F5 PM-RevisionEssentials - s16-j17 Becker

For Examinations to June 2017
REVISION ESSENTIALS HANDBOOK
ACCA
Paper F5 | PERFORMANCE MANAGEMENT
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ACCA
PAPER F5
PERFORMANCE MANAGEMENT
REVISION ESSENTIALS HANDBOOK

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CONTENTS
CONTENTS
Page
Syllabus (iii)
Approach to examining (iv)
Formulae sheet (v)
Core topics (vi)
Cost accounting 0101
Developments in management accounting 0201
Relevant cost analysis 0301
Cost volume profit analysis 0401
Limiting factor decisions 0501
Pricing 0601
Risk and uncertainty 0701
Budgeting 0801
Quantitative analysis in budgeting 0901
Standard costing 1001
Basic variance analysis 1101
Advanced variance analysis 1201
Planning and operational variances 1301
Performance measurement 1401
Further aspects of performance analysis 1501
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (i)
CONTENTS
Page
Divisional performance evaluation 1601
Transfer pricing 1701
Performance management information systems 1801
Additional reading 1901
Article – Approaching written questions 2001
Article – Target costing and lifecycle costing 2101
Article – Throughput accounting and the theory of constraints 2201
Article – Environmental management accounting 2301
Article – Cost volume profit analysis 2401
Article – The learning rate and learning effect 2501
Article – Materials mix and yield variances analysis 2601
Article – Performance measurement 2701
Article – Interpreting financial data 2801
Article – Performance measurement and the balanced scorecard 2901
Article – Transfer pricing 3001
Examiner’s report – September/December 2015 3101
Analysis of specimen and past examinations 3201
Examination technique 3301
CAUTION: These notes offer guidance on key issues.

Reliance on these alone is insufficient to pass the examination
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (ii)
SYLLABUS
SYLLABUS D Identify and discuss performance management

information and measurement systems and assess the
Aim
performance of an organisation from both a financial
To develop knowledge and skills in the application of and non-financial viewpoint, appreciating the problems
management accounting techniques to quantitative and of controlling divisionalised businesses and the
qualitative information for planning, decision-making, importance of allowing for external aspects.
performance evaluation, and control
Position of the paper in the overall syllabus
Main capabilities
The syllabus for Paper F5 Performance Management builds
On successful completion of this paper candidates should be on the knowledge gained in Paper F2 Management
able to: Accounting and prepares those candidates who choose to
study Paper P5 Advanced Performance Management at the
A Explain and apply cost accounting techniques Professional level.
B Select and appropriately apply decision-making
techniques to facilitate business decisions and promote
efficient and effective use of scarce business resources,
appreciating the risks and uncertainty inherent in
business and controlling those risks
C Identify and apply appropriate budgeting techniques
and methods for planning and control and use standard
costing systems to measure and control business
performance and to identify remedial action
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (iii)
APPROACH TO EXAMINING
Format of the examination

The syllabus is assessed by a three-hour and 15 minute
paper-based or computed-based examinations (CBE)
consisting of section A, section B and section C.
 Section A will contain 15 objective test (OT) questions
of 2 marks each.
 Section B will contain three OT cases comprised of 5
multiple choice questions each.
 Section C will consist of two 20-mark constructed
response (long) questions.
The constructed response questions may come from any part
of the syllabus except part A (specialist cost and management
accounting techniques). The OTs in Section A and Section B
questions can cover any areas of the syllabus.
Note that from September 2016 there is no distinction

between 3 hours of writing time and 15 minutes reading and
planning time Candidates will be permitted to start writing in
their answer booklet from the start of the exam
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (iv)
FORMULAE SHEET
Formulae Sheet
Learning curve
Y = axb
Where:
Y = cumulative average time per unit to produce x units
a = the time taken for the first unit of output
x = the cumulative number of units produced
b = the index of learning (log LR/log 2)
LR = the learning rate as a decimal
Demand curve
P = a – bQ
change in price
b=
change in quantity
a = price when Q = 0
MR = a – 2bQ
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (v)
CORE TOPICS
CORE TOPICS Tick when completed Tick when completed
Specialist cost and management accounting techniques Standard costing and variance analysis
 Activity based costing   Budgeting and standard costing 

 Target costing   Material mix and yield variances 
 Life-cycle costing   Sales mix and quantity variances 
 Throughput accounting 
 Planning and operational variances 
 Environmental accounting 
 Behavioural aspects of standard costing 
Decision-making techniques
Performance management systems
 Relevant cost analysis 
 Performance management information
 Cost Volume Profit analysis  systems 
 Limiting factors 
 Sources of management information 
 Pricing decisions 
 Make-or-buy and other short –term decisions 
 Management reports 
 Dealing with risk and uncertainty   The scope of performance management 
Budgeting  Divisional performance and transfer pricing 
 Budgetary systems   Performance analysis in not for profit
 Behavioural aspects of budgeting   organisations and the public sector 
 Beyond budgeting   External considerations and behavioural
aspects 
 Quantitative analysis in budgeting 
©2016 DeVry/Becker Educational Development Corp. All rights reserved. (vi)
COST ACCOUNTING
1 TRADITIONAL COSTING 1.2 Absorption costing

1.1 Marginal costing  Fixed overheads are also included in the cost per unit:
 Only variable costs are included in the cost per unit: $/unit
Prime cost (direct materials + direct labour) x
$ per unit
Variable production overhead x
Direct materials x
Fixed production overhead x
Direct labour x
––
__
Absorption costing inventory valuation x
Prime cost x
––
Variable production overhead x
––  Overheads are absorbed using a pre-determined
Marginal cost inventory valuation x overhead absorption rate (e.g. labour hours, machine
–– hours, per unit basis.)
 Contribution is revenue minus variable costs. For example labour hours
 Contribution shows by how much profit increases if Budgeted fixed overheads
output increases by 1 unit.  Absorption rate =
Budgeted labour hours
 Overhead cost per unit = labour hours for one unit of
product × overhead absorption rate
©2016 DeVry/Becker Educational Development Corp. All rights reserved. 0101
COST ACCOUNTING
2 ACTIVITY BASED COSTING (ABC) 2.3 Advantages and disadvantages of ABC

2.1 The concept Advantages
 Identifies the activities for which overhead costs are  Better decision making (by providing more accurate
incurred. information of products profitability).
 Costs are then apportioned to different products based  Cost can be designed out of products by eliminating
on how much each product uses the activity. unnecessary activities.
2.2 Steps  When cost plus methods of pricing are used, prices
based on ABC are likely to reflect more accurately the
1. Identify the major activities (e.g. machine set ups).
true cost of producing a product.
2. Determine the “driver” for each activity (e.g. the
Disadvantages
number of setups).
3. Calculate cost per unit of driver for each activity (e.g.
 Selection of cost drivers may not be easy.
Total maintenance costs  Additional time and cost of setting up and administering
). the system.
Total man hours
4. Apportion costs of each activity to different products  Exclusion of non-production overheads can be difficult.
based on the number of units of driver used.  Many judgemental decisions still required in the
5. Calculate the cost per unit of each product = total cost construction of an ABC system.
(calculated in 4) ÷ number of units produced.
DEVELOPMENTS IN MANAGEMENT ACCOUNTING
1 TARGET COSTING Target costing is more effective if used during the design of a
new product, as costs can be “designed out”. For existing
1.1 Aim and use
products, costs will have to be “controlled out” which is
 In a competitive market, a business has to sell at the normally more difficult.
market price, irrespective of the cost of production.
1.3 Application to service industries
 Target costing aims to reduce the production cost per
Target costing is less useful in service industries because:
unit so that an acceptable profit margin can be made
given that the selling price cannot be increased.  Services are more likely to be customised so standard
services may not exist;
$
Selling price X  Higher portion of costs are indirect and it may be harder
Less: required margin (X) to reduce these;
–––
 Reducing costs may have a bigger impact on quality of
Target cost X COST service.
GAP
Actual (Budgeted cost) X 1.4 Methods to narrow the gap
–––
 Eliminate features of the product not valued by
1.2 Steps in target costing customers.
1. Determine the selling price using market research.  Standardise components & design with lower number
of components.
2. Deduct the required profit margin and deduct from the
price to obtain the target cost.  Employ lower grade staff with training.
3. Compare actual (or budgeted) cost per unit with the  Outsource parts of manufacture.
target cost to ascertain the cost gap.
4. Identify ways to narrow the gap.
2 LIFECYCLE COSTING  Actual costs typically incurred during the product

lifecycle are:
2.1 Product lifecycle
 Development Stage Fixed costs Variable costs
 Introduction Planning and Design
 Growth design
 Maturity Prototypes
 Decline Market
research
Lifecycle costing
Production Advertising Materials
 Involves budgeting and monitoring the costs, revenues and sales
and cash flows generated by a product over its whole Production Direct labour
life rather than on a period-by-period basis. Sales Variable
Design updates overheads
 Lifecycle cost per unit = all costs incurred over the life
of the product ÷ the number of units produced. Sales
commissions
2.2 Costs involved
Service and Decommission Servicing
 Committed costs – decisions made in the development abandonment factories
stage will determine a high portion of the overall costs
that will be incurred over the life of the product. 2.3 Benefits of life cycle costing
 Management will plan the pricing strategy of a product
over its whole life rather than on a short-term basis.
 Decision-making will be based on more relevant
information as management has a full picture of the
product over its life rather than the current period only.
3 THROUGHPUT ACCOUNTING  Throughput contribution = sales revenue – cost of

materials.
3.1 Theory of constraints
 Use throughput contribution for decision making not
 Applies to production lines where products pass
traditional contribution.
through a sequence of processes:
3.3 Throughput Accounting Ratio (TPAR)
Process 1 Process 2 Process 3
Return per factory hour
TPAR =
Cost per factory hour
 Bottlenecks are processes that work slower than all Return per factory hour =
others. They limit output of the whole production line.
Throughput pet unit
To maximise profit Hours of bottleneck resource used per unit
 Identify the bottlenecks.
Other factory costs
 Rank products in order of throughput contribution per Cost per factory hour =
Bottleneck resource hours available
hour of bottleneck (i.e. return per factory hour).
 Slow down non-bottleneck resources to work at the Meaning of TPAR
speed of the bottlenecks to avoid build-up of work in  TPAR > 1  product profitable
progress.  TPAR = 1  break even
 Find ways to eliminate the bottleneck (e.g. working  TPAR < 1  product makes a loss
overtime or reducing time spent on the bottleneck).
How to improve TPAR
3.2 Throughput contribution  Eliminate bottlenecks or reduce time spent on
 Materials are the only truly variable cost in the short bottleneck resources.
run.
 Reduce other factory costs.
4 ENVIRONMENTAL MANAGEMENT 4.3 Environmental costs

ACCOUNTING (EMA)
Broad definitions (e.g. as proposed by the US Environmental
4.1 Definition Protection Agency) are:
EMA aims to provide internal information to management in  Conventional costs – buying inputs with environmental
the form of physical information on the use of energy, water relevance (e.g. energy);
and materials (including waste), and monetary information  Potentially hidden costs – items with environmental
on environment related costs and savings. relevance hidden in overheads;
 Contingent costs – such as cleaning up damage;
4.2 Relevance for business
 Image and relationship costs.
Bennett and James suggested six benefits of EMA:
Hansen and Mendova’s more narrow definition:
(1) Capex decisions can take account of environmental
impact of investments.  Environmental prevention costs – such as redesigning
production processes to reduce pollution;
(2) Better understanding of environmental costs normally
hidden within other overheads.  Environmental detection costs;
(3) Reducing waste and saving energy.  Environmental internal failure costs – cost of cleaning
up pollution before it is released into the environment.
(4) Understanding environmental effects on life cycle costs
(e.g. costs of recycling at end of product life).  Environmental external failure costs – cost of cleaning
up pollution after release into the environment.
(5) Stakeholders are interested in environmental
performance measures.
(6) Involving management accountants in longer term
strategic decision making for environment-related issues.
4.4 EMA techniques

 Use of environmental reports showing the costs such as
those proposed by Hansen and Mendova.
 ABC extended to include environmental activities and
their appropriate drivers.
 Input/output (mass balance) analysis – reconciles
quantities input with quantities of output (in kg, litres
etc.). This highlights waste.
 Flow cost accounting – a more sophisticated
input/output analysis that produces physical and
monetary information about inputs and outputs of each
process.
 Life cycle costing – includes environmental costs such
as packaging costs in a products life cycle.
RELEVANT COST ANALYSIS
1 RELEVANT COSTS 2.2 Definition

1.1 Meaning “The value of the benefit sacrificed . . . in favour of an
 Only costs (and revenues) affected by a decision are alternative.”
“relevant”: “The potential benefit foregone (from the best rejected course
of action).”
Relevant Non-relevant
 Clearly arise in use of scarce resources.
 Future,  Historic costs, sunk
incremental, costs 2.3 Potential difficulties
cash flows. apportioned fixed costs  Estimating future costs/revenues (benefit sacrificed).
non-cash items
(depreciation,  Identifying alternative uses (and best alternative
profit/loss on sale). forgone).
 Avoidable costs.  Committed costs.  Ignores effect on accounting profit.
 Controllable.  Common costs  Ignores any risk associated with each alternative.
“management charges”.
3 ONE OFF CONTRACTS
3.1 Minimum price
2 OPPORTUNITY COST
 Minimum price of a contract is the relevant cost.
2.1 Key point
 At this price no profit or loss will be made.
 All opportunity costs are “relevant”.
 Not all relevant costs are opportunity costs.
3.2 Materials 3.3 Relevant costs of labour
In warehouse?  If work can be done in idle time, relevant cost is zero.

 If labour is fully employed relevant cost is the
Yes additional payments required:
No
 to hire additional labour;
Replacement Used regularly?  overtime payments.
cost  If labour is fully employed and no further labour is
Yes
No available:
 direct cost of labour (wages); plus
Opportunity cost  lost contribution from other production.
(e.g. scrap value)
This is equivalent to revenue foregone less costs (other
than labour) saved.
 Replacement cost = current purchase cost.
3.4 Non-current assets
 If asset is rented rental costs over the period of use is
relevant.
 If asset is acquired specially, relevant cost is cost of
acquisition less expected sale proceeds at the end of the
contract.
Deprival value 3.5 Non-financial factors

 The value of an existing asset if a business were to be  The contract may develop the business’s experience.
deprived of it is:
 A contract may be undertaken for price less than
relevant cost if it provides experience or improves
Lower of (2) business reputation ( further business in the future).
 A contract may be declined if it would harm the
RC Higher of (1) business’s reputation.
and
4 SHUT DOWN DECISIONS
NRV EV Financial point of view

RC = Replacement cost  A loss-making division should only be closed if costs
NRV = Net realisable value saved exceed the revenue lost by closing the division.
EV = Economic value
 Fixed costs that would still be incurred if the division
(i.e. PV of expected future earnings)
were to be closed are not relevant.
Non-financial factors
(1) Asset should be in use ( EV) or sold ( NRV)
whichever is higher.  A decision to close a division should consider, for
example:
(2) Asset should be replaced only if replacement cost is
lower than (1).  Poor morale as a result of redundancies;
 Loss of skills;
 Effect on demand for other products.
5 FURTHER PROCESSING DECISIONS Disadvantage of outsourcing

 A product that can be sold in its existing form may be  Loss of control.
further processed and sold for a higher price.
 Security of confidential data.
 If additional revenue gained by further processing
exceeds additional costs, the product should be  Risk of financial failure of partner.
processed further.  Negative image if staff in-house are made redundant.
6 MAKE OR BUY Make v buy – financial considerations
Outsourcing  Make products where cost of manufacture < cost of
 Means buying goods or services externally rather than outsourcing.
performing the in-house.  Cost of manufacture should include all additional costs
 Is commonly used for services such as office cleaning, that would be incurred if the product is made in-house.
accounting and payroll. This may include some fixed costs.
 Is also used in production where part or all of the

production of a product is outsourced – often to a
partner in a country that enjoys lower labour costs.
Advantages of outsourcing
 Lower costs.
 Fixed costs may become variable.
 Management can focus on core competencies.
 Access to a greater range of experts.
 Better quality of service or product.
COST VOLUME PROFIT ANALYSIS
1 BREAKEVEN ANALYSIS 2 CHARTS

