DE LA SALLE UNIVERSITY – DASMARIÑAS

College of Business Administration and Accountancy

Accountancy Department
Management Accounting Part II

Practice Problem Set

I – The Coffee Republic sells three coffee products in a foreign market and a domestic market. An income
statement for the first month of 2018 shows the following.
Sales $ 1,300,000
Cost of goods sold 1,010,000
Gross profit 290,000
Selling expenses $ 105,000
Administrative expenses 72,000 177,000
Income $ 113,000

Incomplete data regarding the two markets and three products are as follows:

PRODUCTS
A B C
Sales
Domestic $ 400,000 $ 300,000 $ 300,000
Foreign 100,000 100,000 ?
Variable production costs
(percentage of sales) 60% 70% 60%
Variable selling costs
(percentage of sales) 3% ? 1%

Product A is made in a single factory that incurs fixed costs (included in cost of goods sold) of $48,000
per month. Products B and C are made in a single factory and require the same machinery. Monthly fixed
production costs at that factory are $142,000.

Fixed selling expenses are joint to the three products, but $36,000 is direct to the domestic market and
$38,000 to the foreign market. All administrative expenses are fixed. About $25,000 is traceable to the foreign
market, $35,000 to the domestic market.

The contribution margin ratio for the company as a whole is 35%.

Required:
1. Assume that Coffee Republic has separate managers responsible for each market. Prepare performance
reports for the domestic and foreign markets. In your report, break common fixed costs into cost of
goods sold, selling expenses, and administrative expenses. (20 marks)

Format your report as follows (segmented by market):

DOMESTIC MARKET
Line A Line B Line C Total

FOREIGN MARKET
Line A Line B Line C Total

SUMMARY
Domestic Foreign Total

2. Assume that Coffee Republic has separate managers responsible for each product. Prepare performance
reports for the three products. In your report, break common fixed costs into cost of goods sold, selling
expenses, and administrative expenses. (20 marks)

Format your report as follows (segmented by product):

 LINE A
Domestic Foreign Total

LINE B
Domestic Foreign Total

LINE C
Domestic Foreign Total

SUMMARY
Line A Line B Line C Total

3. Management believes that if foreign market was dropped, sales in the domestic market could be
increased by $200,000. The increase would be divided 40%, 40% and 20% among products A, B, and
C, respectively. Determine whether the foreign market should be dropped. Show supporting
computations. (4 marks)
4. Management also believes that a new product, D, could be introduced by the end of the current year.
The product would replace product B and would increase fixed costs by $30,000 per month. Assume
that the foreign market will not be dropped. Determine the minimum monthly contribution margin that
product D would have to produce in order to make its introduction desirable. (3 marks)

II – Haniwall Industries, manufacturer of prefabricated houses for over 20 years, designated the Orlando
Division as an investment center. Selected financial information from Orlando’s 2017 income statement are
presented below.

Haniwall Industries
Orlando Division
Selected Financial Information
For the Year Ended December 31, 2017

Sales revenue $4,800,000

Cost of goods sold 2,650,000
Selling expenses 727,000
Administrative expenses 402,650
Other operating expense 324,350
Interest expense 139,200
Tax expense 167,040

In addition, the division reported the following asset balances for fiscal year ended Dec 31, 2017:

Assets Market Value Book Value

Cash $1,210,000 $1,210,000
Accounts receivable 630,000 630,000
Inventory 880,000 880,000
Investment in Checkers Company 750,000 660,000
Land (undeveloped) 1,550,000 1,360,000
Property and equipment, net of depreciation* 1,400,000 1,280,000
* Accumulated depreciation stood at $400,000.

The division’s operating assets employed at December 31, 2017 registered a 5 percent increase over the
2016 year-end balance. The president of Haniwall Industries has indicated that the division’s rate of return on
investment must be increased to at least 20% by end of the next year if operations are to continue. The division
manager considers implementing one of the following proposals at the beginning of 2018:
 Proposal 1: Reduce invested assets by discontinuing a product line. This action would eliminate sales of
$500,000 with gross margin of 35.4% and operating expenses of $40,000. Assets of $560,000
would be transferred to other divisions at no gain or loss.
Proposal 2: Sell equipment with a book value of $1,000,000 to other divisions at no gain or loss and lease
similar equipment. The annual lease payments would exceed the amount of depreciation
expense on the old equipment by $72,000. This change in expense would be included as part
of the cost of goods sold. Proceeds from sold equipment would be used to pay off short-term
creditors and thereby reduce interest expense by $36,000. Sales would remain unchanged.
Proposal 3: Purchase new and more efficient machinery for $800,000 using cash and thereby reduce the
cost of goods sold by $168,000. Sales would remain unchanged, and the old machinery, which
has no remaining book value, would be scrapped at no gain or loss.

Required:
1. Calculate the following performance measures for the Orlando Division for 2017.
a. Return on investment (ROI), expanded into profit margin and investment turnover (6 marks)
b. Residual income (3 marks)
2. If the Orlando Division were in an industry where the profit margin could not be increased, how much
would the investment turnover have to increase to meet the president’s required rate of return on
investment? (3 marks)
3. Using the expanded expression for ROI, determine the new overall profit margin, investment turnover,
and ROI for each proposal in 2018. Which of the three proposals would meet the required rate of return
on investment? (19 marks)

III – Following is a budgeted income statement for Dreyfess of Midwest Products, Inc. The division sells
100,000 units to outsiders at $10 each, and 50,000 units to a sister division at $8.

