imposed for late filing of the bill of entry? Can bill of entry be filled in advance? Examine the issue regarding period available for filing bill of entry in the light of relevant statutory provisions? [May 2018, 5 Marks]
Answer:
Penalty for late filing of the bill of entry
Yes

As per Section 46(3) of Customs Act, 1962 : The importer shall present the bill of entry before the end of the next day following the day (excluding holidays) on which the aircraft or vessel or vehicle carrying the goods arrives at a customs station at which such goods are to be cleared for home consumption or warehousing.

Where the bill of entry is not presented within the time so specified and the proper officer is satisfied that there was no sufficient cause for such delay, the importer shall pay such charges for late presentation of the bill of entry as may be prescribed.

Charges for late presentation of the bill of entry @ ₹ 5,000 per day for the initial 3 days of default and ₹ 10,000 per day for each day of default thereafter.

Can bill of entry be filled in advance

• Yes,
• As per Section 46(3) of the Customs Act, 1962:- A bill of entry may be presented within 30 days of the expected arrival of the aircraft or vessel or vehicle by which the goods have been shipped for importation into India.
• In the given case also, the time period as described above will be available -with reference to the date of arrival of vessel/aircraft- for filing the bill of entry.

Question 9.
What is interest free period allowed under Sec. 47(2) of the Customs Act, 1962 for payment of duty? [May 2014, 1 Mark]
Answer:
Sec. 47(2) of Customs Act, 1962 provides for interest free period of 1 working day for payment of custom duty,
In case of assessment, reassessment or provisional assessment payment of duty should be within one day (excluding holidays) from the date on which the bill of entry is returned to him by the proper officer for payment of duty, otherwise interest @ 15% p.a. will be charged till the date of payment of such duty.

Question 10.
Answer the following:
(a) Certain goods were brought to the export shed on 5-10-2018. The goods were examined and ‘let export order’ was issued on the same day by nothing of the shipping bill. Computer processed shipping bill was issued on 6-10-2017. DEPB rate was lowered on 6-10-2018 and the Department allowed DEPB at the rate prevailing on 6-10-2018. The goods were permitted for clearance and loading on 5-10-2018. It is the assessee’s case under the Customs Act, 1962. They are entitled for the higher rate of DEBP prevailing on 5-10-2018. Write a brief note whether the assessee’s stand is correct in law. [CA-Final, Nov. 2010, 4 Marks]

(b) Briefly explain the provisions relating to transshipment of goods without payment of duty under Sec. 54 of the Customs Act, 1962. [Nov. 2010, 4 Marks]
Answer:
(a)
Statutory Provision
As per Sec. 16(1) of the Customs Act, 1962, taxable event arises only when proper officer makes an order permitting clearance (ie. entry outwards or let export order) granted Esajee Tayabally Kapasi (1995) (SC) and loading of the goods for exportation took place under Sec. 51 of the Customs Act, 1962.

In the given case
In the given case let export order was issued by noting of the shipping billon 5.10.2018. Hence, the DEPB (Duty Exemption Pass Book) rate as on the date of let export order granted is relevant. Computer processed shipping bill was issued 6-10-2018 has no relevance. Therefore, the assessee stand is correct.

(b) Meaning of Transshipment Goods
Transshipment goods are those goods which are unloaded in India and required to be forwarded to same another place which may or may not be in India.

Conditions under which exemption from duty is allowed on transit and transshipment of goods are:

1. The goods should be mentioned in the import manifest.
2. The goods should be intended for transshipment.
3. The goods should not be prohibited goods.
4. A bill of transshipment should be presented to the proper officer.
5. The owner of the vessel should execute a bond with surety.
6. Container or package transshipped should be sealed with the Department’s seal.

Question 11.
Explain in brief the duty exemption to baggages under Sec. 79(1) of the Customs Act, 1962. [May 2010, 3 Marks]
Answer:
Section 79(1) of the Customs Act : The duty relief available in respect of baggage. It stipulates that the proper officer, may subject to any rules made under sub-section (2) pass free of duty-

(a) Any article in the baggage, of a passenger or a member of the crew, in respect of which the said officer is satisfied that it has been in his use for such minimum period as may be specified in the rules;
(b) Any article in the baggage of a passenger in respect of which the officer is satisfied that it is for the use of the passenger or his family or is a bona fide gift or souvenir, provided that the value of each such article and the total value of all such articles does not exceed such limits as may be specified in the rule.

Question 12.
Mr. Devendra, an Indian Entrepreneur, went to China to explore new business opportunities on 5-04-2018. The following details regarding imports are submitted by him with the Customs authorities on return to India on 20-02-2019.
(a) 2 Music Systems each worth ₹ 23,000.
(b) Jewellery brought by Mr. Devendra worth ₹ 49,000. (18 Grams)
Write a brief note on his eligibility with regard to duty free baggage allowance as per the Baggage Rules, 2016. [May 2017, 2 Marks]
Answer:
Rule 3 of the “Baggage Rules, 2016” provides for “Duty free baggage allowance” as follows:
(a) Used personal effects and travel souvenirs;
(b) Articles other than those mentioned in Annexure I, upto the value of ₹ 50,000, if these are carried on the person or in accompanied baggage of the passenger; and
(c) If we apply the above provisions, Mr. Devendra’s duty liability will be as follows:

Computation of Custom Duty Payable By Mr. Devendra

Particulars	₹
(a) 2 Music systems each worth ₹ 23,000	46,000
(b) Jewellery (18 Grams, up to 20 grams can be accommodated)	49,000
Total dutiable goods	95,000
Less: General Free Allowance under Rule 3	50,000
Taxable value of duty	45,000
Customs duty @ 38.5% (inclusive social welfare surcharge 10% of 35%)	17,325

Note: Jewellery Allowance not allowed to any person whose residing period in more than 1 year. abroad is not

Question 13.
Mrs. X, an Indian resident who was on a visit to China, returned after 6 months. She was carrying with her the following items:
(i) Personal Effects : ₹ 75,000
(ii) Laptop Computer : ₹ 60,000
(iii) Jewellery – 25 grams (purchased in china) : ₹ 75,000
(iv) Music system ₹ 50,000
Compute the customs duty payable by Mrs. X with reference to Baggage Rules, 2016. [Nov 2019, 5 Marks]
Answer:
Computation of Dutiable Turnover of Mrs. X

Particular	Amount
(i) Personal Effects (WN 1)	Exempt
(ii) Laptop Computer (WN 1)	Exempt
(iii) Jewellery – 25 grams (WN 2)	75,000
(iv) Music System	50,000
Total	1,25,000
Less. Allowances as per Rule 3	(50,000)
Dutiable Turnover	75000
Rate of Duty inclusive (SWS)	38.5%
Duty on Baggage	28,875

Working Notes:
(a) Personal effect, 1 Laptop & Travel Souvenirs are exempt from duty.
(b) Residing period of Mrs. X in abroad is not more than 1 Year, therefore exemption of rule 5 will not be allowed.

Question 14.
Mr. Samuel, a US resident aged 35 years, has come to India on a tourist visa for a month-long vacation. He carries with him, as part of baggage, the following:
Particulars : Value in ₹
Travel souvenirs : ₹ 85,000
Other articles carried on in person : ₹ 1,50,000
80 sticks of cigarettes of 1oo each : ₹ 8,000
30 cartridges of fire arms valuing 500 each : ₹ 15,000
One litre wine : ₹ 15,000
With reference to the Baggage Rules, 2016, determine whether Mr. Samuel will be required to pay any customs duty? [RTP May 2020]
Answer:
As per rule 3 of Baggage Rules, 2016, tourist of foreign origin, excluding infant, is allowed duty free clearance of

1. travel souvenirs; and
2. Articles up to the value of ₹ 15,000 (excluding, inter alia, cigarettes exceeding 100 sticks, cartridges of fire arms exceeding 50 and alcoholic liquor or wines in excess of two litres), if carried on in person.

Further, any article the value of which exceeds the duty free allowance admissible to such passenger or member under the Baggage Rules, 2016, is chargeable to customs duty @ 38.5% after including social welfare surcharge @ 10% on customs duty.
Accordingly, the customs duty payable by Mr. Samuel will be calculated as under:

Computation of customs duty payable	₹
Travel souvenir	Nil
Articles carried on in person	1,50,000
Cigarettes [Note 1]	8,000
Fire arms cartridge [Note 2]	15,000
One litre of wine [Note 3]	15,000
Baggage within the scope of rule 3 of Baggage Rules, 2016	1,88,000
Less: GFA	15,000
Baggage on which duty is payable	1,73,000
Customs duty payable @ 38.5%	66,605

Notes:
1. The number of cigarettes does not exceed 100, the same will be covered within the scope of rule 3 of Baggage Rules, 2016 and thus, be eligible for general free allowance (GFA) or concessional rate of duty applicable to baggage vide Notification No. 26/2016 Cus. dated 31-3-2016, as the case may be.

2. The number of fire arms cartridge does not exceed 50, the same will be covered within the scope of rule 3 of Baggage Rules, 2016 and thus, be eligible for GFA or concessional rate of duty applicable to baggage vide Notification No. 26/2016 Cus. dated 31-3-2016, as the case may be.

3. The quantity of wine does not exceed 2 litres, the same will be covered within the scope of rule 3 of Baggage Rules, 2016 and thus, be eligible for GFA or concessional rate of duty applicable to baggage vide Notification No. 26/2016 Cus. dated 31-3-2016, as the case may be.

Question 15.
After visiting USA for a month, Mrs. and Mr. Iyer (Indian residents aged 35 and 40 years respectively) brought to India a laptop computer valued at ₹ 70,000, used personal effects valued ₹ 1,40,000 and a personal computer for ₹ 58,000.
Calculate the custom duty payable by Mrs. & Mr. Iyer If any. [Nov. 2018 (Old), 4 Marks]
Answer:
Statutory Provision

As per Rule 3 of the Baggage Rules, 2016 : An Indian resident arriving from a country other than Nepal, Bhutan or Myanrnar is allowed duty free clearance of

1. Used personal effects and travel souvenirs without any value limit.
2. Articles [other than certain specified articles] up to a value of ₹ 50,000 carried as accompanied baggage [General duty free baggage allowance].
3. Further, such general duty free baggage allowance of a passenger cannot be pooled with the general duty free baggage allowance of any other passenger.

As per Notification No. 11/2004 Cus.dated 8-1-2004: One laptop computer when imported into India by a passenger of the age of 18 years or above (other than member of crew) is exempt from whole of the customs duty.

In the given case

1. Accordingly, there will he no customs duty on used personal effects (worth ₹ 1,40,000) of Mrs. and Mr. lyer and laptop computer brought by them will be exempt from duty.
2. Duty payable on personal computer after exhausting the duty free baggage allowance will be ₹ 58,000 – ₹ 50,000 = ₹ 8,000.
3. Effective rate of duty for baggage = 38.5% [Including Social Welfare Surcharge]
4. Therefore, total customs duty = ₹ 3080.

Question 16.
Gregory Peg of foreign origin has come on travel visa, to tour in India. He carries with him, as part of baggage, the following:
Particulars : Value in ₹
Travel Souvenir : ₹ 85,000
Other articles carried on in person : ₹ 1,50,000
120 sticks of cigarettes of ₹ 1oo each : ₹ 12,000
Fire arm with 100 cartridges (value includes the value of cartridges at @ ₹ 500 per cartridge) : ₹ 1,00,000

Determine customs duty payable, If the effective rate of customs duty is 25.75% Inclusive of education cess and secondary & higher education cess, with short explanations where required. [May 2018 (Old), 4 Marks]
Answer:
As per rule 3 of Baggage Rules, 2016, tourist of foreign origin excluding infant is allowed duty free clearance of –

1. travel souvenirs; and
2. Articles up to the value of ₹ 15,000 (excluding articles mention in annexure I like fire arms, cartridges of fire arms exceeding 50 and cigarettes exceeding loo sticks), if carried on in person.

Computation of customs duty payable	₹
Travel souvenir	Nil
Articles carried on in person	1,50,000
Cigarettes [ 100 sticks can be accommodated in General Free Allowance (GFA)]	10,000
Fire arms cartridge (50 cartridges can be accommodated in GFA)	25,000
Baggage than can be accommodated in GFA	1,85,000
Less: General Free Allowance as per Rule 3	15,000
Baggage on which duty is payable	1,70,000
Duty payable @ 38.5%	65,450

Note: Fire arms, cartridges of fire arms exceeding 50 and cigarettes exceeding 100 sticks are not chargeable to rate applicable to baggage [Notification No. 26/2016 Cus. dated 31-3-2016]. These items are charged @ 100% applicable to baggage under Heading 9803 of the Customs Tariff.

Question 17.
Mr. Anil and his wife (non-tourist Indian Passengers) are returning from Dubai to India after staying there for a period of two years. They wish to bring gold jewellery purchased from Dubai. Pl. Enumerate provisions of Customs Laws for jewellery allowance in their cases. [Nov. 2014, 2 Marks]
Answer:

RULE NO.	CLASS OF PASSENGER	ORIGIN COUNTRY FROM WHICH THE PASSENGER IS COMING	ARTICLES ALLOWED FREE OF DUTY
1.	Passenger residing abroad for more than one year	Any country	GENTLEMAN: Jewellery upto a weight of 20 gms with a value cap of ₹ 50,000LADY PASSENGER: Jewellery upto a weight of 40 gms with a value cap of ₹ 1,00,000

Question 18.
What is the relevant date for determining the rate of duty and tariff valuation in respect of goods imported or exported by post? [May 2014, 3 Marks]
Answer:
Sec. 83 of the Customs Act, 1962 provides for relevant date for determining the rate of duty or tariff valuation in respect of goods imported or exported by post, which are as:
Rate of Duty and Tariff Valuation in respect of Goods imported by Post [Section 83(1)]

The rate of duty and tariff value, if any, applicable to any goods imported by post shall be-

• the date on which the postal authorities present to the proper officer a list containing the particulars of goods for the purpose of assessing the duty thereon; or
• in case of goods imported by a vessel, the date of the arrival of the vessel, whichever is later.

Rate of Duty and Tariff Valuation in respect of Goods Exported by Post [Section 83(2)]
The rate of duty and tariff value, if any, applicable to any goods exported by post shall be-

• the rate and valuation in force on the date on which.
• the exporter delivers such goods the postal authorities for exportation.

Question 19.
What are the classes of importers required to pay customs duty electronically? What is the full name of dedicated payment gateway set-up by Board (CBIC) to use e-payment facility easily by an importer? [Nov. 2013, 3 Marks]
Answer:
The Central Government may, by notification in Official Gazette, specify the class or classes of importers who shall pay duty electronically.

The CG has notified through Notification No. 80/2017 Cus. (N.T.) has notified for electronic payment of duty for following classes of importers:
(a) Importers registered under Accredited Clients Programme; and
(b) Importers paying customs duty of ₹ 10,000 or more per bill of entry.

Cost Management Techniques – CA Final SCMPE Study Material is designed strictly as per the latest syllabus and exam pattern.

Cost Management Techniques – CA Final SCMPE Study Material

Question 1.
(Strategic Analysis of Operating Profit)
Royal Ltd., forms a Panel consisting of its Production, Marketing and Finance Directors to prepare a budget for the next year. The Panel submits a draft budget as detailed below:

Particulars	₹
Selling price per unit	50
Direct material cost per unit	(9)
Direct labour cost per unit	(9)
Variable overhead (3 hrs. @ ₹ 2)	(6)
Contribution per unit	24
Budgeted Sales Quantity	25,000 Units
Budgeted Contribution (25,000 × ₹ 26)	₹ 6,50,000
Budgeted Fixed Cost	₹ 5,00,000
Budgeted Profit	₹ 1,50,000

The Management of Royal Ltd. is not happy with the budgeted profit as it is almost equal to the previous year’s profit. Therefore, it asks the Panel to prepare a budget to earn at least a profit of ₹ 3,00,000. To achieve the target profit, the Panel reports back with the following suggestions:
(a) The unit selling price should be raised to ₹ 55.
(b) The sales volume should be increased by 5,000 units.
(c) To attain the above said increase in sales, the Royal Ltd. should spend ₹ 40,000 for advertising.
(d) The production time per unit should be reduced.
(e) To win the acceptance of the workers in this regard the hourly rate should be increased by ₹ 3 per unit besides an annual group bonus of ₹ 30,000.
(f) There is no change in the amount and rates of other expenses. The Royal Ltd. has sufficient production capacity.
As the implementation of the above proposal needs the acceptance of the work force to increase the speed of work and to reduce the production time per unit, the Board wants to know the extent of reduction in per unit production time.
Required:
(1) Calculate the target production time per unit and the time to be reduced per unit.
(2) Identify the other problems that may arise in production due to decrease in unit production time and also suggest the remedial measures to be taken.
(3) State the most suitable situation for the adoption of Target Costing [Nov. 2018] (14 + 4 + 2 Marks)
Answer:
(1) Target Production Time per unit and Time to be Reduced per unit

Alternative	1	2	3
Target Production Time per unit	(₹ 12 +  ₹ 2 × hrs.) × 30,000 units = ₹ 5,10,000 Hrs. = 2.50
Time to be reduced per unit	= 3 hrs. – 2.50 hrs. = 0.50 hrs.       ‘
Verification	Labour Rate per unit = ₹ 12

Alternative 1	Alternative 2	Alternative 3
Target Production Time per unit (₹ 12 + ₹ 2 × hrs.) × 30,000 units = ₹ 5,10,000 Hrs. = 2.50	Target Production Time per unit (₹ 3 + ₹ 3 + ₹ 2) × hrs. × 30,000 units = ₹ 5,10,000 Hrs. = 2.125	Target Production Time per unit [(₹ 9 + ₹ 3)/3 + ₹ 2] × hrs. × 30,000 units = ₹ 5,10,000 Hrs. = 2.833
Time to be reduced per unit = 3 hrs.- 2.50 hrs. = 0.50 hrs.Verification Labour Rate per unit = ₹ 12	Time to be reduced per unit = 3 hrs. – 2.125 hrs. = 0. 875 hrs.Verification Labour Rate per unit = ₹ 6 × 2.125 hrs. = ₹ 12.75	Time to be reduced per unit = 3 hrs. – 2.83 hrs. = 0. 17 hrs.Verification Labour Rate per unit = ₹ 4 × 2.83 hrs. = ₹ 11.32

Workings
Statement Showing Target Cosi (Direct Labour and Variable Overhead)

Particulars	Amount (₹)
Target Sales (₹ 55 × 30.000 Units)	16,50,000
Less: Target Profit	3,00,000
Less: Direct Material Cost (₹ 9 × 30,000 Units)	2,70,000
Less: Budgeted Fixed Costs	5,00,000
Less: Proposed Advertising	40,000
Less: Proposed Annual Group Bonus	30,000
Target Cost (Variable Overhead and Direct Labour) for 30,000 units	5,10,000

(i) Problem
The target-costing method is applicable particularly for repetitive manufacturing. It should however be recognised that some products often bear a high degree of repetition and that there often are considerable repetitions where reduction targets could come into play as a framework for improving design. Working under pressure to finish new design assignments in a short time .may take development resources away from efforts to optimise or re-engineer production ; processes. If approaching product design as an activity to be optimised independently there is a risk that target costing may not succeed to j satisfactorily addressing overall performance, so in short decrease in unit production time may lead to unwanted pressure on design and 5 its implementation stage.

Remedial Measures
As a remedial action organisation should retain strong control over the design teams headed by a good team leader. This person must have an exceptional knowledge of the design process, good interpersonal skills, and a commitment to staying within both time and cost budgets for a design project. If the time is too short even an organisation may reject a project for the time being. Later, it can be tried out with new cost reduction methods or less expensive materials to achieve target cost and control overall production activities.

(ii) Target costing is most useful in situations where the majority of product costs are locked in during the product design phase. This is the case for most manufactured products, but few services. In the services area, such as consulting, the bulk of all activities can be reconfigured for cost reduction during the “production” phase, which is when services are being provided directly to the customer. In the services environment, the “design team” is still present but is more commonly concerned with streamlining the activities conducted by the employees providing the service, which can continue to be enhanced at any time, not just when the initial services process is being laid out.

Question 2.
Xstream Industries Ltd. manufactures standard heavy duty steel storage racks for industrial use. Each storage rack is sold for ₹ 750 each. The company produces 10,000 racks per annum. Relevant cost data per annum are as follows:

The actual and budgeted operating levels are the same. Actual and standard rates of material procurement and hourly labour rate are also the same. Any variance in cost is solely on account of difference in the material usage and hours required to complete production. Aggressive pricing from competitors has driven down sales. A comparable rack is available in the market for ₹ 675 each. Vishal, the marketing manager has determined that in order to maintain the company’s existing market share of 10,000 racks, Xstream Industries must reduce the price of each rack to ₹ 675. Required
(i) CALCULATE the current cost and profit per unit. IDENTIFY the non-value added activities in the production process.
(ii) CALCULATE the new target cost per unit for a sales price of ₹ 675 if the profit per unit is maintained.
(iii) RECOMMEND what strategy Xstream Industries should adopt to attain target cost calculated in (ii) above. [RTP-May 2018]
Answer:
(i) Calculation of current cost and profit per unit:

Cost Component	Units	Actual Cost p.a. for 10,000 racks (₹)	Actual Cost per rack (₹)
Revenue	10,000 racks	75,00,000	750
Direct Material	5,20,000 sq. ft.	20,00,000	200
Direct Labour	1,00,000 hrs.	10,00,000	100
Machine Setup	15,000 hrs.	1,50,000	15
Mechanical Assembly	200,000 hrs.	30,00,000	300
Total Cost		61,50,000	615
Profit		13,50,000	135

Identification of Non-Value Added Activities:
Machine setup is the time required to get the machines and the assembly line ready for production. In this case, 15,000 hours spent on setting up does not add value to the storage racks directly. Hence, it is a non-value added activity.

(ii) Calculation of New Target Cost per unit:

New sale price per rack. Less: Required Profit per unit	₹ 975 per unit ₹ 135 per unit
New target cost per unit	₹ 540 per unit

(iii) Strategy to attain target cost of ₹ 540 per unit:
Reduction in cost required:
The comparison of calculations of above two parts reveals that the current cost per unit is ₹ 615 while the target cost per unit is ₹ 540. Hence, the cost has to be reduced at least by ₹ 75 per unit.

Analysis of the cost data:
It shows the variances between the budget and actual material usage and labour hours. It is given that the material procurement rate and labour hour rate is the same for budgets and actuals. Hence, the increments in both the costs are due to inefficient use of material and labour hours to complete the same level of production of 10,000 storage racks.

Corrective action to address these inefficiencies could result in the following savings:
(a) Cost component: Direct Material
Extra usage of Material due to inefficiencies = 20,000 sq. ft
Material cost per sq. ft. = \(\frac{\text { Actual Cost }}{\text { Actual Labour Usage }}=\frac{₹ 20,00,000}{5,20,000 \mathrm{Sq} \cdot \mathrm{ft}}\) = 13.85 per sq.ft.
Extra material cost due to inefficiencies = 20,000 × ₹ 3.85 = ₹ 77,000
If corrective action is taken, for 10,000 racks this translates to a saving of ₹ 7.70 per unit

(b) Cost component: Direct Labour
Extra labour hrs spent in production due to inefficiencies = 10,000 hrs.
Labour cost per hr. = \(\frac{\text { Actual Cost }}{\text { Actual Labour Hrs. }}=\frac{₹ 10,00,000}{10,000 \mathrm{hrs} .}\) = ₹ 10 per hr.
Extra labour cost due to inefficiencies = 10,000 × ₹ 10 = ₹ 1,00,000
If corrective action is taken, for 10,000 racks this translates to a saving oft 10 per unit

(c) Cost component: Machine Setup
Machine setup cost is a non-value added cost. Value analysis can be done to determine if the setup time of 15,000 hrs. can be reduced. However, since these activities have been carried out for a reason, care should be taken to ensure that this change should not adversely impact the production activity later down the stream.

(d) Cost component: Mechanical Assembly
Mechanical assembly cost is almost half of the total cost. These are costs incurred during the production process on the assembly line. Value analysis can be done to determine if the production process can be made more efficient. For example, the process can be streamlined, such that steps can be combined that can be handled by fewer people (process centering). Similarly, value analysis/value engineering can focus on the product design.
While target costing is a dynamic and corrective approach, care must the taken the product quality, characteristics and utility are maintained.

Some questions to rise may be:
– Can the product be designed better to make the production more efficient?
– Can the design be minimized to include fewer parts and thus make it easier and efficient to manufacture?
– Can be substitute parts to make it more efficient? or
– Is there simply a better way of producing the same product?

While target costing is a dynamic and corrective approach, care must the taken the product quality, characteristics and utility are maintained.

Question 3.
Ham leys Toy Company is planning to launch a toy “Donald” based on a Disney character. Hamleys must pay 15% royalty on the selling price to the Disneyland. Hamleys targets a selling profit of 25% on selling price.
The following are the cost data forecast:

	₹ per Toy
Component M1	8.50
Component M2	7.00
Labour : 0.40 hr. @ ₹ 60 per hr.	24.00
product Specific Overheads	13.50

In addition, each toy requires 0.6 kg. of other materials, which are supplied at a cost of ₹ 16 per kg. with a normal 4% substandard quality, which is
not useable in the manufacture. Required
DETERMINE if the above cost structure is within the target cost. If not, what should be the extent of cost reduction?
Answer:
Calculation of Target Cost per Toy “Donald”

Target Selling Price Less: Royalty @15%	100 per Toy 15 per Toy
Less: Profit @ 25%	25 per Toy
Target cost (₹)	60 per Toy

Calculation of current total manufacturing cost per toy:

Cost Structure “Donald”	₹ per Toy
Component M1	8.50
Component M2	7.00
Labour : 0.40 hr. @ ₹ 60 per hr.	24.00
Product Specific Overheads	13.50
Other Material (0.6 Kg./96% × ₹ 16)	10.00
Total cost of manufacturing	63.00

Cost Reduction required:
Cost Gap = Actual Total Cost of Manufacturing – Target Cost = ₹ 63 – ₹ 60
= ₹ 3 per toy
The company should make efforts to reduce its manufacturing cost by ₹ 3 to achieve Target Selling Price of ₹ 100 per toy.

Question 4.
Suppa Ltd. was one of the leading Ceiling fan company in country “yu” however due to atmospheric changes temperature of the Country “Yu” has increased much. Resulted in increased use of AC at home which somehow effected the sale of Suppa Ltd. The CEO has observed that Suppa Ltd. manufacture a ceiling fan through two consecutive processes; assembly and finishing. Blades and Motor are Raw material used as input at the commencement of the assembly process. For the absorption of product specific conversion cost activity based costing approach is being used.

The following estimated information of Suppa Ltd. is available for current period.