1.1 Breakeven point 2.1 Breakeven chart
 The level of activity at which neither a profit nor a loss $ Total revenue
is made.
Total cost
1.2 Simplifying assumptions
 Variable cost per unit remains constant.
 Selling price per unit remains fixed. Profit at
volume Y
 No significant change in inventory levels.
 Only a single product or constant sales mix if more than
one product is made. Loss at
volume X
X Break even Y Volume (units)

point
2.2 Profit Volume Chart (PV Chart) 3.2 Breakeven formulae
$ Total contribution
 Break-even point (units)
Profit Unit contribution
Target profits
Profit at
volume Y  Sales units to achieve a target profit
0 Fixed cost  required profit
X BEP  =
Y Volume Unit contribution
Loss at
volume X 3.3 C/S ratio (Contribution margin)
Shows portion of selling price which contributes to profits
and fixed costs
Contribution per unit
=
3 MATHEMATICAL APPROACH Selling price per unit
3.1 Contribution Fixed cost
 Break even revenue 
 In any decision connected with varying levels of C/S ratio
production, fixed costs are not relevant. 3.4 Margin of safety
 Unit contribution = Selling price – variable cost per unit. The amount by which anticipated or existing activity exceeds
break-even:
 Unit contribution shows additional profit from selling
an additional unit. In units = Budgeted sales – Breakeven sales
Budgeted sales - Breakeven sales
As a percentage =  100%
Budgeted sales
4 MULTI-PRODUCT ANALYSIS Assuming constant mix

4.1 Assumption  A straight line is drawn between two points.
 Sales mix is constant (otherwise an infinite number of  First point is where revenue is zero, the loss will be
break-even points exist). equal to the fixed cost.
4.2 Calculation of breakeven revenue  Second point is budgeted profit at budgeted revenue.
Fixed cost Assume sales by profitability
Breakeven revenue =
Weighted average C/S ratio  Use a table to calculate revenue and profits at each of
Where: the following points:
Total contribution  Revenue = 0;
Weighted average C/S ratio =
Total revenue  Sales of product with highest C/S ratio only at
4.3 Multi- Product P/V Charts maximum demand for that product;
 Horizontal axis (X axis) shows revenue, while vertical  Sales of products with first and second highest C/S
axis (Y axis) shows profit. ratios at maximum demand for these products;
 Two approaches (assumptions):  Etc.
(1) sales made in constant mix at all volumes; or
(2) products are ranked according to the C/S ratio.
 Plot the points on a graph (gives a “bow-shaped” line):

Profit
$000
Fixed costs Revenue $000
LIMITING FACTOR DECISIONS
1 LIMITING FACTOR DECISIONS 2 MAKE OR BUY DECISION

1.1 Key factor analysis  In situations where production of some products will be
outsourced due to shortage of a scarce resource. Fixed
 Where output is limited by shortage of one or more
costs remain unaffected.
inputs, profit is maximised by maximising contribution.
 Making in-house is cheaper. Saving per unit of scarce
1.2 One limited factor
resources are calculated as:
Steps in deciding which product(s) to manufacture, when
Buy - in price  Variable cost to make
only one input is limited:
Number of units of scarce resource used per unit
1. Calculate contribution per unit generated by each
product.  Rank products in order of highest saving per unit of
scarce resource.
2. Identify the number of units (kg/litres) of the limited
factor used by each product.  Determine how many units of each product line will be
made in-house and how many bought in to maximise
3. (1) ÷ (2)  contribution per unit of limited factor savings of making in-house.
generated by each product.
3 MULTI-LIMITING FACTORS
4. Produce the product(s) that generate the highest
contribution per unit of limited factor. 3.1 Linear programming
1.3 Shadow price  Where more than one input is limited, linear
programming is used to determine the mix of output
The additional contribution that would be generated if one that maximises contribution.
additional unit of a limited resource is made available.
 At F5, iso-contribution (“graphical”) method must be
 Represents the highest premium over the standard price used to solve linear programming unless equation
that should be paid for additional units of the resource. method is specifically asked for. Other methods (e.g.
simplex are outside of the syllabus).
3.2 Drawing the graph Steps in setting up the linear program

1. Define the variables (x, y). 1. Define the variables:
2. Formulate the objective function (e.g. contribution). Let x = output of tables and y = output of chairs.
3. Express constraints in terms of inequalities.
2. Define the objective function:
4. Plot all constraints on graph and identify the feasible
Contribution C = 20x + 5y
region.
3. Express the constraints:
The optimal solution can be found using either:
 objective function (iso-contribution) method; or Labour: 2x + 3y 180
 simultaneous equation method. Wood: 0.5x + 0.75y  40
Non-negativity: x  0, y  0.
3.3 Example – problem formulation
3.4 Objective function (iso contribution) method
A company makes two products, tables and chairs. Each
table generates contribution of $20, and each chair generates  A sample contribution line is plotted in the feasible
contribution of $5. Skilled labour is in short supply, and only region (e.g. C = 1,000 shows all combinations of x and
180 labour hours are available each week. Each table y that provide contribution of 1,000).
requires 2 hours of labour, and each chair requires 3 hours.  Identify the point furthest from the origin, where a line
Wood is limited to 40m2 (square metres) per week. Each parallel to the sample line is still in the feasible region
table requires 0.5m2, and each chair requires 0.75m2. (e.g. using a ruler). This is where contribution is
maximised.
 If necessary (e.g. at an intersection of constraints) find x
and y at the optimal point using equations – never read
from a graph.
 This method must be used to unless the simultaneous

equation method is asked for.
3.5 Simultaneous equation method 4 FURTHER CONSIDERATIONS

1. Determine the values of x and y at each “corner” point 4.1 Shadow price
of the feasible region (e.g. A, B, C and D):
To calculate in a linear programming situation:
1. Restate the constraint for the scarce resource, increasing
the amount available by 1 unit.
2. Recalculate the solution to the linear programme.
3. Calculate contribution for the recalculated solution.
4. Shadow price is the recalculated contribution less the
original contribution obtained.
4.2 Slack
The difference between the amount of a scarce resource

available and the amount used at the optimal level of output.
 Slack is zero if a constraint is “binding” (i.e. if the

2. Calculate contribution at each point by substituting the optimal point lies on the constraint).
values of x and y in the contribution function.
 Knowing the amount of slack is useful for planning:
 Solve for x and y at B and C using simultaneous
equations – never read from the graph.  If small, the resource may become binding if
production increases, so managers should identify
3. Select the point with the highest contribution. additional sources.
PRICING
1 COST BASED PRICING APPROACHES Disadvantage

1.1 Full cost plus pricing  Price may not cover fixed overheads ⇒ unsuitable for
long-term pricing decisions.
Add a mark-up to total absorption cost (full cost).
 Ignores price demand relationship
Advantages
 Size of mark-up is arbitrary
 If budgeted sales level is achieved profit will be made.
1.3 Return on investment pricing
 Useful for justifying price rises.
 Information available from the costing system.  Prices set to achieve a target percentage return on the
capital invested in production:
Disadvantages
 Ignores price demand relationship. Budgeted full cost  target %  capital employed
Budgeted sales units
 Size of mark-up is arbitrary.
Advantages
 Method of absorbing fixed overheads will have an
effect on the cost and therefore the price.  Considers capital invested and short-term costs.
 Target ROI can be adjusted to take account of risk.
1.2 Marginal cost pricing
Disadvantage
Add a mark-up to marginal cost (production and non-  Ignores price demand relationship.
production).
1.4 Opportunity cost (relevant cost pricing)
Advantage
 Used for pricing one off projects and special orders
 Useful for short-term decision making. If price covers  Price = relevant cost + mark up
variable costs, profit will be increased.
 Information available from the costing system.
PRICING
2 ECONOMIST’S MODEL 2.3 Marginal cost

2.1 Demand curve The increase in total cost from producing and selling one
 P = a – bQ Exam formula additional unit of a product.
Where  Assume marginal cost = variable cost. (But take
account of any discounts.)
P = price
Q = quantity demanded 2.4 Maximising profits
a = price when Q = 0  To maximise profits identify Q such that MR = MC.

Sell this level of output.
change in price
b=  Put the value of Q into the demand curve to find the
change in quantity price that should be charged.
2.2 Marginal revenue 2.5 Tabular approach
The increase in total revenue from selling one more unit of a  If demand Q and costs have been given for various
product or service. prices, a tabular approach may be used to calculate the
profit maximising price.
 MR = a– 2bQ Exam formula
 The table should show total revenue, total costs and
 To maximise revenue: MR = 0, solve Q and place Q in total profit for each price. The price that generates the
the demand curve equation to find corresponding price. highest profit would be set.
PRICING
3 OTHER PRICING STRATEGIES 3.3 Complementary product pricing

3.1 Market skimming  Where products are used together. Set a discounted
price for one product with the aim of increasing sales of
 Set initially high price and sell to elite segment of
the second product (e.g. a low price for printers and a
market to make large profit margins.
high price for printer cartridges).
 Later lower prices to attract a larger share of the market.
3.4 Price discrimination
 Products usually confer some status or “snob” value on
 Setting different prices for the same product in different
the initial buyers.
markets, to maximise profit in each market.
 Used to launch new product where competitors do not
 To succeed there must be barriers to prevent buying in
have similar products in the market.
the lower price market to sell in the higher price one.
 Also appropriate where high product development costs
3.5 Loss leaders
need to be recovered before competitors enter the
market.  Selling one product at a loss to attract customers who
will then buy other products which make profits.
3.2 Market penetration policy
3.6 Going rate pricing
 Set low price when product is launched to attract
customers away from competitors’ products.  Charging the market rate. May be used for products in
the maturity phase.
 Later increase prices when loyal customer base has
been achieved.
 Used to launch new products into markets where
competitors already sell similar products or for
commodity-type products.
 Effective if market is price sensitive.
PRICING
3.7 Product line pricing 4.2 Price elasticity of demand

 The prices of related products are set together. Price elasticity at demand calculated as:
 Two popular approaches are: Q 2  Q1   Q1
1. Product bundling: selling a group of products for P2  P1   P1
less than the sum of the individual product prices.
Where:
2. Setting the price of the basic model and basing
P1 is current price
price of more sophisticated models on pre- Q1 is current demand (units)
determined differentials. P2 is new price
3.8 Volume discounting Q1 is new demand level
 Selling at a lower price if customers buy more than a Interpretation
specified number of units.  If PED > 1, demand is elastic. Small change in price
4 FACTORS INFLUENCING PRICE brings greater change in demand. Increasing price leads
to fall in revenue.
4.1 Level of demand
 If PED <1 demand is inelastic. Increasing price leads
Higher demand leads to higher prices. Demand influenced to increase in revenue.
by:
 Income
 Price of substitutes
 Price of complementary goods
 Consumer tastes and fashion
 Advertising
PRICING
4.3 Product life cycle

 Introduction – price skimming or penetration pricing.
 Growth – price reduced if skimming was used, or
increased if penetration pricing was used.
 Maturity – profit maximising price.
 Decline – lower prices to sell off inventories.
4.4 Competitors
 May have to take market price in competitive market.
4.5 Customers
 Large customers may demand lower prices.
4.6 Perfect competition
 Many sellers
 Many buyers
 Homogenous products
 No barriers to entry
 Perfect information
 Sellers will have to accept market price.
RISK AND UNCERTAINTY
1 EXPECTED VALUE Disadvantage

1.1 The concept  Ignores risk.
 Expected value of an opportunity = the sum of all  Unsuitable for one off decisions.
possible outcomes × their associated probability:  Difficulty of estimating probabilities of different
outcomes.
 EV = xip(xi)
Example 1.2 Value of perfect information
Contribution could be $5,000, $30,000 or $50,000 with Value of perfect information = EV with perfect information
respective probabilities of 0.2, 0.5 and 0.3: – EV without perfect information.
$
$5,000  0.2 1,000 Example
$30,000  0.5 15,000 A decision maker has to choose between 3 courses of action
$50,000  0.3 15,000 on a daily basis – A, B and C. When making the decision,
–––––– the decision maker does not know what the state of the
EV of contribution 31,000 market will be – it could be 1, 2 or 3. Possible outcomes are:
––––––
Action A B C
Advantage
1 10 (25) 200
 Reduces information to one choice. State of 2 200 300 (500)
market 3 20 30 40
Probability of each state of the market is:

1 0.3
State of 2 0.5
market 3 0.2
EV without perfect information 1.3 Value if imperfect information

EV of each action: Value of imperfect information = EV with imperfect
A: (10 × 0.3) + (200 × 0.5) + (20 × 0.2) = $107 information – EV without information.
B: ((25) × 0.3) + (300 × 0.5) + (30 × 0.2) = $148.5
C: (200 × 0.3) + ((500) × 0.5) + (40 × 0.2) = ($182).  Best calculated using decision trees (see below).
Without perfect information the decision maker would select 1.4 Decision trees
action B and the EV would be $148.50.  Used to show the EV of each path, to identify which
EV with perfect information path has the highest EV.
If the decision maker could commission a report to Decision fork (or point)
accurately predict the state of the market on each particular  A point at which a decision maker has to decide
day, the decisions should be: between two or more decisions.
Action  Unsuitable for one off decisions.
chosen Outcome Probability
1 C 200 0.3 Chance fork (or outcome point)
State of 2 B 300 0.5  Where there are several possible outcomes – normally
market 3 C 40 0.2 two or more for each decision.
EV with perfect information: Outcome B

Probability
(200 × 0.3) + (300 × 0.5) + (40 × 0.2) = $218 p
EV of perfect information is: $218 – $148.05 = $69.50
Probability
q
Outcome A
2 RISK ATTITUDE AND DECISION RULES Table of regrets

A B C
2.1 Types of risk preference
State of 1 190 225 Nil
 Risk seekers – take high risks if high returns are market 2 100 Nil 800
possible (e.g. gamblers). 3 20 10 Nil
 Risk neutral – ignore risk and select option with highest
EV. E.g. regret of A under state of market 1 is not choosing C
(i.e. 200 – 10 = 190).
 Risk averse – avoid taking on risk.
Maximum regret associated with each decision is:
2.2 Decision rules A: 190
Action A B C B: 225
1 10 (25) 200 C: 800
State of 2 200 300 (500)
A minimax regret decision maker would therefore choose
market 3 20 30 40
decision A.
 Maximax rule – the course of action that gives the
highest potential outcome is chosen (i.e. B).
 Maximin rule – the action with the highest minimum
outcome is chosen (i.e. A).
 Minimax regret rule – select option with lowest
maximum regret.
3 SENSITIVITY ANALYSIS AND SIMULATION 4 REDUCING UNCERTAINTY

3.1 Sensitivity analysis 4.1 Focus groups
 Shows how responsive a decision is to changes in the  A meeting in which a pre-selected group is shown a
variables. proposed new product or service and asked to discuss it.
 Calculate by how much each variable (individually) can 4.2 Market research
change in percent terms before a decision would change
 The systematic gathering of information to find out:
(e.g. when a forecast profit becomes a forecast loss).
 Who are the customers?
3.2 Simulation
 Where are they located?
 Use of mathematical or computer models to simulate  What quantity and quality do they want?
complex situations involving the interaction of many  What is the best time to sell?
variables whose outcome is uncertain.  What is the long-term price?
 Who are the competitors?
Stages in Monte Carlo simulation
 Primary data is original data collected especially for an
 Specify the variables.
organisation.
 Specify the relationship between the variables.
 Secondary data is data that is public.
 Attach probability distributions to each variable.
 Simulate the environment by generating random
outcomes for each variable.
 Repeat the simulation many times to obtain a
probability distribution for the likely outcomes.
BUDGETING
1 BUDGETARY CONTROL SYSTEM Typical hierarchy of objectives

1.1 Typical budgetary control cycle MISSION
 Budget prepared for a period.
 Compare actual results against the budget. CORPORATE OBJECTIVES
 Take action to ensure adverse variances do not recur in

future period.
UNIT OBJECTIVES
1.2 Objectives of a system of budgeting
 Mission – reason for the existence of the organisation.
 C – Coordination
 R – Responsibility  Corporate objectives – what the organisation must do
 U – Utilisation to achieve the mission. They are usually quantifiable.
 M – Motivation
 P – Planning  Unit objectives – for a particular business unit.
 E – Evaluation 2.2 Role of budgeting in long-term planning
 T – Telling
 Budget covers an accounting period (typically one
2 THE PERFORMANCE HIERARCHY year).
2.1 Long-term planning  Sets out how current period will contribute to the long-
 First step in long-term planning involves setting the term plan.
objectives of the organisation.
BUDGETING
3 DIFFERENT TYPES OF BUDGETARY SYSTEMS Advantage

