SMARevision

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Stage 3: Strategic Management AccountingMarking schemes

Introduction

The following notes are guidelines for the completion of questions from previous examination papers.Candidates are expected to illustrate the knowledge they have gained from the course materials,additional reading and their experience. Questions can be categorised as either discussion questionsor numerical questions and the approach to each of these will obviously be different.

Hints and tips to answering questions

o Read the question carefullyo Ensure that you allocate the appropriate time to answering the question. If you run out of time

stop and move on to the next question. You will gain more marks by starting a new question.o Each part of question will have marks allocated to it. Use this as a guide as to how much you

should do for each section.

Numerical Questions

E th t h ll ki h i ti M k b i f


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E th t h ll ki g h i g ti M k m b gi f

British Association of Hospitality Accountants

EDUCATION & TRAINING PROGRAMME

STRATEGIC STAGE

MANAGEMENT ACCOUNTING

Date: 19 July 2001 Time: 09.30 12.30 hours

INSTRUCTIONS TO CANDIDATES:

You are required to answer any four questions

The paper is 3 hours in length

All workings must be in ink or ball-point pen

Non-programmable calculators may be used

Di t t bl d d t th b k f thi


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QUESTION 1 (25 MARKS)

The various stages of the Product Life Cycle raise a number of issues for the provision of

management accounting information. Describe each stage of the cycle and consider how

each of the following differs at each stage:

a) Cashflows

b) Level of operating expenses

c) Performance Measures

(25 marks)


The Exclusive Club is considering adding fresh homebaked breads to its menu. However, an

oven that costs 30,000 will have to be purchased. It has an estimated seven-year life and the

owners have calculated that the club will sell 20,000 of breads annually with a food cost of

30% and a labour cost of 35%. The residual value of the machine at the end of seven years is

forecast to be 5,000.


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A successful and expanding but fairly small private hotel company finds its rate of growth

restricted by lack of capital.

You are required to:

a) Describe the methods that the business might use to raise additional funds andindicate, with reasons, your preferred method. (15 marks)

Assume such further facts as are necessary for your answer.

b) Explain what is meant by gearing and the implications of this measure on a business.

(10 marks)


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Explain the purpose and difficulties of using ratio analysis. Suggest a range of financial and

non-financial measures which could be used to monitor a hospitality business using examples

drawn from both your study and your experience.

(25 marks)


Part A

The Roasta Coffee Shop sells a particular brand of coffee and has the following

characteristics:

Sales 10 cases per week Ordering costs 10 per order

Holding costs 30 per cent per year

Item cost 80 per case

You are required to calculate:

( )


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Examination paperJuly 2001

QUESTION 1

The discussion for this question should include a review of each stage of the product life cycle.Candidates are expected to demonstrate their knowledge of the Product Life Cycle concept adrawing illustrating the concept is expected by the examiners.

The question requires candidates to review each stage - Launch, Growth, Maturity and Decline withparticular reference to the impact on:

Cashflows how will these vary at each stage, what precautions should the business take?

Level of operating expenses how will these vary at each stage?

Performance measures it is not appropriate to use say ROI throughout the project for example.There should be a different emphasis on performance measures throughout the Product LifeCycle.

Students should draw on examples from their practical experience.

QUESTION 2

a) Sales 20,000Food cost 6,000Labour cost 7,000

Therefore, the Cash flows to be generated are 7,000 per annum. The profit to be generated willequate to the annual cash flow less depreciation.


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b) In order to calculate the Internal Rate of Return another set of discounted figures are required. Thistime we are discounting at 20%

Year DCF rate20%

Cash flow DiscountedCashFlow

1 0.833 7000 5831

2 0.694 7000 4858

3 0.579 7000 4053

4 0.482 7000 3374

5 0.402 7000 2814

6 0.335 7000 23457 0.279 7000 1953

25228

Add Residual value 5000 1395

26623

Less initial investment 30000

NPV -3377

The negative net present value indicates that the project gives a return lower than 20%.

To calculate the IRR:

1. Look at the difference between NPVs = 4384

2. Calculate the NPV per % change 4384 / 5 = 876.8

3 C l l t th % t i NPV t 15% 1007 / 877 1 148


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Fails to consider the changing value of money through time. (It treats 1 received in the future asbeing equal to 1 received now; but we can invest 1 received now so that it is worth more in the

future!). Shows only an average and ignores the timing of Profit or Cashflows and hence the time value of

money.