Production/sales units	12,000
Selling price per unit	₹ 750
Direct material cost per unit	₹ 200
Suppa Ltd variable conversion cost per unit:
Assembly	₹ 200
Finishing	₹ 120
Product specific fixed costs	117,00,000
Company fixed costs	₹ 5,00,000

The CEO of Suppa Ltd. wishes to achieve an overall net profit of 12% on sales in order to meet return on capital target and to survive in the market. Required:
(a) CALCULATE the extent of cost reduction required by Suppa Ltd.
(b) LIST specific areas of investigation to identify potential areas of cost reduction that will not compromise the quality of the products.
Answer:
(a) Calculation of extent of cost reduction required:
Calculation of Target Cost per Ceiling Fan

Target Selling Price Less: Profit @1296	750 per Fan 90 per Fan
Target cost	660 per Fan

Calculation of expected current cost per Fan:

Cost Structure “Donald”	₹ per Toy
Direct materials	200.00
Suppa Ltd. conversion cost Assembly	200.00
Finishing	120.00
Product specific fixed cost	141.70
Company fixed cost	41.70
Total expected current cost per unit	703.40

Cost Reduction required:
Cost Gap = Actual Total Cost of Manufacturing – Target Cost
= ₹ 703.40 – ₹ 660
= ₹ 43.40

(b) Identification of potential areas of cost reduction:
The company Suppa Ltd. is falling considerably short of its 12% net profit margin target. CEO of Suppa Ltd. observed that if sales quan-tities and prices are to remain unchanged, costs must be reduced if the required return is to be reached.
Exercise of Cost reduction methods must be concentrated particulariy on this product if its production is to continue to be seen to be ss worthwhile.
Examine designed specification for product and the production methods for potential areas of cost reduction that will not compromise the quality of the products. It includes:

• Is it possible to eliminate any material, e.g. cut down on packing materials?
• Is it possible to substitute a cheaper material without effecting quality?
• Is it possible that a part assembled components be bought in to save on assembly time?
• Check if there is any overlap between the product related fixed costs that could be eliminated from the organization by combining j service department or resources?
• Is it possible to reduce the incidence of cost drivers?

Question 5.
(Value Chain Analysis/Target Costing) Intelligent inc. is a leading educational gaming toy manufacturing company operating since 1990, the firm has a state-of-the-art manufacturing facility in India. It sells its
product through company’s website and through retail outlets. Intelligent inc. has been pioneering the concepts of quality and safety in toys and has been instrumental in raising the quality standards of toys in the Indian Market. Intelligent inc’s mission is to influence parents to spend on toys that enable every child to grow with quality toys that contributes to his/ her wholesome development.
Intelligent inc. procures the materials from a number of different suppliers. All of the purchased material are dispatched to its warehouse located at its factory and are held there unless they are moved to production. After production is completed, finished toys are moved to Intelligent inc’s retail outlets by its own vehicles. Each week, the vehicles follow the same time schedule regardless of the weight they are carrying. Finished toys that are sold through the Intelligent inc’s website are dispatched to its distribution centre.
Intelligent has recently got the contract to manufacture a new gaming toy that is ‘ToZ’, a mini cartoon based on a character from a famous Hulk film. Intelligent has not been given any target price, hence is free to set the selling price of ‘ToZ’, however, must pay a royalty of 10% of the selling price to the film director. Intelligent is also planning to sell ‘ToZ’ through its retail outlets.
Intelligent has decided to follow a target costing technique for ‘ToZ’. Marketing manager has determined the selling price to be around “1,750 per ‘ToZ’. Intelligent needs a margin of 26% of the selling price of ‘ToZ’. The following is the estimated costs per ‘ToZ’:

	₹
Material C	150.50
Material D	122.50
Other Material	See note below
Labour (0.4 hours at 1,050 per hour)	420.00
‘ToZ’-specific production overhead cost	132.30
‘ToZ’-specific selling and distribution cost	166.60

Note- Each ‘ToZ’ requires 0.70 kg. of ‘other materials’. These ‘other materials’ are procured from a supplier at a cost of 1280 per kg and around 5% of all purchased materials are found to be downgraded.
Required
DISCUSS three primary activities of value chain through which Intelligent can minimize gap if any. [RTP Nov. 2020]
Answer:
Statement Showing Computation of Cost GAP

Sales Price	1,750.00
Less: Royalty @1096	175.00
Less: Profit @26%	455.00
Target Cost ‘ToZ’	1,120.00
Material C	150.50
Material D	122.50
Labour (0.40 hours at ₹ 1,050 per hour)	420.00
Other Material (0.70 kg. × ₹ 280 per kg.)/0.95	206.32
Production Overheads Cost	132.30
Distribution and Sales Cost	166.60
Estimated Cost ‘ToZ’	1,198.22
Cost Gap	78.22

The Cost gap of ₹ 78.22 can be removed by reducing the cost over all the Value Chain through the development of the spirit co-operation and understanding among all members of organizations associated with the product from suppliers, producers, customers, agents and service providers. In Intelligent inc’s Value Chain, three primary activities are:-

Inbound
logistics These are activities concerned with receiving, storing and distributing the inputs (raw material) to the production process. The relationship with supplieris akey component in this process. Currently, Intelligent inc procures materials from multiple suppliers and stores these materials in its store. Shifting to a just-in-time (JIT) system technique in procurement of materials could possibly save substantial storage costs provided the JIT supplier must agree to take the responsibility for the good quality of materials supplied. This will also become a source of savings because downgraded items will be removed. However, Intelligent inc might have to pay additional payout to a supplier for JIT purchasing to work.

Outbound
logistics These activities involve collecting, storing and distributing the products to the customers. At Intelligent, scheduled transportation of toys to retail outlets is outbound logistics activity. Potentially, the scheduled transportation of toys to retail outlets every week is not an efficient way. Such deliveries do not consider whether toy is required at retail outlets or not, hence Intelligent inc. may possibly deliver toys to retail outlets those do not need toys and suffer unnecessary transportation costs.

Intelligent should plan to implement EDI system that will help it to improve warehousing and logistics by automatically tracking inbound shipments as well as outbound products. Adopting EDI, Intelligent can not only improve processes but also streamline inventory management across many channels. However, it will require setup time and a learning curve to implement the same.

Marketing and sales
Marketing and sales provide the means by which the customers are made aware of the product. At Intelligent inc, the sales of toys via its retail outlets and website are marketing and sales activities.
Intelligent is planning to sell ToZ’ via retailers. If Intelligent sales ‘ToZ’ through its website rather than through retail outlet, significant cost could easily be avoided. Simultaneously, Intelligent inc. will be able to expose itself to attract international customers to buy ‘ToZ’ as product is based on character from a famous international animated film.
Overall, Intelligent inc. may create a cost advantage by reconfiguring the Value Chain. Reconfiguration means structural changes such a new production process, new distribution channels or a different sales approach as discussed above.

Question 6.
Ajay Furniture Ltd. is a leading manufacturer and supplier of furniture for students of pre-primary classes. The full cost of one set (comprising one Table and one chair) is ₹ 900 per set. The company has fixed its selling price so as to earn 30% return on investment of ₹ 45,00,000. The company produces and sells 6,000 sets per annum. Relevant cost data per annum are as follows:

Cost Component	Budget	Actual	Actual Cost p.a. (₹)
Direct Material	90,000 sq. ft.	1,00,000sq.ft.	16,50,000
Direct Labour	35,000 hrs.	40,000 hrs.	10,32,000
Mechanical Assembly	60,000 hrs.	60,000 hrs.	12,00,000
Machine Setup	5,000 hrs.	5,000 hrs.	1,68,000

It has been revealed that the actual and budgeted operating levels are the same, Actual and standard rates of material purchase and labour rate per hour are also the same. Any variance in cost is solely on account of difference in the material usage and hours required to complete the production. A competitor has introduced a product very similar to product of the company at an aggressive price of ₹ 820 per set which has resulted in downtrend, in the sales volume the company. The management has called urgent meeting of the marketing team. After the meeting, following recommendations of the marketing team are approved by the management:
To maintain the company’s existing sales volume and amount of present return on investment, reduce the selling price by 10%.
To make slight improvement in design to have edge over the competitors which will also reduce the direct material cost by ₹ 30 per set.
To make the table and chair more attractive, print picture of Disney character on them, which will cost ₹ 5 per set.
Required
(i) CALCULATE the present selling price and profit per unit from the above. Also CALCULATE the mark-up % on the full cost per unit.
(ii) IDENTIFY the non-value-added activities in the production process.
(iii) (a) CALCULATE the new target cost per unit and new revised cost per unit after implementation of above recommendations.
(b) How much reduction in cost is required to achieve the new target cost?
(iv) RECOMMEND what strategy the company should adopt to attain the target cost calculated above. [Nov. 2020] (4 + 2 + 2 + 2 Marks)]
Answer:
(i) Calculation of Present Selling Price and Profit per unit:

Full cost per set	₹ 900
Desired return per set [(30% of ₹ 45,00,000)/6,000 sets]	₹ 225
Present selling price per unit (set)	₹ 1, 125

Calculation of mark-up on full cost per unit:
Mark-up = \(\frac{\text { Profit perset }}{\text { Full cost per set }}\) × 100 = \(\frac{\text { Rs. } 225}{\text { Rs. } 900}\) × 100 = 25% on cost or 20% on sales.

(ii) Non-Value Added Activities:
Machine setup is the time required to get the machines and the assembly line ready for production. Ajay furniture limited spent 5,000 hours on setting up, which does not add value to the furniture set directly. Hence, it is a non-value added activity.

(iii) (a) New Target Cost per unit (set)

Particular	Amount (₹)
Target Price (1,125 – 10% of 1,125) Less: Desired Return per set	1,012.50 225.00
Target Cost per unit (set)	787.50

Revised Cost per unit (set)

Particular	Amount (₹)
Present cost per unit (set) Less: Reduction in material cost Add: Incremental Cost to print picture	900.00 (30.00) 5.00
Revised Cost per unit (set)	875.00

(b) Cost Reduction Target

Particular	Amount in ₹
Revised Cost per unit (set) Less: Target Cost per unit (set)	875.00 787.50
Cost Reduction Target per unit (set)	87.50

(iv) The cost has to be reduced at least by ₹ 87.50 per unit. Critical aspects at which Ajay furniture limited shall focus-wastage in term of productivity i.e. usage of material and efficiency in labour; design of product in term of quality and function it renders, and material or components used as input; design of processes including lay-out through which product will be manufactured i.e. machine set-up and mechanical assembly. Value analysis/ value engineering shall be applied (by answering following questions) to focus on the above stated aspects in order to attain the target cost-

• Can the product be designed better to make the production more efficient?
• Is reduction of design (reduce features only, not functions) possible?
• Can the design be minimized to include fewer parts and thus make it easier and efficient to manufacture?
• Can any process eliminate or reduced?
• Can be substitute parts to make it more efficient? Or
• Is there simply a better way of producing the same product?

It is important to note that target costing is a dynamic and corrective approach, care must be taken for product quality, characteristics, and utility.

Analysis of the cost data:
The analysis of the cost data shows the variances between the budget and actual material usage and labour hours. It is given that the material procurement rate and labour hour rate is the same for budgets and actuals. Hence, the increment in cost of direct materials and labour is due to inefficient use of material and labour hours to complete the same level of production of 6,000 sets of furniture.

Corrective action to address these inefficiencies could result in the following savings:
(a) Cost component: Direct Material
Extra usage of Material due to inefficiencies = 10,000 sq. ft
Material cost per sq. ft. = \(\frac{\text { Actual Cost }}{\text { Actual Material Usage }}\)
= \(\frac{₹ 15,50,000-(₹ 30 \times 6,000)}{1,00,000 \mathrm{Sq} \cdot \mathrm{ft}}\) = ₹ 14.70 per sq. Ft.
Extra material cost due to in efficiencies = 10.000 × ₹ 14.70 = ₹ 1,47,000
If corrective action is taken, for 6,000 sets of Furniture this translates to a saving of ₹ 24.50 per unit

(b) Cost component: Direct Labour
Extra labour hrs. spent in production due to inefficiencies = 5,000 hrs.
Labour cost per hr. = \(\frac{\text { Actual Cost }}{\text { Actual Labour Hrs. }}=\frac{₹ 10,32,000}{₹ 40,000 \text { hrs. }}\) = ₹ 25.80 per hr.
Extra labour cost due to inefficiencies = 5,000 × ₹ 25.80 = ₹ 1,29,000
If corrective action is taken, for 6,000 sets of Furniture this translates to a saving of ₹ 21.50 per unit

(c) Cost component: Machine Setup
Machine setup cost is a non-value-added cost. Value analysis can be clone to determine if the setup time of 5,000 hours/₹ 1,68,000/- can be reduced. However, since these activities have been carried out for a reason, care should be taken to ensure that this change should not adversely impact the production activity later down the stream.

(d) Cost component: Mechanical Assembly
Mechanical assembly costs are costs incurred during the production process on the assembly line. Value analysis can be done to determine if the production process can be made more efficient. For example, the process can be streamlined, such that steps can be combined that can be handled by fewer people (process centering).

Question 7.
(Pricing Strategy; Target Costing) Ujjala Pvt. Ltd. manufactures multicolour glow bulb (GCM8) used for lighting and decoration. GCM8 considered as reliable product in market due to zero-defect. Ujjala company sells GCM8 through retail-chains and individual shopkeeper apart from factory outlet. GCM8 has demand throughout the year but there is high demand during festival seasons especially ahead of Diwali. Company follows the lot purchase system and manufacture the product ahead of peak season of festivals. Presently the Ujjala is working at 80% of capacity and manufacture 4,00,000 bulbs annually, at following per unit cost:

Particulars	Behaviour	Amount (In ₹)
Direct Material	Variable	22
Direct Labour	Variable	6
Factory Overhead
1. Engineering Cost	Fixed	10
2. Machining Cost	Fixed	5
3. Inspection Cost	Variable	5
Administration Overheads	Fixed	12
Selling and Distribution Overheads	Fixed	12
	Total Cost	72

Recently the competition in decorative light & electronic markets has escalated, due to goods imported from Chinese manufactures at cheap rates. Such imported light bulbs are also sold through same shops at which GCM8 is available for sale. Due cheaper in rate customer prefer imported light bulb rather GCM8.
To be competitive in market, the marketing department of Ujjala Company conducted applied research and suggested that price should be 12.5% lower than the current price. Ujjala company during last three financial years and during current year records the pre-tax profit @ 10% rate of sale, management of Ujjala company wish to earn the same rate of profit (margin) in upcoming years too.
Production and operation manager is of opinion that cost reduction, in order to be competitive in market may result .in reduction in quality, whereas Manager – Quality control suggest, if number of inspection staff increased, then inspection can be performed at each stage and defect can be curtailed at the earliest stage to eliminate rework cost.
Management accountant is of opinion that since GCM8 is mature product, hence majority of cost associated in production of GCM8 are committed in nature, prince cutting seems difficult; it may hit the top line and bottom line adversely. In response to him, Chief engineer suggest product (GCM8) can be redesigned; but marketing manager shown his resistance on the suggestion of redesigning of product because according to him ‘existing product appearance and features are key reasons for popularity of product in market and leads to sale’.
Required
(i) CALCULATE the price suggested by marketing department.
(ii) COMPUTE the target cost and new margin, appraise percentage decline in margin.
(iii) If proportionate cost reduction plan is applied, then
(a) CALCULATE planned cost reduction for each cost category.
(b) EXPLAIN proportionate cost reduction plan.
(vi) Based upon discussion taken place among the functional manager, EVALUATE the possibility of cost reduction in order to analyse the possibility of application of target costing. Also suggest course of action to adopt.
Answer:
(i) Price suggested by marketing department (Target Price)
Current cost per unit – ₹ 72 p.u.
Profit (Margin) @10% of sale price
Sale Price = ₹ 72 + 10% of Sale
Price So, let presume sale price is ‘x’
X = ₹ 72 + 10% of
XX = ₹ 72 + 0.1X
X – 0.1X = ₹ 72
0.9X = ₹ 72
X = ₹ 72/0.9
X = ₹ 80
New price will be 12.5% less than current price ₹ 80 – 12.5% of ₹ 80
₹ 80 – ₹ 10 = ₹ 70

(ii) Target cost and new margin
Target Price – Margin (i.e. 10% of sale price) = Target Cost
Target Cost = ₹ 70 – 10% of ₹ 70
₹ 70 – ₹ 7 = ₹ 63
New Margin (under target costing) is ₹ 7
Percentage decline in margin
= \(\frac{\text { Existing Margin }- \text { New Margin (under target costing) }}{\text { Existing Margin }}\) × 100
= \(\frac{8-7}{8}\) × 100
= 12.5% Note
There is decline in margin in absolute term, whereas in relative term the margin remains same i.e., 10% of sale price.

(iii) Planned cost reduction for each cost category under proportionate reduction plan

Particulars	Existing Cost	Target Cost
Direct Material	22	19.25
Direct Labour	6	5.25
Factory Overhead
1. Engineering Cost	10	8.75
2. Machining Cost	D	4.375
3. Inspection Cost	5	4.375
Administration Overheads	12	10.5
Selling and Distribution Overheads	12	10.5
Total Cost	72	63

Under proportionate reduction plan cost for each category is propor-tionately reduced in proportion of existing weight. Here, a presumption is needed to be taken that all the cost are avoidable in nature, where as in case of every business; there are some of cost categories which are true sense unavoidable and committed in such a way that, these continue to occur even in shut down situation (e.g. salary to guard, minimum rental for electricity and water meter etc.); same is pointed by Management Accountant, that product is matured in nature (means not in designing or research phase) hence committed cost may be unavoidable in nature.

Note
Student must note that fixed costs are not as same as unavoidable cost. Fixed cost may be avoidable in nature.

(iv) Possibility of cost reduction & Suggested course of action for Ujjala Company
Target costing comprises four stages. First being determining the product target price, quality, and functionality; second determine the target cost; thirdly designing the product and production process to achieve the target costing, and fourth use pilot project to evaluated feasibility. Based upon discussion taken place among the functional managers, it is evidential that Ujjala Company is presently moving towards third stage.
As stated by management accountant that product GCM8 is mature nature hence majority of cost are of committed nature, hence may be unavoidable in nature. Product GCM8 is material-oriented product and raw material cost is around 30% of total cost. So, if gain sharing arrangement can be entered with vendor then surely Ujjala Company can save some portion of material cost.

As said by production and operation manager, cost reduction may lead to compromise with quality. He may be right, but he needs to look for scientific way to reduce the cost of operations like change in batch size (if required can shift to JIT) or outsource some part of operations; scientific management can also be applied in order to curtail motion time and reduction in labour cost.

Quality Manager is of opinion with extra inspection staff, quality can be assured, but appointment of additional inspector and supervisor will also lead to increase in cost; hence effective way to ensure quality while reducing cost of application of practice of TQM and Kaizen. U Kaizen costing will be great help to management of Ujjala to cut the cost, with support and participation from worker.

Chief engineer suggestion is appreciable, because target costing is most beneficial in those case where the product is in designing and planning phase. As per research around 70-80% of cost is committed at stage of designing of product. It is important to note that the word ‘committed’ is used as ‘not incurred; therefore, cost being committed (i.e., not incurred cost) will be incurred when it became due in course j of production. But redesigning is not feasible from the prospects | of marketing of product as per the statement made by marketing manager.
Marketing manager can conduct applied research in order to develop understanding the temperament of customer of GCM8, whether they are price sensitive or conformance to need is their priority. If customer found price sensitive (existing recommendation of marketing team shows high possibility of this, because marketing team feels customers can be retained is price is reduced by 12.5%) then product redesign may be opted. But if conformance to need is their (customers) priority, then value chain analysis can be used to identify the activities which creates value to customer and other than these activities (which are not creating the value) can be eliminated in order to reduce the cost.
So, there are possibility to reduce the cost, even if not in all the cost category then surely in some of categories; so that target cost can be achieved.

Question 8.
(Target Costing and JIT) Mxl Limited is a toy manufacturing company. It sells toys through its own retail outlets. It purchases materials needed to manufacture toys from a number of different suppliers. Recently, due to the entity of few reputed foreign brands in the toy market and particularly in the segment in which Mxl Ltd. is doing business, it is facing a threat to operate profitably.
Each toy requires 4 kg. of materials at ₹ 19 per kg. and 5% of all materials supplied by the suppliers are found to be sub-standard. Labour hour requirement for each toy is 0.4 hour at ₹ 120 per hour.
Market research has determined that the selling price will be ₹ 240 per toy. The company requires a profit margin of 15% of the selling price. Expected demand for toy in the coming year will be 50,000 toys. Sales and variable overhead per unit for the four quarters of the year will be as follows:

The production manager has decided to produce 12,500 units in each quarter. Inventory holding costs will be ₹ 18 per unit of average inventory per quarter. Inventory holding costs are not included in above.
Normal production capacity per quarter is 15,000 toys. The company can produce further up to 6,000 units per quarter by resorting to overtime working. Overtime wages will be at 150% of normal wage rate. Assume zero opening inventory.
Required
(a) (i) CALCULATE the cost gap that exists between the total cost per toy as per the production plan and the target cost per toy.
(ii) DISCUSS howjust-in-time purchasing and just-in-time production will remove the cost gap calculated in (i) above. Show calculations in support of your answer.
(b) EXPLAIN, how implementation of JIT production method can be a major source of competitive advantage and success of the company. [NOV 2019 Exam.] (9+7+4 Marks)
Answer:
(a) (i) Cost gap between Total Cost per toy as per the production plan and the Target Cost per toy
Target Cost per toy

Sr.No.	Particulars	₹ per unit	For Annual Sales of 50,000 units
A	Selling Price per toy	240	1,20,00,000
B	Required Profit Margin (15% of selling price = 15% × ₹ 240 per unit)	36	18,00,000
C	Target Cost per annum (Step A-B)		1,02,00,000
D	Target Cost per toy (C/ 50,000 units)		204.00

Therefore, Target Cost is ₹ 204 per toy.

Total Cost as per production plan
Mxl Ltd. has an annual production requirement of 50,000 toys, which is also its annual sales. Given that opening inventory for the first quarter is nil. The production manager wants to produce 12,500 units per quarter irrespective of the sales demand for the quarter. This implies that during some quarters, there might be unsold inventory, for which inventory holding cost has to be borne. This type of production is called “produce to stock”.

Production Schedule and Inventory Holding Cost for the year

Total Cost of Production per toy as per production plan

Note 1
Each toy requires 4 kg. of material, 596 of all materials is sub-standard.
Therefore, procurement should factor this sub-standard quality.
Material required per unit= 4 kg./95% = 4.21 kg.
Material Cost per toy produced = 4.21 kg. × ₹ 19 per kg. = ₹ 80 per unit

Note 2
Each toy requires 0.40 hours. Rate per hour is ₹ 120 per hour.
Therefore, Cost per toy = 0.40 × ₹ 120 = ₹ 48 per unit

Cost Gap
= Total Cost per toy as per production schedule – Target Cost per toy
= ₹ 208.09 – ₹ 204.00 per toy
= ₹ 4.09 per toy

JIT System
(ii) Just in Time Purchasing and Just in Time Production is aimed at eliminating inventory holding of raw material and finished goods respectively. Components are purchased only when there is a requirement in the production process. Si milarly, finished goods are produced oniv when there is a demand for them. This type of production is called “produce to order’’. Hence, there is neither any opening inventory nor any closing inventory, thereby no inventory holding cost.

In the given problem, this savings is off-set by the extra payment to be made to labour for overtime. Production capacity is 15,000 toys per quarter. This can be increased by 6,000 toys per quarter by incurring additional overtime cost.

The Production Plan under the Just in Time System

Total Cost of Production under JIT System

Note 1
Carefully selected suppliers of delivering high quality materials in a timely I manner directly at the shop floor, reducing the material receipt time and loss due to sub-standard material.

Note 2
Overtime wages are 15096 of normal wage rate. Therefore, for every toy ) produced over the quarterly production capacity of 15,000 toys, 50% extra 1 wage over and above the hourly rate has to be paid as overtime wages. Each toy needs 0.40 hours for production. Therefore, overtime cost for excess production = excess production units × 0.40 × 50% × ₹ 120 per hour.

Cost Gap
The cost of production per toy under the JIT system is ₹ 199.38 per toy as compared to the target cost of ₹ 204 per toy and save t 4.62 per toy.
The savings primarily comes from eliminating the inventory holding cost of ₹ 3,42,000 per annum and sub-standard material cost of ₹ 2,00,000 per 1 annum under the previous production system. This is slightly offset by the additional cost of ₹ 84,000 per annum that has to be paid towards overtime s labour charges and ₹ 22,500 towards additional variable overheads. However, by switching to the JIT system, Mxl Ltd. could reduce its production cost below the target cost per toy.
This question can also be solved by assuming “continued material wastage” due to substandard material from suppliers.

(b) JIT system aims at:

• Meeting customer demand in a timely manner.
• Providing high quality products and
• Providing products at the lowest possible price. The main features of the JIT production system are:
• Material handling cost is reduced

Materials move from one machine to another in an organized sequence. The production process is grouped into to manufacturing cells. These can be managed with minimal labour. This reduces material handling costs as also any pile I up of inventory in the form of work-in-progress. In JIT procurement process, the raw material is received only when needed. Due to significant reduction in inventory, inventory holding costs, normal wastage cost and spoilage can be avoided. Optimum arrangement of cells can lead to lesser floor space requirement, thereby reducing factory rental and overhead cost.

Multi-skilled labour: Hire and retain multi-skilled workers who are capable of performing a variety in operations including repairs and maintenance. Therefore, a worker is not confined to only one process in the production process. He can contribute towards other processes as well. This reduces the workforce requirement and labour idle time, The company can have a more efficient workforce, with lesser number j of workers. There is potential to reduce labour cost on account of this,

Minimizing defects rework and scrap: Each stage of the production process is tightly linked in a sequential manner. Defective output from one stage will stop the work at the next stage. Due to this, workers can identify and correct errors or defects instantaneously. JIT creates urgency for eliminating defects as quickly as possible since the downstream work also stops due to error in any workstation. Production process efficiency improves and reduces rework or scrap. The overall j quality of production improves. There are other benefits to streamlining production process: lesser need for inspection of final output I and lesser sales returns due to defects. This would contribute to the | product’s brand value.

Reduced set-up time: Streamlined production process under JIT reduces set-up time at the workstations. When the production process has to change to make the product per the customers’ demands, set-up time is incurred at the workstation. By streamlining operations, JIT system aims at reducing the set-up time, so that production can continue with the least possible interruption. This brings flexibility in the operations since the company can quickly change the production requirement, to make products to meet the customer’s demand. Quick turnover improves productivity of the machine, thereby increasing the production capacity. Lesser time is spent on set-up which is not a value adding activity.

Question 9.
(Value Analysis & Functional Analysis) A family-run business Raghav Furniture Co. began 29 years ago, supplying customized home furniture. Now RFC has grown into a thriving hub of experts specialized in either customized, locally sourced or high quality imported commercial grade furniture.
The newly appointed CFO is concerned about trends in dropping sales volumes, increasing costs, and hence falling profits over the last three years. He observed that these observed trends may increased cut-throat competition that has emerged over the last three years. For many years, RFC has been known for high quality but now this quality is being matched by the competitors. RFC’s share of the market is declining due to equivalent products being sold by competitors at lower prices. It is considered that, to offer such low prices, the furniture’s production costs of the competitors must be lower than RFC’s.
Required
ADVISE how RFC can improve its sales volumes, .costs and profits using Value Analysis and Functional Analysis.
[MTP October 2018] (10 Marks)
Answer:
VALUE ANALYSIS – (Notation – Cost Reduction, Removal of Non-Value Added Activities, Emphasis on Value Added Activities)
Values Analysis is a method of identifying and removal of all non-value added activity which further helps to reduce the cost. This technique analyze the process of existing product to identify and eliminate any cost which is waste, which do not provide any contribution to performance or value.

VA is a scientific, planned approach which reviews the material composition of a product and production design, so that modification and improvements can be made to reduce the cost and improving the value of the product to the customer (i.e. quality for purpose should not be compromised.).

FUNCTIONAL ANALYSIS – (Notation – Reducing Cost by eliminating unnecessary features, adding cost effective new features)
Functional analysis is applied to the design of new products and breaks the product down into functional parts. For example, a new furniture j chair may have the movable feature. The value that the customer places on each feature is considered and accordingly value is added to give a target cost. Thus, functional analysis aims to improve profits by reducing costs through elimination of unnecessary features and/ or by adding cost- effective new features that are so attractive to customers that the product becomes more lucrative.