3.1 Top down v bottom up budgeting  Budget is always updated to reflect external changes. It
remains relevant.
 Bottom up (participative) budgeting – managers
participate in budget preparation for their department. Disadvantages
 Top down – budgets are prepared by senior  Time consuming.
management and imposed on departmental managers.  Budgets may be updated to hide inefficiencies.
 In reality decision is not between top down and bottom Appropriateness
up but how much participation managers have.
 In changing environments where changes mean that
Advantages of participation budget assumptions become out of date very quickly.
 Managers are more motivated to “own” the budget. 3.3 Incremental budgeting
 Managers have better knowledge of situation “at the  Current year’s actual or budgeted figures are the
coal face”. starting point in preparing the next year’s budget.
Advantages of top down  Adjustments are made for planned changes and inflation.
 Non-financial managers may not have the financial Advantages
knowledge to prepare budgets.
 The easiest and quickest method of budgeting.
 Preparing budgets centrally may minimise problems  Coordination between departments is easier.
(e.g. budget slack).
Disadvantages
3.2 Rolling budgets
 Does not encourage managers to challenge whether
 Budget horizon is kept constant by adding another budgeted spending is necessary.
month (or quarter) to the end of the budgeted period as
each month (or quarter) expires.  Encourages “spend it or lose it” mentality.
BUDGETING
3.4 Zero based budgeting 3.5 Activity based budgeting

Features Budgets are based on activity-based principles.
 Managers identify the activities they wish to perform 1. Estimate the budgeted output.
(e.g. making particular products, training).
2. Identify the number of units of driver required for each
 Managers produce a decision package for each activity, activity to produce the output.
showing costs and revenues (and qualitative factors).
3. Ascertain if the organisation has the appropriate
 Budget committee reviews decision packages and resources to perform the activities identified. If not, cut
selects those to be accepted. These form the budget. down activity or invest in additional resources.
Advantages 4 UNCERTAINTY IN THE ENVIRONMENT
 Resources allocated to activities that best meet the 4.1 Flexible budgets
organisation’s objectives.
 Several budgets are prepared using the same budget
 Forces managers to question all items of budgeted assumptions, but based on different activity levels
expenditure. (sales/production units).
Disadvantage  At the end of the year, the budget with the activity level
closest to the actual is used for comparison.
 Time consuming.
4.2 Flexed budgets
Appropriateness
 Prior to comparing the budget with actual, recalculate
 Useful in organisations where a high portion of costs the budget using actual activity levels.
are discretionary.
 Comparison of budgeted and actual is more valid as
 Useful in public sector bodies for allocating scarce both are based on same level of activity.
resources.
BUDGETING
5 BEHAVIOURAL ASPECTS OF BUDGETING 5.4 Standards

5.1 Factors  Ideal standards – assume 100% efficiency. Likely to
demotivate.
 Managers’ evaluations may be affected by whether they
achieve their budgets.  Basic standards – based on historic averages. Likely to
be too easy.
 Budget should motivate managers to perform better.
 Expected standards – take into account an expected
5.2 Hopwood’s management styles
level of inefficiency (normal loss).
 Budget constrained organisations – budgets are taken
 Current standards – adjust the expected standard to
very seriously and managers are expected to achieve
reflect current operating conditions.
them. This leads to a lack of trust between managers
and superiors. Managers will not take risks. 6 BEYOND BUDGETING
 Profit conscious style – budgets are used but applied 6.1 Weaknesses of traditional budgeting
more flexibly. Managers are also judged on how they
contribute to the longer term aims of the organisation.  Budgeting takes up too much managers’ time.
 Non-accounting style – financial performance is not  Budgets are out of “kilter” with modern business.
seen as very important. Managers must react quickly to changes in the external
environment, while budgets are prepared many months
5.3 Level of difficulty before the period to which they relate.
 If budget is too easy individuals will not be motivated  Primary drivers of value today are intellectual capital
to improve performance. (e.g. brands), which are often outside the scope of
 If budgets are too difficult, managers will be financial budgeting systems.
demotivated.  Managers’ “gaming” activities means the budget process
 Research suggests that targets that are just out of reach loses its validity.
are optimal for motivation.
BUDGETING
Gaming examples 6.3 Advantages and disadvantages

 Negotiating the lowest targets and highest rewards.  Divisional managers will be motivated.
 Always hitting the target whatever it takes (implies  Managers work together instead of competing for
manipulation of data). resources.
 Not putting the customer before the sales target.  Quicker response to changes in customer needs.
 Never sharing knowledge or resources with other teams.
 Performance focussed on objectives of organisation, not
 Always meeting the numbers; never beating them. financial numbers.
 Always spending the budget (or otherwise lose it).  Organisational culture may not support this.
6.2 The “Beyond Budgeting” Model  Not appropriate for organisations in which financial
1. Targets are based on key performance indicators (KPIs) control is crucial to success.
rather than purely profit or cost based.
2. Uses stretch goals for planning that are not linked to
management reward schemes.
3. Uses rolling budgets to keep budgets up to date.
4. Uses relative measures (e.g. benchmarks) for evaluation
of managers rather than fixed measures, so managers
are not punished for factors beyond their control.
5. Devolves responsibility for planning away from the
centre to the front line.
6. Allocates resources based on whether projects meet pre-
determined criteria (e.g. NPV) rather than whether they
are in the budget.
QUANTITATIVE ANALYSIS FOR BUDGETING
1 FORECASTING METHODS  Historic annual growth in sales per year:

1.1 Simple average growth models 1  1,600  1,000 
Simple mean =   ×100 = 30%
 Future growth (e.g. of sales) may be forecast based on 2  1,000 
the average (mean) of past growth rates:
 1,600 
 Sales year n - Sales year 1  Geometric mean (%) =  2  1 × 100 = 26.5%
   1,000 
Sales year 1  
Simple mean (%) =   × 100
   The geometric mean is more accurate, but the simple
n
  mean can normally be used as an approximation.
 
1.2 High-low method
 Sales year n   Estimates fixed and variable costs based on historic
Geometric mean (%) =  n  1 × 100
 Sales year 1  amounts:
 
Example  Variable cost per unit =
Sammy is trying to forecast the expected growth in sales of Total costs at high - total costs at low
its new smart phone. Historic data for sales during the last Output at high - output at low (units)
three years is:
 Fixed costs = Total costs at high – total variable costs at
20X1: 1,000 units high
20X3: 1,600 units.
Example 2 LEARNING CURVE THEORY

Total overhead costs for the last four months were: 2.1 The learning effect
Month Output Total cost  The cumulative average time per unit decreases by a
(units) $ constant % every time total output doubles.
1 3,000 3,500
2.2 Tabulation
2 2,400 3,000
3 3,600 4,350  The time taken to make the first unit of a product is 100
4 4,000 4,800 minutes. A 95% learning rate applies:
 High = 4,000 units (month 4) and low = 2,400 units Cumulative Cumulative Cumulative
(month 2) Output average time total time
1 100 95
 Variable cost per unit = 4,800  3,000 = $1.125 2 95 190
4, 000  2, 400
4 90.25 361
 Fixed costs = 4,800 – (4,000 × 1.125) = $300. 8 85.74 686
 Therefore monthly fixed costs are $300 and variable 2.3 Learning curve formula
overheads per unit are $1.125.
 y = ax Exam formula
Where
y = cumulative average time per unit to produce x units
a = time taken for the first unit of output
x = cumulative number of units produced
b = the index of learning (log LR/log 2)
 The value of b will be provided.
Technique 2.6 Reservations

th
If asked for time of n unit (incremental time):  Difficult to estimate learning rate for new products.
 Calculate total time for first n units = cumulative  Cannot be used if there is a break in production.
average time for n units × n
 Unions may impose go slow agreements (i.e. learning
 Calculate total time for first (n – 1) units = cumulative curve does not apply).
average time for first (n – 1) units × (n – 1).
2.7 Steady state
 The difference is the time taken for the nth unit.
 A point where no further learning takes place.
2.4 Conditions for a learning curve to apply Incremental cost of additional units becomes constant.
 Activity is labour intensive. 2.8 Calculating learning rate
 Repetitive tasks.
 Low labour turnover. Typically you will be given the total cumulative time taken
 No prolonged breaks in production. for several levels of output and asked to calculate the
learning rate. Adopt the following approach:
2.5 Applications of theory
 Calculate the cumulative average time per unit for two
 Setting standards output levels a and b, where cumulative output at b is
 Budgeting double cumulative output at a.
 Pricing
 Planning labour requirements  Learning rate =
Cumulative average time per unit at b
× 100
cumulative average time per unit at a
3 USE OF COMPUTER SPREADSHEETS

3.1 Benefits of using spreadsheets in budgeting
 Totals are calculated automatically and updated if any
details change (e.g. total costs).
 Budgets can easily be flexed.
 Master budgets can be linked to subsidiary budgets so
changes in subsidiary will automatically be reflected in
the master budget.
3.2 Dangers of using spreadsheets in budgeting
 Errors in formulae.
 Unauthorised changes to spreadsheets.
 Lack of training.
STANDARD COSTING
1 USE OF STANDARD COSTS 1.2 Variance investigation

1.1 By management  Objective is to improve operations.
 A standard is a benchmark showing the expected level
of performance. Compare actual
Next period’s Analyse
→ performance with →
operations variances
 Standard cost – the expected cost of producing a single standard
unit of a product or service. Made up of:
↑ Start ↓
 Standard quantity of inputs per unit;
 Standard price per unit of input. Implement
 Variance shows the difference between the standard and corrective Identify the
actual performance. action(s)/ issues/questions
amend to be addressed
 Standard costs and variance analysis are used to standards
measure and increase the economy, efficiency and
effectiveness of the production process. ↑ ↓
Receive
←← ←←
explanations/answers
STANDARD COSTING
2 DERIVING STANDARDS
2.1 Ideal standards
 Standards that can only be obtained under ideal
operating circumstances.
 Remind managers of what could be achieved.
 Unlikely to be achieved leading to demotivated
managers.
2.2 Practical standards
 Challenging but achievable under existing operating
conditions.
 Achievable so managers will not be demotivated
 Variances will highlight only abnormal conditions that
need to be brought to the attention of management.
3 CONTROLLABILITY
 Managers should only be judged on things that are
within their control.
 If managers’ performance is evaluated using variances
it is important to ensure that factors outside of the
control of the manager are taken into account.
BASIC VARIANCE ANALYSIS
1 VARIANCE ANALYSIS 1.2 Materials variances

1.1 Sales variances Materials price variance
$
Sales volume variance
Actual materials × actual price X
Actual sales (units) X Actual materials × standard price X
less: budgeted sales (units) X ––
–– Materials price variance X
Difference X ––
× standard profit/contribution per unit* ($) X Materials usage variance
––
Sales volume variance ($) X Actual materials used (units)* X
–– Standard quantity for
* standard profit per unit if absorption costing is used. actual output (units)* X
Standard contribution if marginal costing is used. ––
Difference X
Sales price variance × standard cost per unit ($) X
$ ––
Actual sales × actual price X Materials usage variance ($) X
Actual sales × standard price X ––
–– * typically kg or litres.
Sales price variance X
––
1.3 Labour variances 1.4 Variable overhead variance

Labour rate variance Variable overhead rate variance
$
$
Actual variable overhead cost
Hours paid × actual wage rate X
(=Actual hours at actual rate) X
Hours paid × standard wage rate X
Actual hours worked
––
× standard overhead rate per hour X
Labour rate variance X
––
––
Variable overhead rate variance X
Labour efficiency variance
––
Hours worked X Variable overhead efficiency variance
Standard hours for actual output X
Hours worked X
––
Difference X
––
× standard wage rate per hour ($) X
Difference X
––
× standard overhead rate per hour ($) X
Labour efficiency variance ($) X
––
––
Variable overhead efficiency variance ($) X
––
1.5 Fixed overhead variances Fixed overhead capacity variance*

Fixed overhead expenditure variance Actual hours X
Budgeted hours X
$
––
Actual fixed overheads X
Difference X
Budgeted fixed overheads X
× standard fixed overhead
––
absorption rate per hour ($) X
Fixed overhead expenditure variance X
––
––
Fixed overhead capacity variance ($) X
Fixed overhead volume variance*
––
Actual production (units) X Fixed overhead efficiency variance*
Budgeted production (units) X
Hours worked X
––
Difference (units) X
––
× standard fixed overhead cost per unit ($) X
Difference X
––
× standard fixed overhead
Fixed overhead volume variance ($) X
absorption rate per hour X
––
––
Fixed overhead efficiency variance X
If fixed overheads are absorbed using an hourly basis (e.g.
––
labour or machine hours) the volume variance may be
analysed further: * The fixed overhead volume, capacity and efficiency
variances arise only under absorption costing.
2 CAUSES OF VARIANCES  Variable overhead rate – the effect of paying a non-

standard rate per hour for variable overheads.
 Sales volume – the effect on profit of selling more/less
units than budgeted.  Fixed overhead expenditure – the real spending
difference between budgeted and actual fixed costs. Do
 Sales price – the effect on sales revenues of selling at a
not flex fixed costs; they should not change with the
non-standard price.
level of activity.
 Materials price – the effect on purchases expense of
 Fixed overhead volume – only exists under absorption
paying a non-standard price for materials. Using a
costing (represents under/over-absorption of fixed costs
different quality of materials may cause this. This may
which does not arise under marginal costing.
affect other variances (e.g. materials usage variance).
 It does not show a real spending difference;
 Materials usage – the effect of losses, rejects, defects,
wastage, etc.  It is simply a reconciling item due to the cost
accountant’s method of charging fixed costs to the
 Labour rate – the effect on payroll expense of paying
statement of profit or loss.
workers a non-standard wage. Causes may include
employing a different skill of labour than was expected
when the standard was set.
 Labour efficiency – the productivity of workers. This
may be related to the rate variance (e.g. a higher rate
than standard may increase motivation and hence
efficiency).
 Variable overhead efficiency – calculated as for labour
efficiency (i.e. if workers productivity increases
machinery is operated for fewer hours and incurs less
variable overhead costs such as electricity).
ADVANCED VARIANCE ANALYSIS
1 MATERIALS MIX AND YIELD VARIANCES 1.2 Materials mix variance

1.1 The concept The best approach is to use a table:
Where the standard cost of a product includes two or more Actual
materials, the usage variance can be sub-analysed into two Actual quantity
additional variances – the mix and yield variances: quantity in standard
Total materials
used mix Difference Variance
cost variance litres/kgs litres/kgs litres/kgs $
A B (B–A) (B–A)×Sp
Material 1
Material 2
Price variance Usage variance Material 3
––– ––– ––– –––
X X 0 $Y
––– ––– ––– –––
Mix Yield
variance variance
1.3 Materials yield variance
 The simplest way to calculate is:
 to compare actual output and expected output for
actual input; and
 multiply the difference by the standard cost per
unit.
Example Yield variance

