Contents

Part A ........................................................................................................................................................... 1

1. Discuss the usefulness of cost-profit volume analysis from company’s point of view. ................... 1

2. Discuss the various policy options available for working capital management in the short versus

long term. .................................................................................................................................................. 2

3. Discuss on the statement “Managers should not focus on the current stock value because doing so

will lead to an overemphasis on short-term profits at the expense of long term profits. .......................... 3

4. Discuss the purpose of having internal controls for budgeting purposes. ......................................... 4

5. Illustrate how the break-even looks like and describe the usefulness of Break-even analysis and

discuss some of the limitations of break-even charts ................................................................................ 5

Part B ........................................................................................................................................................... 6

Question 1 ................................................................................................................................................. 6

Question 2 ................................................................................................................................................. 7

Question 3 ................................................................................................................................................. 9

Question 4 ............................................................................................................................................... 10
 Part A

1. Discuss the usefulness of cost-profit volume analysis from company’s point of view.

Cost profit volume analysis means how to determine breakeven point of the unit in order to make the future
decisions. By doing a cost-profit volume analysis a company able to take many advantages. Among them,
determine the breakeven point takes the priority. Breakeven point is the revenue needed to cover the total
cost of an item. This helps the company to understand the minimum amount of money need to invest in
order to prevent any loss. And helps the company to make their budget allocation for the production.

By doing cost-profit volume analysis, a company can see the connection between the fixed cost, variable
cost, the production and the return from the product which helps to determine what need to be changed to
make more profit and the company able to project their future spending and profits. But these decisions
should only for a short term since the prices of raw material, government rules, regulations and taxes are
changing all the time.

Not only that, the cost profit volume analysis can be used in many ways. When it comes to operational level
in the firm, cost-profit volume analysis helps to identify which products or services to emphasize, the
volume of sales needed to achieve a targeted level of profit, whether to increase the fixed cost of the
production, how much budget needed for discretional expenditures and etc. which are very helpful when
doing a business.

And the cost-profit volume analysis is very easy to compute and understand. So it is useful especially for a
production company to do a cost-profit volume analysis to understand the margin they have to cover and
to make a profit rather than getting any losses from their production.

Hence the cost-profit volume analysis should be analyzed in firms especially in production or
manufacturing industries to avoid any losses which can be mitigate.

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2. Discuss the various policy options available for working capital management in the short versus
long term.

Working capital is the part of the firm’s capital, which is required for financing short term or current assets
such as debtors, cash and bank balance and prepaid expenses. So the working capital management is the
management of current assets and current liabilities. To have a significant working capital management
there are few areas which need to have more attention.

A firm should strengthen its assets in excess of liabilities. Working capital helps to operate the business
smoothly without any financial problem for making the payment of short term liabilities. For example
payment of salary and wages, payment to suppliers. And having an adequate working capital enables the
firm to meet any financial requirements without shortage of funds and all the expenses including current
liabilities can be paid on time.

A firm need to enhance the goodwill. Having a sufficient working capital enable a business concern to make
prompt payment which helps in creating a goodwill among other parties such as sellers and distributers. By
having a good working capital and a good credit rating enable the firm to take loans from any financial
institutes for an easy and favorable terms. For example if there is a money shortage, a firm can apply for a
short term loan rather than taking a normal bank loan for a business.

Having an adequate working capital enables the business to get cash discounts on the purchase which reduce
the cost. Therefore the firm always need to be alert. And need to have a regular supply of raw materials on
quick payment of credit purchase to ensure to get regular supply of raw materials from the suppliers.

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3. Discuss on the statement “Managers should not focus on the current stock value because doing
so will lead to an overemphasis on short-term profits at the expense of long term profits.

It has been a known fact in most of the industries that there is a possibility to increase the short term profit
of a company at the cost of long-term profit of the company. The reason for that it is easier for managers to
increase stock prices of the company in short-term, than improve the real worth of company's stocks, and
with that consistently high stock value in the long-term. As the agency theory says most of the companies
owned by shareholders and business operations run by the management. So the management need to
increase their profit in order to get a good dividends to the shareholders.