The result of the above analysis is to enhance the value of the furniture while maintaining costs and/or cutback the costs of the furniture without compromising with value. It is clear from the scenario that RFC needs to cut back its selling prices to compete in the market. This selling price reduction can only be possible by a reduction in RFC’s unit costs; however, such reduction must not be accomplished by compromising with quality. Both value analysis and functional cost analysis may be used for RFC; however, value analysis is likely to be a more useful technique because office tables and chairs are such items which are demanded more on the basis of considering their use value rather than their esteem value.

Reduces lead time for receiving materials since the suppliers of raw material are capable of delivering high quality materials in a timely manner directly at the shop. Proper selection of such suppliers is imperative for the JIT system to be successful. If this can be achieved, then it is beneficial for the company since inventory holding of material is eliminated along with receiving better quality of raw material in a timely manner.

Eliminating inventory holding, scrap, material wastage, flexibility in operations by reducing set-up time, better response time to customer’s demands, better skilled workforce, better quality of production, lower workforce requirement, lower floor space requirement all of these contribute towards lowering working capital requirements. These contribute to a company’s competitive edge and success.

Question 10.
Regain Ltd. has developed a new product ‘axy’ which is about to be launched into the market. Company has spent ₹ 30,00,000 on R&D of product ‘axy’. It has also bought a machine to produce the product ‘axy’ costing ₹ 11,25,000 with a capacity of producing 1,100 units per week. Machine has no residual value. The company has decided to charge price that will change with the cumulative numbers of units sold:

Cumulative Sales (units)	Selling Price Rs. per unit
0 to 2,200	750
2,201 to 7,700	600
7,701 to 15,950	325
15,951 to 59,950	450
59,951 and above	300

Based on these selling prices, it is expected that sales demand will be as shown below:

Weeks	Sales Demand per week (units)
1-10	220
11-20	550
21-30	825
31-70	1,100
71-80	880
81-90	660
91-100	440
101-110	220
Thereafter	NIL

Unit variable costs are expected to be as follows:

	₹ per unit
First 2,200 units	375
Next 13,750 units	300
Next 22,000 units	225
Next 22,000 units	188
Thereafter	225

Regain Ltd. uses just-in-time production system. Following is the total contribution statement of the product ‘axy’ for its Introduction and Growth stage:

Required:
(i) PREPARE the total contribution statement for each of the remaining two stages of the product’s life cycle.
(ii) DISCUSS Pricing Strategy of the product ‘axy’.
(iii) FIND possible reasons for the changes in cost during the life cycle of the product ‘axy ’.
Note: Ignore the time value of money. [Nov. 2017 RTP/March 2018 MTP] (4+6+4 Marks)
Answer:
(i) Total Contribution Statement

“Total Contribution- for remaining two stages”

(ii) Pricing Strategy for Product ‘axy’
Regain Ltd. is following the skimming price strategy that’s why it has planned to launch the product axy initially with high price tag. A skimming strategy may be recommended when a firm has incurred ) large sums of money on research and development for a new product. I
In the problem, Regain Ltd. has incurred a huge amount on research and development. Also, it is very difficult to start with a low price and then raise the price. Raising a low price may annoy potential customers.
Price of the product axy is decreasing gradually stage by stage. This is happening because Regain Ltd. wants to tap the mass market by lowering the price.

(iii) Possible Reasons for the changes in cost during the life cycle of the product ‘axy’
Product life cycle costing involves tracing of costs and revenues of each product over several calendar periods throughout their entire life cycle. Possible reasons for the changes in cost during the life cycle of the product are as follows:
Regain Ltd. is expecting reduction in unit cost of the product axy over the life of product as a consequence of economies of scale and learning/experience curves.
Learning effect may be the possible reason for reduction in per unit cost if the process is labour intensive. When a new product or process is started, performance of worker is not at its best and learning phenomenon takes place. As the experience is gained, the performance of
worker improves, time taken per unit reduces and thus his productivity goes up. The amount of improvem ent or experience gained is reflected in a decrease in cost.
Till the stage of maturity, Regain Ltd. is in the expansion mode. The % Regain Ltd. may be able to take advantages of quantity discount
offered by suppliers or may negotiate the price with suppliers.
Product axy has the least variable cost ? 188 in last phase of maturity stage; this is because a product which is in the mature stage may
require less marketing support than a product which is in the growth stage so, there is a saving of marketing cost per unit.

Again, the cost per unit of the product axy jumps to ₹ 225 in decline stage. As soon as the product reaches its decline stage, the need or demand for the product disappear and quantity discount may not be available. Even Regain Ltd. may have to incur heavy marketing expenses for stock clearance.

Workings
Cumulative Sales along with Sales Price and Variable Cost

Question 11.
[Pricing Decision, PLC Costing] RAL has recently research and develop a new product which has cost $800,000. It has also bought a machine for production of this new product costing $ 300,000, it is capable of producing 1,000 units of the product per month and due to its specialized nature, it is not expected to have any residual value.
The company has decided that selling price it charges for the units will change with the cumulative numbers of units sold as follows:

Cumulative sales units	Selling Price $ per unit in this band
0 to 2,000	200
2,001 to 7,000	160
7,001 to 14,500	140
14,501 to 54,500	120
54,501 and above	80

Based on the changes in these selling prices, sales demand w ill be expected as shown below: .

Sales demand per month
Months	(units)
1-10	200
11-20	500
21-30	750
31-70	1,000
71-80	800
81-90	600
91-100	400
101-110	200
Thereafter	NIL

Unit variable costs are expected to be as follows:

	$ per unit
First 2,000 units	100
Next 12,500 units	80
Next 20,000 units	60
Next 20,000 units	50
Thereafter	60

RAL follows a Just in Time (JIT) purchasing and production system and operates its business on a cash basis.
After the completion of Introduction and Growth stages; a columnar statement showing the cumulative cash flow of the product is set out below:

i	Introduction	Growth
Months	1-10	11-30
Number of units produced and sold	2,000	5,000	7,500
Selling price per unit	$200	$160	$140
Unit variable cost	$100	$80	$80
Unit contribution	$100	$80	$60
Total contribution	$200,000	$850,000
Cumulative cash flow	($900,000)	($50,000)

Requirements
(a) Complete the cash flow statement for each of the remaining two stages of the product’s life cycle. Ignore the time value of money.
(b) Explain, the possible reasons for the changes in costs and selling prices during the life cycle of the product.
Answer:
(a)

(b) Reduction in unit costs over time might occur due to economies of scale, or might be due to the impact of learning curve and the benefits of bulk purchase discounts. It is noted though that the unit variable cost of the product rises in the decline stage and this is consistent with the diseconomy of scale, say material purchase prices increases due to reduce volume. Other costs also start to increase, possibly as a consequence of the reducing efficiency of the equipment being used, The reduction in selling prices over time is typical of the product life cycle. Market skimming in the introduction stage reflects high unit prices paid by a select few customers. The company’s competitors enter the market in the growth phase and selling prices reduce (a) to stimulate demand, (b) to compete with new market entrants, and (c) to reflect the effect of economies of scale on costs.
It is observed that selling prices stabilise at $ 120 per unit that is at the g maturity stage, this may reflects an established oligopolistic market § price.
At declining stage sales volume decline, prices fall to attract what f demand is still available, as of better and less costly substitute in the (market accounts for the arrival of this stage.

Question 12.
(Pricing Decision, PLC Costing) Fossill. Ltd. Makes fashionable high quality digital watches. Fossill Ltd. now is preparing a product life cycle budget for a new watch. Development on the new watch is to start shortly. Estimates for new watch are as under:

Life Cycle Units Manufactured and Sold	2,40,000
Selling Price Per Watch	(₹) 500
Life Cycle Costs:
R&D and Design Cost	(₹) 80 Lakh
Manufacturing:
Variable Cost Per Watch	(₹) 120
Variable Cost Per Batch	(₹) 4,000
Watches Per Batch	300
Fixed Costs Customer Service Cost Per Watch	(₹) 112 lakh (₹) 10
Marketing:
Variable Cost Per Batch	(₹ ) 24
Fixed Costs	(₹) 8 Lakh
Distribution:
Variable Cost Per Watch (Batch)	(₹) 240
Watches Per Batch	96
Fixed Costs	(₹) 45 Lakh

Required
(i) CALCULATE the budgeted life cycle operating income for, the new watch. OR
SUGGEST the strategies to be adopted by the Fossil Ltd. to develop a new watch.
(ii) What percentage of the budgeted total product life cycle costs will be incurred by the end of the R&D and design stage?
(iii) An analysis reveals that 75% of the budgeted total life cycle costs of new watch will be locked in at the R&D and design stage. What are the implications for managing costs of the new watch? [May 2018] (5+2+3 Marks)
Answer:
(i) Statement Showing Budgeted Life-Cycle Operating Income

Or

We can see from the above figure that approximately 80% of a prodnet’s cost are committed during the planning and design stage. At j this stage product designers determine the product’s design and the production process. In contrast, the majority of costs are incurred at the manufacturing stage, but they have already become locked in at the planning and design stage and are difficult to alter.
The pattern of cost commitment and incurrence will differ based on the industry and specific product introduced. For developing a watch, Fossill Ltd. needs to commit around 80,00,000 for its R&D and design Cost. So, Cost Management of Fossill Ltd. can be most effectively exercised during the planning and design stage of its new watch and not at the manufacturing stage when the product design and processes have already been determined and costs have been committed. At this latter stage the focus is more on cost containment rather than on Cost Management. An understanding of life-cycle costs and how they are committed and incurred at different stages throughout a product’s life
cycle of the watch will also led to the emergence of target costing, a technique that focuses on managing costs during a product’s planning and design phase.

(ii) % of Budgeted Total Product Life-Cycle Costs incurred till the R & D and Design Stages:
= \(\frac{₹ 80,00,000}{₹ 11,65,60,000}\) x 100 = 6.86%

(iii) Implications:
An analysis reveals that 75%* of the total product life-cycle costs of the new watch will be locked in at the end of the R&D and design stages when only 6.8696 of the costs are incurred (as calculated in the above case). The implication is that it will be difficult to alter or reduce the costs of Fossill digital vcatches once the design is finalised. To reduce and manage total costs, Fossill must act to modify the design before costs get locked in. (Question states 75%, hence 75% is taken)
*This question can be solved by taking appropriate assumption in respect of Marketing Costs and Distribution Costs,

Question 13.
Shrivastav Pvt, Ltd. is a manufacturing organization, they are following Life Cycle Costing. Its four products X4, X3, X2 and X1 are in the market respectively in Introduction, Growth, Maturity and Decline stages (phases). The Management wants to analyse the marketing challenges faced by the products to take strategical measures to stabilise the products in the market. For this purpose, the Board directed the Secretary to get a product-wise report from the marketing chief of each product. The chiefs were asked to give one characteristic possessed by the product because of which the product is being classified in the respective stage and two strategical measures to be taken to overcome the market challenges faced at that stage (phase). The Secretary received the report from all the chiefs and handed them over to the computer operator to get it printed in a tabulated form. But the operator, without understanding the significance of the products, phases, characteristics and strategies, mixed all the twelve items [(1 + 2) X 4] and got it printed as a list as given below:
(i) Over capacity in the industry.
(ii) The company can continue to offer the product to our loyal customers at a reduced price.
(iii) Few competitors produce basic version of our product.
(iv) Product features may be improved or enhanced to differentiate our product from that of the competitors.
(v) Attracting customers by raising awareness about our product through promotion activities.
(vi) High volume of business and increase in competition.
(vii) Use the present product as replacement product for launching another new product successfully in the market.
(viii) Value-based pricing strategies may be considered.
(ix) Profits start declining and at times become negative
(x) Maintain control over product quality to assure customer satisfaction.
(xi) Strengthening or expanding channel and supply chain relationships.
(xii) Prices may have to be reduced to attract the price-sensitive customers. The items are required to be TABULATED as in the format given below:
Required
(i) Complete the table given below by entering the twelve items under appropriate category columns. You need not rewrite the items. Write the serial numbers of the items only in columns (3) and (4).

Products (1)	Phases (Stages) (2)	Characteristics (3)	Strategies (4)
X4	Introduction
X3	Growth
X2	Maturity
X1	Decline

(ii) LIST down the importance (any four) of Product Life Cycle Costing.
(iii) STATE the benefits (any four) of Product Life Cycle Costing. [Nov 2018](12 + 4+4 Marks)
Answer:
Part (i) and (ii) are missing
(i) Statement Showing Product Life Cycle Characteristics and Strategies

Products (1)	Phases (Stages) (2)	Characteristics (3)	Strategies (4)
X4	Introduction	(iii)	(v), (xi)
X3	Growth	(vi)	(x), (viii)
X2	Maturity	(i)	(iv), (xii)
X1	Decline	(ix)	(ii). (vii)

(ii) Importance of Product Life Cycle (PLC) Costing

• As a Planning tool, it characterizes the marketing challenges in each stage and poses major alternative strategies, ie. application of Kaizen.
• As a Conlrollool, the PLC concept allows the company to measure product performance against similar products launched in the past.
• As a Forecasting tool, it is very important because sales histories exhibit diverse patterns and the stages vary in duration.
• It leads to appropriate strategy formulation depending on the stages of the product life cycle.

(iii) Benefits of Product Life Cycle Costing
The benefits of product life cycle costing are summarized as follows:

• The product life cycle costing results in earlier actions to generate revenue or to lower costs than otherwise might be considered. There are a number of factors that need to the managed in order to maximize return on a product.
• Better decisions should follow from a more accurate and realistic assessment of revenues and costs, at least within a particular life cycle stage.
• Product life cycle thinking can promote long-term rewarding in contrast to short-term profitability rewarding.
• It provides an overall framework for considering total incremental costs over the entire life span of a product, which in turn facilitates analysis of parts of the whole where cost effectiveness might be improved.
• It is an approach used to provide a long-term picture of product line profitability, feedback on the effectiveness of life cycle planning and cost data to clarify the economic impact of alternatives chosen in the design, engineering phase etc.
• It is also considered as a way to enhance the control of manufacturing costs. The thrust of product life cycle costing is on the distribution of costs among categories changes over the life of the product, as does the potential profitability of a product. Hence it is important to track and measure costs during each stage of a product’s life cycle.
• Product life cycle costing traces research and design and development costs etc., incurred to individual products over their entire life cycles, so that the total magnitude of these costs for each individual product can be reported and compared with product revenues generated in later periods.

Question 14.
Pace & Game (P&G) was established in 1980 and has enormous wealth of experience in the mould manufacturing industry and serves wide range of plastic moulds all over nation. Over the past decade, P&G has developed the reputation for quality products & services for customer focused approach. It deals in injection moulds, blow moulds, die sets, moulds base etc.
With a state-of-the-art infrastructure facility, P&G is able to meet the qualitative and quantitative demands of its clients. Its vision & mission is to provide high class manufactured products by using best quality raw materials.
P&G has developed a new product “M” which is about to be launched into the market and anticipates to sell 80,000 of these units at a sales price of ₹ 300 over the product’s life cycle of four years. Data pertaining to product “M” are as follows:

Costs of Design and Development of Molds, Dies, and Other Tools	₹ 8,25,000
Manufacturing Costs	₹ 125 per unit
Selling Costs	₹ 12,500 per year + ₹ 100 per unit
Administration Costs	₹ 50,000 per year
Warranty Expenses	5 Replacement Parts per 25 units at ₹ 10 per part; 1 Visit per 500 units (Cost ₹ 500 per visit)

Required:
(i) COMPUTE the product “M’s” ‘Life Cycle Cost’.
(ii) SUGGEST two ways to maximize “M’s” lifecycle return.
Note: Ignore time value of money [RTP Nov. 2019, 2021]
Answer:
(i) Statement Showing “M’s Life Cycle Cost (80,000 units)”

Particulars	Amount (₹)
Costs of Design and Development of Molds, Dies, and Other	8,25,000
Tools
Manufacturing Costs (₹ 125 × 80,000 units)	1,00,00,000
Selling Costs (₹ 100 × 80,000 units + ₹ 12,500 × 4)	80,50,000
Administration Costs (₹ 50,000 × 4)	2,00,000
Warranty
(80,000 units/25 units × 5 parts × ₹ 10)	1,60,000
(80,000 units/500 units × 1 visit × ₹ 500)	80,000
Total Cost	1,93,15,000

(ii) Following ways are suggested to maximize “M” lifecycle return:
R&D Costs
Often significant part of cost is incurred at the R&D phase of new product, hence P&G should carefully plan and design its new product “M” as it will determine the number of parts, production process to be used etc. P&G can apply value engineering here. It involves improving product quality, reducing product costs, fostering innovation, eliminating unnecessary and costly design elements, ensuring efficient investment in product, and developing implementation procedures. Value engineering is most successful when it is performed early in product development stage. A value engineering study should be performed within the first 25-30% of the design effort prior to selecting the final design alternative. Here, it is also important that R&D team should work as a part of cross functional team i.e. (participate in a group of people from different functional areas), to minimise lifecycle cost and the production cycle time in new development.

Speed up the Product Launch
In cut throat competitions, it is important for P&G to get new product ‘M’ launch into the market as soon as possible since this will give “M” a long stay in the market place without competition in the market. Competitor always try to launch a rival product as quickly as possible in order to gain ‘competitive edge’. P&G may lose overall profitability if it delays in launching of Product ‘M’. It is usually worthwhile incurring extra costs to keep the launch on schedule or to speed up the launch.

Question 15.
(Life Cycle Costing)
HUM international has developed ultra-modern smart LED TV with latest features. It has been developed after extensive research and is ready for manufacturing. The firm has incurred ₹ 6,50,000 as development cost on this LED TV. The firm is deciding on plant capacity, which could cost ₹ 40,00,000 for manufacturing of 600 units.
With additional outlay of 40%, plant capacity can be increased by 50%. The relevant data pertaining to the life cycle of the LED TV at different capacity levels is as under :

Expected Sales	600 Units	900 Units
Selling Price	₹ 45,000 per unit	₹ 41,400 per unit
Variable Selling Costs	12% of the Selling price	12% of the selling price
Salvage Value of the plant	20% of the total plant cost	20% of the total plant cost
Profit Volume Ratio	30%

Required
ADVISE HUM International regarding the ‘Optimal Plant Capacity’ to install. The LED TVs life cycle is two years. (Note: Ignore the time value of money.) [Nov. 2020] (10 Marks)
Answer:
(a) Advise → If we consider Financial perspectives HUM international shall consider 900 units level (low price and high volume) as ‘optimal j plant capacity’, because the net profit at 900 units level is ₹ 66,98,000; which is more than ₹ 49,00,000 (the net profit at 600 unit level). See working note below for details. Operating at 900 units level also ensure larger market share. However, in order to be sustainable, non-financial considerations are also given due importance. These may not contribute directly to profits in the short run but may have significance in long run. Here, it is important to note that life cycle of product is two years and difference between the net profits at both levels is ₹ 17,98,000 (around 26.84% of profit at 900 units level). The availably of raw material and labour also need to be considered, and in case of scarcity of any of these or any other factor of production, HUM international may opt the plant having 600 units capacity.

Working Note 1 – Statement Showing “expected profit”

Particulars	Amount in ₹
	600 units	900 units
Sales	2,70,00,000 (45,000 * 600)	3,72,60,000 (41,400 * 900)
Contribution (30% of Sale)	81,00,000	1,11,78,000
Less: Cost of Plant	40,00,000	56,00,000 (40,00,000 + 40%)
Add: Salvage Value (20% of plant cost)	8,00,000	11,20,000
Net Profit	49,00,000	66,98,000

Development cost is already incurred hence become sunk and not relevant here; Additional outlay of 40% has been considered as part of plant cost.

Alternate non-financial factors are also possible.

ALTERNATIVE 5(a)
ADVISE →
Based on the above ‘Expected Profit’ statement firm may go for High Price – Low volume i.e. 600 units level which is purely based on financial f considerations. However, non-financial considerations are also to be given I due importance as they account for actions that may not contribute directly j to profits in the short run but may contribute significantly to profits in long run. Here, it is important to note that life cycle of product is just two years and there is no significant difference (₹ 81,200) between the profits at both levels. In this scenario firm may opt the plant having high capacity not only to increase its market share but also to establish a long-term brand image.

Working Note 1 – Statement Showing “expected profit’’
Particulars	Amount in ₹
	600 units		900 units
Sales	2,70,00,000	3,72,60,000
	(45,000,600)	(41,400,900)
Less: Variable manufacturing cost @26,100 working note	1,56,60,000	2,34,90,000
Less: Variable Selling cost (12% of Sales)	32,40,000	44,71,200
Less: Cost of Plant	40,00,000	56,00,000
Add Salvage Value (20% of plant)cost	8,00,000	(40,00,000 + 40%) 11,20,000
Net Profit (?)	49,00,000	48,18,800

Working Note 2 – Calculation of Variable Manufacturing Cost per unit
= Selling price – contribution – variable selling cost
= ₹ 45,000 – 30% of ₹ 45,000 – 12% of selling price
= ₹ 45,000 – ₹ 13,500 – ₹ 5,400
= ₹ 26,100 per unit

Development cost is already incurred hence become sunk and not relevant here; Additional outlay of 40% has been considered as part of plant cost.

Alternate non-financial factors are also possible.

Question 16.
(Life Cycle Costing)
Aggarwal is a Baker famous for its cakes and cookies. Mr Purshottam Aggarwal, the owner of Aggarwal Bakers is interested in offering affordable products, hence keen to capture the small scope of cost-effectiveness. Aggarwal Bakers located in the centre of the city where Rental cost is high and Aggarwal Baker runs out of space during peak hour causing loss of sale. Aggarwal Bakers have most of their regular(Loyal) customer. Aggarwal Baker is known for its fast service, Mr Purshottam wish to be true to the tagline ‘Close your eyes to wish and open them to find it cooked for you’. The hurdle rate is 12%.
Non-availability of skilled worker and high attrition rate of worker including chef is the cause of worry for Mr.- Purshottam. In order to retain worker, Aggarwal Baker is paying a higher salary than industry standards. The raw material is easily available as and when it is required., Aggarwal Bakers is considering two different models of baking oven machine to replace its old oven. The baking capacity of both machines are the same and both will occupy a similar amount of space.
The first model is the automatic oven which will cost about ₹ 10,00,000. Another model is the semi-automatic oven which will cost at ₹ 5,60,000.
The annual operating cost (including depreciation) is 40% of the acquisition cost and ₹ 4,20,000 in case of automatic and semi- automatic oven respectively. After 3 years of use, the automatic oven can he  salvage at ₹ 70,000, whereas semi-automatic oven will fetch ₹ 20,000 only. The automatic oven is more advanced and equipped with latest technologies to speed up the baking, because only ingredients need to be inserted in right proportion and mix. Whereas in semi-automatic machine some part of the process needs to be performed manually by the workers.
Required
ADVISE which oven shall Aggarwal baker acquire.
Note- You can ignore taxes but need to consider the time value of money; decimal accuracy up-to two digits is expected.
Answer:
Statement of the Comparable Life Cycle Cost

Particulars	Automatic	Semi­-Automatic
Acquisition Cost	10,00,000	5,60,000
PV of Entire Life Cash Operating Cost (W.N.2)	2,16,000	5,76,000
PV of Salvage Value (W.N.3)	(49,700)	(14,200)
Total Cost of the Oven over the life cycle	11,66,300	11,21,800

Working Note 1 – Depreciation

Particulars	Automatic	Semi­-Automatic
Acquisition Cost	10,00,000	5,60,000
Salvage Value	70,000	20,000
Depreciable Value	9,30,000	5,40,000
Useful life in a number of years	3	3
Depreciation on SLM basis	3,10,000	1,80,000

Working Note 2 – Present Value of Entire Life Cash Operating Cost

Particulars	Automatic	Semi­-Automatic
Annual Operating Cost	4,00,000	4,20,000
Depreciation (see W.N.1)	3,10,000	1,80,000
Annual Cash Operating Cost	90,000	2,40,000
Cumulative PV factor @ 12Qo for 3 years	2.40	2.40
PV of Entire Life Cash Operating Cost	2,16,000	5,76,000

*Annual operating cost is 4,00,000 ie., 40% of 10 Lakhs, in case of automatic machine.

Working Note 3 – Present Value of salvage value

Particulars	Automatic	Semi­-Automatic
Salvage Value	70,000	20,000
PV Factor @ 12% for 3rd year	0.71	0.71
PV of Salvage Value	49,700	14,200

Advise
Based upon life cycle cost, Aggarwal Bakers are advised to acquire semi-automatic oven, because it causes a saving of 144,500. The cost has qualitative implicationstoo, apart from quantitative or monetary implications. Similarly, a management decision is also impacted by qualitative and non-monetary quantitative factors. Hence, decision taken in part a above may differ if Aggarwal Bakers consider-

Finishing of bake products – the look and taste
It is obvious the presence, which one important feature for bakery product in order look delicious and tempting; will be way different if cooked in the automatic and semi-automatic machine. The taste may also be different, which is more critical from prospective of customer retention because a large number of the customers are regular to the Aggarwal baker, hence maintaining the principal customer is maybe a key consideration. This factor may go in favour of any of version oven. If look goes in favour of automatic oven, then taste may be in semi-automatic due to corrections by the worker during baking and relatively authentic preparation.

Manpower
Availability of skilled worker and retention of worker is the cause of worry presently. In order to operate an automatic oven obviously fewer workers are required; hence money can be saved by cutting down recruitment cost and excess salary paid to the worker in order to retain them. On another hand, skilled workers are already in scarcity, automatic machine obviously requires a more technically competent operator. But largely this factor moves in favour of automatic machine despite is costlier.

Space
Aggarwal Bakers located in the centre of the city where space has a huge cost and Aggarwal baker is running out of space during peak hour causing loss of sale. Although the size of both the ovens are same, the number of worker and space required for them surely be less in case of the automatic oven. Hence this factor again moves in favour of automatic oven.

Power consumption & availability
Although the power consumption cost is presumed to already include in annual operating cost hence considered as a monetary factor but need and availability of power is a very important factor; in order to ensure uninterrupted baking. In absence of stand-by power back-up, power cut may lead to downtime. It will complete downtime for the automatic oven and to a certain extent in the case of semi-automatic (because the manual process will keep going on). Stand- by power back-up will also have an additional cost.

Customisation
In case of cookies, it may ok to produce the standard product; but the cake j needs to base upon the order of the customer, who may seek customisation. Scope of customisation needs to evaluate. In the case of the semi-automatic oven, the scope of customisation and ethnicity will be relatively high.

Speed
Aggarwal Baker is known for fast service, and Mr. Purshottam wish to be J true to tagline ‘Close your eyes to wish and open them to find it cooked for you’. The automatic oven is more advanced and equipped with latest 5 technologies to speed up the production. Hence this factor moves in favour 5 of automatic oven.

Detection of the defect
If speed thrills, then it kills too. In case of the bakery, rework and reprocessing is hardly possible, even if possible then at a huge cost; hence it is essential to keep vigil control over quality and detection of defect at the earliest stage.
In the semi-automatic oven, there is the scope of reviewing the material after stage/s and improvisation can be done.

Overall, Aggarwal Bakers should take the decision only after due and careful consideration of above factors.

