Intermediate Management Accounting past paper

Nevertheless, the target profit margin is seen to rise substantially from a low of -0.004% in year one to 10.25% in year three. (b) Issues facing firms like KZ in making decisions on the costs to cut in order to meet the specified target income level. Costs relevance: It could be difficult for firms like KZ to associate all the costs involved to products. This makes the firm continue incurring costs that do not directly involve production hence eating on the margins. Cost classification: The firm has not classified its costs appropriately. For instance, marketing costs are classified as fixed costs and such costs are required to be consistent with sales made in a given year. In this regard, during year 2 and year 3, KZ sales were the same despite difference in marketing campaign undertaken. The marketing campaign should therefore be consistent with the amounts allocated in a given year. … 27,000,000 Years Cash inflows in ?’000’ Discounting rates 17% N.P.V Year 0 (27,000) 1 (27,000) Year 1 1,454 0.855 1,243 Year 2 4,009 0.731 2,931 Year 3 3,904 0.624 2,436 Year 4 3,799 0.534 2,029 Total (18,361) Recoveries at the end of year 4: Technology estimated re-sale value – ? 8,000,000 Reimbursement by customers – ? 2,000,000 Total – ? 10,000,000 Net present value of recoveries = 10,000,000 x 0.534 = ? 5,340,000 Total Net Present Value (N.P.V) in ? ‘000’ = (18,361) +5,340 = (13,021) (b) Comment: Investment in the product should not be undertaken since it has a negative NPV. The net present value does not represent a proper assessment of the value of the new product since the objective of calculating NPV is to establish whether the project is viable. Question 11 Roles and limitation of transfer pricing in managing divisional firms Roles Transfer pricing refers to the price at which services or goods are transferred between different units of the same organization. However, the degree in which transfer pricing contributes to firms profitability or covers costs is a matter of policy. The main role of transfer pricing includes optimization of group’s profitability by supporting goal congruence, motivate divisional managers of both buying and selling divisions to engage in business with one another, facilitate realistic performance appraisal of different divisions, preservation of autonomy of divisional managers and also plays a significant role in facilitating decision making. Transfer pricing leads to operation of different division whose profits are assessed separately. The management of a division becomes simpler and coordination of sales, production and pricing decisions are also eased. The principal types of transfer pricing includes: Cost-based