There are many methods which companies can show higher profit in short-term at the cost of long-term
profit. By removing the money investment on new designs to increase productive capacity and improve
production efficiency, remove the expenses in activities such as Business Process Engineering and
Industrial Engineering, eliminating new designed to improve organizational efficiency and effectiveness
and cutting down manpower, employee development and training activities able to increase short-term
profits.

And there are few options to motivate the employees of the firm. All the employees can be monitored
through the key performance indicators (KPI). But instead of giving an allowance, the management can
award them with the shares of the company. Because of that employees can be motivated to increase the
share price by working hard and performing well to increase the profit of the company.

The management always can manipulate their profits. If they can use the price for their goods as first in
first out method (FIFO) where the profits will be decrease, last in first out (LIFO) to increase the profit, and
having an average price to keep a steady profit. By doing this, the management can decide in which occasion
they need to change their price to get a profit.

The management need to ensure the long term welfare of the business when deciding to maximize short
term profits and provide for the well-being of the company as well as the shareholders who invested their
hard earned money for long term gain. Some investors are in for the early returns and others for the long-
term. Neither can or should be neglected.

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4. Discuss the purpose of having internal controls for budgeting purposes.

Budgeting is the traditional approach of creating a plan to spend company’s money. By using the budgeting
enables the management to monitor the performance of the business and identify any deviations to correct
them. There are few methods of budgeting such as incremental budget, zero based budget, top down budget,
priority based budgeting, etc. All of these methods are used in any industry depend on the business process.

But without a proper budgeting mechanism it can be confused or can be cheat and since there are no rules
for budgeting it will be less disciplined. To prevent that, there should be internal controls for budgeting
purposes. The purpose of having a budgetary control, helps to monitor and control costs & operational
efficiencies and to improve income and compare actual vs budget and take corrective actions to meet the
planned outcome.

Having internal controls for budgeting purposes give a company many advantages. It helps to define
corporate objectives and fix responsibilities in the company. Having this control will build the coordinate
activities among departments and helps to achieve economies of scale, efficiencies and effectiveness. Not
only that by having internal controls for budgeting helped to find out underperforming areas in the company
and responsible people of the specific duty and give the opportunity to take timely actions for those issues.
And having a central control over the budget helps to have smooth operations within the company as well.

There are few limitations or disadvantages of having internal controls for budgeting. For any industry it’s
difficult to set target as the economic inflation, taxes, government rules and regulations changing most of
the time. And the success depends on the support of the top management. Since the environment changing
management have to take tough decisions in order to keep their firm steady.

Therefore any firm should have internal controls for budgeting purposes. Though there are limitation, with
a proper plan and support, it can be a successful tool for than firm.

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5. Illustrate how the break-even looks like and describe the usefulness of Break-even analysis and
discuss some of the limitations of break-even charts

Break even analysis is one of tool to identify the break-even point of a production. That means to find the
revenue need to achieve to gain profit from the production of the goods or services. This tool helps to find
the cost structures for a production and the number of units that need to be sold in order to cover the cost
and make a profit from it. Break-even analysis is usually done as part of a business plan to see the how
practical the business opportunity is, and whether or not it is worth pursuing. Even after a business has been
setup, break-even analysis can be helpful in the pricing the products and for promotion process, along with
a cost control.

To compute the break-even point, first need to identify the fixed costs, unit selling price and the variable
costs. So the formula is Break-even Point = Fixed Costs/ (Unit Selling Price – Variable Costs). Using this
formula the firm or the business can decide how many units need to break-even. After that number of units
sold is a profit for the firm.

Break even analysis have many advantages. Among the helps for budgeting and setting up targets takes the
priority. Because when the break even analysis find the break-even point, the company can get an idea
about the profit which they can earn from their business process. So it helps them to set their future budgets
and set realistic, achievable targets. From the break-even point, the firm can able to set their margin of
safety. Because of that, the management can make better production and sales decision when they know
the margin of safety. And break even analysis would help them control costs as the management able to see
the fixed and variable costs from this and make sure that they remain within a given range for production.

