The following are annual budgeted amounts for a manufacturer for the coming year (a normal year):

Total budgeted annual overheads and direct labour time are RM8,000,000 and 8,000 hours respectively

The activity pools which give rise to this annual overhead cost consist of:

-Procurement activity pool RM1,500,000 (budgeted 150 purchase orders per year)

-Production setup pool RM500,000 (budgeted 500 setups per year)

-Automation and Robotic pool 4,000,000 (budgeted 40,000 hours per year)

-Marketing and Distribution activity pool RM2,000,000 (budgeted 20,000 salesman hours per year)

The company produces 10,000 units of Product A annually with the following unit costs: direct materials RM10, direct labour 2 hours. The rate for direct labour is RM 10 per hour.

a) Identify an appropriate activity level for each of the overhead cost pool. Why are there no facility level costs?

b) Calculate the unit cost of Product A using volume based costing with MH as the cost driver.

c) To produce and sell 10,000 units of Product A requires 10 purchase orders, 20 setups, 20,000 MH, 200 salesman hours. Calculate the unit cost of Product A using Activity-Based Costing (ABC).

d) What are the advantages and disadvantages of switching to ABC for this manufacturer?

A manufacturer intends to purchase a new production machine costing RM700,000 (price inclusive of freight), but requires RM10,000 installation and RM40,000 training costs. Total annual running and maintenance cost amounted to RM120,000, and annual revenue generated is expected to be RM320,000. The machine has 5 years useful life and can be sold for RM100,000 after 1 year or RM50,000 in year 5.The company has an effective tax rate of 20% and cost of capital of 10% per annum.

Required:

a) By discounting the future after-tax cash flows, calculate the net present value (NPV) of the project.

(Refer to NPV tables for the discount factors.)

b) Should the production machine be purchased?

There is an option to terminate the project if a competitor enters the market after 1 year, in which case the revenues will fall by 30% each year.The probability of the competitor entering the market is 50%. The profit margin percentage can however be maintained despite fall in revenues.

c) Assuming the competitor enters the market, should the company terminate the project?

d) What is the expected value of the option?

e)State the types of real options.In the example above, what type of option exists?