The standard cost of a gin and tonic in a bar in London is 50 40 litres of mix should yield 114 gin and tonics.
ml gin at $5 per litre and 300 ml tonic water at $1 per litre. 40 litres did yield 100 gin and tonics.
Shortage: 14 gin and tonics.
During one evening, 100 gin and tonics were served. 7 litres
Standard cost of 1 gin and tonic:
of gin and 33 litres of tonic were used.
($5 × 0.05) + ($1 × 0.3) = $0.55.
Mix variance Yield variance (adverse) = 14 × $0.55 = $7.70
Actual Actual Standard Variance
1.4 Interpreting material mix and yield variances
quantity quantity minus
actual mix standard mix actual  Favourable mix variance means a higher % of cheaper
Litres Litres Litres input (hence lower % of more expensive input) has
Gin 7 5.7 (1.3) (6.5) been used.
Tonic 33 34.3 1.3 1.3
 May lead to lower quality of output.
––– –––– ––– –––
40 40 0 (5.2)  Favourable yield variance means less waste than
––– –––– ––– ––– expected. This might be related to the mix variance.
 A poor quality mix (favourable mix variance) might
Analysis
lead to a lower yield.
 Bar staff mixed “stronger” gin and tonics than the
Cigarette manufacturers who blend a mix of tobacco into the
standard.
final product routinely calculate such variances. If they use
 Since gin is more expensive than tonic this resulted in a relatively more of a cheap but low quality tobacco they may
more expensive mix than the standard. find a favourable mix variance but adverse yield variance.
 The variance is adverse.
2 SALES MIX AND QUANTITY VARIANCES 2.2 Calculating the sales mix variance
2.1 The concept Example
 In situations where similar products are sold, perhaps Bob sells two products, A and B. He budgets to sell 8 units
differentiated by brands, the budget will assume a of A per day and 4 units of B per day. The standard margin
standard mix of sales. (contribution per unit) is $10 per unit for A and $5 per unit
for B. Actual sales on one particular day were 10 units of A
 If actual sales mix varies from budget and each product
and 8 units of B.
has very different margins this will affect profits.
Total sales
Sales mix variance
variance  Similar in nature to the materials mix variance. A
tabular approach works best:
Product Actual Actual Diff. Standard Sales
Price variance Volume variance sales sales margin mix
actual standard variance
mix mix
(units) (units) (units) $ $
Mix Quantity
A 10 12 (2) 10 (20)
variance variance
B 8 6 2 5 10
–– –– –– ––
18 18 0 (10)
–– –– –– ––
 Sales mix variance is $10 is adverse because less units
of A have been sold and more units of B. A has a
higher margin than B.
2.3 Sales quantity variance 2.4 Interpreting sales mix and quantity variance
 The difference between actual sales (in the standard Sales mix
mix) and budgeted sales. Using a tabular approach:
 Only useful in situations where products are substitutes
Product Actual Diff. Standard Sales for each other.
sales margin mix
 Implies consumers have switched between products,
standard Budgeted variance
buying one as an alternative to the other.
mix sales
(units) (units) (units) $ $  Adverse suggests switching from a high margin product
A 12 8 4 10 40 to a low margin one. May reflect:
B 6 4 2 5 10
 hard economic circumstances (e.g. due to
–– –– –– ––
18 12 6 50 recession); or
–– –– –– ––  price increases.
 Favourable suggests the opposite.
Sales quantity variance
 Reflects factors that affect total sales of all products.
 Adverse may be due to new competitors or a fall in
incomes of consumers.
PLANNING AND OPERATIONAL VARIANCES
1 REVISION OF BUDGETS AND STANDARDS 2 PLANNING AND OPERATIONAL VARIANCES

 Managers may be judged on the results of variance 2.1 Problems of traditional variance analysis
analysis or comparison of actual results against budget.
 If inappropriate standards are not revised variances will
 Budgets and standards should be revised in following be affected by matters outside of the control of the
situations: manager.
 events occurred during the period outside of the  It may be appropriate to revise standards at the end of
control of the manager; the period prior to performing variance analysis as
discussed in §1.
 experience shows original budget/standard was
unrealistic. Operational variances
 Budgets/standards should not be revised to hide  Are calculated in exactly the same way as traditional
inefficiencies. variances by comparing actual performance against the
revised standard.
 Changes should be approved by senior managers.
 Reflect “true” performance as they are based on a more
reliable standard.
Planning variances
 Show the effect of revising the standard on the standard
cost of actual output.
2.2 Calculation of planning and operational variances
 Exam approach – calculate basic variance (e.g. material

price) and then analyse into planning and operational.
Materials price and labour rate variance Materials usage and labour efficiency variance
Traditional price (rate) variance Basic usage (efficiency) variance
$ Actual Q used X
Actual Q* × actual price** X − Standard Q for actual output X
− Actual Q × standard price X –––
––– Difference X
Price variance X × standard price ($) X
––– –––
Basic usage (efficiency) variance *** X
––– –––
Planning price Operational price

(rate) variance (rate) variance
Planning usage Operational usage
$ $ (efficiency) variance (efficiency) variance
Actual Q × std price X Actual Q × actual price X Std Q for actual X Actual Q used X
Actual Q × new std price X Actual Q × new std price X − New std Q for actual X − New std Q for actual X
––– ––– ––– –––
Planning price variance X Operational price variance X Difference X Difference X
––– ––– × standard price per unit X × standard price per unit X
––– –––
 * Q is units of materials or hours or labour.
Planning usage variance X Operational usage variance X
 ** price for materials = rate for labour.
––– –––
 *** usage for materials = efficiency for labour.
2.3 Learning curve and labour variances  Sales volume variance analysed into:
 Labour efficiency variances may require an expected  Market volume variance (a planning variance);
learning curve to be taken into account.  Market share variance (an operational variance).
 Standard labour hours will be based on a standard cost Market volume variance
for the first unit(s) with an expected learning rate. Revised budgeted sales (units)* X
Approach Original budgeted sales (units) X
––
 Calculate the standard labour hours for actual output Difference (units) X
taking into account the learning rate. × standard margin per unit ($) X
 Compare this to the actual labour hours and multiply by ––
the standard rate per labour hour. Market volume variance ($) X
__
2.4 Market volume and market share variances
* Revised budget quantity may be calculated as
Traditional sales volume variance actual market size × budgeted market share.
Market share variance
Actual sales (units) X
Units
Budgeted sales (units) X
Actual sales X
––
Revised budgeted sales X
Difference (units) X
––
× standard margin per unit ($) X
Difference X
––
× standard margin per unit ($) X
Sales volume variance ($) X
––
––
Market share variance ($) X
 Budgeted sales may be revised at the end of the year if ––
the market size was bigger/smaller than expected.
PERFORMANCE MEASUREMENT
1 FINANCIAL PERFORMANCE INDICATORS 1.3 Asset turnover ratio

1.1 Return on capital Sales
 Asset turnover =
Return on equity Equity plus long term debt
Profit before tax Analysis of return on capital employed
 ROE = × 100
Equity  ROCE = Operating profit margin ×Asset turnover
Return on capital employed Profit before interest and tax
 Operating profit margin =
Profit before interest and tax Sales
 ROCE = × 100
Equity plus long term debt 1.4 Liquidity
 Profit and capital must be “matched”:
 Current ratio = × 100
 If profit is before interest, capital must include
long-term debt.
 If profit is after interest, only equity should be 1.5 Gearing
included. Debt
 Gearing ratio = × 100
1.2 Profit margins Equity plus debt
Gross profit 1.6 Interest cover
 Gross profit margin = × 100
Revenue
Profit before interest and tax
Net profit  Interest cover = times
 Net profit margin = × 100 Interest expense
Revenue
2 NON-FINANCIAL PERFORMANCE 2.4 Non-financial performance indication (NFPIs)

INDICATORS
Advantages of using NFPIs in addition to financial measures
2.1 Financial performance measures
 They focus on the drivers of future business
Weakness performance (e.g. quality).
 Short-term improvements in financial performance may  Using only financial measures may lead to short-term
be at the expense of longer term (e.g. cutting back on behaviour.
R&D spending).
 May be less easily manipulated.
 Performance measurement should encourage a longer-
 May be compiled more quickly.
term view (e.g. by using a mix of financial and non-
financial performance indicators).
2.2 Key performance indicators (KPIs)
 KPIs measure how the organisation performs in relation
to its critical success factors.
2.3 Operational performance indicators
 Having set operational performance indicators,
managers should set performance indicators at all levels
of the business – both financial and non-financial – that
are consistent with the key performance indicators.
FURTHER ASPECTS OF PERFORMANCE ANALYSIS
1 BALANCED SCORECARD 1.3 Advantages and disadvantages

1.1 Introduction Advantages
Measures performance from four perspectives:  Performance measured from different perspectives (not
just financial).
 Financial – how do we look to our shareholders?
 Performance measures focus on the strategy of the
 Customer – how do our customers see us?
organisation through the critical success factors.
 Internal business – what must we excel at?
 Small number of KPIs means management focus on
 Learning and growth – how must we grow and change what is important.
to meet changes in the business environment?
Disadvantages
1.2 Balanced scorecard approach
 Training and change in organisational culture will be
Financial
required before introducing it.
Perspective
 May be difficult to identify critical success factors and
KPIs.
Customer Vision Internal Business

 Difficulty in setting targets for each KPI.
Perspective And Processes
Strategy
Learning and
Growth
 A small number of critical success factors is identified

for each perspective and KPIs chosen for each.
FURTHER ASPECTS OF PERFORMANCE ANALYSIS
2 SERVICE INDUSTRIES 3 NON-PROFIT SECTOR

2.1 Characteristics of service industries 3.1 Identifying objectives
 Simultaneity – the consumption of the service takes Identifying objectives complicated because:
place at the time of performance.
 There are many stakeholders, possibly with differing
 Perishability – services cannot be stored. objectives.
 Heterogeneity – each time a service is performed, it  Often difficult to quantify objectives (e.g. improve
will be different. health).
 Intangibility – can be difficult to determine what 3.2 Value for money frameworks
clients value in a service.
 Non-profit organisations have limited resources with
2.2 Fitzgerald and Moon building block model which to achieve their aims.
Model includes six dimensions for measuring performance in  Performance measurement focuses on value for money.
services businesses:
“3Es”
 Profitability
A framework used to measure performance in public sector:
 Competitiveness
 Quality  Economy (e.g. total costs per hospital bed);
 Resource utilisation
 Efficiency (e.g. patients treated per doctor);
 Flexibility
 Innovation  Effectiveness (e.g. how many patients do not return
within three months.)
DIVISIONAL PERFORMANCE EVALUATION
1 DIVISIONAL PERFORMANCE EVALUATION 2 RETURN ON INVESTMENT (ROI)

1.1 Measurement characteristics  A relative measure. Is essentially the same measure as
ROCE (and accounting rate of return – ARR).
 Goal congruence – measures should encourage
division to make decisions consistent with company Controllable profit
objectives.  ROI =
Capital employed
 Controllability – divisions should only be assessed on
what is within their control.  Capital employed = Non-current assets minus net
current assets.
1.2 Possible measures
Advantages
Cost centres
 Relative measure – easy to compare divisions.
 Costs v budgets
 Focuses attention on scarce capital resources.
 Cost per unit
 Easily understood.
 Labour turnover
Disadvantages
Profit centres
 Controllable profit  ROI increases as assets become older because of lower
 Sales variances carrying amount (“net book value”).
 Profit margins  May discourage investment in new non-current assets.
 Customer returns
 May lead to goal incongruence – projects may be
Investment centre rejected if they reduce division’s ROI even though their
 Return on investment return exceeds the cost of capital.
 Residual income
 Liquidity ratios
 Number of new products
DIVISIONAL PERFORMANCE EVALUATION
3 RESIDUAL INCOME (RI)

 An absolute measure ($).
 Residual income = Pre-tax profit less imputed interest
charge for capital invested.
 Imputed interest = Capital employed × interest rate.
 Interest rate is usually company’s cost of capital (but
can be adjusted to take account of the division’s risk.
Advantages
 Goal congruence:
 Project return > cost of capital  positive residual
income ⇒ will be accepted by divisional manager.
 Risk-adjusted interest rate can be used.
Disadvantages
 Not easily understood.
 Difficult to compare divisions of different sizes.
 Problems associated with both ROI and RI.
TRANSFER PRICING
1 TRANSFER PRICING 2.2 Buying division perspective

1.1 Objectives of a good transfer pricing system Maximum transfer price acceptable is the lower of:
 Autonomy  External market price; and
 Goal congruence  Net revenue of the division (i.e. ultimate selling price
less costs incurred in the buying division). If transfer
 Fair to both buyer and seller for performance evaluation
price exceeds this, the buying division makes a loss.
purposes.
3 PRACTICAL APPROACHES
2 OPPORTUNITY COST APPROACH
3.1 Market price
2.1 Selling division perspective
 Adjusted market price – market price less savings from
Minimum transfer price is the higher of:
internal transfer (e.g. due to lower delivery costs).
 External market price (less any savings due to internal
Advantages
transfer).
 Leads to goal congruence if selling division is at full
 Variable cost + opportunity cost of supplying the goods.
capacity.
 Opportunity cost = lost contribution from sale of goods
 Encourages efficiency in the supplying division.
externally (for same or other products).
Disadvantages
 If transfer can be provided from spare capacity,
opportunity cost = 0.  May lead to incongruent decisions where selling
division has spare capacity.
 Market prices may fluctuate.
TRANSFER PRICING
3.2 Cost plus approach 4 DUAL PRICING

Advantages  Where no transfer price can be found which is
acceptable to both parties, but the head office wants
 Easy to calculate.
both divisions to trade.
 Covers all costs of selling division
 A higher price is credited to the buying division, and a
Disadvantages lower price debited to the buying division.
 Inefficiencies in selling division are passed on to buying  Head office absorbs the difference.
division.
 Setting mark-up is arbitrary.
 May lead to incongruent behaviour.
3.3 Incongruent behaviour
 Transfer price is higher than market price, so buying
division buys externally, or does not produce at all.
 Marginal cost plus opportunity cost to selling division is
less than the market price.
PERFORMANCE MANAGEMENT INFORMATION SYSTEMS
1 INFORMATION SYSTEMS Tactical management

 People, procedures and possibly computer hardware  Concerned with managing the resources of the
and software, working together to collect, store, process organisation over the medium term to achieve the long-
and communicate information. term strategy (e.g. preparing the budget, recruiting
staff).
 Performance management information systems provide
information to assist management in planning, control Operational management
and decision making.
 Managing day-to-day operations of the business (e.g.
1.1 Anthony’s model ordering inventory preparing the staff rota).
Characteristics of information
Planning
info  Strategic management information will be longer term,
Strategic
less structured (ad hoc) and contain large amounts of
Tactical external information (e.g. competitor analysis, market
forecasts).
Operational Control
info  Tactical management information is provided on a
regular basis and contains both internal and external
Strategic planning information (e.g. variance reports and comparison of
 Setting goals and objective for the organisation over the actual revenues and costs against the budget).
long-term (e.g. which products to make and which  Operational management is transaction based.
markets to be in.)
1.2 Modern IT systems  An Enterprise Resource Planning System (ERPS)

provides a seamless flow of information across the
 Transaction processing systems collect data about all
whole organisation using a shared database (i.e. all
transactions. May be automated (e.g. EFT systems in
departments use the same system).
retailers) and contain controls to ensure the validity and
accuracy of the data entered.  Business intelligence systems identify trends and
relationships in large volumes of data (e.g.
 Batch processing systems process transactions in
supermarkets, store information about what their
batches periodically (e.g. monthly payroll).
loyalty card holders buy and analyse this to
 Real time systems process transactions as they identify trends).
occur.
1.3 Systems theory
 Management information systems (MIS) convert data
from internal and external sources into information that
may be used by management. For example:
 Decision Support Systems (DSS) assist in  A system takes inputs and processes them to produce
complex decision-making. Typically analyse outputs (e.g. transport system, information system).
large amounts of data and provide information
about the likely outcome of decisions based on  It has a boundary, which defines where the system
programmed rules and assumptions. exists.
 Executive information systems (EIS) assist senior  What is outside of the system is the environment.
management’s decision making by providing  Open systems react (adapt) to changes in their
summarised information from both internal and environment.
external sources relevant to meeting the strategic
goals of the organisation.  Closed systems do not. (Are rare in the real
world.)
 A closed organisation will be internally-focused.  Intranets are private internal networks in an

Production may be based on what it can produce rather organisation that allow sharing of information.
than what the customer actually wants. This may lead
 The Internet is a useful source of information.
to surplus inventory of finished goods, for example.
2.2 Direct costs of information
 An organisation that does not anticipate changes in
customer needs will not succeed in the long run.  Design and implementation costs.
2 SOURCES OF MANAGEMENT INFORMATION  Day to day running costs (including staff costs of
accounting staff, maintaining and repairing hardware).
2.1 Principal sources
 Storage costs (e.g. hardware costs such as servers).
Internal
 Data capture costs – the costs of getting the data into
 The accounting system. the system in the first place.
 Inventory system.
 Payroll systems.  Processing costs – the costs of setting up the
 Purchase processing system. information system, and the salaries of the operators of
 Sales processing system. the system.
 Qualitative type information (e.g. customer 2.3 Indirect costs of information
satisfaction). This could come from customer surveys.
 Capital costs.
External
 One-off revenue costs (e.g. analysing and designing
 Primary information – tailored information system).
commissioned by the entity (e.g. market research).
 Costs associated with external sources – primary
 Secondary information – information produced for sources.
general use (e.g. government statistics or market
reports).  Costs associated with external sources – secondary
sources.
3 MANAGEMENT REPORTS General security controls