But there are some disadvantages for the break-even analysis. First it is the unrealistic assumptions. When
it comes to a production company, products are not sold at the same price at different levels of output. So
the fixed cost change all the time. And the variable costs is also changing. For example the business may
benefit from being able to buy raw materials at lower prices, which would reduce variable cost per unit.
Not only that, most of the companies these day produce more than one item. So the more items, the
calculation for the break even analysis gets difficult.

Therefore break even analysis is not a decision making tool. It is only helps to plan the future decisions. If
a firm use it wisely, they can achieve many goals and targets set by their top management.

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 Part B
Question 1

a. Calculate the value of the bond

PV of Interest = 500 x {1-[1/1.15^20]/0.15}
= 3,129.67
PV of the Face Value = 5000/1.15^20
= 305.50
Bond Value = 3129.67 + 305.50
= RM 3,435.17
b. How does the value change of your required rate of return increases to 15 percent or decrease to
8 percent?
PV of Interest = 500 x {1-[1/1.08^20]/0.08}
= 4,909.07
PV of the Face Value = 5000/1.08^20
= 1,072.74
Bond Value = 4909.07 + 1072.74
= RM 5,981.81
Therefore when the required rate of return is decreasing the bond value increase.
c. Explain the implications of your answers in part b as they relate to interest rate risk, premium
bonds, and discount bonds.
Since the opposite relationship between the rate of return and bond price, bond prices will decrease if the
required rate of return increases. But all the other variables should remain constant. When it comes to the
industrial context, bonds will sell with greater discounts than the par value if the rate of return increases and
sell at the premium when rate of return decreases.
d. Assume the bond matures in 10 years instead of 20 years. Re-compute your answer in part b
When the rate of return is 15% When the rate of return is 8%

PV of Interest = 500 x {1-[1/1.15^10]/0.15} PV of Interest = 500 x {1-[1/1.08^10]/0.08}

= 2,509.38 = 3,355.04

PV of the Face Value = 5000/1.15^10 PV of the Face Value = 5000/1.08^10

= 1235.92 = 2,315.97

Bond Value = 2509.38 + 1235.92 Bond Value = 3355.04 + 2315.97

= RM 3,745.30 = RM 5,671.01

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Question 2

a. Calculate Pay Back Period

Project X Project Y

Year Cash Flow Accumulative Cash Flow Accumulative

(RM) Cash Flow (RM) Cash Flow
0 (800,000) (800,000) (800,000) (800,000)
1 200,000 (600,000) 0 (800,000)
2 200,000 (400,000) 0 (800,000)
3 200,000 (200,000) 0 (800,000)
4 200,000 0 0 (800,000)
5 200,000 200,000 1,040,000 240,000

Project X Payback period is 4 years.

Project Y Payback period = 4 Years + (800000/1040000) x 12
= 4 Years and 9 Months
b. Calculate each project’s NPV
Project X:

PROJECT X 12% Rate Discounted Cash Flow

Initial Outlay
(RM) of Return (RM)
Inflow year 0 (800,000) 1 (800,000)
Inflow year 1 200,000 0.893 178,600
Inflow year 2 200,000 0.797 159,400
Inflow year 3 200,000 0.712 142,400
Inflow year 4 200,000 0.636 127,200
Inflow year 5 200,000 0.567 113,400
Net Present Value (79,000)

Project Y:

PROJECT Y 12% Rate Discounted cash Flow

Initial Outlay
(RM) of Return (RM)
Inflow year 0 (800,000) 1 (800,000)
Inflow year 1 0 0.893 0
Inflow year 2 0 0.797 0
Inflow year 3 0 0.712 0
Inflow year 4 0 0.636 0
Inflow year 5 1,040,000 0.567 589,680
Net Present Value (210,320)

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c. Calculate each project’s IRR
To calculate IRR we will take rate of return is 5%

PROJECT PROJECT DCF for Project DCF for Project

Initial 5% Rate
X Y X Y
Outlay of Return
(RM) (RM) (RM) (RM)

Inflow year 0 (800,000) (800,000) 1 (800,000) (800,000)

Inflow year 1 200,000 0 0.952 190,400 0
Inflow year 2 200,000 0 0.907 181,400 0
Inflow year 3 200,000 0 0.864 172,800 0
Inflow year 4 200,000 0 0.823 164,600 0
Inflow year 5 200,000 1,040,000 0.784 156,800 815,360
Net Present Value 66,000 15,360