PAYBACK PERIOD

INTRODUCTION

This IS a cash flow technique.

It calculates the length of time it takes to recover the initial investment in cash.

It is Liquidity rather than a Profitability technique. Note: Cash Flow is higher than Profits by the amount of Depreciation (and other non-cash

expenses).

ADVANTAGES

Simple to calculate.

Uses Cash Flows.

As it emphasises Liquidity rather than Profitability, it is a SAFETY measure.

DISADVANTAGES Stresses the Payback Period rather than the useful life of the asset.

Ignores Cash Flows after the Payback Period.

Ignores timings of the Net Cash Inflows (and Out Flows) within the Payback Period. (This latterlimitation can be eliminated by the use of Discounted Payback).

NET PRESENT VALUE

INTRODUCTION

Thi i Di t d C h Fl (DCF) t h i


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Modern computer spreadsheet Macros enable this to be done quickly and accurately

ADVANTAGES A DCF technique taking into account the time value of money and the timing of all cash flows

Shows the result as a % which is popular for comparison with Money Market rates

Enables projects of different sizes to be ranked

DISADVANTAGES

More difficult to calculate

Although it enables projects to be ranked, the technique assumes that surplus cash can bereinvested at the IRR rate

This is flawed when the IRR deviates from the Money Market rates Hence, it can give misleading results in certain circumstances

PROFITABILITY INDEX

INTRODUCTION

This technique uses the Discounted Cash Flows prepared for the NPV calculation but separatesthe discounted Inflows from the (discounted) Outflows.

Unlike NPV which subtracts Outflows from Inflows, the Profitability Index (PI) divides the Inflowsby the Outflows to give an Index number.

An Index number above 1.0 indicates a profitable project, whereas a number below 1.0 indicatesan unprofitable one.

The discount rate used must be WACC.

ADVANTAGES

A DCF technique based correctly on WACC.

The Index number enables different sized projects to be ranked.


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Previous Budget

Stock:

Food 1233 1643Beverage 1712 2568Debtors 6164 8630Cash 577 769Less Creditors:Food 3699 4931Beverage 3082 4623Total working capital 2905 4056

b) Students should give a range of ratios including some explanation for the workings and value foreach of the following:

o Gross profito Wage percentageo Seat turnovero Sales per employeeo Profit to sales %o Return on capital employed

o Average spend per head (Food, beverage)

QUESTION 4

This question requires candidates to consider the funding available to a small private hotel.

From the course materials:

Th d fi iti f h t t fi i ll l ith t f t th M t fi i l


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acquired. In general, lease financing is more expensive than short term loans or overdrafts butthe rental charge is allowable for taxation

Medium term finance is generally defined as funds borrowed for between three and ten years.Main uses are for acquisition of assets with a life within this range or for the partial funding oflonger life assets. For instance, it is not unusual for a hotel to be partially financed by such funds.

The main types of medium term finance include:

Term loans which are the main source of medium term finance, where finance is made availablefor a fixed period and repayments are normally in equal instalments over the life of the loan, with

interest payable on capital outstanding during the year. Variations include annuities, wherebyequal annual payments of capital and interest combined are paid, moratoriums where capitalrepayments are deferred in the first year or so of the loan and balloon payments where capitalrepayments are biased towards the end of the term. Term loans are generally provided by theclearing banks, though sometimes by merchant banks and specialist banks.

Supplier loans. Suppliers are sometimes prepared to provide finance in order to secure amarket for their products. In the hotel and catering industry, the brewing industry is a majorprovider of such loans, particularly for improvements to bar facilities.

Long term finance is normally available for over ten years and is generally used to acquireassets which have a long life, such as land and buildings.

The main types of long term finance include:

Term loans as described above. These are generally difficult to secure since lenders preferloans to be secured

Mortgages are loans which are secured on the property they are used to finance. Normally up to65 per cent of the value of the property can be borrowed. The main sources of mortgages are

i f d i i d b k th h th ft i d d


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Use of funding

Cost of servicing

Form of repayment

Effect on gearing

b) From the course materials:

When a business borrows money, that money will be used to buy assets which will hopefully generatemore income than the cost of the loan. That is, the rate of return to the business will be greater thanthe rate of interest it will have to pay. The difference will be kept as profit. Lets illustrate this withsome examples.