Question 17.
Product Life Cycle (Life Cycle Costing)
Cellwell Technologies Ltd. is a manufacturer of mobile phones. It has been an established player in the market having launched various cell phone models in the last 10 years. With the preference for usage of cell phones increasing, the company has grown rapidly since inception. During the last two years, sales have been increasing but at a slower rate. Competition has increased and hence sales growth has been slowing down.
Cellwell Technologies plans to introduce a new smart phone model called XXX21. The company’s research and development team has come up an
additional feature for this cell phone model. This feature will periodically inform the customer using the cell phone regarding any software update required for the model. By installing these updates many existing bugs in the software model and security issues to the software can be fixed. This process can be executed remotely with the help of the new technology that the research and development team has developed. This improves the cell phone performance and keeps it running smoothly. It improves compatibility of the software with that used in other applications and devices. It also enhances customer experience as the software update will bring out new software features (like newest emotions/updated dictionary) that can be used by the customer. Consequently, the general utility of the cell phone life will improve by almost a year. There will be less complaints due to performance/compatibility related issues.
The business development team has come up with a proposal for sales promotion. As per this proposal, customers can trade in older model of their cell phone in order to buy the latest XXX21 model. Due to the trade, customers can buy the latest model XXX21 at a substantial discount.
After discussion with the research and development team, they conclude that this would have an additional advantage. Cellwell Technologies can refurbish (repair and renovate) these older models and resell them in the > market at a substantially lower price. Typically, students or customers in the lower income groups who look for cheaper models may find this offer interesting. This creates a new’ market space for the company to target.
Those older ceil phones traded in, that cannot be refurbished or are beyond repair/use can be recycled. Various parts of these phones can be recycled and fitted into the new cell phone models that are being made. Any cell phone model contains various precious metals like gold, copper, platinum as also rare earth elements like neodypiium, terbium to name a few. These are difficult to obtain and need to be mined out of the earth causing huge damage to the environment. With the demand for cell phone slated to increase, the need for these materials Is going to increase as well. Therefore, if these materials can he extracted from old cell phones that would otherwise have been disposed-off into a landfill, it would benefit the environment while providing an alternate source of material procurement. Since billions of cell phones are used globally, every small measure makes an impact. With increasing awareness about environment hazards, such a proposal is likely to find support among customers. It is also helpful to improve the company’s brand image.
Both proposals to introduce software upgrade feature in the cell phone as well as the trade in sales promotional offer are unique as no other competitor has such features in their products or have made such offers yet.
Required
(i) IDENTIFY the lifecycle phase of Cellwell Technologies Ltd. JUSTIFY your response with reference to the case facts.
(ii) DISCUSS the impact of the decision to allow trade in of the company’s older cell phone models on the product lifecycle of such phone models. [Nov. 2021]
Answer:
(i) Cellwell Technologies Ltd. is in the “Maturity” stage of product life-cycle. It has been an established player in the cell phone market. The company has seen rapid sales growth. Over the last 2 years sales have been increasing at a slower rate due to increased competition. There-fore, the company has decided to introduce a new product model in the form of XXX21.
Retention of existing customers and trying to win over the competitor’s customers is the strategy being used by Cellwell Technologies. The XXX21 model that enables customers to upgrade the software of their smartphone enhances its product features. This differentiates the company’s product with that of its competitors. Technology changes at a fast pace. By enabling customers to upgrade their mobiles would definitely improve performance, lower customer complaints due to breakdown or compatibility issues due to older software. Improved performance along with longer product life would definitely enhance customer satisfaction as well as attract newer customers. The add on benefit is that the execution of this update can be managed from remote locations without the need for in person assistance.
The offer to trade in old cell phones while buying the latest XXX21 model would appeal to price sensitive customers. It will also evince interest of customers who are looking to dispose their cell phones that would otherwise end up in the landfill. The trade in offers monetary benefit in the form of a discount. This sale promotional offer to trade old phones for a discount in the price of the latest model XXX21 would definitely help Cellwell Technologies to effectively compete with its competitors.
Cellwell Technologies would have the first mover advantage by imple-menting both the product enhancing/differentiating feature in model XXX21 as well as the trade in options to customers. This shows that the management has a clear plan on how to effectively beat the competition. This indicates that the company is now in the “Maturity” stage of product lifecycle.

(ii) Cellwell Technologies has introduced a sales feature to allow trade in of older cell phone models in exchange for model XXX21 at a substantial discount. These phones would then be used in 2 ways (1) by refurbishing (repairing and renovating) or (2) recycling useful product parts and extracting precious metals and earth elements from the phones.
The refurbished phones would be sold at a substantially lower price j to customers like students or lower income groups. Thus, the older cell phone model gets a new lease of product life after the requisite repairs. This extends its product life cycle by a further time frame until there may be no use of the cell phone model at a 11.
In the case of phones that are of no use/completely dead, usable parts are being recycled into existing products. Thus, this becomes an alternate source of material procurement for the company at a much lower cost. Consistent use of this measure would definitely reduce the cost of production by a certain margin. The product lifecycle of such cell phones (dead phones) is not being extended. However, they continue to provide value to the company with the help of the recycling process. The intangible benefit of this measure would be the positive impact that recycling would have on the environment. A move that would definitely enhance the company’s brand image.

Question 18.
(Life Cycle Costing)
WIBES Tech is a Japanese based firm, has just developed ultra-thin tablet S-5 with few features like the ability to open two apps at the same time. This tablet cost ₹ 5,00,000 to develop; it has undergone extensive research and is ready for production. Currently, the firm is deciding on plant capacity, which could cost either ₹ 35,00,000 or ₹ 52,00,000. The additional outlay would allow the plant to increase capacity from at different capacity level are as under:

Expected Sales	500 units	750 units
Sale Price	₹ 79,600per unit	₹ 69,600 per unit
Variable Selling Costs	10% of Selling Price	10% of Selling Price
Salvage Value – Plant	₹ 6,25,000	₹ 9,00,000
Profit Volume Ratio	40%

Required
ADVISE WIBES Tech regarding the ‘Optimal Plant Capacity to install. The tablet’s lifecycle is two years. (Note: Ignore the time value of money.)
Answer:
Advice
Based on the above ‘Expected Profit’ statement which is purely based on financial considerations firm may go for high price – low volume i.e. 500 units level. However, non-financial considerations are also given due importance as they account for actions that may not contribute directly to profits in the short run but may contribute significantly to profits in long run. Here, it is important to note that life cycle of product is two years and there is no significant difference between the profits at both levels. In this scenario firm may opt the plant having high capacity not only to increase its market share hut also to establish a long term brand image.

Workings
Statement Showing “Variable Manufacturing Cost per unit”

Particulars	₹ /unit
Sales	79,600
Less: Contribution (40%)	31,840
Variable Cost	47,760
Less: Variable Selling Costs (₹ 79,600 × 0.1)	7,960
Variable Manufacturing Cost	39,800

Statement Showing “Expected Profit”

Particulars	(‘000) ₹ /unit
	500 units	750 units
Sales	39,800 (₹ 79,600 * 500)	52,200 (₹ 69,600 * 750)
Less-. Variable Mfg. Cost	19,900 (₹ 39,800 * 500)	29,850 (₹ 39,800 * 750)
Less: Variable Selling Cost	3,980 (₹ 39,800 * 0.1) r	5,220 (₹ 52,200 * 0.1)
Add: Salvage Value	625	900
Less: Cost of Plant	3,500	5,200
Net Profit	13,045	12,830

Development cost is sunk and is not relevant.

Question 19.
(Pareto Analysis)
Arya vision is engage in manufacturing of Spectacle. The management has provided the following information about the type ofdefects during a production period and the frequencies of their occurrence

Defect	No. of items
End Frame not equidistant from the centre	10
Non-uniform grinding of lenses	60
Power mismatches	20
Scratches on the surface	110
Spots/Stains on lenses	5
Rough edges of lenses	70
Frame colours-shade differences	25

Required
PREPARE a frequency ruble so that a Pareto Chan can be constructed for the defect type. Also, IDENTIFY key areas of focus.
Answer:
Statement Showing “Pareto Analysis of Defects”

Defect Type	No. of Items	% of Total Items	Cumulative Total
Scratches on the surface	110	36.67%	36.67%
Rough edges of lenses	70	23.33%	60.00%
Non-uniform grinding of lenses	60	20.00%	80.00%
Frame colours-shade differences	25	8.33%	88.33%
Power mismatches	20	6.67%	95.00%
End frame not equidistant from the centre	10	3.33%	98.33%
Spots/Strain on lenses	5	* 1.67%	100.00%
	300	100.00%

Arya Vision should focus on eliminating scratches on the surface, rough edges of lenses and grinding of lenses related defects which constitute 80% portion, according to Pareto Theory.

Question 20.
Question (Pareto Analysis)
Anjali Ayurved is an Indian FMCG company which started in 2006. Anjali was founded with an aim of promoting ayurvedic products among consumers. Anjali had become one of the largest consumer goods company in India. Since the company has initiated its expansion by dealership
partnerships and distribution channels across India and abroad, Company wants to identify its signature product (Signature product is the keystone offering company would recommend to just about any customer if they could special). Anjali has a diverse product offering in its marketing mix. Anjali manufacture and sells seven products. The following data relates to the latest period:

Product	Contribution in $000
P	96
0	36
R	720
S	240
T	12
U	60
V	24
	1,188

Required:
(i) Prepare a pareto chart of product contribution, and comment on the result. Carry out a Pareto ANALYSIS (80/20 rule) Contribution.
Answer:
(i) The first step is to rearrange the products in descending order of contribution and calculate the cumulative contribution:

Product	Contribution in $	Cumulative Contribution in $000	Cumulative %
R	720	720	61
S	240	960	81
P	96	1,056	89
U	60	1,116	94
Q	36	1,152	97
V	24	1,176	99
T	12	1,188	100
	1,188

The cumulative data can now be used to produce the required Pareto chart showing product contribution:

The analysis shows that more than 80 per cent of the total contribution is earned by two products: R and S. The position of these products needs protecting, perhaps through careful attention to branding and promotion. The other products require investigation to see whether their contribution N can be improved through increased prices, reduced costs or increased 5 volumes.
The analysis shows that more than 80 per cent of the total contribution is earned by two products: R and S. The position of these products needs protecting, perhaps through careful attention to branding and promotion. The other products require investigation to see whether their contribution can be improved through increased prices, reduced costs or increased volumes.
R & S are the company’s signature product, signature products are the most significant product of the company. Since the contribution of these two products are highest that is 80 per cent of the total contribution is earned by these two products it means customer prefer these two products.

Question 21.
(Pareto Analysis)
Emergence Technologies Ltd. develops cutting-edge innovations that are powering the next revolution in mobility and has nine tablet smart phone models currently in the market whose previous year financial data is given below:

Model	Sales (₹ ’000)	Profit-Volume (PV) Ratio
Tab – R001	5,100	3.53%
Tab – S002	3,000	23.00%
Tab – T003	2,100	14.29%
Tab – U094	1,800	14.17%
Tab – V005	1,050	41.43%
Tab – WO06	750	26.00%
Tab – X007	450	26.67%
Tab – Y008	225	6.67%
Tab – Z009	75	60.00%

Required
(i) Using the financial data, carry out a Pareto ANALYSIS (80/20 rule) of Sales and Contribution.
(ii) DISCUSS your findings with appropriate RECOMMENDATIONS. [MTP Oct. 2019/Oct 2020]
Answer:
(i) “Pareto Analysis”

(*) Rounding – off difference adjusted.

(ii) Recommendations
Pareto Analysis is a rule that recommends focus on most important | aspects of the decision making in order to simplify the process of decision making. The very purpose of this analysis is to direct attention and efforts of management to the product or area where best returns can be achieved by taking appropriate actions.
Pareto Analysis is based on the 80/20 rule which implies that 20% of the products account for 80% of the revenue. But this is not the fixed percentage rule; in general business sense, it means that a few of the products, goods or customers may make up most of the value for the organsiation.
In present case, five models namely R001, S002, T003, UGQ4 account for 80% of total sales where as 80% of the company’s contribution is derived from models S002 , V005, T003, U004 and WG06.
Models S002 and V005 together account for 50.34% of total contribution but having only 27.84% share in total sales. So, these two models are the key models and should be the top priority of management. Both T003 and U004 are among the models giving 80% of total contribution as well as 80% of total sales so; they can also he clubbed with S002 and V005 as key models. Management of the Emergence Techno Ltd should allocate maximum resources to these four models.
Model W006 features among the models giving 80% of total contribution with relatively lower share in total sales. Management should focus on its promotional activities.
Model R001 accounts for 35,05% of total sales with only 8.05% share in total contribution. Company should review its pricing structure to enhance its contribution.
Models X007, Y008 and Z009 have lower share ip both total sales as well as contribution. Emergence Techno Ltd can delegate the pricing decision of these models to the lower levels of management, thus freeing themselves to focus on the pricing decisions for key models.

Question 22.
(Pareto Analysis)
XYZPytLtd is a specialized car garage door installation company. XYZ Pvt Ltd receive multiple service calls from customers with variety of requirements. They may have to Install, Replace, Adjust or Lubricate some part or other to make the door functional. They work with 5 parts as given in the table, namely Door, Motor, Track, Trimmer and T -Lock.

Required
(i) Using the above data, carry out a Pareto Analysis (80/20 rule) of Total Parts. (3 Marks)
(ii) Using the same data carry out the second level Pareto Analysis on the type of services with respect to Motors only. (2 Marks)
(iii) Give your RECOMMENDATIONS on the basis of your calculations 4 in (i) and (ii) above. (5 Marks)
OR
STATE the business situations in which you recommend to apply Pareto Analysis. [MAY 2019 EXAM] (5 Marks)
Answer:
(i) Statement Showing “Pareto Analysis of Total Parts”

Parts	No. of Items	% of Total Items	Cumulative Total
Motor	30	35.29	35.29%
Trimmer	20	23.53	58.82%
Track	17	20.00	78.82%
Door	8	9.41	88.23%
T-Lock	6	7.06	95.29%
Miscellaneous	4	4.71	100.00%

(ii) Statement Showing “Pareto Analysis of Type of Services (Motor)”

Type of Services	No. of Items	% of Total Items	Cumulative Total
Adjust	16	53.33	53.33%
Lube	9	30.00	83.33%
Install	3	10.00	93.33%
Replace	2	6.67	100.00%
	30

(iii) Pareto Analysis is a rule that recommends focus on most important aspects of the decision making in order to simplify the process of decision making. The very purpose of this analysis is to direct attention and efforts of management to the product area where best returns can be achieved by taking appropriate actions.
Pareto Analysis is based on the 80/20 rule which implies that 20% of the products account for 80% of the revenue. But this is not the fixed percentage rule. In general business sense, it means that a few of the products, goods or customers may make up most of the value for the firm.

The present case stands in a difference to 80/20 rule. Because the company installs doors, they sometimes have multiple service calls to install each door piece by piece. They may have to install, replace, adjust, or lubricate some part to get the door working properly. They work with five main parts: door, motor, track, trimmer and t-lock. The service calls with reference to motors are heavy and accounted for as much as 35.29% of the number of calls attended. Motor together with trimmer accounted for 58.82%. So, these two parts are to be considered as key parts and XYZ Pvt. Ltd. must be ever ready to cater to all provisional requirements for attending these classes without any inordinate delay. Any delay in service these calls is likely to damage its service rendering reputation within a very short span of time. Further, the second level Pareto Analysis on motors has revealed a particular reference to the service problems related to motors. Adjustments and Lubrication issues cover up 83.33% of the total service problems exclusively connected to Motors. So, XYZ Pvt. Ltd. must direct its best efforts and develop specific expertise to solve these problems in the best interest of the customers.
Or
Pareto Analysis is generally applicable in the following business situations.
Pricing of a Product
In the case of a firm dealing with multi products, it would not be possible for it to analyse cost-profit- price-volume relationships for all of them. In practice, in case of such firm approximately 20% of products may account for about 80% of total sales revenue. Pareto Analysis is used for analysing the firm’s estimated sales revenues from various products and it might indicate that approximately 80% of its total sales revenue is earned from about 20% of its products.

Customer Profitability Analysis
Instead of analysing products, customers can be analysed for their relative profitability to the organisation. Again, it is often found that approximately 20% of customers generate 80% of the profit. There will always be some customers who are less profitable than others, just as some products are less profitable than others. Such an analysis is useful tool for evaluation of the portfolio of customer profile and decision making such as whether to continue serving a same customer group, what is the extent of promotion expenses to be incurred.

ABC Analysis- Stock Control
Another application of Pareto analysis is in stock control where it may be found that only a few of the goods in stock make up most of the value. In practice, approximately 20% of the total quantity of stock may account for about 80% of its value. The outcome of such analysis is that by concentrating on small proportion of stock items that jointly accounts for 80% of the total value, a firm may well be able to control most of monetary investment in stocks.

Application in Activity Based Costing
In Activity Based Costing it is often said that 20% of an organisation cost drivers are responsible for 80% of the total cost. By analysing, monitoring and controlling those cost drivers that cause most cost, a better control and understanding of overheads will be obtained.

Quality Control
Pareto analysis seeks to discover from an analysis of defect report or customer complaints which “vital few” causes are responsible for most of the reported problems. Often, 80% of reported problems can usually be traced to 20% of the various underlying causes. By concentrating one’s efforts on rectifying the vital 20%, one can have the greatest immediate impact on product quality.

Question 23.
(Environment Management Accounting)
BEEZ is a chemical manufacturing company produces two chemicals XA and XB. Environmental activities and costs associated with the two chemicals are as follows:

	XA	XB
Unit produced (kg.)	6,00,000	15,00,000
Packing Materials (kg.)	80,000	40,000
Energy Usage (KWH)	60,000	30,000
Toxin releases (Pounds into air)	2,00,000	40,000
Pollution contol machine hours	32,000	8,000

 

Cost of environmental activities :
Packing material Costs	1 3,60,000
Energy Costs	1 96,000
Fines for release of toxins into air	1 48,000
Operating costs of pollution control equipments	11,12,000

Required
CALCULATE the environmental cost per kilogram for each chemical produced by the company. [Nov. 2019 Exam] (5 Marks)
Answer:
Environment Cost Allocation

Allocation of environment costs incurred by the company can be allocated to products using
(i) Input-Out analysis
(ii) Flow Cost Accounting
(iii) Life cycle costing and
(iv) Activity Based Costing
Environment costs can be allocated to Chemicals XA and XB using Activity j Based Costing.
The environment cost allocation per kilogram for Chemical XA is ₹ 0.72 per kg and Chemical XB is ₹ 0.12 per kg.
The average environment cost per kg for overall production is ₹ 0.2933 per kg.

Examiner Comment: This question was related to calculation of environmental cost per kilogram. Most of the examinees who attempted this part scored full marks.

Question 24.
(Environmental Management Accounting)
Following three independent situations pertaining to environmental management and sustainability are provided to you:
Situation I
Asco Limited is a chemical company which uses chloro-fluorocarbons (CFC) in the production of chemical. As awareness of the environmental damage caused by CFC spread, Asco Limited stopped using CFC in its production processes and analysed and redesigned its product range much before the legislation controlling use of CFC introduced by the Government.
Situation II
Energy drink manufacturer Cola Limited was ordered to submit a yearly report to the Ministry of Environment and Forests on activities, which contains information concerning collection, recovery and recycling of packaging waste, fulfilment of the targets, volume of recovered and recycled packaging waste by type of material and declaration that all compulsory contributions and taxes have been paid.
Situation III
KOA Limited has achieved a 25% reduction of energy consumption through its “Go Renewable” initiative. For, the company a 25% reduction represents a cost saving of about ₹ 30,00,000/-.
Required
Read the above three situations and EXPLAIN any 2 items from (i), (ii) and (iii) below:
(i) Why Asco Limited stopped using CFC and redesigned its product range much before legislation introduced by Government? (5 Marks)
(ii) The risk exposure of Cola Limited. (5 Marks)
(iii) How focusing on environmental sustainability provides opportunity to KOA Limited for reducing costs? (5 Marks) [MTP Oct. 2019]
Answer:
(i) Ever increasing and demanding environmental regulation is forcing companies to change their practices. In many countries, numerous pieces of legislation cover areas such as air quality, climate change, hazardous substances, packaging, waste, and water quality.
The trend is very much in the direction of increased and more stringent legislation. Environment sustainability is not an issue that can be avoided by any organisation. Organisations need to consider how environmental regulation will impact their operations and the cost of doing business.
By stopping the use of CFC much before the legislation, Asco Limited gained advantages over its rivals. Asco’s actions were integral to its own strategic success, and instrumental in driving through the subsequent legislation from which the company later benefited.

(ii) Organizations increasingly have to demonstrate that they are man-aging all of their risks systematically and responsibly. This includes environmental risks. By assessing the environmental risks associated with their activities, processes, product, and services, organizations can identify their potential legal and business exposure. Non-compliances can cause enormous financial impacts, such as fines, penalties, legal costs, and damages.
Thus, Cola Ltd is exposed to environmental risks.

(iii) Focusing on environmental sustainability will often provide opportunities for reducing costs. For example, reducing carbon impacts often also saves energy costs. Similarly, programmes for reducing wastes improve environmental performance and reduce operating costs.
Reducing environmental impacts can also reduce or eliminate associated tax, levies, and other compliance costs.
Focusing on environmental sustainability thereby making investments in developing clean technologies and more energy-efficient products and processes will not only save the organization money, but could also be patented and/or sold to other organizations, providing an additional source of income. KOA Limited may have carbon credit for efficiency in reducing energy and sell on the open market, thereby actually generating revenue.

Question 25.
Environmental Management Accounting)
MAX is an agro fertilizer company produces Grade Y and Grade Z fertilizers. One kilogram of Grade Y fertilizer sells for ₹ 280 per kilogram and one kilogram of Grade Z fertilizer sells for ₹ 400 per kilogram.
The products pass through three cost centers CX1, CX2 and CX3 during the manufacturing process. Total direct material cost per kilogram of fertilizer produced is ₹ 300 and direct labour cost per kilogram of fertilizer produced is ₹ 200. Allocation between the cost centres is given below:

All of expenses (considered to be overheads) per kilogram of fertilizer produced is ₹ 150. This is allocated equally between Grade Y and Grade Z fertilizer. Pricing decisions for the fertilizers is made based on the above cost allocation.
The management accountant of the company has recently come across the concept of environmental management accounting. Pricing of products should aiso factor in the environmental cost generated by each product. An analysis of the overhead expenses revealed that the total cost of ₹ 150 per kilogram of fertilizer produced, includes incinerator costs of ₹ 90 per
kilogram of fertilizer produced. The incinerator is used to dispose the solid waste produced during the manufacturing process. Below is the cost center and product wise information of solid waste produced:

Based in the impact that each product has on the environment, the management would like to revise the cost allocation to products based taking into account the incinerator cost that each product generates. The remaining overhead expenses of ₹ 60 per kilogram of fertilizer produced can be allocated equally.
Required
(i) CALCULATE product wise profitability based on the original cost allocation. RECALCULATE the product wise profitability based on activity based costing methodology (environmental management accounting). (12 Marks)
(ii) ANALYZE difference in product profitability as per both the methods. (4 Marks)
(iii) RECOMMEND key takeaways for the company to undertake the above analysis of overhead costs and pricing as per environmental management accounting. [RTF Nov. 2018] (4 Marks)
Answer:
(i) Product Wise Profitability as per Original Allocation Methodology
(Figures in ₹ per kilogram of fertilizer produced)

Particulars	Grade Y	Grade Z	Total
Selling Price	280	400	680
Direct Material (Refer Table 1)	114	186	300
Direct Labour (Refer Table 1)	76	124	200
Overheads (allocated equally)	75	75	150
Total Expenses	265	385	650
Profit	15	15	30
Profitability	5.3696	3.7506	X

Table 1 Allocation of Direct Materials and Labour as per Cost Centre and Product

Product Wise Profitability (activity based costing using environmental management accounting) requires the following steps:
1. Overhead expenses of ₹ 150 per kilogram of fertilizer produced be first bifurcated into incinerator costs and other overhead costs.
2. Incinerator costs of ₹ 90 per kilogram of fertilizer needs to be allocated first to the cost centres. This is done based on the waste generated at each cost centre. The individual cost allocated to each cost centre is again allocated to products based on the waste generated at each cost centre by each product. Refer part a of table 2 for detailed calculations.
3. As mentioned in the problem, other overhead costs are allocated to each product at each cost centre level equally. Refer part b of table 2 for detailed calculations.
4. The above allocations to each product at a cost centre level is then summed up to get the product wise overhead cost allocation. Refer part c of table 2 for detailed calculations.

Accordingly, the Revised Product Profitability would be as follows:
(Figures in ₹ per kilogram of fertilizer produced)

Particulars	Grade Y	Grade Z	Total
Selling Price	280	400	680
Less: Direct Material (refer table 1)	114	186	300
Less: Direct Labour (refer table 1)	76	124	200
Less: Overheads (refer table 2)	66	84	150
Profit	24	6	30
Profitability	8.57%	1.50%	X

Table 2 Allocation of Overhead Expenses to each Cost Centre and Product
(Figures in ₹ per kilogram of fertilizer produced)

Part A: Allocation of Incinerator Cost from Cost Centre to each product (based on waste produced at each cost centre by each product)

Product	CX1	CX2	CX3	Total
Grade Y	12	18	6	36
Grade Z	12	12	30	54
Total Incinerator Cost	24	30	36	90

Part B: Allocation of Other Overhead Cost from Cost Centre to each product

Product	CX1	CX2	CX3	Total
GradeY	10	10	10	30
GradeZ	10	10	10	30
Total Other Overhead Cost	20	20	20	60

Part C: Total Overhead Cost (Cost Centre and Product Wise i.e. part a + b)

Product	CX1	CX2	CX3	Total
GradeY	22	28	16	66
Grade Z	22	22	40	84
Total Overhead Cost	44	50	56	150

Summarizing Product Profitability as per both methods:

(ii) As summarized above, originally the profit generated from Grade Y and Grade Z products, was ? 15 per kilogram. Grade Y was the more profitable product giving return of 5.36% compared to Grade Z’s return of 3.75%. This has been calculated by allocating overheads equally to Grade Y and Z.
During the year, 15 tons of waste is produced during the manufac-turing process. Grade Z fertilizer produces more waste that accounts for 60% of the waste. Therefore, Grade Z should bear higher amount of the incinerator cost compared to Grade Y. Allocation based on this premise, dramatically changes the profitability of the products. As calculated above, Grade Y fertilizer, due to lower incinerator cost allocation , generates a profit of ? 24 per kilogram of fertilizer. Grade Z’s profits accordingly are lower, since the product generates more waste and has to bear a larger share of clean-up expenses. Profitabil-ity of Grade Y increases to 8.57% while Grade Z falls dramatically to 1.50%.

(iii) The company can draw a number of conclusions from this analysis of overhead costs as per environmental management accounting. This analysis has helped the company reach the conclusion that Grade Z fertilizer produces more waste.

The company could adopt either of the following approaches:
(a) To maintain the same level of profitability, the company can increase the price of Grade Z by another ? 9 per kilogram. This is a 2.25% increase in the sale price of Grade Z fertilizer. Depending on the market for this grade of fertilizer, the company has to de-cide whether to increase the price of the product. While a price increase may be possible if the company has a strong market hold, it might be difficult if competition in the market is high or
(b) The other approach, a more sustainable approach that is the aim of environmental management accounting, would be to reduce the waste produced in the manufacturing process. This analysis, has quantified the waste generated in the process. Better manufacturing techniques, could save the company incinerator costs, that would yield better profits for the company.

