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Part A
Answer the following questions: The launch of a new product is under consideration. Its unit variable costs will be £30 and it is estimated that incremental fixed costs of £250,000 will be incurred if production is commenced. Forecast sales are 50,000 units. At what level of price for the new product will the organisation break even? If the actual planned selling price is £48 per unit, what will be the organisation’s margin of safety? The following information is about two organisations, A and B. Organisation A Organisation B £ £ Fixed costs 60,000 12,000 Variable costs per unit 0.20 0.50 Unit selling price 0.60 0.60 Expected sales levels (units) 160,000 160,000 Which firm has higher operating gearing? What is the expected net income of both firms? What would expected net income be for both firms if sales were a) 140,000 units and b) 180,000 units? Which firm is facing more risk in terms of its current sales predictions? Be sure to demonstrate your numerical workings.
Part B
A friend has asked you for some advice: ‘My small business now makes a profit; I am only too aware of this, as I now face a big tax bill each year, when my tax accountant has prepared my annual accounts. However, I don’t feel much better off personally, so this is not quite what I had expected when I took the risk of resigning my job and setting up my own firm. The accountant is now trying to persuade me to pay her even higher fees, by letting her prepare monthly “management accounts” for me. She says that I would also benefit from something called CVP analysis on my various product lines. I know that you are now doing an MSc. What does she mean here, and is this likely to be worth my paying her for?’ In formulating your Key Concept Exercise, consider the following questions:
What is the difference between financial reporting and management accounting?
What are the benefits and potential problems associated with cost-volume-profit (CVP) analysis?
What advice would you give your friend?
In an approximately 500-word response, address the following issues/questions:
Outline the difference between financial reporting and management accounting information and explain the benefits and potential problems associated with cost-volume-profit (CVP) analysis.
How might the technique that you have discussed assist your friend in the effective management of his business resources? What advice would you give him? Base your answer on research, your readings and your own experiences. Please cite all references.
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