Suppose a business employs 1,000,000 of assets and has a rate of return of 20%, giving a return of200,000. The management wishes to double the size of the firm and consider they can maintain thesame rate of return. If they borrow the additional 1,000,000 at, say, 12% interest, the profit positionwill be as follows:

Total capital employed 2,000,000Return at 20% 400,000Less interest on 1m at 12% 120,000

Net profit remaining 280,000Rate of return to 1m of equity 28%

By the use of relatively cheap loans, the rate of return to equity can be increased beyond the simplerate of return. If the rate of return is improved to 21% the situation will be:

Return on 2m at 21% 420,000Less interest on 1m at 12% 120,000Net profit remaining 300,000

R t f t t 1 f it 30%


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It would have been simpler to define the gearing ratio as "the proportion of borrowed funds to totalfunds", and this would be correct for many companies.

What is the norm for a gearing ratio? As for many of the ratios we are studying, there is no answer tothis, but the question is even less appropriate in respect of gearing than for any of the other ratios. Acompany with no gearing would be far safer than any other, but would be foregoing considerable profitpotential; a very highly geared company, with, say, a 70% gearing ratio, would have very high profitpotential for ordinary shareholders, but would be extremely vulnerable to a market downturn.

Another measure of gearing is the debt/equity ratio. This establishes the ratio of all fixed interestcapital to the equity capital.

Fixed interest loans and preference capitalEquity

A final word: the gearing ratio, like all the others, is only a guide or an indication. You must also bearin mind the actual rates involved. Two companies might have the same gearing ratio, but is A'sborrowed funds have a lower rate of interest than B's, then A is in a better position. Further, the dateof redemption of the loans must be noted.

QUESTION 5

This is an open ended question and as a result has a range of possibilities appropriate for thesolution.

Students should discuss how ratios can be used to monitor business performance. The discussionshould include:

Types of ratio

How ratios can be used and the advantages


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Part B

a) The role of the credit manager should be discussed briefly but with sufficient detail to merit 8marks.

o Establish a credit policy discuss how brieflyo Assess customers credit worthiness give howo Establish effective administration of debtors - howo Establish a policy on bad debts - examples

b) The major factors credit manager will look for:

o Customers accounts for signs of liquidity problemso Monitor length of time to pay debtso References from customers bank / other traderso Credit checking agencieso Volume of businesso Frequency of paymento Overseas businesses


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British Association of Hospitality Accountants

EDUCATION & TRAINING PROGRAMME

STRATEGIC STAGE

MANAGEMENT ACCOUNTING

Date: 17 January 2002 Time: 09.30 12.40 hours

INSTRUCTIONS TO CANDIDATES

You are allowed 10 minutes reading time at the start of the examination, duringwhich time you are not permitted to write.

This paper examines Units 9, 10, 11 & 12.


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QUESTION ONE (25 MARKS)

A hospitality business is considering a capital project costing 755,000. The sales forecast

together with the forecast expenditure are shown below:

Year Sales

Cost of sales

Other Variable

costs

Fixed costs

excluding

depreciation

Depreciation

1 400,000 150,000 50,000 60,000 150,000

2 500,000 180,000 60,000 60,000 150,000

3 600,000 220,000 70,000 60,000 150,000

4 600,000 220,000 70,000 60,000 150,000

5 600,000 220,000 70,000 60,000 150,000

YOU ARE REQUIRED TO:

i) Calculate the net present value at a cost of capital of 10%. (6 marks)

ii) Calculate the internal rate of return. (5 marks)

iii) Calculate the payback period. (3 marks)

iv) Calculate the accounting rate of return. (4 marks)

( )


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QUESTION TWO (25 MARKS)

The following figures are extracted from the accounts of a small catering company for the

year ended 31 December 2001. All customers are given credit payment terms:

Stocks 40,500

Debtors 70,200

Creditors 34,000

Sales 565,000Cost of goods sold 142,500


i) Calculate the working capital cycle from the values in the accounts. (6 marks)

ii) Explain the result and discuss each of the component values. Give recommendationswhere appropriate. (8 marks)

iii) List the reasons why it is important to manage the level of working capital. (4 marks)

iv) Discuss what you consider to be the most important factors that determine the

optimum level of stockholding for a business. (7 marks)


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QUESTION THREE (25 MARKS)

COMPLETE PART A & PART B:

