2/7/2014

C01 question practice: Q&A

C01 question practice: Q&A

August 2012
Before attempting this question, please read this article (PDF 101KB) on flexible budgeting by Grahame Steven, which was published in the July 2012 issue of FM Study Notes. Corporate Consulting Services uses flexible budgeting. The following information was obtained to produce the draft budgets for the next budget period: 1. The average charge-out rate to clients for the companys consultants is expected to be GBP100 per hour. However, this rate will increase by 10% if the companys consultancy work exceeds 18,000 hours since the company will employ freelance consultants for the additional work. The premium only applies to work in excess of 18,000 hours. 2. Travel and subsistence expenses are expected to average GBP10 per chargeable consulting hour. 3. The average annual salary of the 12 consultants employed by the company is GBP60,000 per annum. The consultants, who are employed on annual fixed contracts, are contracted to provide a maximum of 1,500 consultancy hours per annum. 4. Freelance consultants will be paid GBP60 per hour. The following inflation adjusted analysis of office expenses was obtained for the last three years:

Hours Office expenses

14,000 GBP720,000

16,000 GBP750,000

17,000 GBP780,000

The managing director has asked the management accountant to prepare budgets for three projected levels of activity:

Hours Sales Consultants Travel and subsistence Office expenses Profit/loss

Required

17,000

18,000

19,000

(a) Prepare budgets for Corporate Consulting Services using the above budget template for the three projected levels of activity. (b) Discuss the figures prepared for part (a). Solution
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C01 question practice: Q&A

Hours Sales Consultants Travel and subsistence Office expenses Profit / loss

17,000 GBP1,700,000 GBP720,000 GBP170,000 GBP780,000

18,000 GBP1,800,000 GBP720,000 GBP180,000 GBP800,000

19,000 GBP1,910,000 GBP780,000 GBP190,000 GBP820,000

GBP30,000

GBP100,000

GBP120,000

Sales: 17,000: 17,000 x GBP100 = GBP1,700,000 18,000: 18,000 x GBP100 = GBP1,800,000 19,000: 18,000 x GBP100 + 1,000 x GBP100 x 1.1 (10% premium) = GBP1,910,000.

Consultants: 17,000: 12 x GBP60,000 = GBP720,000 Note: the consultants are paid their full salary since the 12 consultants have been employed to provide up to maximum of 18,000 hours per annum 18,000: 12 x GBP60,000 = GBP720,000 19,000: 12 x GBP60,000 + 1,000 x GBP60 = GBP780,000.

Travel and subsistence: 17,000: 17,000 x GBP10 = GBP170,000 18,000: 18,000 x GBP10 = GBP180,000 19,000: 19,000 x GBP10 = GBP190,000.

Office expenses: Variable costs: (GBP780,000 - GBP720,000) / (17,000 14,000) = GBP20 per hour Fixed costs: GBP720,000 (14,000 x GBP20) = GBP440,000; or, GBP780,000 (17,000 x GBP20) = GBP440,000 17,000: GBP440,000 + 17,000 x GBP20 = GBP780,000 18,000: GBP440,000 + 18,000 x GBP20 = GBP800,000
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C01 question practice: Q&A

19,000: GBP440,000 + 19,000 x GBP20 = GBP820,000.

This example demonstrates the non-linear relationship between profits and activity. The profits at a projected demand of 17,000 are depressed by the companys current contractual arrangements with its consultants, so the consultants are paid their full salary even although they are working less than 1,500 hours. Perhaps the company should consider revising its current contractual arrangements? The GBP10 (GBP110 - GBP100) premium charged to clients when consultancy hours exceed 18,000 hours does not cover the additional hourly cost of employing freelance consultants (GBP20 ie GBP60 - GBP60,000 / 1,500). Should the company seek to obtain a higher premium for this additional work? Could the company offer this additional work to its existing consultants at a lower rate than GBP60 per hour? Is it reasonable to assume that the same average travel and subsistence rate will apply to freelance consultants? The budget figures assume that fixed and variable costs remain constant over a wide range of activity. Is this assumption reliable? Perhaps more analysis is required to obtain more reliable figures for office expenses? Note: There is no single solution to a discursive question. Other reasonable points are acceptable.

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