3.1 Controls  Training all staff in computer security procedures.
Purpose of controls  Staffing arrangements (e.g. vetting job applicants before
employment).
 Reports are only prepared when the benefits of the
report exceed the cost of producing it.  Physical controls over access to information systems.
 Reports should only be sent to relevant managers.  Logical access controls (e.g. passwords and system
logs).
 Information is not duplicated.
Hacking
 Only relevant information is included in the report
 Deliberate unauthorised access to a system and the data
Types of controls
within it.
 Agreeing the format of reports in advance.
Measures to prevent hacking
 Distribution lists.
 Firewalls control the traffic between an internal
3.2 Confidential information
network and an external network (e.g. the internet).
 Information security protects information and
 Data encryption.
information systems from harm resulting from hacking,
operational error, sabotage and other threats.
 Privacy is restricting knowledge to authorised persons.
ADDITIONAL READING
ARTICLES
The following technical articles written by members of the F5 examining team can be found on the ACCA website at
http://www.accaglobal.com/uk/en/student/exam-support-resources/fundamentals-exams-study-resources/f5/technical-
articles.html
Decision trees
The learning rate and learning effect **
Throughput accounting and the theory of constraints (parts 1 and 2) **
Transfer pricing *
Environmental management accounting **
Cost volume profit analysis **
Material mix and yield variances **
Comparing budgeting techniques
Target costing and lifecycle costing – by Ken Garrett **
Transfer pricing – by Ken Garrett **
Interpreting financial data **
Linear programming
Approaching written questions **
Examiner’s reports September and December 2015 **
* There are two articles about Transfer Pricing
** These are summarised in the sections that follow.
SPECIAL FEATURE
Examiner’s approach article – see http://www.accaglobal.com/uk/en/student/exam-support-resources/fundamentals-exams-
study-resources/f5/technical-articles/examiner-approach-to-paper-f5.html
APPROACHING WRITTEN QUESTIONS
APPROACHING WRITTEN QUESTIONS Step by step approach to the exam on the day
For the full article see the ACCA’s website. Reading time
 The skills papers, of which F5 is one, are often the first Although the 15 minutes reading time allowance is no longer
in which students have had to tackle written questions. separate, you should still:
 Candidates are required to write clearly and set out  Read all the requirements and the questions;
workings logically and neatly. The following four
 Think about the order in which you will do the
skills are required:
questions – best question first;
(1) correctly interpret requirements;
 Allocate 3 hours appropriately between the sections and
(2) actively read scenario based questions questions.
highlighting what is relevant for each part of the
When it comes to answering the question, be strict with your
requirement;
time allocation. Spending too long on one question is likely
(3) use that information to perform calculations that to mean that you cannot do it anyway (so move on and come
are carefully structured and clearly set out, with back to it later) or you are going beyond what the examiner
workings shown in an easy-to-follow layout; requires. How much an examiner expects you to write is
directly linked to the marks available and therefore to the
(4) write accurately and coherently using simple
time available.
English rather than long rambling sentences that
have no structure and no real content. When reading any question:
 Where subjects that were in F2 are repeated in F5, the  The requirement should be the first thing you read.
skills required are over and above the knowledge
 What is the point in reading a scenario if you do
required in F2.
not know what you are looking for?
 Underline the “content” (e.g. target costing) and the
“instruction” (i.e. what it is telling you to do).
In constructed response questions, the instruction is a verb You should go into the exam with a “toolbox” of what is
(e.g. calculate, describe, interpret, discuss) that has been going to help you answer the questions. For example, if it is
carefully chosen by the examiner. If you do not read or a linear programming question, go into your toolbox and pull
understand it you may well find that you are not actually out your five-step guide for linear programming:
answering the question. If you are not answering the
 define the variables
question you are not earning marks. Each of the common
 state the objective function
exam instructions is dealt with below.
 state the constraints
Answering numerical questions  draw the graph
 find the solution.
Calculate – you just have to work something out.
The problem with F5 is that students go into the exam with
Derive – sometimes requires more than simply being able to
only a few tools in their “box”. If you put the work in, you
calculate a figure as a candidate is required to use their
will reap the rewards.
powers of deduction to derive something. For example
derive an equation showing the relationship between price Answering “wordy” questions
and quantity.
The real cause of poor performance in written questions is
Estimate – suggests that the answer cannot be calculated failure to grasp what to write and how much to write:
with certainty. For example, if calculating the cost of a batch
Describe Give a narrative about something. For example
using an 80% learning rate, this rate reflects only what the
“describe suitable non-financial performance
business thinks will happen, but will not be confirmed until it
indicators for a hospital”. A mere list is
has happened.
insufficient – so state also how they might be
Candidates who perform poorly on the numerical parts of F5 calculated.
often do so due to:
Outline This requires a fairly brief and well-organised
 failure to study the whole syllabus sufficiently well; overview, without the level of detail that would
be required in “describe” (e.g. “outline the
 a disorganised approach (i.e. no logical progression objectives of a budgetary control system”).
through calculations and lack of referenced workings).
Compare Discuss similarities between two or more things Explain Means to give a reason for something. This is a
and draw conclusions. For example, “compare common requirement. It is not the same as to
product costs using ABC with traditional describe. For example, to explain an action
costing”. You need to state why the costs are (why it happened) is not the same as describing
different. This means looking in detail at the the action (what happened).
product costs and ascertaining the reason why
Suggest Means give a suitable idea or solution, in
the overheads absorbed into one product are
situations where there may be more than one
higher under one method than the other.
answer to the question being asked. For
Identify This means pinpoint and state. This can be example, how a cost gap could be closed.
quite simple, requiring knowledge rather than There are many possible ways to do this.
skill. Sometimes, candidates may have to
Justify State why a particular answer or position makes
identify points from within a question scenario
sense. For example, to justify the use of back
which requires more skill.
flush accounting, you would have to mention
Discuss This means give views on a subject, supporting the relative immateriality of inventory.
it with facts and logical reasoning. For
Conclusion
example, “discuss the effect that variances have
on staff motivation”. Opinions must be sound F5 is not an especially hard paper if candidates:
and well-reasoned. To state that variances are
de-motivational without explaining why is  Work hard to gain knowledge of areas that they have
worthless. Also you are expected to look at not practiced;
both sides of the story.  Highlight the requirements of each question and keep
referring back to them;
 Practice questions until their approach and layout
become “second nature” so there will be sufficient time
in the exam to think about the issues in the question.
TARGET COSTING AND LIFECYCLE COSTING
TARGET COSTING AND LIFECYCLE COSTING For example, if a company normally expects a mark-up on
cost of 50% and estimates that a new product will sell
For the full article see the ACCA’s website.
successfully at a price of $12, then the maximum cost of
Typically, in conventional costing, once the absorption cost production should be $8.
of units has been calculated, a mark-up (or gross profit
This is a powerful discipline imposed on the company. The
percentage) is used to determine the selling price and the
main results are:
profit per unit.
 The establishment of multi-functional teams making the
There are two flaws in this approach:
design and manufacturing decisions needed to
1. The product’s price is based on its cost, but no one determine the price and feature combinations that are
might want to buy at that price. most likely to appeal to potential buyers of products.
2. The costs incorporated are the current costs only. There  An emphasis on the planning and design stage. This
may be other important costs which are not part of these becomes very important to the cost of the product.
categories, but without which the goods could not have
Here are some of the decisions, made at the design stage,
been made (e.g. research and development costs and
which can affect the cost of a product:
any close down costs at the end of the product’s life).
 The features of the product;
Target costing
 How to avoid “over design”;
Target costing is very much a marketing approach to costing.  The number of components needed;
 Whether the components are standard or specialised;
Instead of starting with cost and working to the selling price,  The complexity of machining and construction;
target costing starts with the selling price of a product and
 Where the product can be made;
works back to the cost by removing the profit element. This  What to make in-house and what to sub-contract;
means the business has to find ways to not exceed that cost.  The quality of the product;
 The batch size in which the product can be made.
TARGET COSTING AND LIFECYCLE COSTING
ABC can also play an important part in target costing. By The cost phases of a product can be identified as:
understanding the cost drivers (cost causers) a company can
Phase Examples of types of cost
better control its costs.
Design Research, development, design and tooling
Value engineering aims to reduce costs by identifying those
parts of a product or service which do not add value – where Manufacture Material, labour, overheads etc.
“value” is made up of both:
Operation Distribution, advertising and warranty claims
 Use value (the ability of the product or service to do
what it sets out to do – its function) and End of life Environmental clean-up, disposal and
decommissioning
 Esteem value (the status that ownership or use confers).
The four principal lessons of lifecycle costing are:
The aim of value engineering is to maximise use and esteem
values while reducing costs.  All costs should be taken into account when working
out the cost of a unit and its profitability.
For example, if you are selling perfume, the design of its
packaging is important. To reduce costs by economising too  Attention to all costs will help to reduce the cost per
unit and will help an organisation achieve its target cost.
much on packaging would damage the esteem value.
 Many costs will be linked. For example, more attention
Lifecycle costing
to design can reduce manufacturing and warranty costs.
When seeking to make a profit on a product it is essential that
 Costs are committed and incurred at very different
the total revenue arising from the product exceeds total costs,
whether these costs are incurred before, during or after the times. A committed cost is a cost that will be incurred
product is produced. in the future because of decisions that have already been
made.
Typically by the end of the design phase approximately 80%
of costs are committed. For example, the design will largely
dictate material, labour and machine costs.
THROUGHPUT ACCOUNTING AND THE THEORY OF CONSTRAINTS
THROUGHPUT ACCOUNTING AND THE THEORY  The goal of the factory needs to be more clearly
OF CONSTRAINTS defined. Jonah helps Alex do this by explaining that it
will be achieved by increasing throughput while
This is a summary of a two part article written by a simultaneously reducing inventory and operational
member of the examining team. For the full articles see expenses.
the ACCA’s website.
 Throughput: the rate at which the system generates
“The Goal: A Process of ongoing improvement” by Eli money through sales;
Goldratt and Jeff Cox, originally published in 1984, presents
the theory of constraints and throughput accounting as a  Inventory: all the money that the system has
novel. invested in purchasing things that it intends to sell;
 Alex Rogo, a plant manager at a fictional manufacturing  Operational expense: all the money that the system
plant, is forced to question the belief that success in spends in order to turn inventory into throughput.
manufacturing is represented by a 100% efficient Working out how to achieve the goal
factory (i.e. everyone and every machine is busy 100%
of the time).  Alex takes his son and other boys on a 10-mile hike.
Alex realises that if everyone is to stay in one group, the
 Alex’s journey begins with a chance meeting with his group can only go as fast as the slowest walker. The
old physics teacher Jonah. Alex is proudly telling slow walker is a bottleneck that prevents the group from
Jonah about the improvements in efficiency at the going faster.
factory. Jonah is quick to question whether these have
actually led to an improvement in profits. Identifying bottlenecks
 In fact, although the plant has become seemingly more  Alex and his team identify obvious bottlenecks where
efficient, it has huge inventory levels and is constantly big piles of inventory sit in front of two machines.
failing to meet order deadlines.  Observation shows that these machines are sometimes
idle because workers are taking their breaks or working
on other non-bottleneck machines.
 Alex learns that an hour lost on a bottleneck machine is The five focussing steps
an hour lost for the whole system. From then on, the
The theory of constraints is applied in five focussing steps:
bottleneck machines are permanently manned.
Step 1 – Identify the system’s bottleneck
The need to accept idle time
 Alex realises that all machines must work at the pace of It is usually quite simple to work out what the
the bottleneck machines. It is important to let non- bottleneck resource is.
bottleneck machines and workers sit idle when they Step 2 – Decide how to exploit the system’s bottleneck
have produced to the capacity of the bottleneck
machines. It is only wasteful to produce parts that are This means making sure that the bottleneck is actively
not needed or cannot be processed. used and producing as many units as possible (e.g. by
making sure that there are always workers at bottleneck
Throughput and just-in-time (JIT)
machines).
 Given that producing excess inventory both pushes
costs up and prevents throughput, it becomes clear that Step 3 – Subordinate everything else to the decisions made in
throughput accounting and JIT operate very well Step 2
together. The production capacity of the bottleneck resource
 Alex reduces batch sizes substantially. If batch sizes should determine the production schedule for the
are halved: organisation as a whole. By definition, the system does
not require-non bottleneck resources to be used to their
 inventory costs are also halved; and
full capacity. Pushing more work into the system than
 lead time is halved which gives a competitive the constraints can deal with results in excess work in
advantage. progress and extended lead times.
 Throughput increases dramatically because of increased
sales volumes; leading to a significantly lower operating
cost per unit.
Step 4 – Elevate the system’s bottlenecks Example 1

Increase the output of the bottleneck resources. This Beta co produces three products:
normally requires capital expenditure. However, it is
important not to ignore Step 2 and go straight into Step 4, as E F G
there may be untapped production capacity that can be $ $ $
exploited. Selling price per unit 120 110 130
Direct material cost per unit 60 70 85
Step 5 – Go back to Step 1 Hours per unit required on bottleneck 5 4 3
When a bottleneck has been elevated, another one will Maximum demand 30,000 25,000 40,000
appear, often in the form of another machine that can now
process fewer units than the elevated bottleneck. The system There are 320,000 bottleneck hours available each month.
should be one of ongoing improvement. Required:
Limiting factor analysis and throughput accounting Calculate the optimum product mix each month.
 An exam question may ask how a bottleneck can be Answer
exploited by maximising throughput using an optimum E F G
production plan. $ $ $
 The mechanics of the calculation of “throughput return Selling price per unit 120 110 130
per unit of bottleneck resource” is very similar to the Direct material cost per unit 60 70 85
key factor analysis calculation on “contribution per unit ––– ––– –––
of scarce resource”. Throughput per unit 60 40 45
––– ––– –––
 “Throughput” is selling price less direct material cost Hours per unit required on bottleneck 5 4 3
(only). This is not the same as contribution because ⇒ Return per factory hour $12 $10 $15
throughput accounting recognised that all other costs Ranking   
are largely fixed (e.g. workers are not hired on a daily
basis and laid off when they are not busy).
Production plan to maximise throughput (320,000 hours) (1) Replace machine X with a newer model costing $6
million
Total Total
hours throughput (2) Purchase a second machine Y to increase capacity by
000 $000 550 units per week for $6.8 million
Produce 40,000 units of G 120 1,800
(3) Upgrade machine Z at a cost of $7.5 million to increase
Produce 30,000 units of E 150 1,800
capacity to 1,050 units.
Produce 12,500 units F (50,000 ÷ 4) 50 500
–––– –––––– Required:
320 4,100
–––– –––––– Determine Cat Co’s best course of action.
Answer
Example 2
Initially machine Z is the bottleneck. Therefore neither
Cat Co makes a product using three machines – X, Y and Z. investment 1 or 2 should be considered first, since X and Z
The capacity of each machine is: are not currently bottlenecks.
Machine X Y Z How does capacity change with choices available?
Capacity per week 800 600 500
Machine X Y Z Demand
Capacity per week 800 600 500* 1,000
Demand for the product is 1,000 units per week. For every Invest in Z 800 600* 1,050 1,000
additional unit sold net present value increases by $50,000. Invest in Z and Y 800* 1,150 1,050 1,000
Cat Co is considering the following possible investments Invest in Z, Y and X 1,100 1,150 1,050 1,000*
(they are not mutually exclusive):
* = Bottleneck resource, represents maximum capacity of
system. Y becomes the bottleneck resource after investment
in Z.
Financial viability of options: Ratios