Part A:

Define each of the following ratios and explain the importance of the measure of

performance:

i) Return on Capital employedii) Net profit ratio

iii) Gross profit ratio

iv) Current ratio

v) Acid test ratio

vi) Rate of stock turnover

vii) Gearing ratio

viii) Earnings per share (16 marks)

AND

Part B:

A hotel operates three units. The information given below is for one month of trading:


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QUESTION FOUR (25 MARKS)

A large hotel and catering company is considering additional finance to fund extensive

expansion plans. Describe the various forms of funding that are available to the business and

discuss the nature of each type of funding in terms of:

i) Risk

ii) Cost to the business

(25 MARKS)

QUESTION FIVE (25 MARKS)

Forest Caterers plc is a major hospitality company wishing to expand. Currently the

company has 500 million of long term capital and proposes to raise a further 100 million to

finance the expansion.

At present 60% of the Forest Caterers plc finance comes from equity and the rest from loan

stock. However, one of the Directors feels that more loan stocks could be introduced as these

are a cheaper form of finance than equity and suggests introducing additional loan finance so

that only 50% of funds are classified as equity after the additional finance has been raised.

H d Di h h b fi h j ld b


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Financial statement analysis


i) Identify the main user groups of accounting information and describe their common

needs in terms of financial analysis. (10 marks)

ii) What sources of information from outside the business are available to you as abusiness operator to enable you to analyse the position of your business more

effectively? (9 marks)

iii) Explain briefly what is the difference between business risk and financial risk.

(6 marks)

END OF PAPER


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Examination PaperJanuary 2002

QUESTION ONE

A hospitality business is considering a capital project costing 755,000. The sales forecast togetherwith the forecast expenditure are shown below. This calculation gives the cash flow generated. Thededuction of the depreciation expense provides the profit forecast.

Year Sales

Cost of sales

Other Variablecosts

Fixed costsexcluding

depreciation

Cash flow

1 400,000 150,000 50,000 60,000 140,0002 500,000 180,000 60,000 60,000 200,0003 600,000 220,000 70,000 60,000 250,0004 600,000 220,000 70,000 60,000 250,0005 600,000 220,000 70,000 60,000 250,000

vi) Calculate the net present value at a cost of capital of 10%

Year Cash flow

Discount rate10%

Discountedcashflow

1 140,000 0.9091 127,2742 200,000 0.8264 165,2803 250,000 0.7513 187,8254 250,000 0.6830 170,7505 250,000 0.6209 155,225

Residual value 5,000 0.6209 3,105

T l h


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54,459 / 18,618 = 2.93

IRR = 10 + 2.93 approximately 13%

In order to prove this: (This calculation is not necessary in the examination)

Year Cash flow

Discount rate13%

Discounted cashflow

1 140,000 0.8850 123,9002 200,000 0.7831 156,620

3 250,000 0.6931 173,2754 250,000 0.6133 153,3255 250,000 0.5428 135,700

Residual value 5,000 0.5428 2,714Total cash 745,534

Less originalinvestment

755,000

Net presentvalue

(9,466)

The value is not exactly zero NPV because the discount rate is not precisely 13%.

viii) Calculate the payback period (using discounted payback):

Year Cash flow

Discount rate10%

Discounted cashflow

1 140,000 0.9091 127,2742 200,000 0.8264 165,280


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QUESTION TWO

The following figures are extracted from the accounts of a small catering company for the year ended31 December 2001. All customers are given credit payment terms.

Stocks 40,500Debtors 70,200Creditors 34,000Sales 565,000Cost of goods sold 142,500


v) Calculate the working capital cycle from the values in the accounts.

These workings are performed using the standard ratios for working capital control.Stock days 40,500 / 142,500 x 365 = 104Debtor days 70,200 / 565,000 x 365 = 45Creditor days 34,000 / 142,500 x 365 = (87)Working capital cycle = 62

vi) Explain the result and discuss each of the component values. Give recommendations whereappropriate.

Stock days These are high at 104 days. In the hospitality industry it isexpected that the stock days reflect the nature of the goods which


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comprises of three elements; the purchase price, the holding costs and the cost to the business ofbeing out of stock.The cost of holding stock includes costs associated with:

lost interest on money tied up in stock

storage space

staffing, insurance

risk of obsolescence and pilferage

purchasing costs

The cost of being out of stock is difficult to calculate accurately. It is not easy for us to quantify the

cost of the loss of customer goodwill and potential lost sales when insufficient stocks are available.Other costs may be incurred where production is halted in other areas causing a delay in services,through the loss of flexibility which exists when there is buffer stock and the administrative costsincurred from placing lots of small orders.