Question 26.
(Environmental Management Accounting)
XYZ Ltd. is the leading manufacturer and exporter of high quality leather products – Product A and Product B.
Selling price per unit of Product A and Product B is ₹ 620 and ₹ 41 respectively.
Both the products pass through three processes – Tanning, Dyeing and Finishing during manufacturing process. Allocation of costs per unit of leather products manufactured among the processes are given below:

General overheads per unit of leather products manufactured are ₹ 230 which is allocated equally between Product A and Product B. Above cost allocation is the basis for the decisions regarding pricing of the products.
In this Industry, all the major production processes have environmental impact at all stages of the process, including generation of waste, emission of harmful gases, noise pollution, water contamination etc.
The management of the company is worried about the above environ mental impact and has taken initiative to preserve the environment like – research and development activities aimed at reducing pollution level, planting trees, treatment of harmful gases and airborne emissions, wastewater treatment etc.
The management of the company desires to adopt Environmental Management Accounting as a part of strategic decision making process. Pricing of products should also factor in environmen tal cost generated by each product
General overheads per unit of leather products manufactured are ₹ 230 which includes:
Treatment cost of harmful gases …… ₹ 80
Wastewater treatment cost ……….₹ 100
Cost of plan ti ng of trees ……….₹ 20
Process wise information related to generation of wastewater and harmful gases is given as below:

Required.
(a) CALCULATE the product w ise profitability based on the original cost allocation, (2 marks)
(b) RECALCULATE ihe product wise profitability based on activity based costing {Environment driven costs). (5 marks)
(c) ANALYZE the difference in product profitability as pet both the methods. (2 marks)
(d) RECOMMEND and EXPLAIN ihe four management accounting techniques for the identification and allocation of en vironmental costs. (8 marks)
(e) STATE why the management of environmental costs is becoming increasingly important in organizations. Give reasons. [MAY 2019 Exam] (3 marks)
Answer:
(a) Product Wise Profitability as per Original Allocation Methodology
(Figures in ₹ per unit of leather produced)

Particulars	Product A	Product B	Total
Selling Price	620	420	1,040
Direct Material (Refer Table 1)	286	174	460
Direct Labour (Refer Table 1)	186	114	300
Overheads (allocated equally)	115	115	230
Total Expenses	587	403	990
Profit	33	17	50
Profitability (96)	5.32%	4.05%	X

Workings
Table 1 Cost Allocation to the Products
(Figures in ₹ per unit of leather produced)

(b) Product wise profitability based on activity based costing using envi¬ronment driven costs requires the following steps:

• Breakdown of overhead cost of ₹ 230 per unit into treatment cost of harmful gases, wastewater treatment cost, cost of planting trees and other overhead costs. Refer Table 2 for the breakup.
• Treatment cost of harmful gases, wastewater treatment cost need to be individually allocated to various processes based on relevant cost drivers. Refer Table 3 for cost allocation to process.
• The overheads mentioned in point 2 thus allocated to the various processes, will be further allocated to products based on the spe-cific ratios given in the problem. Refer Table 4 for cost allocation to products.

Product Wise Profitability Statement based on ABC using environment driven costs
(Figures in ₹ per unit of leather produced)

Particulars	Product A	Product B	Total
Selling Price	620	420	1,040
Direct Material (Refer Table 1)	286	174	460
Direct Labour (Refer Table 1)	186	114	300
Allocation of Overheads
Treatment Cost of Harmful Gases (Refer Table 4)	50	30	80
Wastewater Treatment Cost (Refer Table 4)	62	38	100
Cost of Planting Trees (shared equally)	10	10	20
Other Overhead Cost (shared equally)	15	15	30
Total Expenses	609	381	990
Profit	11	39	50
Profitability %	1.77%	9.29%	X

Workings
Table 2: Breakdown of General Overheads per unit

Overhead	Amount (₹)	Allocation basis between products
Treatment Cost of Harmful Gases	80	Emission of Harmful Gases (cc per week)
Wastewater Treatment Cost	100	Wastewater Generated (litres per week)
Cost of Planting Trees	20	Equally between Products A and B
Other Overheads (balancing figure)	30	Equally between Products A and B
Total General Overheads per unit	230

Table 3: Allocation of Treatment Cost to various process
Process Wise Information

Cost Allocation to Process

Table 4: Allocation of Treatment Cost to Product A and B

(c) Analysis of the difference in product profitability as per both the methods
In the first method, general overhead costs are allocated to the prod-ucts A and B, irrespective of the environment costs that each product incurs. General overhead costs are to each product equally. The resultant product profitability shows that Product A yields 5.32% and Product B yields 4.05% profitability. Therefore, the XYZ Ltd. would conclude that Product A is more profitable.

In the next method, general overhead costs are bifurcated to identify “hidden” environment costs that are incurred on account of manufacturing these products. Environment costs are first traced to the process that generates harmful gases and wastewater, for which treatment is done. It can be seen that Tanning process, followed by Dyeing and Finishing process generates the maximum amount of waste. Therefore, by proportioning the cost based on the waste generated, more cost is allocated to Tanning the process. Similarly, Dyeing and Finishing are allocated lesser cost since they do not generate as much waste. It is further given that 70% of the cost of Tanning relates to Product A. This is much higher than the 50% that was allocated to the Product as per the first method.

Accordingly, the revised workings show that Product A yields 1.77% and Product B yields 9.29% profitability. The reason being, Product A generates more environment driven costs as compared to Product B.
XYZ Ltd. would therefore increase the selling price of Product A if it wants to maintain profitability as per the original method. However, the more sustainable approach would be find out ways of reducing wastewater and harmful gases the manufacturing process produces. This would in turn result in reduction of environment driven costs such as wastewater treatment and treatment of harmful gases. This would sustain profits in the long run.

(d) Four Techniques for the identification and allocation of Environmental Costs
Input-Output Analysis: This technique monitors the material input with the output that is produced. For example, if 100kg of material have been bought and input in the process resulting in 80kg output material, the 20kg must been accounted in some way. Some part of this may say 10% (2kgs) may have been sold as scrap while the re-maining 90% (18kgs) of it may be waste. Possibly scrap can be reused therefore may have neutral environment impact. The company can then concentrate on minimizing waste generation.
Flow Cost Accounting: This technique uses not only material flows but also the organizational structure. Classic material flows are recorded as well as material losses incurred at varioils stages of production. Flow cost accounting makes material flows transparent. It tracks:
(i) quantities (physical data);
(ii) costs (monetary data) and
(iii) values = (quantities × costs).

Material flows are divided into three categories: material, system, and delivery/disposal.
(i) The material values and costs apply to the materials which are involved in the various processes.
(ii) The system values and costs are the in-house handling costs, which are incurred inside the company for the purpose of maintaining and supporting material throughput. Example personnel costs or depreciation.
(iii) The delivery and disposal values and costs refer to the costs of flows leaving the company for example transport costs or cost of disposing waste.
The focus of flow cost accounting is on reducing the quantities of materials, which leads to increased ecological efficiency.

Life Cycle Costing: This technique considers the costs and revenues of a product over its whole life rather than one accounting period. Therefore, the full environmental cost of producing a product will be taken into account. In order to reduce lifecycle costs, an organization may adopt a TQM approach. Good environmental management is increasingly recognized as an essential component of TQM. Such organizations pursue objectives that may include zero complaints, zero spills, zero pollution, zero waste and zero accidents. Information systems need to be able to support such environmental objectives via provision of feedback of the organizational efforts in achieving such objectives.

Activity Based Costing (ABC): ABC allocates internal costs to cost g centres and cost drivers on the basis of the activities that give rise to the costs. Environment-related costs can be attributed to joint cost % centers and environment-driven costs are hidden on general overheads, Environment-driven costs are removed from general overheads and traced to products or services. The cost drivers are determined on environment impact that activities have and costs are charged accordingly. This should give a good attribution of environmental costs to individual products that should result in better control of costs.

(e) Reasons why environmental costs is becoming important in organizations
(i) “Carbon footprint” measures the total greenhouse gas emissions caused directly and indirectly by a person, organization, event or product. People are now becoming aware about the carbon footprint and recycling. Several companies have initiated CSR committees as they feel that portraying themselves as environmentally responsible makes them popular among their consumers,
(ii) Environmental costs are becoming huge for some companies particularly those operating in highly industrialized sectors such as oil production. Such significant costs need to be managed.
(iii) Regulation is increasing worldwide at a rapid pace, with penalties for non-compliance.

Question 27.
Case Scenario : (Environmental Management Accounting)
NTA Oil Ltd., an Indian oil company, is the leading manufacturer of all streatns of oil and engaged in refining (processing capacity 50MMTPA of crude oil), pipeline transportation and marketing of petroleum products to research & development, exploration & production, marketing of natural gas and petrochemicals. The company has high -caliber employees, sophisticated technologies and leading-edge R&D. By venturing itself into the renewables and the nuclear energy, NTA has grown and evolved itself from a pure petroleum re fining and marketing company to a full-fledged energy company. Due to government’s new environmental policy, environmental report is mandatorily required to be submitted yearly for the prescribed industries polluting environment substantially otherwise would be penalized. Energy sector also falls in these prescribed industries. NTA has already taken initiatives to control air pollution and water pollution like use of low sulphur fuel oil in boilers and heaters & NOx burners to minimize gas emission, network of underground sewers for segregated collection of various wastewater streams for waste water management, however while preparing and analyzing environmental report, Mr. K V Sharma, CEO, is not happy with high environmental cost in terms of Waste (oily/chemical/ biological sludge, scrape batteries, e-waste, chemical containers, effluents etc.), Raw Material Consumption, Water Consumption, Energy and Transportation. He raised his concern with Board of Directors and they have decided to appoint you as an environmental management accounting expert to manage environmental cost.
Required
APPLY Environmental Management Accounting in NTA to manage environmental costs.
Answer:
Environmental Management Accounting (EMA) is the process of collection and analysis of the information relating to environmental cost for internal decision making. EMA identifies and estimates the cost of environment related activities and seek to control theses cost.
In NTA, during refinery operations, waste water, fugitive emissions, flue gases and solid wastes are generated. Due to this excess waste and gas emission, environmental cost rises. Scarce natural resources should be used in such a way so that their consumption is sustainably optimized. In order to cutback environmental cost, EMA can be applied as follows:

Waste
NTA should measure, manage and monitor waste from operations in order to minimise impact on people and the environment. ‘Mass balance’ approach can be used to determine how much material is wasted in production, whereby the weight of materials bought is compared to the product yield. From this process, potential cost savings may be identified.
In NTA, wastes are oily/chemical/biological sludge, scrape batteries, e- waste, chemical containers, effluent etc. Waste generated in operations is either treated within the premise or disposed through approved waste treatment, storage, and disposal facility. To avoid the usage of chemical drums/containers in large quantity, separate storage tanks can be created for bulk storage of additives to reduce the drum procurement and disposal.
Further, refineries in operation should be upgraded from time to time to minimize waste.

Water Management
Businesses pay for water twice – first, to buy it and second, to dispose of it. If savings are to be made in terms of reduced water bills, it is important for NTA to identify where water is used and how consumption can be decreased.
For water conservation, sustainable water management techniques should be adopted. In refining operation, water is mainly used in boilers and cooling units. Collective efforts should be made to optimize water consumption and maximum reuse of used water. Advanced treatment system like rain water harvesting, ultra-filtration, reverse osmosis etc. may be used for water purification for further use. This would lead to substantial reduction in intake of fresh water.
In addition, NTA staff should be alerted for water conservation through seminars, presentations, conference, awareness campaigns.

Energy
Often, energy costs can be reduced significantly at very little cost. Environmental Management Accounts may help to identify inefficiencies and wasteful practices and, therefore, opportunities for cost savings. Some of energy conservation initiatives may be taken by NTA like:

• Conducting periodic energy audits for identifying energy saving op-portunities.
• Phasing out conventional lights and replacement with LED lights/ induction lights.
• Power factor improvement by installation of capacitor banks.
• Installation of 5 star rated energy equipment.
• Prevention of idle running of equipment.
• Installation of solar lights.
• Use of Nano molecular thermal additives in ACs.
• Installation of efficient energy monitoring system for energy intensive equipment.
• Capacity improvement for batteries.

Consumables and Raw Material
Refineries ‘refine’ crude oil in massive quantities, to produce the fuels need. There should be continuously monitoring on optimum utilization of crude oil to improve gross refining margin. The gross refining margin I is the difference between the total value of petroleum products coming out of an oil refinery (output) and the price of the raw material, (input) which is crude oil. Even not only crude oil there should also be optimum and sustainable utilization of resources like additives, chemicals etc. from procurement to production stages.
NTA may use recyclable technology for raw material and consumable wastages which provides sustainability in terms of environmental protection and reduction in carbon footprint. Periodic testing should be performed to assess the health of equipment and pipelines as to have better process of raw materials and consumables.

Transport
Again, EMA may be used to identify saving in terms of transport of goods and materials. At NTA, in order to cutback emission and fuel consumption due to transportation, route optimization activity may be used like allocation of customer on the basis of nearest depots and locations as to reduce distance, real time fleet tracking using GPS (to make sure that vehicles do not deviate from assigned shortest route) etc.

Question 28.
A chemical company produces two chemicals SX and ZX. Environmental activities arid costs associated with the two chemicals are as follows;

	SX	ZX
Unit produced (kg.)	6,00,000	15,00,000
Packing Materials (kg.)	80,000	40,000
Energy Usage (KWH)	60,000	30,000
Toxin releases (Pounds into the air)	2.00,000	40,000
Pollution control machine hours	32,000	8,000

Cost of environmental activities:
Packing material Costs	₹ 3.60,000
Energy Costs	₹ 96.000
Fines for release of toxins into the air	₹ 48,000
Operating costs of pollution control equipment	₹ 1,12,000

Required
CALCULATE the environmental cost per kilogram for each chemical produced by the cdinparty.
Answer:
Environment costs can be allocated to Chemicals SX and ZX using Activity Based Costing.

The environment cost allocation per kilogram for Chemical SX is ₹ 0.7227 per kg and Chemical ZX is ₹ 0.1216 per kg.
The average environment cost per kg for overall production is ₹ 0.2933 per kg.

Question 29.
(Environmental Management Accounting)
SBL have been recognized as a manufacturers and exporters of fhjgh quality Bangles, designed, and manufactured using optimum quality raw material, sourced from trustworthy vendors of the market.
Manufacturing Process
The process of manufacture of glass bangles is highly skilled labour oriented one comprising of the following main operations:

In first phase, glass batch materials like sand, soda ash, lime stone feldspar, borax etc. with other additives and colouring materials in a suitable proportion are mixed manually and fed into the pot places in pot furnace. The raw’ material is melted in the furnace at a temperature of about 1300 – 1400 (°C) to obtain molten glass.
In second phase, molten glass is drawn from the pot of the furnace with the help of the iron pipe and formed into gob to gather required quantity of glass for formation into parisons on iron plates. The parisons of different colours are joined together and reheated in an auxiliary furnace to obtain required designs.
In third phase, the reheated parison is then transferred to ‘Belan Furnace’ from which the glass is further drawn into spiral/coil of bangles on the spindle counted and rotated manually at uniform rate of revaluation synchronizing with the manually at the other end of the furnace. Spiral are then taken out from the spindle and cut with the help of a pencil cutter to separate out the single pieces of bangles from spiral. These cut or unjoined bangles are then sent for joining of end, finishing cutting & polishing, decoration etc. The finished products are then neatly packed for sale.

Environmental Impact
But unfortunately, these processes have environmental impact at all stages of the process, including emissions of airborne pollution in the form of ashes, gases, noise and vibration.

Conditions of the Workplace
Due to limitations of maintaining appropriate temperature for melting and moulding of the glass, furnaces are kept burning. Therefore, workers have to work with such working conditions continuously without proper leisure time.
The abovementioned factors become more harmful while working in immense heat and sound which is normally higher than permissible levels.

Health Impact
A recent study has revealed adverse impact of pollution over workers and people who are living in nearby area.
Management Initiatives
The management of company is worried about environmental impact and health impact and has taken certain initiatives in taking care of environment like-batch house cyclonic dust collector, noise absorbing device, natural gas fired furnace, better refractory materials, training for waste minimization, treatment of solid waste, research and development activities aimed at reducing pollution level, planting trees, treatment of nitrogen oxide and other harmful gases.
Management desires to adopt environmental management accounting as a part of strategic decision making process.
Required
(i) EXPLAIN the requirement to have environmental management accounting and IDENTIFY the SEL’s environmental prevention, appraisal, and failure costs.

(ii) ANALYZE the appropriateness of SBL incorporating the following in implementing Environmental Management Accounting:
Activity Based Costing

• Life Cycle Costing
• Input Output Analysis

(iii) EXPLAIN the need of non-financial consideration in decision making and suggest safety measures that can be taken into consideration for workers.
Answer:
Environmental management accounting (EMA) is the generation and analysis of both financial and non-financial information in order to support internal environmental management processes ie. identification, prioritization, quantification and recording of environmental cost into business decision.

By adopting EMA, SBL will have following benefits:

• Product Pricing.
• Budgeting.
• Investment Appraisal.
• Calculating Investing Options.
• Setting Quantified Performance Targets.
• Assessment of Annual Environmental Costs.
• Environmental Performance Evaluation, Indicators and Benchmarking.
• External Reporting- Disclosure of Environmental Expenditures, In-vestments and Liabilities.

Environmental Costs of SBL

• Environmental Prevention Cost: These costs are basically incurred in relation to activities undertaken to prevent the production of waste that could harm the environment. Company’s efforts to minimize the effect of its activities on the environment li ke installing batch house cyclonic dust collector, natural gas fired furnace, better refractory materials, training for waste minimization, research and development activities, noise absorbing device and planting trees can be classified as Environmental Preventive Cost.
• Environmental Appraisal Costs: It means costs incurred in relation to activities undertaken to determine whether product processes and other activities within firm are complying with environment standards.
  SBL may perform ‘Contamination Test’ to observe the environment compatibility of its processes can be categorized under environmental appraisal cost.
• Environmental Failure Cost: It means cost incurred in relation to activities dealing with pollution arising from the activities of entity includes costs related to treatment harmful gases and treatment of solid waste.

Appropriateness of Techniques for Identification and Allocation
Activity Based Costing
This costing technique would help the SBL to separate environmental costs from the general overheads and allocate them to glass bangles by identifying appropriate drivers of these environmental cost. Possible environment activities for environmental costs and their drivers are:

Activity	Cost Drivers
Planting of trees	Number of trees planted
Treatment of nitrogen oxide (in the same way, activity and related cost driver for other gases would he determined)	Volume of nitrogen oxide treated
Solid waste removal	Volume of such waste
Research and development activities	Man hours worked for such activities

By using this costing in EMA, SBL would be able to identify, record and control the environmental costs relating to various stages in the life of glass bangles. At each of following stage environmental cost would be incurred:

• In raw material stage, some natural product would be purchased.
• In manufacturing stage, emission and treatment of nitrogen oxide & other gases and treatment of solid waste.
• In marketing and distribution stage, environmental cost relating to S transportation of glass bangles to various customers.

Input/Output Analysis
Here detail analysis of input and output of a system is done for the purpose of assessment of ecological wellbeing of entity’s products, processes and other activities. This technique is based on the fact that whatever goes into the system has to come out of it.
In case of SBL, it can evaluate the volume of sand, soda ash, lime stone feldspar, borax etc. and the resulting volume of output ie. glass bangles. Through such evaluation, the SBL would be able to allocate and analyses environmental cost attributable to input and output of glass bangles.

Non-Financial Considerations
Entities generally give emphasis on financial measures such as earnings and accounting returns but little emphasis on drivers of value such as customer and employee satisfaction, innovation and quality. Due to which mostly companies could not continue in long term. So for the purpose of achieving long-term organizational strategies, non-financial consideration should be taken into account. Without this it may be that company achieve short term goal but would be difficult to achieve long term goal.
In SBL, it can be clearly seen that there is great impact on health of workers.
By creating a safe and healthy environment for employees, SBL can improve productivity, business performance, staff morale and employee engagement. Further, SBL will also be able to reduce – accidents/work related ill health/sick pay costs as well as insurance costs. A healthy workforce can demonstrate corporate responsibility. If SBL look after employees, business is likely to have a more positive public image.

To create safe and healthy environment following measures can be taken into consideration:

• Safety monitoring system.
• workers must be trained.
• Recruitment of more workers.
• First aid kit should be available.
• Protective glasses, clothes, gloves should be provided. Regular health check-up camps and awareness programs.

Question 30.
Case Study
Sweet Homes, a US based MNC, started its Indian operations with opening of few stores in its nascent phase. In recent times, it started running nationwide stores in India selling range of home-based products right from home improvement tools, decors, electronic appliances to small kitchen utilities like steel pans, non-stick dishes, kitchen organizers, knifes, cardboards, countertop stickers, ice cream molds, chocolate molds and alike. It had gained wide popularity particularly among the ladies’group of India since its expansion of the product line. Previously it was selling just the intermittently purchased home-based products like furniture and appliances. It was the extended accessibility to daily utilities that elated the ladies’ group about visiting the stores. Some women referred Sweet Homes as the one stop search for all their necessities.
Sweet Homes manufactured some of the products rather than making an outright purchases and sales thereof of all its products. To make various kinds of furniture and kitchen based small utilities, it derived its raw materials directly from local market which were mostly the recycled materials like plastics, scrapped items, used furniture and alike rather than the raw wood, forest products and firsthand products. Its raw materials were therefore capable of generating various forms of work in progress. The work in progress and finished product relation worked in similar fashion. From a particular WIP, it was capable of generating multiple outputs. Therefore, the firm kept its material cost low and primarily relied on the recycling process, thereby keeping up its pledge to serve the environment.

For the in-house manufactured products, the materials department of the firm functioned in the below manner:
(1) The manager of the department kept a watch on each type of inventory levels in the warehouse.
(2) He then estimated the required production based on historical demand and long-term forecasting policies of the firm.
(3) A room was also left for safety stock so that any unforeseen delay in delivery of the goods could be covered.
(4) Based on the existing inventory and production plans and safety stocks, inventory replenishment levels were calculated.
(5) Once the stock reached its reordering level, an order to replenish the stock was being sent to the vendor.
(6) Based on departmental orders, vendor delivered the materials.
To manufacture the finished products i.e., to convert raw material to finished good, the intervening time was 3 weeks. It will take approximately take 4 weeks to deliver the in-house manufactured product from the time order is received. The standard lead time of sirnilarproducts in industry is 2.5 weeks.
For products purchased out-rightly, a purchase order was prepared by the purchasing department basedon the inventory in hand and expected demand. Some of those products did show a sketchy demand pattern, with surge irtdemand for lame reasons. However, the department did not ta ke intoiuccoun t safety stocks for any of these purchased products, since the cost to maintain such inventories were high and the costs of these products itself were high enough. The problem however was failure to meet surprise order’s or sudden increase in demand.
People weregetting busier and there was hardly any time to procrastinate buying things they need until they could visit the stores based on their availability. Moreover, it was just thilmetro cities, that had overwhelming number of stores, but states like Gujarat and Odisha remained an untapped target with very few stores only in the developed parts of the cities. Sweet Homes ’agenda was not just to add more variety to its existing offerings, but to reach people all around the country since it perceived manifold needs were yet unmet.
Going digital was a challenge since its popularity was limited to its store locations and therefore it was dubious of its acceptability among the nationwide customers. It was prepared for an extensive marketing of is digital channels though and funds were not a problem. Having heard about the peaking demand of businesses for E-Customers, it was support live of the idea and considered to follow the suit.
From is US operations, it was very well aware about the expectations of its E-Customers and the quality of service they desire from their E-Sellers, They tend to be progressively demanding and expect their orders to be processed in couple of hours aftei being placed.
They do not want to grapple with the tracking information of their package. They need real time update of their package location so that there are no abrupt surprises about the delivery rime and the condition of the package. They like to purchase h ow E-Seilers who offers cam petit i ve prices accompanied with free s hipping and on time delivery. That is all mo much tor a developing market, like India.
The biboar cost is relatively low in India but the infrastructure in not adequately sound to guarantee the same level of service at their expected prices. Indian market is not similar to the US market, theie being an immense cultural gap. The income of the middle-class people is also not remarkably high and hence ihev can spend sparingly on things that at e not paramount on their list. Kitchen items though marked as access by the women section of the society were not real necessities In comit sense. Hence the firm thought of applying the pat ad ignis of Target Costing to set the ptice of iheir online products such that they remain competitive before their E Customers. :
The firm also needs a flawless Supply Chain Management [SCM] System in Indian environment, but the back-office team of the firm had Utile knowledge about this usui of the E Commerce project a nr! it did not see the light of the day. Now they need you to help them shape up the SCM look of Sweet Homes.
Required
Given the facts of Sweet Homes, answer the following questions:
(i) DISCUSS the suitability of Target Costing concept to Sweet Homes?
(ii) Critically ASSESS its current inventoty management system and RECOMMEND suitable changes in light of its business strategy.
(iii) AD VISE the SCM look for Sweet Homes as per their requirement.
Answer:
(i) Usually, we notice a suit of prices of products being determined bascd on the cost of their production, keeping a room for desired margin.
In contrary to this, the then originated Japanese concept tells us to estimate selling price at first place, to be determined based on the price the market is currently willing to pay for a similar product. Thus, the prices here are not based on the cost of their products rather costs have to be targeted and thus the name “Target Costing”. This means once price is determined and profits are set aside, the remainder becomes the costs to be achieved. In striving to reach the cost goal, myriad managerial techniques and tools like Value Chain Analysis/ Value Reengineering, Six Sigma, are used. These techniques are used keeping in mind the focus (i.e., to control cost in order to meet the target without compromising the quality and value to be derived from the product). As such, various costs incurred with respect to product like design cost, manufacturing cost, storage cost, transportation cost are destined to be controlled.

Target Cost concept is very much relevant in Sweet Homes’ situation since it is considering to digitize its business where competition is intense specifically with regards to the prices of similar products. Since the products offered by Sweets Homes lack much differentiation, the unique selling point of the firm can be to offer quality products at low prices. Further, E-Commerce will mostly require the firm to 5 operate as per Just in Time (JIT) approach that will reduce inventory g maintenance burden and also reduce wastage, thereby controlling j§ costs. Thus, Target Costing and E-Commerce go hand in hand.

We must also keep in mind that the firm can apply Target Costing concept to both its manufactured products and the products purchased out-rightly. For the merchandise goods, Sweet Homes can plan to control various fixed cost (i. e., storage and inspection cost) and variable cost (ie,, selling cost) incurred to handle such goods such that lower prices can appeal wider customer base. Moreover, to achieve low costs for its supplied products, it will have to enter into long term contracts with dedicated suppliers. Considering the E-Market, the scope of its operations will expand and therefore the demand may also increase. Thus, suppliers can funnel the discounts in form of low prices only if a commitment for long term purchases is made by the firm.

(ii) Currently, Sweet Homes operates physical stores at which time invento-ries of raw materials, WIP and finished products are maintained at the stores and in warehouses considering the demand directly dependent upon the store locations. It has been blocking large assets in form of various inventories piled- up to coordinate its production and retail function.

The three forms of inventories related to products that Sweet House manufactures are maintained in a traditional manner which seems to be out of the place for an E Retailer. Sweet House forecasts demand based on its internal policies and historical trends. Today demand in every sector of the market changes by leaps and bounds, so using historical data is not at all recommended. Demand forecasts should be pulled by current market trends and prediction of future market sentiments. For example, Corona Virus pandemic has drastically changed the face of world, where demand for some products have taken a leap while some will continue sitting on the shelves for a pro-longed period. People are refraining themselves from going to stores and online retailers like Amazon are reaping the benefits from this situation.

In the process of maintaining inventory, Sweet Homes is also building up too much safety stock which takes up cost and space. The lead time of the firm is remarkably high relative to industry standards, which is untenable in an E-Environment. Failure to accommodate customers request as per industry norms, means losinga large chunk of customers who do not want to wait.

Now when the firm is thinking of going digital, the scenario will be totally different. With the switch over to e-commerce, production and purchase mechanism will also have to undergo a drastic change. Just in time purchasing and production technique will put an end to the harrowing task of inventory management. In this form of pull system, purchasing of merchandise goods and production of in-house goods will be based on online customer demands and Sweet Homes will have to accordingly coordinate with its suppliers to supply the right quantity of raw materials required at the right time. JIT inventory management calls for having the inventory as and when needed also taking care of massive holding cost suffered related to large build ups. The trick is to set up plants in close proximity to chain of suppliers’ location to ensure several pick-ups each day rather than holding on to bulks. ERP and other sources of electronic data interchange between supplier and Sweet Homes will act as backbone in supporting the JIT activity. In this environment, Sweet House will also be able to reduce the lead time to deliver the ordered products from 4 weeks to around 2.5 weeks by streamlining the flow of information in entire supply chain.

