You are a management committee member responsible for corporate affairs and communications at Rocco (Pty) Ltd, a company that specialises in the manufacturing of All Star sneakers. The company has been operating in the South African market for ten years and has been supplying major retail groups such as Edcon, Woollies and Truworths.

Rocco (Pty) Ltd operates from a three-story building in Isando that is leased from a local landlord at a cost of R36 000 per month. The ground floor is used as a manufacturing facility whereas the first and second floors are used as offices where the administration and sales staff sits. It is estimated that the cost of materials used in making a pair of sneakers amounts to R38. The company makes use of temporary workers that can be hired and fired as the production manager requires. These workers are paid R120 per hour. Each pair of sneakers takes approximately 18 minutes to make.

The company advertises heavily in order to sell the sneakers. An advertising agency that handles all advertising, charges the company an amount of R6 000 per month and sales executives employed by the company earn a total basic salary of R15 000 per month and 5% commission on each pair of sneaker sold. The companys manufacturing process is heavily automated and the equipment used to manufacture the sneakers was acquired on 1 January 2018 at a cost of R2 280 000. The equipment is depreciated at a rate of 20% per annum on cost. Other fixed costs of running this operation on a quarterly basis are depicted in the table below:

	Quarterly (Rands)
Factory supervision	24 000
Utilities (estimated at the ratio of 3:2 between the factory and offices)	25 000
Administrative office supplies	11 000
Administrative office salaries	20 000

There was a heated and awkward debate in the recent management committee meeting held on Tuesday, 12 June 2019 wherein the chief executive officer of the company was furious and passed the following comments: These income statements cannot be right. Our sales in the second quarter are up by 25% over the first quarter, yet these income statement show a precipitous drop in operating profit before tax for the second quarter. Chief financial officer, surely your accounting people have messed something up. The chief executive officer was referring to the following income statements:

Rocco (Pty) Ltd Income statements for the first two quarters of the financial year ending 31 December 2019
	Quarter 1 (Rands)	Quarter 2 (Rands)
Sales	480 000	600 000
Cost of goods sold	240 000	367 200
Gross profit	240 000	232 800
Operating expenses	200 000	206 000
Operating profit	40 000	26 800

After studying the statements briefly, the chief financial officer replied: Im sorry to say that those figures are correct, chief executive officer. I agree that sales went up during the second quarter, but the problem is in production. You see, we budgeted to produce 1 500 pairs of sneakers each quarter, but a strike amongst the employees of our major supplier forced us to cut production in the second quarter back to only 900 pairs of sneakers. Thats what caused the drop in the operating profit.

The chief executive officer was confused by the chief financial officers explanation and replied: This doesnt make sense. I ask you to explain why operating profit dropped when sales went up and you talk about production! So what if we had to cut back production? We still were able to increase sales by 25%. If sales go up, the operating profit should go up. If your income statements cant show a simple thing like that, then it is time for some changes in your department!

Budgeted production and sales for the financial year ending 31 December 2019, along with actual production and sales for the first two quarters, are given below:

	Quarter (pairs of sneakers)
	Quarter 1	Quarter 2	Quarter 3	Quarter 4
Budgeted sales	1 200	1 500	1 500	1 800
Actual sales	1 200	1 500
Budgeted production	1 500	1 500	1 500	1 500
Actual production	1 500	900

The company had 400 pairs of sneakers in inventory on 31 December 2018 and uses the first in first out (FIFO) method of inventory valuation. The unit product cost of each of the 400 pairs of sneakers amounted to R200. The chief operations officer of the company was as confused in the meeting and passed the following comment: We should just adopt the use of activity based costing instead of the traditional costing system in order to ensure that Rocco (Pty) Ltd achieves a higher total profit for the year.

Whilst everyone was so focused on these issues, the treasurer of the company showed signs of irritation and noted the following: You are all focused on the history of profits we did not make money; that is the bottom line. How is arguing about profits going to assist us? I am more concerned about whether we will have the cash to run our operation in the next two quarters. I anticipate that our cash balance in the bank account will be sitting at an overdraft of R18 000 as at 30 June 2019. Additional information on the timing of the cash flow for the business is presented in the table below.

Account	Timing of the cash flows
Sales	75% of the sales are on credit. The company normally collects 50% of a quarters credit sales before the same quarter ends, collects 30% in the quarter following the quarter of the sale and collects 20% two quarters after the sale.
Rent expense	Rent is payable twice a year in advance: on 1 January and 1 July each year.
Direct material	Rocco (Pty) Ltd uses the just-in-time system and buys raw material when needed for production. There is no material that is held in stock. The suppliers are paid in the month of purchase.
Direct labour	Labourers are paid at the end of each second week.
Other	All other costs are paid monthly as they are incurred.

REQUIRED

(a)	Calculate the unit product cost for a pair of sneakers manufactured by Rocco (Pty) Ltd for each of the two quarters and comment on the gross profit margin generated.	Marks
		12
(b)		7
(c)		5
(d)		7
(e)		4
(f)