The quantity of stock we order each time depends on the anticipated level of demand. We areattempting to strike a balance between the costs of holding stock and the costs of a stock shortage,that is the costs incurred when sales are lost.

Many models operate on the assumption that the stock levels fall evenly over time until the stock runsout when it is replaced by a stock delivery,

QUESTION THREE

Part A:

Define each of the following ratios and explain the importance of the measure of performance.ix) Return on Capital employedx) Net profit ratio


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Hotel Suisse Hotel Roma Hotel Paris

Room occupancy % 60% 66.7% 70.6%Guest occupancy % 53.6% 75% 66.7%Average room rate 105.55 109.38 114.17Average guest rate 63.33 58.33 68.50REV PAR 63.33 72.92 80.59Food and beverage salesper guest

16.66 23.33 19.00

Food and beverage salesper room occupied

27.77 43.75 31.67

Candidates are awarded 6 marks for the ratio calculation. Remember to show all your workings!Marks are also given for interpretation of the results.

QUESTION FOUR

A large hotel and catering is considering additional finance to fund extensive expansion plans.Describe the various forms of funding which are available to the business and discuss the nature ofeach type of funding in terms of:

i) Riskii) Cost to the business

Student should describe the various forms of funding available. See model answer on page 8.

QUESTION FIVE


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(60% x 14% = 8.4%) + (40% x 10% = 4%) = 12.4%

50% funding at 14% and 50% at 10% gives a WACC of 12%

Comment on the Directors comments. The important points are that:

o Loan capital does reduce cost of capitalo Retained profits are not a free source of finance.

ii) Calculate the amount of equity finance the Directors wish to raise and comment on thebusiness plan to increase the gearing of the business

The current equity / loan balance is:

Total funding 500,000,0000Equity 300,000,0000Loans 200,000,0000

The new funding structure is to be 600,000,000 from:

Equity 300,000,000Loans 300,000,000

Students should discuss the nature of gearing and the impact on the shareholders of the business.See diagram to illustrate relationship between gearing and cost of capital in the courseware.

iii) Explain the term Cost of Capital and discuss why a company should calculate its cost ofcapital with care.


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Library research - Annual reports

- Press/journal material- Investment analysts reports- Government reports- Published market intelligence- Company literature- Company history- Academic case studies- Computer based information servi- Competitor advertising

Interviews - Journalists- Academics- Others with specialist knowledge

Direct contact - Visits to other establishments- Physical observation- Physical analysis of product

Conferences - Industry associations

Primary market research - Consumer surveys- Industrial market research

Soft information - Own staff and management- Mutual suppliers- Mutual customers

ix) Explain briefly what the difference between business risk and financial risk is.

From the course materials:


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TABLE - RELATIONSHIP BETWEEN RETURN AND RISK

Risk free rate

Risk

Risk premium

Return


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QUESTION ONE (25 MARKS)

Analyse the strategic direction of a business with which you are familiar using a range of

strategic tools and models drawn from your studies (principally unit 9). You should describe

each tool you have selected to use and then try to analyse your own chosen business using the

key concepts you have described.

QUESTION TWO (25 MARKS)

x) Explain briefly what is meant by the term working capital cycle (4 marks)

xi) The Blue Lagoon Restaurant offers a range of French style dishes, the demand for

which has been steadily increasing. As a result the restaurant plans to extend its

seating capacity. A summary of the current year results is shown below (These are

prior to the extension):

Food Beverages

% %


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QUESTION THREE (25 MARKS)

A medium-sized catering company has discovered that it is holding 20 days worth of drygoods stock whilst its main competitor is holding only 10 days worth.


xi) Describe the costs and the benefits associated with holding stocks. (10 marks)

xii) Describe how the optimum stock level can be found. Explain how useful this

approach is in practice for the hospitality industry giving examples to illustrate your

explanation. (10 marks)

xiii) Consider how stock turnover might vary from industry to industry. Use your

knowledge of your own sector of industry in comparison with another of your choice.

