YORK UNIVERSITY Atkinson School of Administrative Studies ADMS Mid Term Exam 1, Winter 2010 Sunday February 7 th 10:00 am 12 noon (2 hours)

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1 SOLUTIONS YORK UNIVERSITY Atkinson School of Administrative Studies ADMS Mid Term Exam 1, Winter 2010 Sunday February 7 th 10:00 am 12 noon (2 hours) Instructions This is a closed book examination and no collaboration is allowed. There are 4 equally weighted questions: attempt them all. Put your name, student number and section at the top of the page. Answer each question on the examination paper, (and on the back of a page if necessary). You may write with a pencil or pen. Two hours are allowed to complete the exam. If you leave early, please respect your fellow students by leaving quietly. Place photo identification on your desk during the examination to facilitate verification. Good luck.

2 Question 1: Shela Corp. sells a product for $18 per unit. The product has the following costs: Direct material: $ 1 Direct labour: 2 Overhead (80% fixed): 7 Total: $10 Shela has received a special order for 1,000 units. The order would require Shela to pay an additional cost of $1 per unit for special packaging. Required: a. If Shela sells all current production domestically and has no spare capacity, what would be the minimum sales price that the company would consider for this special order? (10 marks) If all current production is sold domestically and there is no spare capacity then any special order sale would eliminate a domestic sale: in addition they would have to incur the special packaging costs: Required price: $18 + $1 = $19 Or: DM: $ 1 DL: 2 Variable Overhead: Normal contribution margin: ($18-$5.40): $13.60 Special packaging: 1.00 Total: $19.00 b. Assume that Shela has sufficient idle capacity to produce the 1,000 units. If Shela wants to increase its operating profit by $6,600, what would it charge as a per-unit selling price? (10 marks) Variable cost: Direct material: $ 1.00 Direct labour: 2.00 Overhead (80% fixed): 20% * $7: 1.40 Special packaging: 1.00 $ 5.40 Required profit: $6,600/1,000: $ 6.60 Target selling price: $12.00

3 c: What are the qualitative arguments against offering a special price for this order? (5 marks) i) one-time special orders are only valid where the situation is a one-off and the market is separated from the regular market. One-off s tend to become repeat orders, and markets are seldom so rigidly separated that they cannot influence the regular market. A special order price is a shortterm decision, while most pricing decisions have a longer time horizon.

4 Question 2: Josh Newman Company annually uses 12,800 units of Part KL4. Annual carrying cost per unit is $3 and ordering cost for each order is $9. The firm uses an order quantity of 800 units. The company has no safety stock. Required: a) How much could the company save in combined ordering and carrying costs annually if it correctly calculated and used EOQ? (round off the EOQ to the nearest whole number). (15 marks) EOQ = {(2 x 12,800 units x $9) / $3} = 277 Costs using 800 unit order quantity: Average inventory (800 units/2) x Carrying cost ($3) = $1,200 Number of orders (12,800 units/800 units) x Ordering cost ($9) 16 orders x $9 = $ 144 Total cost: $1,344 Costs using the EOQ (277 units) quantity: Average inventory (277 units /2) x Carrying cost ($3) = $ Number of orders (12,800 units/277 units) x Ordering cost ($9) 46.2 * $9 = $ Total cost: $ EOQ Savings ($1,344 - $831.35): $

5 b) In making decisions about safety stock which is more important: variability of lead time or variability of demand? (5 marks) Either could be the more important: whichever has the higher level of variability. c) List three advantages of using a Just-In-Time inventory system. (5 marks) i) reduced cost of carrying inventory (because it s not there); ii) reduced cost of ordering inventory (through routinized/automated ordering); iii) increased focus on product quality; iv) the likelihood that long-term contracts lead to the reduction or elimination of material price variances etc.