Intercompany
Sales to Sales to
Thomson Outsiders
Sales $400,000 $1,000,000
Variable costs 200,000 400,000
Contribution margin $200,000 $600,000
Fixed costs ($300,000, allocated at $2 per unit) 100,000 200,000
Profit $100,000 $ 400,000

Required:
1. Thomson can buy all of its requirements from an outside supplier at $7 per unit and will do so unless
Dreyfess meets the $7 price. Dreyfess’ manager knows that if he loses the Thomson business, he will
not be able to increase sales to outsiders and fixed costs will not change. Should he meet the $7 price
from the standpoint of (a) the company and (b) Dreyfess? Show supporting computations. (8 marks)
2. Dreyfess meets the $7 price. Dreyfess then is offered the opportunity to sell 60,000 units to a chain
store at $7 each. The price of the 100,000 units now sold to outsiders will not be affected. However,
Dreyfess has capacity of 190,000 units. If Dreyfess cannot fill all of the requirements of Thomson, then
Thomson will have to buy all the units outside at $7. Should Dreyfess accept the order, considering (a)
the company and (b) Dreyfess? Show supporting computations. (8 marks)
3. Suppose now that Thomson has received the offer from the outside supplier who will provide as many
units as Thomson wants to buy at $7. Dreyfess no longer has the opportunity to sell the 60,000 units to
the chain store. The manager of Dreyfess believes that reducing prices to outsiders could increase those
sales greatly. Best estimates are that reducing the price to $9.20 would get sales of 120,000 units; to
$8.40, 150,000 units; and to $7.80, 170,000 units. Capacity is 190,000 units. Dreyfess can sell any
amount up to 50,000 units to Thompson. Thompson will buy units from the outside supplier as
necessary. What should be done? How many units should Dreyfess sell to outsiders, and how many
units should it sell to Thompson at $7? (6 marks)

IV - Cunningham, Inc., which produces electronic parts in the United States, has a very strong local market for
part no. 54. The variable production cost is $40, and the company can sell its entire supply domestically for
$110. The U.S. division spends approximately $10 per unit for variable advertising and related selling expenses.
The U.S. tax rate is 30%.
Alternatively, Cunningham can ship the part to a division that is located in Switzerland, to be used in a
product that the Swiss division will distribute throughout Europe. Information about the Swiss product and the
division's operating environment follows.

Selling price of final product: $400

 Shipping fees to import part no. 54: $20
Labor, overhead, and additional material costs of final product: $230
Import duties levied on part no. 54 (to be paid by the Swiss division): 10% of transfer price
Swiss tax rate: 40%

Assume that the Swiss division can obtain part no. 54 in Switzerland for $152.

Required:
1. Ignoring income taxes, identify the maximum transfer price that would be acceptable for the Swiss
division? (3 marks)
2. Using the minimum transfer price allowed by Section 482, calculate U.S. income, Swiss income, and
income for Cunningham as a whole. (9 marks)
3. Rather than proceed with the transfer, would Cunningham be better off to sell its goods domestically
and allow the Swiss division to acquire part no. 54 in Switzerland? Show computations for both U.S.
and Swiss operations to support your answer. (7 marks)

V – Precision Plastics maintains its own computer to service the needs of its three divisions. The company
assigns the costs of the computer center to the three divisions on the basis of the number of lines of print prepared
for each division during the month.
In July, Carol Benz, manager of Division A, came to the company’s controller seeking an explanation
as to why her division had been charged a larger amount of computer services in June than in May, although her
division had used the computer less in June. During the course of the discussion, the following data were referred
to by the controller:

Division
Total A B C
May actual results
Lines of print ......................................... 200,000 80,000 20,000 100,000
Percent of total ....................................... 100% 40% 10% 50%
Computer cost assigned ......................... $182,000 $72,800 $18,200 $91,000

June actual results

Lines of print ......................................... 150,000 75,000 30,000 45,000
Percent of total ....................................... 100% 50% 20% 30%
Computer cost assigned ......................... $179,000 $89,500 $35,800 $53,700

“You see,” said Eric Weller, the controller, “the computer has large amounts of fixed costs that continue
regardless of how much the computer is used. We have built into the computer enough capacity to handle the
division’s peak-period needs, and this cost must be absorbed by someone. I know it hurts, but the fact is that
during June your division received a greater share of the computer’s output than it did during May; therefore it
has been allocated a greater share of cost.”
Carol Benz was unhappy with this explanation. “I still don’t understand why I would be charged more
for the computer, when I used it less,” she said. “There must be a better way to handle these cost allocations.”
An analysis of the divisions’ peak period needs shows that Division A requires 40% of the computer’s
peak-period capacity, Division B requires 12%, and Division C requires 48%. Actual variable cost per line
exceeded budget by 20%, while total fixed costs registered a $20,000 unfavorable budget variance.

Required: For purpose of performance measurement, reallocate the computer costs for May and June in
accordance with the cost allocation principles under the service department charges. (18 marks)