(5 marks)


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QUESTION FOUR (25 MARKS)

Bluebell Restaurants have been operating since 1990. The actual results for 2000 and 2001

are shown below:

Profit & Loss Accounts for the Year Ending 31 December

2000 2001

000 000 000 000

Sales:Food 1,125 1,680

Beverage 900 870

Other 225 350

Total 2,250 2,900

Less:

Cost of sales:

Food 335 510Beverage 225 220

Other 45 95

Total 605 825

Gross profitFood 790 1170

Beverage 675 650

Other 180 255


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Balance Sheets as at 31 December

2000 2001

000 000 000 000 000 000

Fixed Assets (net):Freehold property 1,360 1,760

Equipment & furniture 480 400

1,840 2,160

Current Assets:Stocks of food 40 45

Stocks of beverages 60 70

Cash at bank ---- 30

100 145

Less creditors:(Amounts due within 1 year)

Creditors 55 75

Taxation 59 36

Proposed dividend 100 80Bank overdraft 44 ----

Net Current Assets/(Liabilities) (258) (191)

1,682 2,114

Less creditors:


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Capital investment appraisal


i) Explain the following methods of capital investment appraisal:

a) average accounting rate of return

b) payback methodc) net present value

Which method do you feel is the most effective and why? (11 marks)

ii) The Blue Skies Restaurant is considering purchasing a new food-processing machine

at a cost of 12,000, which is expected to save 4,000 per year in staff wages. The

estimated useful life of the machine is considered to be 5 years at the end of which it

is estimated it will have a value of 1,000.

a) Calculate the net present value at a cost of capital of 10% (4 marks)

b) Calculate the internal rate of return (4 marks)

c) Comment on your findings (2 marks)

iii) What is the 'cost of capital' value used in capital investment appraisal and explain why

it should be calculated with care? (4 marks)


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Examination paperJuly 2002

QUESTION ONE

Candidates were required to analyse a business they were familiar with using a range of strategictools. In the response students were required to use at least one model described in unit 9 including:

o SWOTo PESTo Product life cycleo Boston matrixo Porters theories

The allocation of marks is judged as follows:

Criteria Distinction Pass FailExcellent Adequate Poor

Number of models 4 models 1 model 1 model

Explanation of models Clear and detailed Clear shallow Unclear

Depth of discussion Evaluative Descriptive little or none

References to industrynorms and practices Excellent Insight Clear Insight No real insightdemonstrates

Examples from real life Numerous Few examples None or


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Cash operating cycle x days

The typical hotel operation requires stock for almost instant usage and the emphasis is on ensuringthat sufficient stocks are held for service without incurring the costs associated with overstocking.The following diagram illustrates the working capital cycle in a service based operation:

Days raw materials held in stock x days

Days debtors take to settle accounts on receipt of goods x days

LESS

Days taken to pay suppliers x days

EQUALS

Cash operating cycle x days

We can see that whenever a business is able to gain credit from suppliers this in effect finances partof the cash operating cycle. Consequently, large businesses such hotel chains can operate with

shorter operating cycles if they are able to secure better credit terms. Any delay in the time taken toreceive cash from outstanding customers or in the credit terms offered will increase the length of thecycle. This will eventually lead to the running down of cash resources and may lead to liquidation.

v) This part of the question requires candidates to work out the working capital requirements forthe year.

Working capital Current year Coming yearFood stocks Stock = 2 x 126,000 Stock = 2 x 172,500


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QUESTION THREE

i) From the course materials:

Stock or inventory may be defined as any current asset held for conversion into cash. Inmanufacturing industries, stock holdings may account for almost half of the total assets employed andconsequently stock management will require careful planning and control. In these types of businessthe stock is classified in to three types:Raw materials. This is stock held in the state in which it was purchased without any work havingtaken place

Work-in-progress. This is stock which has been partially converted in to the final state ands the

value is made up of raw material costs plus labour and expenses.

Finished goods. These are completed goods awaiting delivery to the customer.

Typically stock will comprise mainly of food and beverage both of which will be fairly fast moving,however we may also hold significant levels of items such as disposables and stationery.

The overall objective of inventory control is to minimise the costs associated with stock holdingwithout losing potential sales through not having sufficient stock available. The cost of stock

comprises of three elements; the purchase price, the holding costs and the cost to the business ofbeing out of stock.