For the products purchased from its suppliers, it is recommended that Sweet Homes should employ vendor managed inventory technique. Under this, rather than firm controlling the inventory management system, it is the suppliers who manage it. This is implemented by al-lowing the suppliers of the firm to access the inventory information

from all locations ie., warehouse, retail stores and distribution centers. They access the inventory data and then decide accordingly on sending/replenishing the inventories. For example, using the point of , sales technology, data from stores can flow to centralized database showing units sold and units in the stores, that can be accessed by suppliers to anticipate demand and refill requirement in each store. Similarly, to manage the inventory at warehouse, RFID (radio frequency identification) technique can be used to pick up, process and ship the order. For an inbound shipment too, this technology can easily scan the product information in seconds, leaving no room for human intervention. The access of this real time data can be allowed to vendor, to manage Sweet Homes’ inventory.

In a nutshell, the onus and cost of inventory management passes on to the suppliers, thereby underpinning the cost leadership strategy of Sweet Homes. Low cost of inventory management will consequently reduce the overall cost of inventory and thus help, in achieving set cost targets.
(iii) The supply chain management system of Sweet Homes can be designed, in the following manner:
(a) As already known, E-Commerce firms works on low inventories relative to physical stores, therefore Sweet Homes is pondering aj about changing its inventory management technique. So, it is f time for the firm to focus on building strong collaborations with suppliers so that the lead time of orders placed by Sweet Homes can be kept at minimum. Quality of the product offered by such suppliers also cannot be overlooked anymore since E-Sellers not only make speedy shipments but also guarantee hassle free returns of the delivered product if their products fail to meet the specifications given in their website. Strong tie up with suppliers will assist the firm in meeting the ever-changing demand of its customers in this technological landscape.
(b) Moreover, by implementing vendor managed inventory, as an effective SCM tool, much of the onus of inventory management for its purchased products will shift onto suppliers.
(c) For the in-house manufactured products, Sweet Homes needs to ensure that there is pool of dedicated suppliers in the country who can supply expected materials on a timely basis. Further, in the areas where there is dearth of such suppliers, it will have to arrange transportation of the finished goods. To keep the overall cost of product low, it should abide by the cost per touch inven tory system (successfully employed by the prominent furniture brand IKEA. It relies on the concept of passing the cost savings to its customers by putting up their products together in easy to assemble packaging enabling their customers themselves to select and pick up the product from the store. In a nutshell, less the products get touched in shipping and subsequent storage process less will be the overall cost of product).
Most E-Retailers maintain number of distribution centers close to their customer locations such that the outbound logistics process works in a seamless fashion and customers end up receiving their packages on the promised dates. For this to happen, Sweet Homes should be ready to make large capital investments in setting up distribution centers in the densely populated parts of Indian cities.
For the picking process of the goods in line with the order, it can make use of multifaceted robotics technology with some human participation. This technology can assist human pickers in locat-ing the required goods faster and with minimal error, thereby speeding up the entire flow.
In the marketing section of supply chain, Sweet Homes should use skillful data scientists to pull overwhelming data based on customer searches which can be analyzed to recommend products most useful to them. Further it could resort to TV advertisements, public banners and other prominent modes to propagate the digitization of its business.

Lean System and Innovation – CA Final SCMPE Question Bank is designed strictly as per the latest syllabus and exam pattern.

Lean System and Innovation – CA Final SCMPE Question Bank

Question 1.
Write Short Note on:
Six Sigma process in Quality Management. (June 2012, 5 marks) [CMAFG III]
Answer:
Six Sigma is a business management strategy, originally developed by Motorola in 1986. Six Sigma seeks to improve the quality of process outputs by identifying and removing the causes of defects (errors) and minimizing variability in manufacturing and business processes. It uses a set of quality management methods, including statistical methods, and creates a special infrastructure of people within the organization.

A six sigma process is one in which 99. 99966°/c of the products manufactured are statistically expected to be free of defects (3.4 defects per million). Motorola set a goal of six sigma” for all of its manufacturing operations, and this goal became a by word for the management and engineering practices used to achieve it.

Six Sigma projects follow two project methodologies. These methodologies, composed of five phases each, bear the acronyms DMAIC and DMADV

• DAIC is used for projects aimed at improving an existing business process.
• DMADV is used for projects aimed at creating new product or process designs.

DMAIC
The DMAIC project methodology has five phases:

• Define the problem, the voice of the customer, and the project goals, specifically.
• Measure key aspects of the current process and collect relevant data.
• Analyze the data to investigate and verify cause and effect relationships. Determine what the relationships are, and attempt to ensure that all factors have been considered. Seek out root cause of the defect under investigation.

Improve or optimize the current process based upon data analysis using techniques such as design of experiments, mistake proofing, and standard work to create a new, future state process. Set up pilot runs to establish process capability.

Control the future state process to ensure that any deviations from target are corrected before they result in defects. Implement control systems such as statistical process control, production boards, visual workplaces, and continuously monitor the process.

The DMADV project methodology, also known as DFSS (“Design for Six Sigma”), features five phases:

• Define design goals that are consistent with customer demands and the enterprise strategy.
• Measure and identify CTQs (characteristics that are Critical to Quality), product capabilities, production process capability, and risks.
• Analyze to develop and design alternatives, create a high-level design and evaluate design capability to select the best design.
• Design details, optimize the design, and plan for design verification. This phase may require simulations.
• Verify the design, set up pilot runs, implement the production process and hand it over to the process owner(s).

Question 2.
Write a note on “Kaizen Costing”. (June 2015, 7 marks) [CMAFG III]
Answer:
Kaizen is a Japanese term meaning “change for the better”. The concept of Kaizen encompasses a wide range of ideas; it involves making the work environment more efficient and effective by creating a team atmosphere, improving everyday procedures, ensuring employee satisfaction and making a job more fulfilling, less tiring and safer.

A method of costing that involves making continual, incremental improvements to the production process during the manufacturing phase of the product/service lifecycle, typically involving setting targets for cost reduction. Some of the key objectives of the Kaizen philosophy include the elimination of waste, quality control, just-in-time delivery, standardized work and the use of efficient equipment.

An example of the Kaizen philosophy in action is the Toyota production system, in which suggestions for improvement are encouraged and rewarded, and the production line is stopped when a malfunction occurs.

Question 3.
Describe the Just-in-time systems. (Nov 2008, 6 marks)
Answer:
Just-in-Time
A complete JIT system begins with production, includes deliveries to a company’s production facilities, continues through the manufacturing plant and even includes the types of transactions processed by the accounting system.

1. The company must ensure that it receives it supplies on time, preferably directly at the production facility that needs them. The company engineers must assist suppliers at their premises and ensure defect free supplies. Thus raw material inventory is reduced if correct quantities are delivered as per production schedules.

2. Long set-up times are reduced into short ones by eliminating inefficiency. Thus the WIP is reduced and so is the number of products before defects are identified.

3. A ‘Kanban’ card, which authorizes production of the right quantity by its feeder machine ensures ‘pulling’ the production process and elimination of inventory. Another method is the introduction of a working cell, which is a cluster of machines run by a single trained operator. This also identifies defects quickly and reduces maintenance costs. Both methods are used together.

4. Work force is trained to be empowered to halt operations understand more about the system, product flow, different machines and thus, elaborate reporting of a past variance is eliminated.

5. Suppliers may be paid based on production units adjusted for defects.

Question 4.
What is Back flushing in JIT? State the problems that must be addressed for the effective functioning of the system. (May 2010, 4 marks)
Answer:
Back flushing requires no data entry of any kind until a finished product is completed. At the time the total amount finished is entered into the computer system, which multiplies it by all the components listed in the bill of materials for each item produced.

Problems that must be addressed for effective functioning of the system

1. Production reporting: The total production figure entered into the system must be absolutely correct.
2. Scrap reporting: All abnormal scrap must be diligently tracked and recorded; otherwise these materials will fall outside the back flushing system and will not be charged to inventory. ,
3. Lot tracing: Lot tracing is impossible under the back flushing system. It is required when a manufacturer needs to keep records of which production lots were used to create a product in case all the items in a lot must be recalled.
4. Inventory accuracy: Maintain accurate set of inventory records.

Question 5.
Answer the following:
Explain the concept of Just In Time approach in a production process. (Nov 2011, 4 marks)

Question 6.
The following independent situations are given in JIT systems of production. You are required to state if each recommendation is valid or invalid and give a brief reason. (Nov 2013,  4 Marks)

SituationRecommendation by the Cost Accountant

(i) A company produces LCD TVs Presently total inventory turnover is measured annually.	Compute inventory turnover every month. Break it down into raw material, WIP, expensive inventory and finished goods.
(ii) Textile company.	Accept employees’ claim for piece rate incentive for exceeding a certain production volume.
(iii) Sports goods manufacturing company	Closely monitor direct labour variances including idle time variances to convince employees to work faster.
(iv) Multi product production	Monitor the average set up time per machine in a period which is given by Aggregatesetuptime of all machines / Total number of machines

Answer:

Situation	Valid / Invalid
(i) A company pro­duces LCD TVs. Presently total inventory turnover is measured annually	Valid: JIT system emphasize extraordinary high inventory turnover. When a company is producing LCD TVs, total turnover of inventory will be high, when the recommendation of computing of inventory turnover and breaking it into raw material, W-I-P and finished goods is given JIT system is very much valid.
(ii) Textile company	Invalid: In textile industry, employees are paid extra if they exceed certain production volume targets. JIT focuses on producing only what is needed not to accumulate inventory on accountof high incentives. So, any piece rate system must be eliminated and replaced with measures that focus instead on the quality of output or the number of employee suggestions for improving the system, which are much more important outcomes in a JIT system.
(iii) Sports goods manufacturing company	Invalid: Monitoring Direct labour efficiency is highly inappropriate in JIT system. As JIT system unlike traditional system does not focus on fast workings of employees. Instead JIT focuses on quality of product manufactured. JIT system strives to avoid all unnecessary activities and hence eliminate non- value – added activities like monitoring direct labour variance including idle variance.
(iv) Multi product production	Invalid: The average setup time per machine is of great importance as it can be measured periodically and plotted on a trend line. The shortest possible setup intervals are crucial for the success of short production runs, so this is a major JIT measurement. It is best to measure it by machine, rather than in the aggregate, since an aggregate measure does not reveal enough information about which equipment requires more setup time reduction work.

Question 7.
What is meant by Business Process Re-engineering (BPR)? How can BPR be applied to an organisation? Give an example of BPR application. (June 2014, 2 + 6 + 2 = 10 marks) (CMAFG III)
Answer:
Business Process Re-engineering: is a business management strategy, originally pioneered in the early 19905, focusing on the analysis and design of workflows and process within an organization BPR aimed to help organizations fundamentally rethink how they do their work in order to dramatically improve customer service, cut operational costs, and become world-class competitors. In the mid 1990s, as many as 60% of the Fortune 500 companies claimed to either have initiated re-engineering efforts, or to have plans to do so.

BPR seeks to help companies radically restructure their organizations by focusing on the ground-updesign of their business processes. According to Davenport (1990) a business process is a set of logically related tasks performed to achieve a defined business outcome. Re-engineering emphasized a holistic focus on business objectives and how processes related to them, encouraging full-scale recreation of processes rather than iterative optimization of sub-processes.

An Example of BPR Application
For example, if a bank customer enters into the bank determined to apply for a loan, apply for an ATM card and open a savings account, most probably must visit three different desks in order to be serviced. When BPR is applied to an organization the customer communicates with only one person, called “case manager”, for all three inquiries.

The implementation of “One Stop Shopping” as a major customer service innovation, requires the close coordination with a team of staff assigned to a process powered by IT for exchanging information and documents in order to service the customer’s request.

For instance a customer applying for a loan “triggers” a team of staff assigned to service a loan application. The manager completes an application for a loan in electronic form, which in turn is submitted through the network to the next team member, the credit control director, who examines the credit status of the customer. If the credit status is not satisfactory the rejection of the loan is approved by the credit manager and a rejection form is filled and it is returned to the case manager. The case manager explains to the customer the reason that his application was rejected.

How can BPR be applied to an organization

1. Empowering people	Empowerment means giving people the ability to do their work: the right information, the right tools, the right training, the right environment and the authority they heed. Information systems help empower people by providing information, tools and training.
2. Providing Information	Providing information to help people perform their work is a primary purpose of most information systems although they provide information in many different ways.
3. Providing Tools	In addition to providing the right information, empowering people means giving them the right tools.
4. Providing Training	Since information systems are designed to provide the information needed to support desired work practices, they are often used for training and learning. As shown by an expert system and a decision simulator, they sometimes provide new and unique training methods.
5. Eliminating Unproductive Uses of Time	Information systems can reduce the amount of time people waste doing unproductive work.
6. Eliminating Unnecessary Paper	One common way to improve data processing is to eliminate unnecessary paper. Although paper is familiar and convenient for many purposes, it has major disadvantages. It is bulky, difficult to move from place to place and extremely difficult to use for analysing large amounts of data.
7. Eliminating Unnecessary Variations in the Procedures and Systems	In many companies, separate departments use different systems and procedures to perform essentially similar repetitive processes, such as paying employees, purchasing supplies and keeping track of inventories.
8. Minimizing the Burden of Record Keeping	Data Handling and General Office Work. Since processing data is included in most jobs, improving the way people process data is an obvious place to look for information system applications.

Question 8.
What are the types of companies where management may find difficulties in using Discounted Cash Flow Technique for Valuation? (June 2014, 4 marks) (CMAFG III]
Answer:
Limitations of DCF Valuation:
This technique requires a lot of information. The inputs and information are difficult to estimate. This technique cannot differentiate between over and undervalued stocks. It is difficult to apply this technique ¡n the following scenarios:

1. Negative earnings firms	For such firms, estimating future cash flows is difficult to do, since there is a strong probability of insolvency and failure. DCF does not work well since under this technique the firm is valued as a going concern which provides positive cash flows to its investors.
2. Cyclical Firms	For such firms earnings follow cyclical trends. Discounting smooths the cash flows. It is very difficult to predict the timing and duration of the economic situation. The effect of cyclical situation on these firms is neither avoidable nor separable. Therefore, there are economic biases in valuations of these firms.
3. Firms with un/underutilized assets	DCF valuation reflects the value of all assets that produce cash flows, if a firm has assets that are un/under utilized that do not produce any cash flows, the values of these assets will not be reflected in the value obtained from discounting expected future cash flows. But, the values of these assets can always be obtained externally, and added on to the value obtained from discounted cash flows valuation.
4. Firms with patents or product options	Firms often have unutilized patents or license that do not produce any current cash flows and are not expected to produce cash flows in the near future, but nevertheless, these are valuable. If values of such patents are ignored then value obtained from discounting expected cash flows to the firm will understate the true value of the firm.
5. Firms in the process of restructuring	Firms in the process of restructuring often sell, acquire other assets, and change their capital structure and sometimes dividend policy. Some of them also change their status from private to public. Each of these changes makes estimating of future cash flows more difficult and affects the riskiness of the firm. Using historical data for such firms can give a misleading picture of the firm’s value.
6. Private Firms	The measurement of risk to be used in estimating discount rates is the problem since securities in private firms are not traded, this is not possible. One solution is to look at the riskiness of comparable firms, which are publicly traded. The other is to relate the measure of risk to accounting variables, which are available for the private firm.

Question 9.
Answer the following:
How does the JIT approach help in improving an organization’s Profitability? (Nov 2014, 4 marks)
Answer:
Just in Time: A JIT approach is a collection of ideas and philosophy that streamline a company’s production process activities to such an extent that waste of all kinds, viz material and labour is systematically driven out of the process. Just in time technique enables a company to ensure that it receives products/spare parts materials from its suppliers on the exact value and date and the exact time when they are needed.

So, from an organization’s perspectives JIT is beneficial the most in terms of cost, time and inventory.

JIT is beneficial to an organisation in the following ways:

1. Reduction in inventory cost: Unnecessary filling up of raw material, WJP and finished goods are avoided. The focus is on production and purchase as per the organisation’s requirements.
2. Reduction in wastage of time: Wastage of time in various ways like inspection time, machinery set up time, storage time, queue time, defectives rework time etc.
3. Reduction in scrap rates: There will be sharp reductions in the rates of defectives or scrapped units. The workers themselves identify defects and take prompt action to avoid their recurrence.
4. Reduction In overhead costs: By reducing unnecessary activities and the associated time and cost – drivers, overheads can be greatly reduced e.g. material handling rework cost, facility costs etc.

Thus, in these ways JIT is beneficial to an organization.

Question 10.
The public sector Bank of India (BOl), which targets to take its business to about ₹ 12 lakhs crore in next five years, mulls to implement Business Process Re-engineering (BPR) initiates to streamline its growing business. Seven consultants, including Ernst and Young, Boston Consulting Group (BCG) and McKinsey, have expressed interest to take up the job of evaluation and restructuring the organizational set-up by using ₹ 3 Model of BPR. What are the actions and resources to be considered for ₹ 3 Model of BPR for expecting the results to BOl? (June 2016,  6 marks) [CMAFG III]
Answer:
BPR is achieving dramatic performance improvements through radical changes in organizational process, re-architecting of business and management process. it involves the redrawing of organizational boundaries, the reconsideration of jobs, tasks, knowledge and skills. This occurs with the creation and the use of models. In resuming the whole process of BPR in order to achieve the expected results is based on key steps- principles which include ₹ 3 (i.e., re-design, re-tool and re-orchestrate). Each step- principle embodies the actions and resources as presented in below:

Re-design	Re-tools	Re-orchestrate
Simplify	Networks	Synchronies
Standardize	Intranets	Processes
Empowering	Extranets	Information Technology
Employee-ship	Workflow	Human resources
Groupware
Measurements ‘

Question 11.
Explain, how implementation of JIT production method can be a major source of competitive advantage and success of the company. (Nov 2019, 4 marks)
Answer:
Implementation of JIT production method can be a major source of competitive advantage and success of the company in following ways:
1. Establishing a pull system:
By following the just in time philosophy, your organization will have the opportunity to create a pull system and apply it to your current production processes. The way, only a work that needs to be done will be in progress.

2. Eliminate waste:
The pull system will make your team deliver work items only different kinds of waste from your production process.
Types of waste may vary depending on the industry, but in lean management, there are 7 major wastes:

• Waste of time
• Waste from overproduction
• Transportation waste
• Processing waste
• Inventory waste
• Waste of motion
• Waste from product defects.

3. Visibility/Board overview :
Just in time production requires the application of team Kanban boards. With their help, every member of your team will be able to recognize the current goals and tasks.

This gives a much broader overview of the current processes and all team members are familiar with what needs to be done at every moment.

4. Smooth workflow :
The Kanban board makes It much easier to acquire a full overview of the working processes. Furthermore, it gives you the opportunity to observe every stage of the workflow, so you can easily detect and handle bottlenecks.
This way you can always keep your team on the right track and maintain a smooth workflow.

5. Continuous improvement :
Just in time production encourages every employee to analyze current processes and offer suggestions for improvement.
Widely known as kaizen, this never-ending cycle will allow any team to constantly improve its performance and “change for the better”.

6. Simplicity and Flexibility :
Just in time management requires your team to work and deLiver small badges of tasks. It will allow you to find simple solutions for existing issues and be much more flexible, than teams that work on projects of a great scale.
This also has a positive impact on your team’s overall productivity, because it lets team members focus only on current tasks.

Question 12.
(A) Based on the answer derived from the above can you demonstrate that the machine is working at world class performance as suggested by ‘Nakajima’ ideal values for the ‘OEE’. (Jan 2021, 2 marks)
(B) is an aggregate measure. Its components will compensate for each other or, on the contrary, will aggravate a failing situation and attract further attention to it”. Explain. (3 marks)

Question 13.
An automobile production line turns out about 100 cars a day, but deviations occur owing to many causes. The production is more accurately described by the probability distribution given below: (Dec 2013, 6 marks) (CMAFG III)

Finished cars are transported across the day, at the end of the each day, by ferry has space for only 101 cars.

Required:
(i) What will be the average number of cars waiting to be shipped?
(ii) What will be the average area of empty space on the boat?
The fifteen random numbers are given: 20, 63, 46, 16, 45, 41, 44, 66, 87, 26, 78, 40, 29, 92, & 21
Answer:
Simulation of data of the Automobile Production Line:

Production/day	Probability	Cumulative Probability	Random No. Range
95	0.03	0.03	0-2
96	0.05	0.08	3-7
97	0.07	0.15	8-14
98	0.10	0.25	15-24
99	0.15	0.40	25-39
100	0.20	0.60	40-59
101	0.15	0.75	60-74
102	0.10	0.85	75-84
103	0.07	0.92	85-91
104	0.05	0.97	92-96
105	0.03	1.00	97-99
Total	1.00

Day	Random No.	Production	No. of cars waiting to be shipped	No. of empty space on the boat
1	20	98	* –	3
2	63	101	–	–
3	46	100	–	1
4	16	98	–	3
5	45	100	–	1
6	41	100	–	1
7	44	100	–	1
8	66	101	–	–
9	87	103	2	–
10	26	99	–	2
11	78	102	1	–
12	40	100	–	1
13	29	99	–	2
14	92	104	3	–
15	21	98	–	3
Total			. 6	18

Average No. of cars waiting to be shipped: 6 ÷ 15 = 0.40
Average No. of empty space on the boat: 18 ÷ 15 =1.2

Question 14.
Maruti India Ltd., offers a range of cars from economy, Sedans, SUVs and used cars have decided to adopt JIT policy, in making of the New Alto Car materials. (June 2015, 8 marks) (CMAFG III)
The following effects of JIT policy are identified:
(1) To implement JIT, the company has to modify its production and material receipt facilities at a capital cost of ₹ 10,00,000. The new machine will require a cash operating cost of ₹ 1,08,000 per annum. The capital cost will be depreciated over 5 years.
(2) The Raw Material Stockholding will be reduced from ₹ 40,00,000 to ₹ 10,00,000.
(3) The company can earn 15% on its long-term investments.
(4) The company can avoid rental expenditure on storage facilities amounting to ₹ 33,000 per annum. Property taxes and insurance amounting to ₹ 22,000 will be saved due to JIT programme.
(5) Presently there are 7 workers in the store department at a salary of ₹ 5,000 each per month. After implementing JIT scheme, only 5 workers
will be required in this department. Balance 2 workers’ employment will be terminated.
(6) Due to receipt of smaller lots of Raw Materials, there will be some disruption of production. The costs of Stock-outs are estimated at ₹ 77,000 per annum.

Determine the financial impact of the JIT policy; is ¡t advisable for the Maruti company to implement JIT for New Alto production system?
Answer:
The cost- benefit analysis of JIT policy at Maruti India Ltd.

Conclusion: The JIT policy for New Alto may be implemented, as there is a net benefit of ₹ 2,90,000 per annum.

Note: Depreciation, being apportionment of capital cost, has been ignored in decision-making. Further the tax saving on Depreciation has not been considered in the above analysis.

Question 15.
Innovation Ltd. has entered into a contract to supply a component to a company which manufactures electronic equipments.
Expected demand for the component will be 70000 units totally for all the periods. Expected sales and production cost will be: (Nov 2015, 8 marks)

Period	1	2	3	4
Sales (units)	9500	17000	18500	25000
Variable cost per unit	30	30	32.5	35

Total fixed overheads are expected to be ₹ 14 lakhs for all the periods.
The production manager has to decide about the production plan.
The choices are:
Plan 1: Produce at a constant rate of 17500 units per period. Inventory holding costs will be ₹ 6.50 per unit of average inventory per period.
Plan 2: Use a Just-In-Time (JIT) system
Maximum capacity per period normally – 18000 units
It can produce further upto 10000 units per period in overtime.
Each unit produced in overtime would incur additional cost equal to 30% of the expected variable cost per unit of that period.

Assume zero opening inventory.
(i) Calculate the incremental production cost and the savings in inventory holding cost by JIT production system.
(ii) Advise the company on the choice of a plan.
Answer:
(i) Statement Showing Inventory Holding Cost under Plan I

Particulars	Pd. 1	Pd. 2	Pd. 3	Pd. 4
Opening Inventory                             …(A)	–	8,000	8,500	7,500
Add:        Production	17,500	17,500	17,500	17,500
Less:      Demand/Sales	9,500	17,000	18,500	25,000
Closing Inventory                              …(B)	8,000	8,500	7,500	–
Average Inventory \(\left(\frac{A+B}{2}\right)\)	4,000	8,250	8,000	3,750
Inventory Holding Cost @ ₹ 6.50	26,000	53,625	52,000	24,375

Inventory Holding Cost for the four periods = ₹ 1 56,000
(₹ 26,000 + ₹ 53,625 + ₹ 52,000 + ₹ 24,375)

Statement Showing ‘Additonal Cost-Overtime’ under Plan 2 (JIT System)

Particulars	Pd. 1	Pd. 2	Pd. 3	Pd.4
Demand/ Sales	9,500	17,000	18,500	25,000
Production in Normal Time	9,500	17i000	18,000	18,000
Production in Over Time                   …(A)	…..	…..	500	7,000
Variable Cost per unit	30	30	32.5	35
Additional Cost – Overtime per unit (@30% of Variable Cost)                                 …(B)	9	9	9.75	10.5
Additional Cost – Overtime …(A) × (B)	…….	……	4,875	73,500

Total Additonal Payment (Overtime) = ₹ 78,375 (₹ 4,875 + ₹ 73,500)

Statement Showing ‘Additonal Variable Cost’ under Plan 2 (JIT System)

Particulars	Pd. 1	Pd. 2	Pd. 3	Pd.4	Total
Production (Plan 1)	17,500	17,500	17,500	17,500	70,000
Variable Cost                 …… (A)	5,25,000	5,25,000	5,68,750	6,12,500	22,31,250
Production (Plan 2, JIT)	9,500	17,000	18,500	25,000	70,000
Variable Cost                 ……. (B)	2,85,000	5,10,000	6,01,250	8,75,000	22,71,250
Total                   …… (B) – (A)					40000

* excluding overtime cost
Incremental Production Cost in JIT System = ₹ 78,375 +₹ 40,000
= ₹ 1,18,375
Therefore, Saving in JIT System (Net) = ₹ 1,56,000 – ₹ 1,18,375
= ₹ 37,625

(ii) Advice
Though Innovation Ltd is saving ₹ 37,625 by changing its production system to Just- in-time but it has to consider other factors as well before taking any final call which are as follows:

1. Innovation Ltd has to ensure that it receives materials from its suppliers on the exact date and at the exact time when they are needed. Credentials and reliability of supplier must be thoroughly checked.
2. To remove any quality issues, the engineering staff must visit supplier’s sites and examine their processes, not only to see if they can reliably ship high- quality parts but also to provide them with engineering assistance to bring them up to a higher standard of product.
3. Innovation Ltd should also aim to improve quality at its process and design levels with the purpose of achieving “Zero Detects” in the production process.
4. Innovation Ltd should also keep in mind the efficiency of its work force. Innovation Ltd must ensure that labour’s learning curve has reached at steady rate so that they are capable of performing a variety of operations at effective and efficient manner. The workforce must be completely retrained and focused on a wide range of activities.

Question 16.
Hindustan Ltd. supplies the following information relating to a vital equipment used in its production activity for April, 2018: (May 2018)
Total time worked during the month – 210 hrs.
Total production during the month – 2800 units.
No. of units accepted out of total production – 2520 units.
Standard time for actual production of the month – 180 hrs.
Time lost during the month – 28 hrs.