Z Z & Y Z, Y & X  Return per factory hour = Throughput per unit ÷ Time
Additional sales units: on bottleneck resource per unit
(new bottleneck – 500) 100 300 500
 Cost per factory hour = Total factory costs ÷ Total time
available on bottleneck resource. Total factory costs =
$000 $000 $000
Sum of all operational costs
Benefit ($50,000 per additional unit) 5,000 15,000 25,000
Cost (7,500) (14,300) (20,300)  Throughput accounting ratio (TPAR) = Return per
–––––– –––––– –––––– factory hour ÷ Cost per factory hour
Net benefit (2,500) 700 4,700
–––––– –––––– ––––––  If TPAR > 1, the rate at which cash from sales is
generated > the rate at which costs are incurred.
⇒ Cat Co should invest in all three machines if it has enough
cash to do so.
 This example shows how as one bottleneck is elevated,
another one appears.
ENVIRONMENTAL MANAGEMENT ACCOUNTING
ENVIRONMENTAL MANAGEMENT ACCOUNTING Definition of EMA

For the full article see the ACCA’s website. EMA is the identification, collection, analysis and use of two
types of information for internal decision making:
Introduction to EMA
 physical information on the use, flows, and destinies of
 Environmental management accounting (“EMA”) is a
energy, water and materials (including waste),
sub-set of management accounting. Management
accounts are prepared to provide information which is  monetary information on environmental-related cost,
used to assess the business’s historic performance and, earnings and savings.”
how it can be improved.
Importance of the environment to business
 EMA focuses on things such as:
(1) Society as a whole has become more environmentally
 the cost of energy and water and the disposal of aware, with people becoming increasingly aware about
waste and effluent; the “carbon footprint”.
 financial costs and benefits of buying from more (2) Environmental costs are becoming huge for some
environmentally-aware suppliers who are ; companies particularly those operating in highly
industrialised sectors. These need to be managed.
 reputational risk (from failure to comply with
environmental regulations). (3) Regulation is increasing, with penalties for non-
compliance also increasing
EMA uses some standard accountancy techniques to identify,
analyse, manage and hopefully reduce environmental costs in
a way that provides mutual benefit to the company and the
environment, although sometimes it is only possible to
provide benefit to one of these parties.
Managing environmental costs is difficult: (2) Many environment costs captured by the accounting
system are difficult to separately identify as they are
(1) It is difficult to define EMA and the actual costs
found within the category of “general overheads
involved. The US Environmental Protection Agency
made a distinction between four types of costs: UNDSD identified four management accounting
techniques for identifying and allocating environmental
(i) conventional costs (e.g. raw materials and energy);
costs:
(ii) potentially hidden costs captured by accounting
(i) input/output analysis;
systems but getting hidden in “general overheads”;
(ii) flow cost accounting;
(iii) contingent costs (e.g. site clean-up costs): and (iii) ABC; and
(iv) lifecycle costing.
(iv) image and relationship costs that, by their nature,
are intangible. Input/output analysis
On the other hand, the United Nations Division for This records material inflows and balances this with
Sustainable Development (UNDSD) described material outflows on the basis that what comes in must
environmental costs as comprising of two components: go out.
(i) costs incurred to protect the environment (e.g. Flow cost accounting
measures taken to prevent pollution); and
This uses not only material flows but also the
(ii) costs of wasted material, capital and labour organisational structure. It divides material flows into
including inefficiencies. three categories: material, system, and, delivery and
disposal. The values and costs of each of the three are
These definitions do not contradict each other; they just
calculated. The aim of flow cost accounting is to
look at the costs from slightly different angles. reduce the quantity of materials which, as well as
having a positive effect on the environment, should
have a positive effect on a business’s total costs in the
long run.
ABC It is possible to identify how much material is

wasted in production using the “mass balance”
This allocates internal costs to cost centres and cost
approach (i.e. the weight of materials bought
drivers on the basis of the activities that give rise to the
compared to the product yield). Potential cost
costs. It distinguishes between environmental-related
savings may be identified. As well as monetary
costs, which can be attributed to joint cost centres, and
cost, waste has environmental costs (e.g. lost land
environment-driven costs, which tend to be hidden on
resources from burying waste and the generation
general overheads.
of greenhouse gases).
Life cycle costing
(ii) Water is actually paid for twice by businesses –
This technique requires the full environmental first to buy it and second to dispose of it. So the
consequences, and, therefore, costs, arising from organisation needs to identify where water is used
production of a product to be taken account across its and how consumption can be decreased.
whole lifecycle.
(iii) Energy – EMA may help to identify inefficiencies
(3) It is only after environmental costs have been defined, and wasteful practices and, therefore,
identified and allocated that a business can begin the opportunities for cost savings.
task of trying to control them. Consider an organisation
(iv) EMA can help to generate cost savings in
whose main environmental costs are: i) waste and
Transport and travel. At a basic level, a business
effluent disposal, ii) water consumption, iii) energy, iv)
can invest in more fuel-efficient vehicles.
transport and travel, and v) consumables and raw
materials. (v) Consumables and raw materials costs are usually
easy to identify and senior managers may help to
(i) Waste – there are lots of environmental costs
identify where savings can be made (e.g. toner
associated with waste (e.g. costs of unused raw
cartridges for printers can be refilled instead of
materials and disposal, taxes for landfill, fines for
replaced). This should result in a financial saving
compliance failures).
and be better for the environment as toner
cartridges are difficult to dispose of.
For the full article see the ACCA’s website. Example

COST VOLUME PROFIT ANALYSIS Company A makes product X. The selling price for product
X is $50 and its variable costs are $30. The contribution per
Objective of CVP analysis
unit (sales price less variable costs) is $20. Fixed costs are
CVP analysis looks at the effects on differing levels of $200,000 per year.
activity on the profit of the business. In the short-run,
(50Q) – (30Q) – 200, 000 = P.
profitability often hinges upon volume, as sales price and the
costs of materials and labour are usually known with some Set P to zero to find breakeven point:
degree of accuracy in the short run.
(50Q) – (30Q) – 200, 000 = 0
The break-even point is where total revenues and total costs 20Q – 200,000 = 0
are equal. There are three methods for ascertaining the 20Q = 200,000
break-even point:
Q = 10,000 units.
(1) Equation method
If company A sells exactly 10,000 units, it will break even,
Total revenue – Total variable costs – Total fixed costs = Profit and if it sells more than 10,000 units it will make a profit.
(USP × Q) – (UVC × Q) – FC = P
(2) Contribution margin method
If P = 0, Q = fixed costs ÷ unit contribution margin.
(3) Graphical method
The total costs and total revenue lines are plotted on a graph.
$ are shown on the y-axis, and units on the x-axis. The point
where the total cost and revenue lines intersect is the break-
even point.
$000 Total revenue Margin of safety

Total costs
This indicates by how much sales can decrease before a loss
occurs (i.e. the excess of budgeted revenues over break-even
revenues).
It may be calculated as a percentage:
Budgeted sales - break even sales
Break even  100
point Budgeted sales
Fixed costs
It could be calculated in revenue terms as:
Budgeted sales  Break-even sales  Selling price
Contribution to sales (C/S) ratio
 Shows how much each $ sold actually contributes
towards fixed cost.
Units sold  In single product situations C/S ratio = unit contribution
÷ unit selling price:
Ascertaining sales volume to achieve a target profit
 In multi-product situations, calculate a weighted
A business may want to know how many items it must sell to average C/S ratio. This can then be used to find CVP
obtain a target profit: information (e.g. breakeven point, margin of safety).
FC  P Weighted average C/S ratio = total expected contribution ÷
Q=
UCM total expected sales:
It can also be used to calculate break-even revenue:
Fixed costs Contribution Cumulative Revenue Cumulative

Break-even point (revenue) = Profit/loss revenue
C/S ratio
$000 $000 $000 $000
Fixed costs plus required profit (Fixed costs) 0 (X) 0 0
To achieve a target profit: X (up to budgeted sales) XX XX XX XX
C / S ratio Y (up to budgeted sales) XX XX XX XX
Multi-product profit volume charts
The profit volume graph focuses purely on showing a The graph can then be drawn, showing cumulative sales on
profit/loss line and does not separately show the cost and the x-axis and cumulative profit/loss on the y-axis – e.g:
revenue lines. $000
In a multi-product environment it is common to show two 350

lines on the graph:
 a straight line, which assumes a constant mix of
200
products; and
Most profitable first
 a “bow-shaped” line, which assumes its most profitable Sales in constant mix
product is sold first, then the next most profitable
product, and so on.
To draw the graph, it is necessary to work out the C/S ratio of 582 1,000 1,650
each product being sold, before ranking the products in order
of profitability. Sales $000
200
It is useful to draw a quick table (prevents mistakes in the
exam hall) to ascertain each of the points that need to be
plotted on the graph to plot the profit/loss lines:
Limitations of CVP analysis

The limitations are the assumptions:
 There is a single product or multiple products sold in a
fixed mix.
 Volume is the only factor that changes. All other
variables remain constant. There are many reasons why
the assumption may not hold true (e.g. economics of
scale).
 The total cost and total revenue functions are linear.
This is only likely to hold within a short run restricted
level of activity.
 Costs can be classified as fixed or variable. In reality
some may be semi fixed.
 Fixed costs remain constant over the “relevant range”
levels of activity in which the business has experience
and can therefore perform a degree of accurate analysis.
THE LEARNING RATE AND LEARNING EFFECT Cumulative

average
time
For the full article see ACCA’s website.
A brief history
The learning effect is a human phenomenon – people become
quicker at performing repetitive tasks:
 First reported observation goes back as far as 1925 in
aircraft manufacturing industry.
 TP Wright established that it was possible to accurately
Cumulative
predict how much labour time would be required to output
build planes in the future.
 Wright identified that the cumulative average time per
unit decreased by a fixed percentage each time  When cumulative output is low, the learning curve is
cumulative output doubled. steepest, but flattens as cumulative output increases. It
becomes a straight line when the learning effect ends.
 In aircraft industry, learning rate was 80%, different
rates occur in different industries. The learning curve applies when:
 The process is repetitive;
! An 80% learning rate means that as cumulative output  There is continuity of workers;
doubles, the cumulative average time per unit falls by 20%.
 Workers do not taking prolonged breaks during the
 Since cumulative production is required to double in process.
order for the cumulative average time to decrease, the
learning effect becomes much less significant as
production increases.
Importance of the learning effect F5 examinations

If management accountants fail to take into account any  In December 2011, learning curve was examined in the
learning rate in planning, control and decision making, context of lifecycle costing. Candidates were asked to
serious consequences will result. calculate a revised lifecycle cost per unit. This involved
working out the incremental labour time taken to
Decision making
produce the final 100th unit before the learning effect
 A company is introducing a new product to the market ended.
and bases the price on full absorption cost plus a mark-
 In June 2009 the learning curve was tested in the
up.
context of target costing. This time an average cost for
 If the labour cost is that of the first unit, the product will the first 128 units made was required.
be launched at a price that is far too high
 The learning curve formula Y = axb is always given on
(uncompetitive).
the formula sheet in the exam. Although a value for ‘b’
 The company may decide not to launch the product at is usually given, there is no reason why this should
all as it believes it cannot offer a competitive price. always be the case.
Planning and control Tip! Take a scientific calculator into the exam.
 Standard costs must provide an accurate basis for the Take care not to round learning curve calculations too soon.
calculation of variances.
 Going forward, calculations of the learning rate itself
 If the learning effect is ignored, all labour usage may be required using both the tabular and algebraic
variances should be favourable because standard labour (formula) method.
hours will be too high.
Example 1 Answer
P Co recently launched a new product. The actual number of Month Incremental Incremental Cumulative Cumulative Cumulative
batches produced during the first four months and the actual number of labour number of total average
time taken to produce them is as follows: batches hours batches hours hours per batch
June 1 200 1 200 200
Month Incremental number Incremental labour
of batches hours taken
July 1 152 2 352 176
June 1 200
July 1 152
August 2 267.52 4 619.52 154.88
August 2 267.52
September 4 470.8
September 4 470.8 8 1,090.32 136.29
Learning rate: 176 ÷ 200 = 88%
Required:
154.88 ÷ 176 = 88%
Calculate the rate of learning that arose during the 136.29 ÷ 154.88 = 88%
period.
Example 2
The first batch of a new product took six hours to make and
the total time for the first 16 units was 42.8 hours, at which
point the learning effect came to an end.
Calculate the rate of learning.
Answer
The easiest way to do this is to use a combination of the
tabular approach plus a little bit of maths:
Cumulative number Cumulative total Cumulative average
of products made hour per unit
1 6 6
2 ? 6×r
4 ? 6 × r2
8 ? 6 × r3
16 ? 6 × r4
⇒ 42.8 = 16 × (6 × r4)
⇒ 2.675 = (6 × r4)
⇒ 0.4458333 = r4
⇒ 0.8171 = r
This means the learning rate is approximately 82%.
 An alternative method involves some more difficult
maths and the use of the inverse log function.
Candidates would not be expected to use this method.
MATERIALS MIX AND YIELD VARIANCE ANALYSIS
MATERIALS MIX AND YIELD VARIANCE ANALYSIS  Material mix refers to the quantity of each material used
(i.e. inputs).
For the full article see ACCA’s website.
 Yield refers to how much product is produced (i.e.
Material usage variance
output).
Recap
Materials mix variance
 The material usage variance analyses the difference
The optimum mix of materials will be the one that balances
between how much actual material we have used for
the cost of each of the materials with the yield that they
our production relative to how much we expected to use
generate. The yield must also reach certain quality standards.
based on standard usage levels.
 Managers may fail to adhere to the standard mix. This
 Any difference between the standard and actual cost
would result in a materials mix variance.
would be dealt with by the material price variance.
How do we calculate the mix variance?
There can be many reasons for an adverse material usage
variance, e.g.: Actual
Actual quantity
 inferior quality materials have been purchased;
quantity in standard
 changes in the production process have been made; or
used mix Difference Variance
 increased quality controls have been introduced
litres litres litres $
resulting in more items being rejected.
A XX XX XX XX
Further variance analysis involving material mix B XX XX XX XX
–––––– –––––– –––––– ––––––
Most products consist of several different materials, so the
XXX XXX XX XX
more detailed mix and yield variances can be calculated. If it –––––– –––––– –––––– ––––––
is possible to combine different levels of component
materials to make the same product, this may result in Tutorial note: When calculating the difference, calculate the
differing yields. standard mix minus the actual mix. If the resulting variance
is negative, it will be adverse.
 It is essential that for every variance you calculate, you Making observations about variances
state whether it is favourable or adverse. These can be
 There is a direct relationship between materials mix and
denoted by a clear “A” or “F”. This leads to mistakes.
yield variance. Using a cheaper mix of materials may
 The key to variance analysis is to understand what is result in a significantly lower yield.
actually happening rather than rely on rote learn
 The overall net effect is the material usage variance
formulae.
which is the sum of the two variances.
Materials yield variance
Understanding the bigger picture
Where there is a difference between the actual and standard
 Quality issues cannot be dealt with by this variance
level of output for a given set of inputs, a material yield
analysis.
variance arises.
 It can be tempting for production managers to change
Yield variance
the product mix to make savings; however, if the
Expected output given materials used XXX litres quality of the product is adversely affected, this is
Actual output XXX litres damaging to the reputation of the business and hence its
––––––––– long-term survival prospects.
Shortage/ surplus XX litres
 In the long run it may be deduced from an adverse sales
X standard cost per litre of output $X
volume variance, as demand for the businesses products
–––––––––
decreases.
Yield variance $XX
 Any sales volume variance that does arise as a result of
poor quality products is likely to arise in a different
period from the one in which the mix and yield
variances arose, and the correlation will then be more
difficult to prove.
 Poor quality materials may be more difficult to work

with.
 This may lead to an adverse labour efficiency
variance, as the workforce takes longer than
expected to complete the work.
 This could lead to higher overhead costs and so on.
However, such consequences will occur in the same
period as the mix and yield variance and are therefore
more likely to be identified and the problem resolved.
Never underestimate the extent to which a perceived
“improvement” in one area (e.g. a favourable materials
mix variance) can lead to a real deterioration in another
area (e.g. decreased yield, poorer quality, higher labour
costs, lower sales volumes, and ultimately lower
profitability).
 Always mention such interdependencies when
discussing variances in exam questions. The “number
crunching” is relatively simple once you understand the
principles; the higher skills lie in the discussion that
surrounds the numbers.
PERFORMANCE MEASUREMENT Table 1: Tip’s financial results