The cost of holding stock includes costs associated with:

lost interest on money tied up in stock

storage space

staffing, insurance

risk of obsolescence and pilferage


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A graph of the stock level against time for some item of stock

This is the basis of the Economic Order Quantity model (EOQ) which calculates the most efficientorder quantity for each item given the costs involved. The calculation is as follows:

2Co DEOQ =

Ch

0

S

t

o

c

k

L

ev

e

l

Time

An amount (E) of stock is delivered at time 0. This is steadily used until the

stock level drops to 0, at which point a new consignment (amount E) arrives.

The average level of stock is E/2)

E

E/2


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QUESTION FOUR

i) Candidates should show all workings for ratios.

2000 2001ROCE 331/1682 x 100 = 19.68%

295 + 36 = 331 where 36 =interest paid

216/ 2114 x 100 = 10.22 %

Return on sales 331 / 2250 x 100 = 14.7% 7.4%Asset turnover 2250 / 1682 = 1.34:1 1.37:1Stock days Food 40 / 335 x 365 = 43.6 32.2Stock days Beverage 60 / 225 x 365 = 97 116Current ratio 100/ 258 = 0.39:1 0.76:1COS % Food 335 / 1125 x 100 = 29% 30.4%COS % Beverage 225 / 900 x 100 = 25% 25%COS % other 45 / 225 x 100 = 20% 27%Labour % 565 / 2250 x 100 = 25% 28%Operating expenses to sales 846 / 2250 x 100 = 37.6% 40.8%Fixed expenses to sales 504 / 2250 x 100 = 22.4% 24.5%Creditor days 55 / 605 x 365 = 33 33

Gearing 360 / 1682 x 100 = 21% 17%Interest cover 331 / 36 = 9 times 6 timesReturn on equity 236 / 1322 x 100 = 17.85% 8.2%

ii)The report should include a review under the headings for example:

o Profitability


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QUESTION 5

i) For a full explanation of the capital investment appraisal methods see the course notes unit

tenii) Calculations for NPV and IRR

Year Cashflow DCF 10% NPV1 4,000 0.9091 3,6362 4,000 0.8264 3.3063 4,000 0.7513 3,0054 4,000 0.6830 2,7325 4,000 0.6209 2,4845 1,000 0.6209 621

15,784Original investment 12,000Net present value 3,783

Year Cash flow DCF 20% NPV1 4,000 0.8333 3,3332 4,000 0.6944 2,7783 4,000 0.5787 2,315

4 4,000 0.4823 1,9295 4,000 0.4019 1,6085 1,000 0.4019 402

12,365Original investment 12,000Net present value 365

To calculate the Internal Rate of return:


42/42

42

DISCOUNT TABLES

Present Value of 1

Discount Factor

Yea

r

1% 2% 3% 4% 5% 6% 7% 8% 9% 10% 11% 12% 13% 14% 15% 16% 17% 18% 19% 20%

0 1 .00 00 1 .0 00 0 1 .0 000 1 .0 000 1 .0 000 1. 0000 1 .00 00 1 .0 00 0 1 .0 000 1 .0 000 1 .0 000 1. 0000 1 .00 00 1 .0 00 0 1 .0 000 1 .0 000 1 .0 000 1. 00 00 1 .0 000 1 .0 00 0

1 0 .9 901 0 .9 804 0. 9709 0 .96 15 0 .9 524 0. 9434 0 .93 46 0 .9 25 9 0 .9 174 0 .9 091 0 .9 009 0. 8929 0 .88 50 0 .8 77 2 0 .8 696 0 .8 621 0 .8 547 0. 84 75 0 .8 403 0 .8 33 3

2 0 .9 803 0 .9 612 0. 9426 0 .92 46 0 .9 070 0. 8900 0 .87 34 0 .8 57 3 0 .8 417 0 .8 264 0 .8 116 0. 7972 0 .78 31 0 .7 69 5 0 .7 561 0 .7 432 0 .7 305 0. 71 82 0 .7 062 0 .6 94 4

3 0 .9 706 0 .9 423 0. 9151 0 .88 90 0 .8 638 0. 8396 0 .81 63 0 .7 93 8 0 .7 722 0 .7 513 0 .7 312 0. 7118 0 .69 31 0 .6 75 0 0 .6 575 0 .6 407 0 .6 244 0. 60 86 0 .5 934 0 .5 78 7