Required:
(i) State an appropriate approach to measure the total productive maintenance performance of an equipment. (2 marks)
(ii) Quantity the total productive maintenance performance of the above-
mentioned equipment by using the approach stated in (i) above. (6 marks)
(iii) Comment on the effectiveness of maintenance of the equipment. (2 marks)
Answer:
(i) The most important approach to the measurement of TPM performance is known as Overall Equipment Effectiveness (OEE) measure. The calculation of OEE measure requires the identification of “six big losses’s

1. Equipment Failure? Breakdown
2. Set-up / Adjustments
3. Idling and Minor Stoppages
4. Reduced Speed
5. Reduced Yield and
6. Quality Defects and Rework

The first two losses refer to time losses and are used to calculate the availability of equipment. The third and fourth losses are speed losses that determine performance efficiency of equipment. The last two losses are regarded as quality losses.
Performance × Availability × Quality = OEE %
OEE may be applied to any individual assets or to a process. It is unlikely that any manufacturing process can run at 100% CEE.

(ii) Availability Ratio per shift = \(\left(\frac{210 \mathrm{hrs} .}{210 \mathrm{hrs} .+28 \mathrm{hrs} .}\right)\) × 100%
= 88.24%
Performance Ratio = \(\left(\frac{180 \mathrm{hrs} .}{210 \mathrm{hrs} .}\right)\) × 100%
= 85.71%
Quality Ratio = \(\left(\frac{2520 \text { units }}{2800 \text { units }}\right)\) × 100%
= 90.00%
Thus, OEE = 0.8824 × 0.8571 × 0.90
= 68.06%

(iii) Comment
World Class OEE is 85% or greater, Hindustan Ltd.’s OEE is somewhere around 68%. It just means that company got some opportunities for improvement. Hindustan Ltd. may improve OEE by collecting information related to all downtime and losses on equipment, analyzing such information through graphs and charts, making improvement decisions thereon like autonomous maintenance, preventive maintenance, reduction in set up time etc. and implementing the same.

Question 17.
Pixel Limited is a toy manufacturing company. It sells toys through its own retail cutlets. It purchases materials needed to manufacture toys from a number of different suppliers. Recently, due to the entry of few reputed foreign brands in the toy market and particularly in the segment in which Pixel Ltd. is doing business, it is facing a threat to operate profitably. Each toy requires 4 kg. of materials at ₹ 19 per kg. and 5% of all materials supplied by the suppliers are found to be substandard. Labour hour requirement for each toy is 0.4 hour at 120 per hour. (Nov 2019)

Market research has determined that the seWing price will be ₹ 240 per toy. The company requires a profit margin of 15% of the selling price. Expected demand for toy in the coming year will be 50.000 toys. Sales and variable overhead per unit for the four quarters of the year will be as follows:

	Q1	Q2	Q3	Q4
			(Festive season)	(Festive season)
Sales (units)	7,500	9,000	15,500	18,000
Variable overhead per unit (₹)	22	22	24	25

Total fixed overheads are expected to be ₹ 6,25,000 for each quarter.
The production manager has decided to produce ₹ 12,500 units in each quarter. Inventory holdÍng costs will be ₹ 18 per unit of average inventory per quarter. Inventory holding costs are not included in above. Normal production capacity per quarter is 15,000 toys. The company can produce further up to 6,000 units per quarter by resorting to overtime working. Overtime wages will be at 150% of normal wage rate. Assume zero opening inventory.

Required:
(i) Calculate the cost gap that exists between the total cost per toy as per the production plan and the target cost per toy. (9 marks)
(ii) Discuss how just-in-time purchasing and Just-in-time production will remove the cost gap calculated in (i) above. Show calculations in support of your answer. (7 marks)
Answer:
(i) Cost gap between Total Cost per toy as per the production plan and the Target Cost per toy

Target Cost per toy

Particulars	₹ per unit	For Annual Sales of 50,000 units
1. Selling Price per toy	240	1,20,00,000
2. Required Profit Margin (15% of selling price =15% × ₹ 240 per unit)	36	18,00,000
3. Target Cost per annum (Step 1 – 2)		1,02,00,000
4. Target Cost per toy (Step 3 / 50,000 units)		204.00

Therefore, Target Cost is ₹ 204 per toy.

Total Cost as per production plan
Pixel Ltd. has an annual production requirement of 50,000 toys, which is also its annual sales. Given that opening inventory for the first quarter is nil. The production manager wants to produce 12,500 units per quarter irrespective of the sales demand for the quarter. This implies that during some quarters, there might be unsold inventory, for which inventory holding cost has to be borne. This type of production is called ‘produce to stock”.

Production Schedule and Inventory Holding Cost for the year

Total Cost of Production per toy as per production plan

Note 1
Each toy requires 4kg of material, 5% of all materials is substandard. Therefore, procurement should factor this substandard quality.
Material required per unit = 4 kg / 95% = 4.21 kg
Material Cost per toy produced = 4.21 kg × ₹ 19 per kg = ₹ 80 per unit

Note 2
Each toy requires 0.40 hours. Rate per hour is ₹ 120 per hour. Therefore, Cost per toy = 0.40 × 120 = ₹ 48 per unit

Cost Gap
= Total Cost per toy as per production schedule – Target Cost per toy
= ₹ 208.09 – ₹ 204.00 per toy
= ₹ 4.09 per toy

(ii) JIT System
Just in Time Purchasing and Just in Time Production is aimed at eliminating inventory holding of raw material and finished goods respectively. Components are purchased only when there is a requirement in the production process. Similarly, finished goods are produced only when there is a demand for them.

This type of production is called “produce to order”. Hence, there is neither any opening inventory nor any closing inventory, thereby no inventory holding cost. In the given problem, this savings is off-set by the extra payment to be made to labor for overtime. Production capacity is 15,000 toys per quarter. This can be increased by 6,000 toys per quarter by incurring additional overtime cost.

The Production Plan under the Just in Time System

Particulars	Q1	Q2	Q3	Q4	Total for the year
1. Opening Stock (units)	—	—	—	—	—
2. Production (units)	7,500	9,000	15,500	18,000	50,000
3. Sales (units)	7,500	9,000	15,500	18,000	50,000
4. Closing (units)	—	—	—	—
5. Inventory Holding Cost	—	___	—	—
6. Production Beyond Capacity of 15,000 Toys per quarter (units)			500	3,000

Total Cost of Production under JIT System

Note 1
Carefully selected suppliers of delivering high quality materials in a timely manner directly at the shop floor, reducing the material receipt time and loss due to sub-standard material.

Note 2
Overtime wages are 150% of normal wage rate. Therefore, for every toy produced over the quarterly production capacity of 15,000 toys, 50% extra wage over and above the hourly rate has to be paid as overtime wages. Each toy needs 0.40 hours for production. Therefore, overtime cost for excess production = excess production units × 0.40 × 50% × ₹ 120 per hour.

Cost Gap
The cost of production per toy under the JIT system is ₹ 199.38 per toy as compared to the target cost of ₹ 204 per toy and save ₹ 4.62 per toy.

The savings primarily comes from eliminating the inventory holding cost of ₹ 3,42000 per annum and sub- standard material cost of ₹ 2,00,000 per annum under the previous production system. This is slightly offset by the additional cost of ₹ 84,000 per annum that has to be paid towards overtime labor charges and ₹ 22,500 towards additional variable overheads. However, by switching to the JIT system, Pixel Ltd. could reduce its production cost below the target cost per toy.

Question 18.
APZ Company Ltd. manufactures spare parts and can be called Thigh volume base& manufacturing environment. The company is using the system of Total Productive Maintenance for maintaining and improving the integrity of manufacturing process. There are several different automated manufacturing machines located in the plant, through which manufacturing of spare parts are done and supplied to cater the demand in the market. A 12 hour shift is scheduled to produce a spare part in APZ Company Ltd. as shown in the schedule below. The shift has three 15 minute breaks and a 10 minute clean up period. (Nov 2019)

Production Schedule for Automated machine A 10:
Cycle 10 (seconds),
Spare parts Manufactured: 3360,
SCRAP : 75,
Unplanned Downtime : 36 minutes

Required :
(i) Calculate OEE (Overall Equipment Effectiveness) and comment on it. (6 marks)
(ii) The management of company has decided o ensure that things are done right the first time and that the defects and waste are eliminated from operations. Thus they are planning to implement Total Quality Management (TQM) also.
Summarize the connection between Total Quality Management (TQM) and Total Performance Maintenance (TPM). (4 marks)
Answer:
(i) Overall Equipment Effectiveness (OEE) (%) = Availability × Performance × Quality
= 87.36% × 89.03% × 97.77%
Overall Equipment Effectiveness (OEE) = 76.04%
Availability = (12 hours × 60 minutes) – (3 × 15 minutes) – (10 minutes) + 36 minutes
= 720 minutes – 45 minutes – 10 minutes + 36 minutes
= 629 minutes
Availability Ratio = \(\frac{629}{720}\) × 100
= 87.36%
Performance Ratio = \(\frac{(3,360 \times 10)}{629 \text { minutes } \times 60 \text { Seconds }}\) × 100
= \(\frac{33,600 \text { Seconds }}{37,740 \text { Seconds }}\) × 100
= 89.03%
Quality Ratio = \(\frac{3,360-75}{3,360}\) × 100
= 97.77%

Comment:
Since CEE of APZ Company Ltd. is lesser than 85 % i.e. World Class Performance Level, Company is advised to improve its each ratio i.e. availability ratio, performance ratio and quality ratio by collecting information related to all downtime and losses on machines, analyzing such information through graphs and charts, making improvement decisions thereon like autonomous maintenance, preventive maintenance, reduction in set up time etc. and implementing the same.

(ii) Connection between TOM and TPM:
The connection between TOM and TPM are summerized below:

• TQM and TPM make company more competitive by reducing costs, improving customer satisfactions and slashing lead times.
• Involvement of the workers into all phases of TQM and TPM is necessary.
• Both processes need fundamental training and education of participants.
• TPM and TOM take long time to notice sustained tangible benefits.
• Commitment from top managements are necessary for success of the implementation.

Question 19.
The Business Digest, a fortnight business magazine, in its recent release has published an article titled “Why you can safely ignore Six Sigma’ This was highly critical of Six Sigma. The pointed criticism leveled under five sequentially numbered paras which are listed herein below: (Jan 2021, 5 Marks)

(i) The results often don’t have any noticeable impact on company financial statements. Thus Six Sigma success doesn’t assure you the higher stock values. This is true for 90 percent of companies that implement Six Sigma.
(ii) Only early adopters can benefit from the implementation of Six Sigma.
(iii) Six Sigma focuses on defects which are subjective to determine for service business.
(iv) Six Sigma can’t assure that your product will have market.
(v) Substantial infrastructure investment is required.
How would you respond to these statements?

Question 20.
Based on the following data calculate ‘Overall Equipment Effectiveness’: (Jan 2021, 3 Marks)

Particulars	Data
Shift length Short breaks Meal break Equipment down time                                        . No. of parts produced per hour (Standard) Total units produced per shift Rejected units out of the above	9 hours 3 of 10 minutes each 45 min 30 min 30 per min 12,240 240

Classification of Imported and Export Goods – CA Final IDT Study Material is designed strictly as per the latest syllabus and exam pattern.

Classification of Imported and Export Goods – CA Final IDT Study Material

Question 1.
Write a brief note with specific reference to Rule 1 of Interpretation of the First Schedule to Customs Tariff Act, 1975 [Nov. 2010, 4 Marks]
Answer:
Rule 1: No ambiguity in classifications:

• The chapter title is only for reference (for the sake of convenience)
• classification is always done
• using section and chapter notes.
• Further if headings and section/chapter notes
• do not otherwise require
• classification shall be as per Rule 2, 3, 4, 5 or 6
• It means mere reading of the heading may not be enough all goods will not necessarily be classified under that chapter.

Example:
Chapter 39 is titled “Plastic” but all Plastics cannot be classified under that heading. The chapter notes, specifically excluded plastic toys, watches, automobile parts etc.

Question 2.
Briefly explain the provisions of Rule 2(a) of Rules of Interpretation of the First Schedule to the Customs Tariff Act, 1975 on classification of incomplete/unfinished articles. [Nov. 2018 (Old), 4 Marks]
Answer:
The Provisions of Rule 2(a) of Rules of Interpretation of the First Schedule to the Customs Tariff Act, 1975 on classification of incomplete/unfinished articles are as under:-
Any semi-finished goods or unfinished goods should be classified as finished goods, if they contain essential character of finished goods.

Example:

1. A cycle without seat, classified as a finished goods cycle.
2. Passenger coach without seat classified as a finished goods passenger coach.

Notes:

1. Goods removed in (SKD/ CKD) classified as Final Product not as part.
2. Goods that do not require complicated process to make finished goods.
3. Reference to an article will also include the article complete or finished (or failing to be classified as complete or finished) presented un-assembled or dis-assembled.

Question 3.
Short note on Rule 2 of General Interpretation Rules?
Answer:
Rule 2

RULE NO. 2(a)
Any semi-finished goods or unfinished goods should be classffied as finished goods, if they contain essential character of finished goods.

Example:

1. A cycle without seat, classified as a finished Good cycle.
2. Passenger coach without seat classified as a finished goods passenger coach.
   Notes:
3. Goods removed in (SKD/CKD) classified as Final Product not as part.
4. Goods that do not require complicated process to make finished goods.

RULE NO. 2(b)
Reference to material/substance, to include reference to mixtures or combination of that material/substance
Any reference to goods of a given material or substance shall be taken to include a reference to goods consisting wholly or partly of such material or substance.

Example:

1. Gold classification shall also consist of articles partly made up of gold.
2. Steel with carbon classified as steel only.
3. Gold with copper will be classified as ‘Gold’ Plastic bucket with iron handle to be classified as plastic article.

But if such goods consist of more than one material or substance and each such substance is equally significant, classification, shall be made according to the principle specified in Rule 3.

Question 4.
Briefly Explain Rule No. 3 of General Interpretation Rules?
Answer:
Rule 3(a)
In case of any conflict between 2 headings, prefer the specific heading rather than general headings.
Example:
If there are two headings:

1. Heading No. 8215:
Spoons, forks, ladles, skimmers, fish-knives etc.
2. Heading No. 7323: Table, kitchen or other household articles of iron and steels.
Spoon will be classified under 8215.

Rule 3(b)
When no specific heading is given, classification should be based on essential character

Example:

1. Book with CD classified as Book.
2. Printer with fax/scanner classified as printer.
3. Mobile with camera, MP3 etc. classified as Mobile.
4. A lock of vehicle with alarm is to be classified as ‘lock’ not ‘burglar or fire alarm’ as lock is the main line of defense and alarm is only secondary to security of the moving object.

Rule 3(c)
If there are two headings, prefer the later (the later is better).
This rule is also known as ‘latter the better maxim‘.

Example:
if there are two headings:
1. Heading No. 4010: Conveyor transmission belting
2. Heading No. 5910:
Transmission belting, conveyor belting or textile material conveyor and transmission belting.

Question 5.
(a) What is the purpose of the interpretation rules regarding custom tariff?
(b) Do they form part of the tariff schedule?
(c) Briefly explain Akin Rule of Interpretation. [May 2012 3 Marks]
Answer:

Case	Answer’                                                               :
(a) Purpose of interpretation rules	The purpose of Interpretation Rules of Customs tariffs is: (i) to give clear direction as to how the nomenclature in the Schedule is to be interpreted and (ii) to give statutory force to the Interpretation Rules and the general explanatory notes.
Part of the tariff schedule	The Interpretation Rules are integral part of the Schedule.
Akin Rule of Interpretation	Rule 4 of the Rules of Interpretation is called as Akin Rule, this rule lays down that goods which cannot be classified in accordance with Rules 1, 2 and 3 of the Rules of Interpretation would be classified under the heading appropriate to the goods to which they are most akin

Case Laws – Atherton Engineering Co. Pvt. Ltd. v. UOI 2010(256) ELT 358(Cal.).

Question 6.
ABC Company Ltd., has Imported brine shrimp eggs. This was classffied as ‘Prawn feed” for customs duty purposes under chapter heading No. 2309 of the Customs Tariff Schedule which includes use as animal feed. The department’s view was that this should be classified under chapter heading No. 051199 as non-edible animal products unfit for human consumption. M/s. ABC Co. provided literature to support their contention that the Imported material contained little organisms/embryos which later became larva that were fed to the prawns.

Therefore according to the importer the nature and character of the product was not changed or altered by nurturing or Incubatloit Hence the classification should be as prawn feed under chapter beading No. 2309. Decide with the help of case law If any whether the contention of the assessee, M/s. ABC Co. is correct in law. [May 2011, 5 Marks]
Answer:
Facts of the given

• ABC Company Ltd., has imported brine shrimp eggs.
• Classified as ‘Prawn feed” for customs duty purposes, which includes use case as animal feed.
• The department’s view was different.

Relevant case law

• The facts of the given case are similar to the case of Atherton Engineering Co. Pvt. Ltd. v. UOI 2010 (256) ELT 358 (Cal.).
• In the instant case, the Court/Tribunal noted that it was the use of the product that had to be considered in the instant case.
• If a product undergoes some change after importation till the time it is actually used, it is immaterial, provided it remains the same product and it is used for the purpose specified in the classification.

The Court/Tribunal opined that if the embryo within the egg was incubated in controlled temperature and under hydration. A larva was born. The larva did not assume the character of any different product. Its nature and
characteristics were same as the product or organism which was within the egg.

Hence, the Court/Tribunal held that the said product should be classified as feeding materials for prawns under the heading 2309. These embryos might not be proper prawn feed at the time of importation but could become so, after incubation.

Decision
Yes, the contention of the assessee is justified in law.

Question 7.
M/s Hind IT Co. imported laptops with Hard Disc Drivers (HDD) pre-loaded with operating software like Windows XP, XP home etc. The department has claimed that the said laptop along with the operating software was classifiable and assessable as a single unit. It is the claim of the assessee that the software loaded HDD should be classified and assessed separately as an exemption is available as per notification issued under Sec. 25(1) of the Customs Act, 1962. Decide with a brief note whether the action proposed by the department is correct in law. [May 2008, 4 Marks]
Answer:
Facts of the given case

• M/s Hind IT Co. imported laptops with Hard Disc Drivers (HDD) pre-loaded with operating software.
• The department has claimed that the said laptop along with the operating software was classifiable and assessable as a single unit.

Relevant case law

• The matter given in the instant question is based upon Hewlett Packard India Sales (P.) Ltd., in which the Apex Court held that, a Laptop imported with in-built pre-loaded operating system recorded on hard disc drive, then
  • Laptop is treated as one single unit classifiable under separate heading and
  • the operating software, recorded on hard disk drive is classified separately as “Software”.

Decision

• So, the department claim that laptop along with software must be classified as a single unit is not correct in Law.
• Here the importer will be entitled to have the exemption on import software,
  as per notification issued under Section 25 of the Customs Act, 1962.

Question 8.
Explain briefly Tariff value with reference to the provisions of the Customs Act, 1962. [May 2008, 2 Marks]
Answer:
As per Section 14(2) of the Customs Act, 1962: The Central Board of Indirect Taxes & Custom (CBIC) is empowered to fix the value of any imported goods or export goods, by Notification in Official Gazette.

1. It is fixed, after considering the trend of value of such goods or like goods;
2. Tariff-Value prevails over the transaction value computed u/s 14(1) of Customs Act, 1962.

Question 9.
Explain with a brief note how the duty is arrived under the Customs Act, 1962 where the imported goods consist of articles liable to different rates of duty. [Nov 2009, 2 Marks]
OR
Explain with a brief note with reference to the Customs Act, 1962 how duty ought to be determined where the imported goods consist of articles liable to different rates of duty and imported as a “set of articles”. [Nov. 2011, 3 Marks]
Answer:
Classification of Goods and Charging of Duty (Goods in Set) [Section 19]
Set comprises more than one Article

Case 1: Parts and Accessories:

i. Essential: These Parts and Accessories are chargeable to duty at the same rates as the main article if

• These are imported along with the articles
• The officer is satisfied that Parts and Accessories are compulsorily supplied with the
  article.

ii. Additional: Excess Quantity is chargeable to duty as if it has been imported as an article

Case 2 : Other than Parts and Accessories:

Cases	Rate of Duty
(a) Same Rate of Duty applicable on all articles.	Duty shall be charged at the rate.
(b) Different Rates of Duty on all articles.	Chargeable to duty at the highest rate.
(c) Articles which are not liable to duty.	Charged at the highest of the rates specified in (b) and above.

Question 10.
Mr. X has imported a machine from Japan In June 2018 for ₹ 50 lakhs. However, the machine was exported back In December 2018 for repairs. The supplier has agreed to carry out the repairs as the machine was still in warranty period, which would normally take 6 months. The fair cost of the repairs will cost ₹ 10 lakhs.

In the mean-time, Mr. X has requested the supplier to provide him another machine so that he can carry out his operations without hindrance. According to the request, the supplier has provided him with another machine which was imported during February 2019. The value of the new machine is ₹ 55 lakhs. Freight charges Incurred were ₹ 2 lakhs. You are required to compute the Assessable value and Total duty payable for the above transaction of replacement. Customs duty is 10% and IGST is 12%. Social Welfare Surcharge to be taken at 10%. [Nov 2019, 5 Marks]
Answer:
Tutorial Note: Special provisions relating to payment of concessional duty in case of re-importation of goods exported for repairs are not applicable in the given case as the goods exported for repairs and the re-imported goods are not the same. Therefore, full customs duty will be payable on the machine received as replacement.
Computation of assessable value and total duty payable

Particulars	Amount
Value of New Machine (Presumed to be FOB price)	55,00,000
Add. Freight Charges	2,00,000
Add. Insurance Charges (1.125% of ₹ 55,00,000)	61,875
CIF Value/AV	57,61,875
Basic customs duty 10% of ₹ 57,61,875	5,76,187.5
Social welfare surcharge 10% of 5,76,187.5	57,618.75
Total Value as per sec. 3(8) of Customs Tariff Act	63,95,681.25
IGST @12% on ₹ 63,95,681.25	7,67,481.75
Cost of Import	71,63,163

Calculation of total Duty Payable

Basic customs duty	5,76,187.5
Social welfare surcharge	57,618.75
Integrated Tax	7,67,481.75
Total	14,01,288

Question 11.
Kankan Corp had imported a machine from USA for ₹ 365 lakh on payment of appropriate customs duty in February. However, in July, the machine had to be sent back to the supplier for repair (not amounting to manufacture) from the factory of Kankan Corp. This machine was repaired and thereafter, re-imported by Kankan Corp in November next year. The supplier has agreed to provide discount of 60% of the fair cost of repairs, resulting in Kankan Corp paying USD 12,000.
Following further particulars are available:

Particulars	Date	Rate of Duty	Inter Bank Exchange rate	Rate notified by CBEC
Bill of Entry	21st February	1296	61.40	62
Aircraft arrival	26th February	1596	62.50	63.25

Integrated tax is leviable @ 12%.

	Outwards (Amt. in ₹)	Inwards (Amt. in ₹)
Insurance	23,000	27,000
Air Freight	93,500	1,06,500

Determine total duty payable with appropriate notes for your computation assuming that Kankan Corp is not an EOU. [RTP May 2020]
Answer:
Statutory Provision:
Notification No. 45/2017 Cus. dated 30.06.2017 stipulates that in case of re-importation of goods exported for repairs, duty is payable on fair cost of repairs carried out, insurance and freight charges – both ways, subject to fulfilment of following conditions:-
(a) The time limit for re-importation is 3 years
(b) The exported goods and the re-imported goods must be the same.
(c) The ownership of the goods should not have changed.
Since all the specified conditions are fulfilled in the given case, total duty payable will be computed as under:-

Computation of total duty payable by Kankan Corp.

Particulars
Fair cost of repairs (in dollars) = $12,000/4096	$ 30,000
	₹
Fair cost of repairs (in rupees)	18,60,000.00
= $30,000 × ₹ 62 [Note-1]
Add Inward and outward insurance [₹ 23,000 + ₹ 27,000]	50,000.00
Add Inward and outward air freight [₹ 93,500 + ₹ 1,06,500]	2,00,000.00
Assessable Value	21,10,000.00
Add Basic customs duty (BCD) @1596 [Note-2]	3,16,500.00
Add: Social Welfare Surcharge @ 1096 of BCD	31,650.00
Value for computing IGST	24,58,150.00
IGST @ 1296	2,94,978.00
Total duty and tax payable [₹ 3,16,500 + ₹ 31,650 + ₹ 2,94,978]	6,43,128

Notes: –
1. Rate of exchange notified by the CBEC on date of presentation of bill of entry would be the applicable rate in terms of third proviso to section 14(1) of the Customs Act, 1962.
2. Rate of duty is the rate in force on date of presentation of bill of entry or arrival of aircraft, whichever is later in terms of provisio to section 15(1) of the customs Act, 1962.

Modern Business Environment – CA Final SCMPE Question Bank is designed strictly as per the latest syllabus and exam pattern.

Modern Business Environment – CA Final SCMPE Question Bank

Question 1.
What are the critical success factors for the implementation of a ‘Total Quality Management’ programme? (Nov 2009, 5 marks)
Answer:
Success Factors of TQM:

1. Everyone within the organization should be involved in TQM.
2. The focus should be on customer needs.
3. The focus should be on continuous improvement.
4. The aim should be to design and produce quality products.
5. Appropriate training and education should be given so that everyone is aware of the aims of TQM.
6. Existing rewards and performance measurements should be renewed to encourage quality improvements.
7. Introduce an effective performance measurement system that measures continuous improvements from the customer’s perspective.

Question 2.
Answer the following:
Classify the following items under the three measures used in the.theory of constraints: (May 2011, 4 marks)
(i) Research and Development Cost
(ii) Rent/Utilities
(iii) Raw materials used for production
(iv) Depreciation
(v) Labour Cost
(vi) Stock of raw materials
(vii) Sales
(viii) Cost of equipments and buildings.
Answer:
The three key measures used in the theory of Constraints are:
Contribution
(iii) Raw Material for production
(vii) Sales

Operating Costs
(ii) Rent/utilities
(iv) Depreciation
(v) Labour

Investments
(i) R & D
(vi) Raw Material Stock
(viii) Building and Equipment Cost

Question 3.
Classify the following items under appropriate categories of quality costs viz. (Nov 2011, 5 marks)
Prevention Costs, Appraisal Costs, Internal Failure Costs and External Failure Costs:
(i) Rework
(ii) Disposal of scrap
(iii) Warranty Repairs
(iv) Revenue loss
(v) Repair to manufacturing equipment
(vi) Discount on defective sale
(vii) Raw material inspection
(viii) Finished product inspection
(ix) Establishment of quality circles
(x) Packaging inspection
Answer:
(i) Rework – Internal Failure
(ii) Disposal of Scrap – Internal Failure
(iii) Warranty Repairs – External Failure
(iv) Revenue Loss – External Failure
(v) Repairs to Manufacturing Equipment – Internal Failure
(vi) Discount on Defective Sales – External Failure
(vii) Raw Material Inspection – Prevention Cost
(viii) Finished Product Inspection – Appraisal Cost
(ix) Establishment of Quality Circles – Prevention Cost
(x) Packaging Inspection – Appraisal Cost

Question 4.
Answer the following:
What qualitative factors should be considered in an decision to out source manufacturing of a product? (Nov 2012, 4 marks)
Answer:
Qualitative Factors for Outsourcing Decision:
The following qualitative factors should be considered in an outsourcing decision:

1. Whether the vendor will acquire the technology and will emerge as a competitor?
2. Whether the vendor will be able to maintain the quality? If the vendor fails to maintain the quality, will the company lose customers?
3. Whether the company will lose its skills in manufacturing the product and it will find difficult to resume production internally?
4. Whether laying off employees will demoralize the work force? .
5. Whether the price quoted by the vendor is a penetrating price? If so, it is likely to increase i.e. whether price will increase.