This is a summary of an article that is no longer available on 20X4 20X5
the ACCA web site. The question “Thatcher International $000 $000
Park” is included in the Specimen Exam. Sales 5,250 5,320
Less expenses:
One of the key areas of the F5 syllabus is performance
Wages 2,500 2,200
measurement and control. It is, perhaps, more integral to
Maintenance – routine 80 70
the whole area of performance management than any
Repairs 260 320
other topic examined under the syllabus.
Directors salaries 150 160
 This article focuses on a classic performance Directors bonuses 15 18
measurement question, which involves a combination Other costs (including depreciation) 1,200 1,180
of financial and non-financial analysis. ––––––– ––––––
Net profit 1,045 1,372
Thatcher International Park (TIP) is a theme park and has for ––––––– ––––––
many years been a successful business, which has traded Book value of assets at start of year 13,000 12,000
profitably. Dividend paid 500 650
 About three years ago the directors reduced the Number of visitors 150,000 140,000
expenditure made on new thrill rides, reduced routine
maintenance where possible (deciding instead to repair Required:
equipment when it broke down) and made a
(a) Assess the financial performance of TIP using the
commitment to regularly increase admission prices. information given above. (14 marks)
 The last two years of financial results are shown
opposite.
 TIP operates in a country where the average rate of
inflation is around 1% per annum.
(b) During the early part of 20X4 TIP employed a newly  Movement in sales, on the other hand, is also relatively
qualified management accountant. He quickly became small but is mentioned because:
concerned about the potential performance of TIP and
(1) sales in a key figure and cannot be ignored; and
to investigate his concerns he started to gather data to
(2) we know enough about other things going on in the
measure some non-financial measures of success. The
business (e.g. reduction in the number of visitors) to be
data he has gathered is shown in Table 2
able to draw valid conclusions about sales.
[Not reproduced].
The following workings are set out as the examiner expects
Required:
to see them (i.e. labelled and referenced). While, in the real
Assess the quality of the service that TIP provides to world, such analysis would be expected to appear after any
its customers using Table 1 and any other relevant commentary (e.g. as an appendix), since you are not being
data and indicate the risks it is likely to face if it asked for a report here it does not matter whether you show
continues with its current policies. them at the beginning or end of your answer.
Workings
Breaking down the question
(1) Sales growth is $5,320,000/$5,250,000 = 1.3%
 Broadly speaking, keep the majority of comments about
non-financial aspects to part (b). (2) Average admission prices were:
 Perform some preliminary calculations to ascertain the 20X4: $5,250,000/150,000 = $35 per person
relative movements been between the two years. 20X5: $5,320,000/140,000 = $38 per person
 In this type of question, it makes most sense to look at An increase of $38/$35 = 8.57%
% increase or decrease in each figure (see Workings).
(3) Directors pay up by $160,000/$150,000 = 6.7%
 Note the absence of a calculation for “other costs”.
This is because the movement in it from year to year is (4) Directors bonuses levels up from $15,000/$150,000 or
so small that it is not worth mentioning. 10% to $18,000/$160,000 or 12.5% of turnover. An
increase of 20%
(5) Wages are down by ($2,500,000 –  A poor answer on sales would be this:
$2,200,000/$2,500,000) or 12%
“Sales
(6) Routine maintenance down by ($80,000 –
$70,000)/$80,000 = 12.5% These have increased by 1.3% in the year.”
(7) Repairs up by ($320,000 – 260,000)/$260,000 = 23%  A good answer for sales would read as follows:
(8) Loss of customers (150,000 – 140,000/150,000) = 6.7% Sales
(9) Profits up by $1,372,000/$1,045,000 = 31.3% Sales have increased by 1.3% (W1) in 20X5, as compared to
20X4. Since inflation was 1%, the increase is barely above
(10) Return on assets: the inflation rate. This means that, in real terms, sales have
hardly increased at all. From the financial information
20X4: $1,045,000/$13,000,000 = 8.03%
provided, we can see that the number of visitors in 20X5 has
20X5: $1,372,000/$12,000,000 = 11.4%
fallen from 150,000 to 140,000. This means that the average
Using calculations and setting out your answer admission price in 20X5 was $38 per person, compared to
$35 per person in 20X4, an increase of 8.57% (W2). While it
 These calculations are merely a starting point.
is good that the company has been able to secure an increase
“Assessing the financial performance” means
in admission price, it is not good that this has potentially
discussing it and commenting on whether it is poor or
been partly responsible for a fall in visitor numbers.
strong.
 The good answer starts with the percentage increase
 It is important that your answer does not become “a sea
from the referenced working and adds to it other
of words” (i.e. just pages of writing with no headings
information from the question or from the workings that
and no structure). Your headings could be taken from
is relevant to the figure being discussed (in this case,
your workings (e.g. “sales”, “directors’ pay and
inflation and admission prices). Only then is it possible
bonuses” etc).
to make comments that have any kind of validity.
 To further emphasise the importance of looking at the Part (b)

overall picture rather than one figure in isolation,
 It is important to adopt some kind of structure for your
consider “maintenance and repairs”. While
answer.
maintenance costs have decreased by $10,000, repairs
have increased by $60,000. It is clear that, because  Time spent thinking rather than writing is time well
routine maintenance has not been carried out, machines spent.
are breaking down and repairs are, therefore, required.
 In this question the examiner has told you what
 A poor answer to this part of the question would be this. headings to use by using italics for the words ‘quality’
and ‘risks’.
“Routine maintenance costs
 When discussing quality ask yourself the question ‘In a
These have fallen by 12.5%, which is a good reduction.
business like this, what affects my enjoyment of the
Repair costs service?’ The answer will be – how many rides are
available to ride on and how long I have to queue each
These have increased by 23%, which is substantial.” time. The reliability of rides and average queuing time
A good answer, on the other hand, would read something like are therefore appropriate sub headings.
this:  Part (b) is only worth five marks so it warrants
“Routine maintenance and repair costs substantially less time being spent on it than part (a)
Often in these types of questions there is far more you
In 20X5, routine maintenance costs fell by 12.5% (W6), a fall could say than the time that is available. The key is to
of $10,000. At the same time, however, repair costs get good coverage.
increased 23% (W7), a $60,000 increase. By looking at
these two figures together, one can only conclude that the  Use the marks available as a guide as to how much to
lack of routine maintenance was a poor decision and is write. There are no set marking rules such as “one
costing the business dearly in terms of increased repair costs. mark per valid point”. Marks vary from question to
The decision to reduce maintenance by the company needs to question.
be reviewed urgently.”
INTERPRETING FINANCIAL DATA
INTERPRETING FINANCIAL DATA In most questions there will be some background information
– you should use it. Ties only operated in a competitive
For the full article see the ACCA’s website.
environment – as stated in the question – and so a 61%
The purpose of this article is to point students in the right increase in one-quarter sounds pretty good in a competitive
direction when studying the interpretation of financial data – situation, and to say so will earn a mark. It was also the first
which is a major topic in the F5 syllabus. two quarters of the business year and so this level of growth
is impressive – another mark. If you then go on to say that
Students are advised to look at the question “Ties only” while
such high growth rates are often hard to maintain, you will
reading this article, as extracts from the question are used to gain another mark. Top-scoring students should be aiming to
illustrate points and explain the techniques needed. make these kinds of observations.
“Ties only” is available on ACCA’s www (in December 2007
Hypothesising as to why the growth is happening is also a
exam) and included in Becker’s Study Question Bank. source of marks. Revenue growth can be the result of extra
Assessing financial performance volume or increasing prices. In the case of Ties Only, it is
much more likely to be increased volume; the price will
Candidates were asked to assess the financial performance of surely be constrained by competition, and from the
the business in its first two quarters, when sales had jumped information provided in Part (b), you can work out that prices
61% from Quarter 1 to Quarter 2. This calculation should are falling (although that calculation was not required).
present no problem ((Q2/Q1)-1) expressed as a % increase). Suggesting that Ties Only has secured more customers and
However, an “assessment” requires a qualitative comment or hence increased volume of sales, scored a mark.
two. A percentage alone will not gain a pass mark.
Candidates must be brave and commit themselves. You must
express an opinion. It is not acceptable to suggest that
management investigate. Although in the real world this may
well happen, in the exam hall you have to demonstrate that
you know where to look.
PERFORMANCE MEASUREMENT AND THE BALANCED SCOREDCARD
PERFORMANCE MEASUREMENT Cost centres

For the full article see the ACCA’s website. For standard costing variances, problems include:
Decentralisation is the delegation of decision-making  Focuses on short-term cost minimisation – this may
responsibility. Today, it is impossible for one person to make conflict with objectives such as quality
all decisions, even in a small company – senior managers  Deciding who is responsible for the variance – for
delegate decision-making responsibility to subordinates. example, is the production manager or the purchasing
One danger of decentralisation is that managers make manager responsible for material purchase variances.
decisions that are not in the best interests of the overall  Setting standards in the first place is difficult.
company – so called dysfunctional decisions.
Profit centres
A good performance measure should:
When assessing the performance of a divisional manager, we
 Provide an incentive for the divisional manager to make should consider only the costs and revenues that are under
decisions which are in the best interests of the overall the control of that manager (controllable divisional profit).
company (goal congruence) When assessing the performance of the division, we should
look at costs and revenues traceable to the division (traceable
 Only include factors for which the manager/division
divisional profits). For example, depreciation of machinery
can be held accountable
would be a cost that is traceable to the division, but is not
 Recognise the long-term objectives as well as the short- controllable by the manager, because the manager of a profit
term objectives of the organisation. centre does not make investment decisions.
 Typical financial performance measures for divisions, Investment centres
depending on the type of division are: Two measures commonly used for investment centre
 Cost centre – standard costing variances managers are return on investment and residual income.
 Profit centre – controllable profit
 Investment centre – return on investment and
residual income.
Return on investment (ROI) = Solution

Controllable (traceable ) profit Current situation
Controllable (traceable ) investment 2.2 million
ROI = = 22%.
Residual income = controllable (traceable) profit – imputed 10 million
interest charge on investment.
Residual income: = 2.2 million – (10 million × 10%) = $1.2
Example million.
Division X currently has net assets of $10 million and profits If proposal 1 is accepted
of $2.2 million per annum. It is considering two proposals:
2.2 million  0.15 million 2.35 million
Proposal 1 – an investment in assets of $1 million to earn an ROI = = = 21.4%
additional profit of $0.15 million. 10 million  1 million 11 million
Proposal 2 – selling noncurrent assets at their net book value Residual income = 2.35million – (11 million × 10%) = 1.25
of $2.3 million. This would reduce profits by 0.3 million. million.
The proceeds from sale would be remitted to head office (i.e. Comment
they would reduce divisional investment.) 0.15 million
The return of the proposal is = 15%.
Division X’s cost of capital is 10%. 1 million
Required: Since this exceeds the cost of capital, from the overall
Calculate the current ROI and residual income of the company point of view, the proposal should be accepted.
division. Show how they would change under each of the If the manager of the division is judged on ROI however, the
proposals. proposal may be rejected, as it would reduce the divisional
ROI from the current 22% to 21.4%. Thus ROI can result in
dysfunctional behaviour.
The proposal generates positive residual income however, so Relative merits of ROI and residual income
would be accepted by a manager who is judged on this.
 ROI is a relative measure. This ignores the absolute
If proposal 2 is accepted profit – for example an investment of $100 invested at
25% would only generate $25, while an investment of
2.2 million - 0.3 million $1 million invested at a rate of 15% generates
ROI = = 24.7%
10 million - 2.3 million $150,000. Which would you prefer?
Residual income = 1.9million – (7.7 million × 10%) = 1.13  Residual income is consistent with net present value
million. approach to investment appraisal. This is the
theoretically superior way to make investment
Comment decisions. (Net present value is not in the F5 syllabus.)
This proposal should be rejected, as the return on the assets  On the other hand residual income makes it difficult to
disposed of is 13%. If ROI were used as the performance compare the performance of divisions of different sizes.
measure, however, the proposal would be accepted as it
increases the divisions ROI. If residual income were used,  Both methods suffer from the fact that if assets are
the proposal would be rejected. valued at net book value, the ROI and residual income
improve as the assets get older. This may encourage
Conclusion – in both cases, ROI has led to dysfunctional managers to retain old machinery.
behaviour, while the use of residual income has led to the
right decision being made.
Non-financial performance indicators Balanced Scorecard

Weaknesses of traditional financial performance indicators The balanced scorecard approach to performance
include the following: measurement attempts to measure the performance of an
organisation under 4 headings:
 Single factor measures (e.g. ROI and residual income)
do not give a complete picture of divisional  Financial success
performance  Customer satisfaction
 Process efficiency
 Single factor numbers may be distorted (for example by
 Growth
accepting proposal 2 in the example above – thus
improving measured ROI. Organisations should attempt to identify Key performance
indicators that can be used to measure performance under
 May lead to dysfunctional behaviour.
each heading. Key performance indicators are based on the
Financial performance indicators have therefore been used organisation’s critical success factors. Critical success
more commonly in recent years. factors are performance requirements that are fundamental to
an organisation’s success-for example innovation in the
electronics industry.
Key performance indicators should be:
 Specific (for example, profit is specific, financial
performance is not as it could mean different things to
different people.)
 Measurable
 Relevant – to achievement of a critical success factor.
Example Advantages of the balanced scorecard

A training company providing tuition for ACCA exams could  Measures performance in a variety of ways.
have the following performance indicators:
 Difficult for managers to hide the true picture if
Perspective Critical success Key performance multiple measures are used.
Factors indicators
 Encourages a longer term view of business performance.
Financial Shareholder wealth Dividend yield %
 It is flexible – measures can be changed over time to
increase in share
reflect changing priorities.
price
Difficulties of balanced scorecard
Cash flow Actual v budget
 Setting standards for key performance indicators
Customer Exam success Pass rates v national
(targets).
perspective Premier college
status  There may be trade-offs (i.e. performance is good in
some areas, poor in others).
Process Resource utilisation % room occupancy
efficiency
Average class size
Average tutor
teaching
Growth New products % sales from new
courses
TRANSFER PRICING
TRANSFER PRICING 4. Motivation. If a transfer price is such that it is

impossible for a division to make a profit, its employees
See the ACCA’s website for the full article by Ken Garrett.
would probably be demotivated. In contrast, the other
When transfer prices are needed division would make profits easily and its employees
would not be motivated to work more efficiently.
 Transfer prices are almost inevitably needed whenever
a business is divided into more than one department or 5. Investment appraisal. The cash inflows arising from an
division. investment are most certainly going to be affected by
the transfer price, so capital investment decisions can
 Transfer price is the monetary value used to record depend on the transfer price.
goods or services leaving one department and entering
the next. 6. Taxation and profit remittance. If the divisions are in
different countries the profits earned in each country
 For every $1 increase in the transfer price, selling will will depend on transfer prices. This could affect the
make $1 more profit and buying division will make $1 overall tax burden of the group.
less profit.
Characteristics of a good transfer price
Changing the transfer price will have the following effects:
 Preserves divisional autonomy. Divisional managers
1. Performance evaluation – whether measured by return are likely to resent being told by head office which
on investment (ROI) or residual income (RI).
products they should make or sell.
2. In a system of performance related pay, remuneration of  Perceived as being fair for the purposes of divisional
employees in each division will be affected, as profits performance evaluation and investment decisions.
will change.
 Permits each division to make a profit.
3. Make/abandon/buy-in decisions. If the transfer price is
too high, the receiving might abandon the product line  Encourages divisions to make decisions that maximise
or buy in cheaper component from outside suppliers. group profits (i.e. goal congruence).
TRANSFER PRICING
The economic transfer price rule  The economic rule leads to decisions in the interests of
the group as a whole:
 Minimum transfer price (fixed by transferring division)
 marginal cost of transfer-out division.  If the final selling price (for Division B) were to
fall to $25, the group could not make a contribution
 Maximum transfer price (fixed by receiving division)  as the group’s variable cost is $28 ($18 + $10).
net marginal revenue of transfer-in division.
 The transfer price that would make both divisions
Example trade must be no less than $18 for Division A, but
Division A Division B no greater than $15 (net marginal revenue) for
$ $ Division B. No workable transfer price is available
Transfer-in price – 50 and the divisions would not trade with each other.
Own costs Variable 18 10
Fixed 12 10 Problems with this approach
Divisional profit/mark up 20 40
 Variable costs and final selling prices will change
––– –––
continually in the real world.
Transfer-out/final sale price 50 90
––– –––  The range of transfer prices set (from $18 to $80) is
large, and therefore the respective profits of the two
 The minimum transfer price acceptable to Division A
divisions could vary vastly depending on where within
would be $18, as this is the marginal cost of production.
the range they agree the final price.
 For Division B the transfer-in price should be no greater
than the net marginal revenue (marginal revenue less
own marginal costs) = $80 ($90 $10).
 A $50 transfer price would work, since it is  $18 and 
$80. Both parties will find it worth trading at that price.
TRANSFER PRICING
Practical approaches 3. Market price