IRR for project X:

Rate NPV
5% 66,000
12% (79,000)

IRR = 5 + (7/145000) x 66000

= 8.18 %

IRR for project Y: Rate NPV

5% 15,360
12% (210,320)

IRR = 5 + (7/225680) x 15360

= 5.48 %
d. Calculate the profitability index
Profitability index for project X: (800,000 - 79,000)/800,000
= 0.901

Profitability index for project Y: (800,000 – 210,320)/800,000

= 0.737
e. The appropriate project to be accepted
Since the IRR of both projects are less than the rate of return and the profitability index of both projects are
less than 1, both projects should not be accepted.

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Question 3

a. Project A with expected returns of 17% has a higher return than the firm’s 15% cost of capital.
b.
Project X Project Y
Ra = RrF + [Ba x (Rm - RrF)] Ra = RrF + [Ba x (Rm - RrF)]
Ra = 8% + [0.8 x (15%-8%)] Ra = 8% + [0.9 x (15%-8%)]
10% < 13.6% 12% < 14.3%
Therefore Accept Project X Therefore Accept Project Y

Project Z
Ra = RrF + [Ba x (Rm - RrF)]
Ra = 8% + [1.55 x (15%-8%)]
14% < 18.85%
Therefore Accept Project Z
Project A
Ra = RrF + [Ba x (Rm - RrF)]
Ra = 8% + [1.6 x (15%-8%)]
17% < 19.2%
Therefore Accept Project A

c. Projects X, Y and Z would be incorrectly rejected.

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Question 4

a. Calculate Pay Back Period

Project A Project B

Year Cash Flow Accumulative Cash Flow Accumulative

(RM) Cash Flow (RM) Cash Flow
0 (2,400,000) (2,400,000) (320,000) (320,000)
1 160,000 (2,240,000) 152,000 (168,000)
2 400,000 (1,840,000) 96,000 (72,000)
3 200,000 (1,640,000) 144,000 72,000
4 3,120,000 1,480,000 84,000 156,000

Project A Payback period is = 3 Years + (1640000/3120000) x 12

= 3 Years and 6 Months

Project B Payback period = 2 Years + (72000/144000) x 12

= 2 Years and 6 Months

b. Calculate each project’s NPV

Project A:

PROJECT A 15% Rate Discounted Cash Flow

Initial Outlay
(RM) of Return (RM)
Inflow year 0 (2,400,000) 1 (2,400,000)
Inflow year 1 160,000 0.870 139,200
Inflow year 2 400,000 0.756 302,400
Inflow year 3 200,000 0.658 131,600
Inflow year 4 3,120,000 0.572 1,784,640
Net Present Value (42,160)

Project B:

PROJECT B 15% Rate Discounted Cash Flow

Initial Outlay
(RM) of Return (RM)
Inflow year 0 (320,000) 1 (320,000)
Inflow year 1 152,000 0.870 132,240
Inflow year 2 96,000 0.756 72,576
Inflow year 3 144,000 0.658 94,752
Inflow year 4 84,000 0.572 48,048
Net Present Value 27,616

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c. Calculate each project’s discounted payback

Project A Project B
Year DCF Accumulative DCF Accumulative
(RM) Cash Flow (RM) Cash Flow
0 (2,400,000) (2,400,000) (320,000) (320,000)
1 139,200 (2,260,800) 132,240 (187,760)
2 302,400 (1,958,400) 72,576 (115,184)
3 131,600 (1,826,800) 94,752 (20,432)
4 1,784,640 (42,160) 48,048 27,616

Project A discounted payback = No discounted payback

Project B discounted payback = 3 Years + (20432/48048) x 12

= 3 Years and 5 Months

d. Calculate the profitability index

Profitability index for project A: (2,400,000- 42,160)/ 2,400,000
= 0.982

Profitability index for project B: (320,000 + 27,616)/ 320,000

= 1.086

e. The appropriate project to be accepted

NPV of the Project A is a minus amount. But NPV of the project B is a plus amount and the profitability
index of the Project B is greater than 1. Therefore Bosanil Sdn. Bhd. should invest in Project B.

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