6 Question 3: Dorethene Co. has a just-in-time inventory system and uses backflush accounting. Standard production cost for one unit of product is $12 for raw material and $23 for conversion. Required: a. Prepare the journal entries for the following transactions during August 2009, with narratives: i) Purchased $45,000 of raw material at the standard cost. ii) Incurred $85,000 of conversion costs. iii) Completed 3,745 units of production. iv) Sold 3,738 units on account for $68 each. (15 marks) Debit Credit Raw materials & wip inventory: $ 45,000 Accounts payable: $ 45,000 Purchase of inventory: August 2009 Conversion cost control: $ 85,000 Accounts payable, payroll etc: $ 85,000 Incurred conversion costs in August 2009 Finished goods inventory: $131,075 Raw materials & wip inventory: $ 44,940 Conversion cost control: 86,135 Standard cost of 3,745 $35 completed in August 2009 Cost of goods sold: $35 $130,830 Finished goods inventory: $130,830 Accounts receivable: $68 $254,184 Sales revenue: $254,184 Sale of 3,738 units in August 2009

7 b. Assuming no beginning inventories exist, prepare the T accounts for raw materials & work in process, conversion cost control and finished goods inventory ; determine the ending balances and state what they represent in each case. (10 marks) Raw materials and work in process Purchases: $45,000 Finished goods completed: $44,940 Balance: $ 60 If there is inventory of raw material on hand that cost $60, then the $60 debit balance represents the asset inventory. If there is no inventory on hand then the $60 debit balance represents an unfavourable variance (or a combination of variances), such as material price or material efficiency. Conversion Cost Control Conversion costs incurred: $85,000 Finished goods : $86,135 Balance: $ 1,135 The balance is a favourable variance (or combination of variances). Finished goods inventory 3,745 units completed $131,075 3,738 units sold: $130,830 Balance 7@ $35 $ 245 If there are 7 units of inventory of finished goods on hand, then the $245 debit balance represents the asset inventory. If there is no inventory on hand then the $245 debit balance represents an unfavourable variance.

8 Question 4: Sonimad Sawmill Inc. (SSI) purchases logs from independent timber contractors and processes the logs into three types of lumber products: 1) Studs for residential building (e.g., walls, ceilings) 2) Decorative pieces (e.g., fireplace mantels, beams for cathedral ceilings) 3) Posts used as support braces (e.g., mine support braces, braces for exterior fences around ranch properties) These products are the result of a joint sawmill process that involves removal of bark from the logs, cutting the logs into a workable size (ranging from 2.5 to 5 meters long), and then cutting the individual products from the logs, depending on the type of wood (pine, oak, walnut, or maple) and the size of the log. The joint process results in the following costs and output of products for a typical month. Joint production costs Direct materials (rough timber logs) $500,000 Debarking (labour and overhead) 50,000 Sizing (labour and overhead) 200,000 Product cutting (labour and overhead) 250,000 Total joint costs $1,000,000 Monthly Output of Fully Processed Product Selling Price at split-off point Studs 75,000 units $ 8 Decorative pieces 5,000 units 60 Posts 20,000 units 20 The studs are sold as rough-cut lumber after emerging from the sawmill operation without further processing by SSI. Also, the posts require no further processing beyond the split-off point. Although the decorative pieces can be sold at the split-off point for $60, if they are further processed they can be sold for $100. The further processing involves planing and sizing. This additional processing costs $100,000 per month and normally results in a loss of 10% of the units entering the process.

9 Required 1) Based on the information given for Sonimad Sawmill Inc., allocate the joint processing costs of $1,000,000 to each of the three product lines using: a. sales value at splitoff method: b. physical measures method using volume in units: c. estimated net realizable value method (assuming that the decorative pieces are further processed): (5 marks each: total 15) a: sales value at splitoff method: Output Price Value % Allocated joint cost Studs: 75,000 $ 8 $600, % $ 451,539 Dec. Pieces: 5,000 $60 $300, % $ 230,769 Posts: 20,000 $20 $400, % $ 307, , % $1,000,000 b: physical measures method using volume in units: Output % Allocated joint cost Studs: 75,000 75% $ 750,000 Dec. Pieces: 5,000 5% $ 50,000 Posts: 20,000 20% $ 200, , % $1,000,000 c: estimated net realizable value method Output Price Net Real- % Allocated izable Value joint cost Studs: 75,000 $ 8 $600, % $ 444,400 Dec. Pieces: 4,500 $100 $350, % $ 259,300 Posts: 20,000 $ 20 $400, % $ 296, , % $1,000,000

10 2) Prepare an analysis for Sonimad Sawmill Inc. to compare processing the decorative pieces further as they presently do with selling them as a rough-cut product immediately at splitoff. (10 marks) Net realizable value after further processing: Revenue: 5,000 10% spoilage = 4,500 * $100: $450,000 Less: further processing costs: 100,000 Net realizable value: $350,000 Sales value at split-off point: 5,000 * $60: 300,000 Net benefit of further processing: $ 50,000