1. Variable cost  Both divisions make a profit if they operate at normal
industry efficiencies.
Transfer price = Variable cost of the transferring division
 Objective transfer price not based on arbitrary mark ups.
 Produces good economic decisions, since the buying
division’s marginal costs (including the transfer price)  Could lead to dysfunctional behaviour, as fixed costs
will be the same as those of the group. and profits of the selling division become variable
(marginal) costs to the buying division.
 Performance measurement is distorted – Division A
makes a loss, while Division B is not charged enough to 4. Variable cost plus lump sum
cover all the costs of manufacture.
Transfer price is variable cost plus periodic lump sum for
 There is little incentive for Division A to be efficient if fixed costs and profit.
all the marginal costs are covered by a transfer price.
 Buying Division (B) has the correct cumulative variable
2. Full cost cost information to make good decisions
Transfer price = Full absorption cost  Lump sum allows the divisions ultimately to be treated
fairly with respect to performance measurement.
 Is more satisfactory for Division A, as it will now cover
its costs. 5. Dual pricing
 Can lead to dysfunctional behaviour if transfer price is In this approach, Division A transfers out at a cost plus mark
too high as it does not reflect marginal cost to the up (perhaps a market price), and Division B transfers in at
company (e.g. buying division buys externally for a variable cost. Therefore Division A can make a motivating
price higher than the marginal cost of selling division). profit while Division B has good economic data about
cumulative group variable costs. Obviously the divisional
current accounts will not agree and some period-end
adjustments will be needed to reconcile those and to
eliminate fictitious inter divisional profits.
EXAMINER’S REPORT – DECEMBER 2015
This is a summary of the examiner’s reports for September  Some failed to achieve full marks as they only
and December 2015. The questions referred to are those in addressed half of the requirement.
ACCA’s “hybrid” paper for September/December 2015. The
full reports can be found on the ACCA web site. ! Candidates should break up their written answers with
headings where:
Section A
 to give the answer structure; and
 The majority attempted all the questions.
 to ensure that the whole requirement is met.
Section B
Question 2 (10 marks)
Question 1 (10 marks)
This question required candidates to assess the performance
Part (a) required knowledge of the steps involved in target of a company.
costing.
Part (b) required a discussion whether a statement made by
 This was well answered by most candidates. the company’s managing director regarding performance was
Part (b) required candidates to discuss the benefits and true. The statement made two key points – stronger answers
difficulties faced in implementing target costing within a took each point in turn and assessed its validity.
service provider.  A significant minority misinterpreted (or did not read?)
 It was pleasing to see that many were aware of how the requirement and discussed the performance of the
service providers differ from manufacturers. company, and how it might improve.
 A common error was to explain the characteristics of Part (c) tested knowledge of the terms efficiency and
service providers but not apply them to target costing. effectiveness in a VFM framework and their application in
this scenario.
! Read the question – the requirement asked for benefits and  A pleasing number scored very well on this part –
difficulties; two separate things. applying knowledge to the information in the scenario.
EXAMINER’S REPORT – DECEMBER 2015
Question 3 (10 marks)  Many simply took the mean of the individual
contribution to sales ratios.
Part (a) required calculation of materials mix and materials
yield variances. Part (c) asked for a multi-product breakeven chart.
 Was generally well done.  Many answers gave a P/V chart.
 Many used standard price per unit rather than standard
! Read requirements carefully.
price per kilogram in the mix variance.
 In calculating standard quantity in standard mix (for the Question 5
yield variance) many used standard cost card quantities Part (a) required calculations of ROI and a justification of the
rather than standard quantity for actual output. figures being used.
Part (b) asked for reasons why an adverse variance yield  Many forgot or otherwise failed to justify their figures.
variance might arise. Common errors/ issues were:
 Controllable profit should have been used. (However,
 Giving reasons for a favourable variance. if net profit was used with appropriate justification, it
 Failure to expand on why an issue may cause an would have been acceptable.)
adverse yield. In part (b) the bonuses of the managers had to be calculated.
Question 4  Inattention to detail let down a majority; how the bonus
This covered multi-product CVP analysis for a business was to be calculated needed to be read carefully.
selling three products.
 It was encouraging to see that many were well prepared
for these questions.
 Part (a) required calculation of the weighted average
C/S ratio and was well-answered by most.
ANALYSIS OF SPECIMEN AND PAST EXAMINATIONS
Section A 1 June December Specimen

2015 2014 Exam
Specialist cost and management 5 MCQs 5 MCQs 5 MCQs
accounting
Decision making techniques 5 MCQs 5 MCQs 5 MCQs
Budgeting and control 1 MCQ 3 MCQs 4 MCQs
Standard costing and variance analysis 3 MCQs 2 MCQs 2 MCQs
Performance measurement 6 MCQs 5 MCQs 4 MCQs
Numerical/non-numerical items 9/11 8/12 8/12
1
This section is no longer published by ACCA.
Section B December September June December Specimen

2015 2015 2015 2014 Exam
Marks for numerical/ non-numerical Not known Not known 31/29 29/31 32/28
Activity based costing ● ●
Target costing ●
Throughput accounting ● ●
Relevant costing ●
Cost volume profit analysis ●
Limiting factor decisions ●
Pricing ●
Risk and uncertainty ● ●
Types of budgeting ● ●
Learning curve theory ●
Mix and yield variances ● ●
Operational and planning variances ● ● ●
Performance measurement ● ●
Further aspect of performance analysis ● ●
Divisional performance measures ● ●
Transfer pricing ●
SPECIMEN EXAM Section A (MCQs)

No. of items
General comments
 Cost and management accounting techniques 5
The specimen exam introduces the exam format that takes  Decision making techniques 3
effect from September 2016:  Budgeting and control (includes variance analysis) 2
 Performance measurement and control 5
 Section A: 15 Objective test (OT) questions of two  Overall requiring calculations 8
marks each
Section B
 Section B: three 10-mark “OT cases”, each containing
five OTs worth two marks each Case one – Qs 16 – 20
 Section C: two 20 mark “constructed response” Focusses on throughput accounting with two questions
questions. requiring calculation.
Questions in Section A and B will be drawn from the whole Case two – Qs 21 – 25
syllabus; Section C could cover any syllabus area except
Deals with learning curve theory, budgeting and pricing with
specialist cost and management accounting techniques.
three questions involving calculation.
While OT questions have been used in the F5 exam since
Case three – Qs 26 – 30
December 2014, OT cases are introduced for the first time in
September 2016. All exam questions prior to December Tests relevant costing and includes three questions requiring
2014 were constructed response questions of 20 marks each. calculation.
Practicing previous exam questions is an effective method of
preparation. However, rather than download previous exam
papers from the ACCA website (which are as originally
published in an old format) it is recommended that you use
an ACCA Approved Revision Question Bank with questions
in the current format.
Section C Spend plenty of time planning such a question:

Question 1 (20 marks) – variance analysis  Identify the key trends – balances that have changed
significantly in both % terms and $ terms.
Part (a) asks for a calculation of variances for two divisions
(11 marks). Part (b) asks for a discussion of the usefulness of  Identify the reasons for the trends – from the qualitative
the material price planning and operational variances. information given – you may also need to think about
possible causes.
 Parts (a) involves fairly straightforward calculations. 9
marks were for calculating basic traditional variances,  Identify other things that may be related. In this case,
showing that there are plenty of easy marks available. there was a fall in maintenance expenditure and the cost
of repairs had increased.
 Part (b) requires the higher skill of being able to
evaluate the variances. Having planned in this way, write your answer. A good
approach is for each trend to write:
Question 2 (20 marks) – performance measurement
 What happened?
Part (a), worth 14 marks, requires assessment of the financial
 Why did it happen?
performance of a company that operates a theme park. A
 What other items were affected?
statement of profit or loss is provided for two years, along
 Give an opinion.
with some narrative.
Finally, do not try to comment on everything, just on the
Part (b), worth 6 marks, provides some additional non-
major trends identified. This means your report focuses on
financial performance measures and asks for an assessment
the important areas, without distracting the user with less
of the quality of service and an indication of the risks of the
interesting details.
company continuing with its current policies.
There are two parts to the requirement of part (b) – to assess
When answering part (a), you should be aiming to provide
the quality of service and to indicate the risks of continuing
meaningful comments that add value, rather than simply
with the current policies. This shows the importance of
making superficial comments giving percentage increases or
reading the requirements carefully, it would be easy to miss
decreases.
the second requirement.
EXAMINATION TECHNIQUE
Reading and planning time SECTION A

 With effect from September 2016 there will no longer Each item will have one correct answer and three
be a distinction between the 15 minutes reading and “distractors” (plausible but incorrect answers).
planning time and the three hours writing time.
 Avoid reading the answers to calculation questions until
Candidates will be permitted to start writing in their
you have completed your own calculations to avoid
answer booklet from the start of the exam.
being fooled into choosing a distractor.
 However, you must still allow time, during the exam, to
Although the average time per item should be 3.6 minutes it
read and plan the Section C questions, in particular.
is likely that some items, particularly narrative ones, will
Overall approach require less time while others will require more.
 Start by planning your approach: Which order to do the  If an item looks particularly difficult or time
questions in, and writing a timetable on the front page consuming, skip it initially, and return to it when you
of your answer booklet. have answered all of the “easier” questions.
 Do Section C questions first – spend 36 minutes on  It is important to give yourself sufficient time to answer
each question. Do your best Section C question first. the easy questions since you are more likely to get these
right.
 Do Section B after completing Section C. Again do the
Section B questions in order of preference with your After dealing with the easy questions, return to the difficult
best question first. Spend 18 minutes on each case questions. If you do not have time to attempt these properly:
 54 minutes before the end of the exam, start Section A.  Eliminate any obviously wrong distractors and guess
from the remaining alternatives.
SECTION B  Write your assumptions – if you are not sure how to

interpret something in the question then state your
The “case-based” OT questions will consist of a scenario
assumed interpretation.
followed by five OT questions.
 If you later notice a mistake in your answer, it is not
 One or two of the five, particularly the last two, may be
worthwhile spending time amending the consequent
fairly easy qualitative questions that are independent of
effects of it. The marker of your script will not punish
the case study and calculations. Do these first.
you for errors caused by an earlier mistake.
 Attempt the remaining questions.
Written elements
 After 18 minutes on a particular case, guess any
Planning
uncompleted questions and move on to the next.
 Read the requirement carefully to identify exactly what
SECTION C
is required and how many separate points you are being
You should apportion your time carefully between the parts asked to address.
of each question and ensure you attempt all parts of each
 Note down relevant thoughts on your plan.
question.
 Give your plan a structure which you will follow when
Numerical elements
you write up the answer.
 Before starting a computation, picture your route. Do
this by noting down the steps you are going to take and
imagining the layout of your answer.
 Write clearly and leave space between each step.
 Include all your workings and cross-reference them to
the face of your answer.
Presentation  If you could not complete the calculations required for

comment then assume an answer to the calculations. As
 Use headings and sub-headings to give your answer
long as your comments are consistent with your
structure and to make it easier to read.
assumed answer you can still pick up all the marks for
 Use short paragraphs for each point that you are the comments.
making.
 As you write refer back to the requirement to ensure
 Separate paragraphs by leaving at least one line of that you are answering it with relevant comments.
space between each.
Keywords
 Use bullet points where this seems appropriate (e.g. for
Part of the secret of doing well in these exams is to actually
a list of advantages/disadvantages) – however each
understand what the question is asking. See the section
bullet point must be followed by a full sentence.
Approaching Written Questions for further explanation of the
 Write legibly using a good quality black pen. Consider following key words:
using block capitals throughout.
 Describe” = “set out the characteristics of”
Style
 “Explain” = make plain, clarify, elucidate
 Long philosophical debate does not impress markers.
 “State” = express in words
 Where relevant give real life examples to support our
 “Discuss” = give balanced views on and conclude
comments.
 “List” = make a list of like things
 If you write appropriate comments based on previous
calculations which contained errors, you can still  “Justify” = give reasoning
receive all the marks for the comments.
 “Identify” (e.g. from the scenario)
 “Comment” = make observations, appraise or examine
 “Suggest” = propose or put forward
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Revision Essentials Handbook includes:
• ACCA syllabus aim and main capabilities

• Core topics checklist
• Summary of essential facts and theory
• Further reading
• Relevant articles
• Comprehensive analysis of past examinations
• Examiners' feedback for the last exam session
• Exam technique
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REVISION ESSENTIALS HANDBOOK

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Becker Professional Education's ACCA Study Materials

REVISION ESSENTIALS HANDBOOK

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CAUTION: These notes offer guidance on key issues.

SYLLABUS D Identify and discuss performance management

Format of the examination

Note that from September 2016 there is no distinction

CORE TOPICS Tick when completed Tick when completed

 Activity based costing   Budgeting and standard costing 

1 TRADITIONAL COSTING 1.2 Absorption costing

2 ACTIVITY BASED COSTING (ABC) 2.3 Advantages and disadvantages of ABC

2 LIFECYCLE COSTING  Actual costs typically incurred during the product

3 THROUGHPUT ACCOUNTING  Throughput contribution = sales revenue – cost of

4 ENVIRONMENTAL MANAGEMENT 4.3 Environmental costs

4.4 EMA techniques

1 RELEVANT COSTS 2.2 Definition

3.2 Materials 3.3 Relevant costs of labour

In warehouse?  If work can be done in idle time, relevant cost is zero.

Deprival value 3.5 Non-financial factors

NRV EV Financial point of view

5 FURTHER PROCESSING DECISIONS Disadvantage of outsourcing

 Is also used in production where part or all of the

1 BREAKEVEN ANALYSIS 2 CHARTS

X Break even Y Volume (units)

2.2 Profit Volume Chart (PV Chart) 3.2 Breakeven formulae

4 MULTI-PRODUCT ANALYSIS Assuming constant mix

 Plot the points on a graph (gives a “bow-shaped” line):

Fixed costs Revenue $000

1 LIMITING FACTOR DECISIONS 2 MAKE OR BUY DECISION

3.2 Drawing the graph Steps in setting up the linear program

 This method must be used to unless the simultaneous

3.5 Simultaneous equation method 4 FURTHER CONSIDERATIONS

The difference between the amount of a scarce resource

 Slack is zero if a constraint is “binding” (i.e. if the

1 COST BASED PRICING APPROACHES Disadvantage

2 ECONOMIST’S MODEL 2.3 Marginal cost

a = price when Q = 0  To maximise profits identify Q such that MR = MC.

3 OTHER PRICING STRATEGIES 3.3 Complementary product pricing

3.7 Product line pricing 4.2 Price elasticity of demand

4.3 Product life cycle

1 EXPECTED VALUE Disadvantage

Probability of each state of the market is:

EV without perfect information 1.3 Value if imperfect information

EV with perfect information: Outcome B

2 RISK ATTITUDE AND DECISION RULES Table of regrets

3 SENSITIVITY ANALYSIS AND SIMULATION 4 REDUCING UNCERTAINTY

1 BUDGETARY CONTROL SYSTEM Typical hierarchy of objectives

 Take action to ensure adverse variances do not recur in

3 DIFFERENT TYPES OF BUDGETARY SYSTEMS Advantage

3.4 Zero based budgeting 3.5 Activity based budgeting

5 BEHAVIOURAL ASPECTS OF BUDGETING 5.4 Standards

Gaming examples 6.3 Advantages and disadvantages

1 FORECASTING METHODS  Historic annual growth in sales per year:

Example 2 LEARNING CURVE THEORY

Technique 2.6 Reservations

3 USE OF COMPUTER SPREADSHEETS

1 USE OF STANDARD COSTS 1.2 Variance investigation

1 VARIANCE ANALYSIS 1.2 Materials variances

1.3 Labour variances 1.4 Variable overhead variance

1.5 Fixed overhead variances Fixed overhead capacity variance*