4 0 .9 610 0 .9 238 0. 8885 0 .85 48 0 .8 227 0. 7921 0 .76 29 0 .7 35 0 0 .7 084 0 .6 830 0 .6 587 0. 6355 0 .61 33 0 .5 92 1 0 .5 718 0 .5 523 0 .5 337 0. 51 58 0 .4 987 0 .4 82 35 0 .9 515 0 .9 057 0. 8626 0 .82 19 0 .7 835 0. 7473 0 .71 30 0 .6 80 6 0 .6 499 0 .6 209 0 .5 935 0. 5674 0 .54 28 0 .5 19 4 0 .4 972 0 .4 761 0 .4 561 0. 43 71 0 .4 190 0 .4 01 9

6 0 .9 420 0 .8 880 0. 8375 0 .79 03 0 .7 462 0. 7050 0 .66 63 0 .6 30 2 0 .5 963 0 .5 645 0 .5 346 0. 5066 0 .48 03 0 .4 55 6 0 .4 323 0 .4 104 0 .3 898 0. 37 04 0 .3 521 0 .3 34 9

7 0 .9 327 0 .8 706 0. 8131 0 .75 99 0 .7 107 0. 6651 0 .62 27 0 .5 83 5 0 .5 470 0 .5 132 0 .4 817 0. 4523 0 .42 51 0 .3 99 6 0 .3 759 0 .3 538 0 .3 332 0. 31 39 0 .2 959 0 .2 79 1

8 0 .9 235 0 .8 535 0. 7894 0 .73 07 0 .6 768 0. 6274 0 .58 20 0 .5 40 3 0 .5 019 0 .4 665 0 .4 339 0. 4039 0 .37 62 0 .3 50 6 0 .3 269 0 .3 050 0 .2 848 0. 26 60 0 .2 487 0 .2 32 6

9 0 .9 143 0 .8 368 0. 7664 0 .70 26 0 .6 446 0. 5919 0 .54 39 0 .5 00 2 0 .4 604 0 .4 241 0 .3 909 0. 3606 0 .33 29 0 .3 07 5 0 .2 843 0 .2 630 0 .2 434 0. 22 55 0 .2 090 0 .1 93 8

1 0 0 .9 053 0 .8 203 0. 7441 0 .67 56 0 .6 139 0. 5584 0 .50 83 0 .4 63 2 0 .4 224 0 .3 855 0 .3 522 0. 3220 0 .29 46 0 .2 69 7 0 .2 472 0 .2 267 0 .2 080 0. 19 11 0 .1 756 0 .1 61 5

1 1 0 .8 963 0 .8 043 0. 7224 0 .64 96 0 .5 847 0. 5268 0 .47 51 0 .4 28 9 0 .3 875 0 .3 505 0 .3 173 0. 2875 0 .26 07 0 .2 36 6 0 .2 149 0 .1 954 0 .1 778 0. 16 19 0 .1 476 0 .1 34 6

1 2 0 .8 874 0 .7 885 0. 7014 0 .62 46 0 .5 568 0. 4970 0 .44 40 0 .3 97 1 0 .3 555 0 .3 186 0 .2 858 0. 2567 0 .23 07 0 .2 07 6 0 .1 869 0 .1 685 0 .1 520 0. 13 72 0 .1 240 0 .1 12 2

1 3 0 .8 787 0 .7 730 0. 6810 0 .60 06 0 .5 303 0. 4688 0 .41 50 0 .3 67 7 0 .3 262 0 .2 897 0 .2 575 0. 2292 0 .20 42 0 .1 82 1 0 .1 625 0 .1 452 0 .1 299 0. 11 63 0 .1 042 0 .0 93 5

1 4 0 .8 700 0 .7 579 0. 6611 0 .57 75 0 .5 051 0. 4423 0 .38 78 0 .3 40 5 0 .2 992 0 .2 633 0 .2 320 0. 2046 0 .18 07 0 .1 59 7 0 .1 413 0 .1 252 0 .1 110 0. 09 85 0 .0 876 0 .0 77 9

1 5 0 .8 613 0 .7 430 0. 6419 0 .55 53 0 .4 810 0. 4173 0 .36 24 0 .3 15 2 0 .2 745 0 .2 394 0 .2 090 0. 1827 0 .15 99 0 .1 40 1 0 .1 229 0 .1 079 0 .0 949 0. 08 35 0 .0 736 0 .0 64 9

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