Question 1
You work for VR Wholesale Plc, a wholesale distribution company that has a very wide range of products. Three categories of products within the range have been code named Alpha, Beta, and Gamma. The basic cost card for these is shown below.
The market for these products is highly competitive, but demand is increasing, so the Directors are optimistic about the future and have expansion plans, but first they need your advice to maximise profits from the existing range of products. The board of directors are considering halting the supply of Beta and Gamma that appear to be making no profit.
As you can see from the table below the directors are considering closing products Beta and Gamma in an effort to improve overall profitability, but using your knowledge of cost and management accounting techniques do you agree with this?
You spot that marginal costing would show the results differently and may affect the directors decision.
|
|
Alpha
(£m)
|
Beta (£m)
|
Gamma
(£m)
|
Total
(£m)
|
|
Sales
|
18,000
|
12,000
|
9,000
|
39,000
|
|
Cost of sales
|
|
|
|
|
|
Materials
|
(6,000)
|
(4,000)
|
(4,000)
|
(14,000)
|
|
Labour
|
(6,000)
|
(6,000)
|
(6,000)
|
(18,000)
|
|
Overheads
|
(3,000)
|
(3,000)
|
(3,000)
|
(9,000)
|
|
Profit/(loss)
|
3,000
|
(1,000)
|
(4,000)
|
(2,000)
|
Requirements for Question 1
Part (a)
i. Use your knowledge of management accounting to calculate the contribution of each produc.
ii. Use your findings from part (a) and appropriate academic references to explain whether the company should stop making product Beta.
iii. Use your findings from part (a) and appropriate academic references to explain whether the company should stop making product Gamma.
iv. Discuss how and why marginal costing calculates contribution to pay overheads and why this is useful in evaluating product value to a firm?
v. Do you agree that profitability will improve by ceasing to make Products Beta and Gamma? What do you suggest the company does to increase profitability?
The board have approached you to get your opinion of their expansion plan, which includes a chain of factory outlet stores. Below are the figures for the first one that is planned for a central Birmingham location next year.
Company policy dictates that any decision should be based on the results of calculating Net Present Value (NPV) of 3 years cash flows using a cost of capital of 12%, Payback Period (PBP) must be less than 3 years, and the Internal Rate of Return (IRR) of the project should provide a 5% cushion in case of increases in inflation or interest rates.
The investment consists of £2,000,000 for the land, building costs of £3,950,000, and £915,000 for fittings and equipment.
The cash flows in year 1 are expected to be: total sales revenue £14,300,000; the cost of Alpha products sold £3,950,000; Beta stock sold £2,830,000; staff costs £590,000; light & heat £838,000; other overheads £3,212,000. The cash flows for the following years are the same, but are expected to increase by 2% inflation each year.
Part (b)
Using the information above and in accord with the above stated company policy you are required to calculate:
i. Net Present Value (NPV).
ii. Payback period (PBP) and Discounted Payback Period (DPBP).
iii. Internal Rate of Return.
iv. Based on your calculations do you recommend the investment is made and the new outlet store is built?
v. Critically discuss the limitations of the above project appraisal techniques used and any other recommendations to the board.
Question 2- Essay question
Write a short academic paper (between 1000 and no more than 2000 words) that critically evaluates the importance of considering financial and non-financial factors when managing the performance of a business.