Question 1 Decision Making (a) Ripley Limited manufactures and sells a single product which has the following cost and selling structure: /unit Selling price 25 Direct labour 5 Direct materials 4 Variable overheads 1 The direct costs are considered to be variable. The fixed overheads are 300,000. The forecast sales are 30,000 units and the maximum output of product is 40,000 units. Required (i) Calculate the following: the break-even point in both units and sales revenue the margin of safety in units and as a percentage at the forecast sales of 30,000 units the number of units to generate a profit of 100,000 (show your answer to the nearest whole number) the profit at the forecast sales of 30,000 units (5 marks) See Next Page 4QQMN502 3 (ii) One of the managers has suggested that if the selling price were reduced to 19 per unit, then the sales would increase to the maximum amount and a cheaper material could be used costing 25% less than the original material. For this new strategy you are to calculate: The new break-even point in units only The new forecasted profit (3 marks) (iii) As an alternative to the strategy discussed in (ii) above an overseas customer operating in a different market has approached Ripley and offered to purchase the extra 10,000 units available above the forecast sales of 30,000 units for 150,000. The overseas customer intends to sell these units onto customers in their home market. Should Ripley accept this offer on a purely financial basis, give the reason for your answer? (3 marks) (b) Barns Limited has recently created a new product at a total development cost of 0.7m. The business is now considering producing the product which will require an immediate outlay for new equipment of 6m. Production will last for four years. Estimates relating to production of the product are: Year 1 2 3 4 Costs 10m 10m 9m 5m

Revenue 6.6m 6.6m 6.6m 6.1m 4QQMN502 The costs shown above include depreciation of 1.5m a year for the new equipment. This equipment will have no residual at the end of the four years. The costs shown above do not include any allocation for a fair share of the general business overheads, the company intends to allocate 0.6m per year to the project. These overheads will be incurred whether or not the new product is produced. See Next Page 4

If Barns Limited produces the new product sales of an existing similar product will decline resulting in a loss of contribution of 0.4m per year for each of the four years. Producing the new product will require an immediate outlay for working capital of 3m which will be released at the end of the production period. Barns Limiteds cost of capital is 10%. Required: Calculate the Net Present Value (NPV) and Internal Rate of Return (IRR) for the above project stating if the project should be undertaken or not. (14 marks) (c) Making decisions requires that only those costs that are relevant are considered. Explain how we identify relevant costs giving examples where appropriate (maximum 600 words). (25 marks) TOTAL 50 MARKS 5