Question 5.
Answer the following:
What are the focuses of Theory of Constraints? How it differs with regard to cost behaviour? (May 2013, 4 marks)
Answer:
Theory of Constraints:

• The theory of constraint focuses its attention on constraints and bottlenecks within ne organisation which hinder speedy production.
• The main concepts to maximize the rate of manufacturing output i.e. the throughput of the organisation.
• This requires examining the bottlenecks and constraints which are defined as:

(i) A constraint is a situational factor which makes the achievement of objectives/throughput more difficult than it would otherwise be. Constraints may take several forms such as lack of skilled employees, lack of customer orders or the need to achieve a high level of quality product output.

(ii) A bottleneck is an activity within the organisation where the demand tor that resource is more than its capacity to supply.

Therefore, a bottleneck is always a constraint but a constraints need not be a bottleneck. Throughput is thus related directly to the ability to cope with the constraint and to manage the bottleneck.

• The theory of constraints assumes few costs are variable-generally materials, purchased parts, piecework labour and energy to run machines. It assumes that most direct labour and overheads are fixed.
• This is consistent with the idea that the shorter the time period, the more costs are fixed and the idea that the theory of constraints focuses on the short run.

Question 6.
Answer the following:
Classify the following items appropriately under the three measures used in the Theory of Constraints : (May 2014, 4 Marks)
Sl. Nom – Item
(i) Research and Development
(ii) Cost Rent/Utilities
(iii) Finished goods inventory
(iv) Depreciation
(v) Labour Cost
(vi) Stock of Raw Materials
(vii) Sales
(vii) Cost of equipment and buildings
Answer:

	Item	Theory or Constraint
1.	R&D cost	Investments
2.	Rent/Utilities	Operating cost
3.	Finished goods inventory	investments
4.	Depreciation	Operating cost
5.	Labour cost	Operating cost
6.	Stock of RM	Investments
7.	Sales	Through put contribution
8.	Cost of equipment and buildings	Investments.

Question 7.
Answer the following:
Quality products can be determined by using a few of the dimensions of quality. Identify the following under the appropriate dimension: (May 2015, 4 Marks)
(i) Consistency of performance over time.
(ii) Primary product characteristics.
(iii) Exterior finish of a product.
(iv) Useful life of a product.
Answer:
Quality of Products with Appropriate Dimension

Sl. No.	Quality of Products (Examples)	Dimension
(i)	Consistency of performance over time	Reliability
(ii)	Primary product characteristics	Performance
(iii)	Exterior finish of a product	Aesthetics
(iv)	Useful life of a product	Durability

Question 8.
Answer the following question:
Classify the following items under the three measures used in the theory of constraints : viz Throughput Contribution, Operating Costs and Investments. (May 2017, 4 Marks)
(i) Research and Development Cost
(ii) Rent/Utilities
(iii) Raw materials used for production
(iv) Depreciation
(v) Labour Cost
(vi) Stock of raw materials
(vii) Sales
(viii) Cost of equipments and buildings
Answer:

	Item	Theory of Constraint
(i)	Research and Development Cost	Investment
(ii)	Rent/Utilities	Operating costs
(iii)	Raw materials used for production	Through put contribution
(iv)	Depreciation	Operating cost
(v)	Labour Cost	Operating costs
(Vi)	Stock of raw materials	Investments
(vii)	Sales	Throughput contribution
(viii)	Cost of equipments and buildings	Investment

Question 9.
Discuss the connection between Total Quality Management and Total Productive Maintenance. (Jan 2021, 5 marks)

Question 10.
A company produces three products A, B and C. The following information is available for a period: (Nov 2008, 5 Marks)

Estimated sales demand for A, B and C are 500 units each and machine capacity is limited to 6,000 hours for each machine.
You are required to analyse the above information and apply theory of constraints process to remove the constraints.
How many units of each product will be made?
Answer:
Throughput Accounting ratio is highest for ‘Machine 2′
∴ ‘Machine 2′ is the bottleneck
Contribution per unit of bottleneck machine hour:
Total ‘Machine 2’ hours available = 6,000

Question 11.
TQ Ltd. implemented a quality improvement programme and had the following results: (Nov 2008, 4 Marks)

You are required to:
(i) Clasify the quality costs as prevention, appraisal, internal failure and external failure and express each class as a percentage of sales.
(ii) Compute the amount of increase in profits due to quality improvement.
Answer:
(i) Classification of Quality Costs

(ii) Cost reduction was effected by 7.58% (29.25 – 21.67) of sales, which is an increase in profit by ₹ 4,55,000.

Question 12.
Vikram Ltd. produces 4 products using 3 different machines. Machine capacity is limited to 3,000 hours for each machine. The following information is available for February, 2009: (May 2009, 7 Marks)

From the above information you are required to identify the bottleneck activity and allocate the machine time. (7 marks)
Answer:

Since Machine 2 has the highest machine Utilization it represents the bottleneck activity hence product, ranking and resource allocation should be based on contribution/machine hour of Machine 2.

Allocation of Resources

Question 13.
H Ltd. manufactures three products. The material cost, selling price and bottleneck resource details per unit are as follows: (Nov 2010, 5 Marks)

Budgeted factory costs for the period are ₹ 2,21,600. The bottleneck resources time available is 75120 minutes per period.
Required:
(i) Company adopted throughput accounting and products are ranked according to ‘product return per minute’. Select the highest rank product.
(ii) Calculate throughput accounting ratio and comment on it.
Answer:
(i) Computation of Rank according to product return per minute

Particulars	X	Y	Z
Selling Price	66	75	90
Variable Cost	24	30	40
Throughput Contribution	42	45	50
Minutes per unit	15	15	20
Contribution per minute	2.8	3	2.5
Ranking	II	I	III

(ii)

Particulars	X	Y	Z
Contribution/minute	2.80	3.00	2.50
Factory Cost per minute (221600/75120)	2.95	2.95	2.95
TA Ratio = Contribution per min / cost per minute	0.95	1.02	0.85
Ranking based on TA Ratio	II	I	III

Comment: Product Y yields more contribution compared to average factory contribution per minute, whereas X and Z yield less.

Question 14.
A company makes a single product which sells at ₹ 800 per unit and whose variable cost of produetion is ₹ 500 per unit. Production and sales are 1000 units per month. Production is running to full capacity and there is market enough to absorb an additional 20% of output each month.
The company has two options: (May 2011, 5 marks)
Option -I
Inspect finished goods at ₹ 10,000 per month. 4% of production is detected as defectives and scrapped at no value. There will be no warranty replacement, since every defect is detected. A small spare part which wears out due to defective material is required to be replaced at 2,000 per spare for every 20 units of scrap generated. This repair cost is not included in the manufacturing cost mentioned above.

Option -II
Unift the finished goods inspection at no extra cost, to raw material inspection, (since defective raw materials are entitled to free replacement by the supplier), take up machine set-up tuning and machine inspection at an additional cost of 8,000 per month, so that scrap of finished goods is completely eliminated. However, delivery of uninspected finished products may result in 1% of the quantity sold to be replaced under free warranty due to minor variation in dimensions, which does not result in the wearing out of the spare as stated in

Option -I
(i) Using monthly figures relevant for decision making, advise which option is more beneficial to the company from a financial perspective.
(ii) Identify the quality costs that can be classified as
(a) appraisal costs and
(b) external failure costs.
Answer:

	Option 1		Option II
Production	1000 Units		1000 Units
Finished Goods Inspection	‘10000	Appraisal	–
Raw Material Inspection scrap 4% = 40 units × variable cost per unit 500	20000	Appraisal	10000
Contribution lost 300 × 40	12000	Appraisal
Machine repair	4000	Appraisal	–
Machine set up			8000
Warranty replacement	–
1% × 1000 = 10 unit
Contribution lost 10 x 300			3000	External failure
Variable Cost lost 10 × 500			5000	External failure
Quality Cost	46000		26000

Better Option II

Question 15.
Gupta Ltd. produces 4 products P, Q, R and S by using three different machines X, Y and Z. Each machine capacity is limited to 6000 hours per month. The details given below are for July, 2013: (May 2013, 8 marks)

Required:
(i) Find out the bottleneck activity.
(ii) Allocate the machine hours on the basis of the bottleneck.
(iii) Ascertain the profit expected in the month if the monthly fixed cost amounts to ₹ 9,50,000.
(iv) Calculate the unused spare hours of each machine.
Answer:
(i) Computation of Machine Utilisation:

Because of Machine Y has the highest machine utilization it represents the bottleneck activity.

Therefore Product Ranking and Resource Allocation should be based on Contribution / Machine Hour of Machine Y.

(ii) Allocation of Resources:

(iii) Calculation of Expected Profit

Particulars	Amount (₹)
P (200 units × ₹ 3,000) Q (1.1.11 units × ₹ 2,400) R (200 units × ₹ 2,000) S (200 units × ₹ 1,200)	6,00,000 26,664 4,00,000 2,40,000
Total Contribution Less: Fixed Cost	12,66,664 9,50,000
Expected Profit	3,16,664

(iv) Unused Spare Hours
Machine ‘X’

Particulars	Amount (₹)
Machine Hours Available Less: Machine Hours Utilized	6,000.00 hrs. 5,333.32 hrs.
Spare Hours	666.68 hrs.

Machine ‘Z’

Particulars	Amount (₹)
Machine Hours Available Less: Machine Hours Utilized	6,000.00 hrs. 4,666.66 hrs.
Spare Hours	1,333.34 hrs.

Note: At the time of computation of Production (units) of Product ‘Q’ on the basis of allocated hours, round figure (complete units) can also be considered. Then remaining solution will be changed accordingly.

Question 16.
A Ltd. is going to introduce Total Quality Management (TQM) in its company. State whether and why the following are valid or not for the successful implementation of TQM. (May 2014, 5 Marks)
(i) Some departments serve both the external and internal customers. These departments have been advised to focus on satisfying the needs of the external customers.
(ii) Hold a training program at the beginning of a production cycle to ensure the implementation of TQM.
(iii) Implement Management by Objectives for faster achievement of TQM.
(iv) Appoint the Head of each department as the person responsible to develop improvement strategies and performance measures.
(v) Eliminate wastage of time by avoiding documentation and procedures.
Answer:
Total Quality Management:
(i) Invalid : TQM advocates focus to be given on both external and internal customers. Hence, focus satisfying the needs of the external customers only will not be valid for the successful implementation of TQM.

(ii) Valid: Hold a training program at the beginning of the production cycle is necessary for effectiveness and accuracy of process.

(iii) Invalid: For implementation of TQM, Management by Objectives should be eliminated as targets of production will encourage delivery of poor quality goods and thus will defeat the collective nature of TQM.

(iv) Invalid: For achievement of goals each and every person of organisation is responsible, not a single person. So all persons of organisation make a group efforts for success. So appointment of head of each department is not necessary.
(v) Invalid: Documentation, procedures and awareness of current best practice are essential in TQM implementation. If documentation and procedures are in place then only improvement can be monitored and measured and consequently deficiency can be corrected.

Question 17.
Genex Limited produces 3 products X, Y and Z using three different machines M₁, M₂ and M₃. Each machine’s capacity is limited to 6000 hours dunng the production period. The details given below are for the production period: (May 2015, 8 Marks)

(i) Determine the bottleneck activity.
(ii) Allocate the machine hours on the basis of the bottleneck.
(iii) Determine the unused spare capacity, If any, of each machine.
Answer:
(i) Calculation of Bottleneck Activity

Bottleneck activity is machine hours of machine M₂.

(ii) Allocation of Machine Hours on the basis of Bottleneck Activity: Ranking

(iii) Calculation of unused capacity of each machine
Machine – Unused capacity
M₁ – 6000 – 3600 – 600 – 1200 = 600 hrs.
M₂ – 6000 – 3600 – 800 – 1600 = Nil
M₃ – 6000 – 4000 – 400 – 400 = 1200 hrs.

Question 18.
Classify the following items under appropriate categories of quality costs, viz., Prevention Costs (PC), Appraisal Costs (AC), Internal Failure Costs (IFC) and External Failure Costs (EFC): (Nov 2015, 5 Marks)
(i) Unplanned replacement to customers
(ii) Correction of a bank statement
(iii) Design review
(iv) Equipment accuracy check
(v) Staff training
(vi) Reprocessing of a loan operation
(vii) Product liability warranty (viii) Product acceptance
(ix) Wastage of material
(x) Planned maintenance of equipment
(Candidates may opt for the following format and fill in the appropriate Roman numerals under each column)

Costs →	PC	AC	IFC	EFC
Q. Nos. →

Answer:
Appropriate Categories of Quality Costs

Costs	PC	AC	IFC	EFC
Q. Nos.	(iii)	(iv)	(ii)	(i)
	(v)	(viii)	(vi)	–
	(x)	‘ –	(ix)	(vii)

Question 19.
A company produces and sells a single product. The cost data per unit for the year 2017 is predicted as below: (May 2016, 8 Marks)
₹ Per unit
Direct material – 35
Direct labour – 25
Variable overheads – 15
Selling price – 90
The company has forecast that demand for the product during the year 2017 will be 28,000 units. However, to satisfy this level of demand, production quantity will be increased?

There are no opening stock and closing stock of the product.

The stock level of material remains unchanged throughout the period.

The following additional information regarding costs and revenue are given:

• 12. 5% of the items delivered to customers will be rejected due to specification failure and will require free replacement. The cost of delivering the replacement item is ₹ 5 per unit.
• 20% of the items produced will be discovered faulty at the inspection stage before they are delivered to customers.
• 10% of the direct material will be scrapped due to damage while in storage.

Due to above, total quality costs for the year is expected to be ₹ 10,75,556.

The company is now considering the following proposal:

1. To introduce training programmes for the workers which, the management of the company believes, will reduce the level of faulty production to 10%. This training programme will cost ₹ 4,50,000 per annum.
2. To avail the services of quality control consultant at an annual charges of ₹ 50,000 which would reduce the percentage of faulty items delivered to customers to 9.5%.

You are required to:
(i) Prepare a statement of expected quality costs the company would incur if it accepts the proposal. Costs are to be calculated using the four recognised quality costs heads.
(ii) Would you recommend the proposal? Give financial and non-financial reasons.
Answer:
(i) Statement Showing ‘Expected Quality Costs’

Particulars	Current Situation (₹)	Proposed Situation (₹)
Prevention Costs	—	4,50,000
Appraisal Costs	—	50,000
External Failure Costs	3,20,000	2,35,120
Internal Failure Costs	7,55,556	3,91,538
Total Quality Costs	10,75,556	11,26,658

Workings
External Failure Cost

Particulars	Current Situation	Proposed Situation
Customer’s Demand                                                …(A)	28,000 units	55,000 units
Number of units Dispatched to Customers  …(B) \(\left(\frac{28,000 \text { units }}{87.5 \%}\right) ;\left(\frac{28,000 \text { units }}{90.5 \%}\right)\)	32,000 units	30,939 units
Number of units Replaced                           …(B) – (A)	4,000 units	2,939 units
External Failure Cost {4,000 units × ₹ (35 + 25 + 15 + 5)}; {2,939 units × ₹ (35 + 25 + 15 + 5)}	₹ 3,20,000	₹ 2,35,120

Internal Failure Cost

Particulars	Current Situation	Proposed Situation
Number of units Dispatched to Customers   …(A)	32,000 units	30,939 units
Number of units Produced & Rejected                     …(B) \(\left(\frac{32,000 \text { units }}{80 \%}\right) ;\left(\frac{30,939 \text { units }}{90 \%}\right)\)	40,000 units	34,377 units
Number of units Discovered Faulty              … (B) – (A)	8,000 units	3,438 units
Cost of Faulty Production                                          …(D) {8,000 units × ₹ (35 + 25+15)}; {3,438 units × ₹ (35+25+15)}	₹ 6,00,000	₹ 2,57,850
Material Scrapped \(\left(\frac{40,000 \text { units }}{90 \%} \times 10 \%\right) ;\left(\frac{34,377 \text { units }}{90 \%} \times 10 \%\right)\)	4,444.44 units	3,819.67 units
Cost of Material Scrapped                                           …(E) {4,444.44 units × ₹ 35}; (3,819.67 units × ₹ 35}	₹ 1,55,556	₹ 1,33,688
Internal Failure Cost                                         …(D) + (E)	₹ 7,55,556	₹ 3,91,538

(ii) Recommendation:
On purely financial grounds the company should not accept the proposal because there is an increase of ₹ 51,102 in quality costs. However there may be other factors to consider as the company may enhance its reputation as a company that cares about quality products and this may increase the company’s market share.

On balance the company should accept the proposal to improve its long-term performance.

Question 20.
ABC Ltd. produces three products A, B and C. The following information is available for a period: (Nov 2016, 6 marks)

Product	A	B	C
Contribution per unit (Sales – Direct Materials) (?)	30	25	15

Machine hours required per unit of production:

	Machine hours required per unit			Through put Accounting ratio
Product	A	B	C
Machine 1	10	2	4	133.33%
Machine 2	15	3	6	200.00%
Machine 3	5	1	2	66.67%

Estimated sales demand for A, B and C are 500 units each and machine capacity limited to 6000 hours for each machine.
Required:
Analyse the above information and apply theory of constraints process to remove the constraints. How many units of each product will be made?
Answer:
Note: TA Ratio is highest for Machine 2. So, ‘Machine 2’ is the bottleneck.
Total ‘Machine 2’ hours available = 6,000.

Question 21.
Rohni Steel Company produces three grades of steel-super, good and normal grade. Each of these products (Grades) has high demand in the market and company is able to sell as much as it can produce these products.

The furnace operation is a bottle-neck in the process. The company is running at 100% of capacity. The company wants to improve its profitability. The variable conversion cost is ₹ 100 per process hour. The fixed cost is ₹ 48,00,000. In addition, the Cost Accountant was able to determine the following information about the three products (grades): (May 2018)

	Super Grade	Good Grade	Normal Grade
Budgeted Units Produced	6,000	6,000	6,000
Total process hours per unit	12	12	10
Furnace hours per unit	6	5	4
Unit Selling Price	₹ 3,600	₹ 3,400	₹ 3,000
Direct Material cost per unit	₹ 2,100	7 1,900	₹ 1,720

The furnace operation is part of the total process for each of these three products. Thus furnace hours are the part of process hours.

Required:
(i) Determine the unit contribution margin for each product. . (5 marks)
(ii) Give an analysis to determine the relative product profitability, assuming that the furnace is a bottleneck. (5 marks)
(iii) Management wishes to improve profitability by increasing prices on selected products. At what price would super and good grades need to be offered in order to produce the same relative profitability as normal grade steel? (10 marks)
Answer:
(i) Contribution Marging per unit

Particulars	Super Grade (₹)	Good Grade (₹)	Normal Grade (₹)
Selling Price per unit	3,600	3,400	3,000
less: Variable Conversion Cost per unit	1,200 (₹ 100 × 12 hrs.)	1,200 (₹ 100 × 12 hrs.)	1,000 (₹ 100 × 10 hrs.)
Less: Direct Material Cost per unit	2,100	1,900	1,720
Contribution Margin per unit	300	300	280

(ii) The contribution margin per unit may give false signals when an organization has production bottlenecks. Instead, Company should use the contribution margin per bottleneck hour to determine relative product profitability, as follows:

Particulars	Super Grade	Good Grade	Normal Grade
Contribution Margin per unit (₹)	300	300	280
Furnace Bottleneck hrs. per unit	6	5	4
Contribution Margin per furnace hour	50	60	70

Analysis
The Super and Good Grade steel have the highest contribution margin per unit (₹ 300); however, the normal grade has the highest contribution margin per furnace hour (₹ 70), Thus, using production bottleneck analysis indicates that the Normal Grade is actually more profitable at a ₹ 70 contribution margin per furnace hour than Super Grade’s ₹ 50 or Good Grade’s ₹ 60 contnbution margin per furnace hour.

Therefore, the company would want to sell product in the following preference order:
I. Normal Grade
II. Good Grade
III. Super Grade

(iii) One way is to revise the pricing would be to increase the price to the point where all three products produce profitability equal to the highest profit product. This would be determined as follows:

Contribution Margin per furnace hour for Normal Grade

Or, ₹ 420 = Revised Price of Super Grade – ₹ 3,300
Super grade steel would require a revised price of ₹ 3,720 in order to deliver the same contribution margin per bottleneck hour as does Normal Grade steel.
Contribution Margin per furnace hour for Normal Grade =

Good grade steel would require a revised price of ₹ 3,450 in order to deliver the same contribution margin per bottleneck hour as does Normal Grade steel.

Question 22.
JK Ltd. produces and sells a single product. Presently the company is having its quality control system in a small way at an annual external failure and internal failure costs of ₹ 4,40,000 and ₹ 8,50,000 respectively. As the company is not able to ensure supply of good quality products upto the expectations of its customers and wants to manage competition to retain market share considers an alternative quality control system. It is expected that the implementation of the system annually will lead to a prevention cost of ₹ 5,60,000 and an appraisal cost of ₹ 70,000. The external and internal failure costs will reduce by ₹ 1,00,000 and ₹ 4,10,000 respectively in the new system. All other activities and costs will remain unchanged. (May 2018)

Required:
(i) Examine the new quality control proposal and recommend the acceptance or otherwise of the proposal both from financial and non- financial perspectives. (6 marks)
(ii) What is your advice to the company, if the company wants to achieve zero defect through a continuous quality improvement programme? (2 marks)
(iii) Suggest a suitable quality control level at a minimum cost. (2 marks)
Answer:
(i) Implementation of new system will reduce costs of the non – conformance (internal and external failure) by ₹ 5,10,000 (-40%). However, this will also increase costs of conformance by ₹ 6,30,000. There is inverse relationship between the costs of the conformance and the costs of non-conformance. JK Ltd. should try to avoid costs of non-conformance because both internal and external failure affect customer’s satisfaction and organisations profitability.

The company should focus on preventing the error such that it ensures that product is of good quality when it reaches the customer at the very first instance. This enhances the customer experience and therefore eliminating the scope for external failures like sales returns and warranty claims. Better quality can yield further sales. Therefore, an increase in spending on quality measures is justified since it not only yields significant improvements to quality but also brings in more sales orders.

Accordingly, from the financial perspective point of view the new proposal for quality control should not be accepted as it will lead to an additional cost of ₹ 1,20,000 (₹ 6,30,000 – ₹ 5,10,000). However, from non-financial perspective point of view as stated above the company should accept the new proposal.

(ii) It is possible to increase quality while at the same time reducing both conformance and non-conformance costs if a programme of aiming for zero defect/ and or continuous improvement is followed. Zero defect advocates continuous improvement. To implement this elimination of all forms of waste, including reworks, yield losses, unproductive time, over-design, inventory, idle facilities, safety accidents, etc. is necessary.

(iii) To achieve 0% defects, costs of conformance must be high. As a greater proportion of defects are accepted, however, these costs can be reduced. At a level of 0% defects, cost of non-conformance should be nil but these will increase as the accepted level of defects rises. There should therefore be an acceptable level of defects at which the total costs of quality are at a minimum.

Question 23.
TSC Box Ltd. is a manufacturer and supplier of android set up boxes for various DTH operators. This is very popular with the operators as it converts normal TV to a smart TV. To ensure supply of good quality products to meet the expectations of the viewers, it has set up quality control department that regularly conducts quality inspection and submits it report to the management on weekly basis.

As per the latest quality inspection report submitted by the department, it reflects that the current rejection rate is 7% of units input into the manufacturing system due to poor quality. 3,000 units of input go through the process every day. As per analysis, for each rejection, there is loss of ₹ 150 to the company. The management is very much worried due to high rate of rejection of input units.

The management has asked for suggestions from the quality control department in this regard. The department has suggested implementation of new system for inspection for early detection of defective units. This change would result in drop of rejection rate to 4% from earlier 7%. The cost of new system will be ₹ 12,000 per day. (Nov 2020)

Required:
(i) Analyse the proposed new system for inspection and suggest if it would be beneficial for the company. (3 marks)
(ii) Also Calculate the minimum reduction in number of rejections each day upto which the proposed system will be beneficial. (2 marks)

Question 24.
RS Tools Ltd. is a leading force in manufacture and supply of modern agriculture equipment like Power Tillers, Kisan Krafts, Agriculture Reaper and other Lawn Care equipment. The company grew substantially over the course of decades and presently ranked 20lh by size in the global arena and has become a household name in every agriculture family in the country. As commonly happens when an enterprise goes in leaps and hounds in a way like this, RS Tools Ltd. is experiencing an increasing degree of supply chain complexities and for many years it did nothing to address the difficulties of its decentralized and fragmented network.

The top management decided recently to enter into small irrigation components segment with the brand name ‘SIRI’, the demand for which is extremely seasonal and majority of sales are forecasted to occur between April to July every year. The company currently is replenishing dealer’s inventory every month, using direct shipment from its central warehouse which is not order driven and is not in sync with the industry average. This kind of dispatching the orders is proving too costly and too slow and not in consonance with the demand pattern.

The top management of RS Tools Ltd. has started getting doubts about the company’s ability to supply its existing 300 plus dealer network, to meet the consistent market demand of its regular agriculture equipment along with the seasonal demand of its new branded products ‘SIRI’. They recognized that this state of affairs cannot be allowed to continue in the long run and decided to adopt a long term program of strategic optimization. (Jan 2021)

The company has launched an initiative to achieve a targeted 15% reduction in supply chain cost within next 3 years and constituted an expert group to oversee this task. Mr. Karthik, the management consultant, is unanimously appointed at the board meeting to head the expert group formed to revamp the supply chain management. The management is squarely convinced with three of his bold and frank remarks to the board that:

(a) “Most Companies begin with the best intentions to achieve successful and sustainable supply chain cost management, but somehow lose momentum, only to see costs increase in short term due to the implementation costs of SCM”.
(b) “If you tell me your company hasn’t been able to sustain any progress in supply chain cost reduction in short run, I wouldn’t be surprised at air.
(c) “No producer has the ability to give the customers what they want, when they want and at the price they want unless the value chains also have been encouraged”.

When the expert team haded by Mr. Karthik began investigation they found three areas of feasible leverage to reduce supply chain costs which are listed below-
(i) Consolidating shipments and use of third party logistic providers as the existing decentralized environment of sourcing and inbound logistics are being managed by teams in different places with insufficient transparency in supply chain.
(ii) Leveraging on maintaining optimum inventory by bringing the order cycle time down to an industry average of 15 days.
(iii) The existing supply chain has evolved rather than grown by design and hence had become unnecessarily complex and the enterprise as a whole is not taking the advantage of synergies and economies of scale.

Mr. Karthik undertook a supply chain network redesigning program

• to reorganize the supply chain,
• to reduce cost to serve and
• to lay the groundwork for future capability in the supply chain.

He is determined to revitalize the Supplier Relationship management as well as the numbers of suppliers are very large in number and the company is burdened with quality, delivery and payment issues from the suppliers. He has decided to suggest the use of E-procurement process as a part of upstream supply chain as a remedy to this hiccup.

You being an associate consultant in his office have been asked by Mr. Karthik, to help him by preparing a briefing to be given to the board based on the above facts with particular reference to the following:
(a) List the critical issues being faced by RS Tools Ltd. under the present setup based on the facts of the above case. (3 marks)

(b) In the light of the initial remarks made by Mr. Karthik at the time of he being designated to head the expert group, explain the supply chain management and analyze the validity of the views expressed by Mr. Karthik. (4 marks)

(c) List the major benefits that RS Tools Ltd. would reap by energizing the Supply Chain Management. (3 marks)

(d) Evaluate how Supplier Relationship Management is going to help RS Tools Ltd. (4 marks)

(e) Describe E procurement and its process in the context of upstream supply chain management and discuss its constituents. (3 marks)

(f) Advise whether the outsourcing as suggested by Mr. Karthik would help RS Tools Ltd. in settling logistic constraints. (3 marks)