AC1025 Commentary 2019 PDF

Examiners’ commentaries 2019

AC1025 Principles of accounting
Important note
This commentary reflects the examination and assessment arrangements for this course in the
academic year 2018–19. The format and structure of the examination may change in future years,
and any such changes will be publicised on the virtual learning environment (VLE).
Information about the subject guide and the Essential reading

references
Unless otherwise stated, all cross-references will be to the latest version of the subject guide (2015).
You should always attempt to use the most recent edition of any Essential reading textbook, even if
the commentary and/or online reading list and/or subject guide refer to an earlier edition. If
different editions of Essential reading are listed, please check the VLE for reading supplements – if
none are available, please use the contents list and index of the new edition to find the relevant
section.
General remarks
Learning outcomes
At the end of this course and having completed the Essential reading and activities, you should be
able to:
• distinguish between different uses of accounting information and relate these uses to the
needs of different groups of users
• explain the limitations of such statements and their analysis
• categorise cost behaviour, and prepare and contrast inventory valuations under different
costing methods
• describe the budgeting process and discuss the use of budgets in planning and control
• explain, discuss and apply relevant techniques to aid internal users in decision-making.
What the examiners are looking for
The examination paper covers a range of financial and management accounting topics, all of which
the well-prepared candidate will have studied. The questions are designed to encourage candidates
to think about the theories and principles of accounting and to demonstrate their ability to apply
relevant concepts in a variety of situations or to a given set of information. Where appropriate,
questions are subdivided to help candidates answer in a logical manner. The examination will
always include questions designed to test candidates’ ability in interpretation and analysis of
financial information.
1
The rubric of the examination paper is set out on the front cover and you should ensure that you
follow these instructions precisely. It is very important that you do not waste time and effort in
answering more questions than is required, as marks will only be awarded to the correct number of
questions. You are advised to read all of the questions before deciding which to answer in each
section. Time allocation is an important factor in accounting examinations. You should decide how
much time to spend on each question, based on the overall marks for the question and for each
section, and you should then adhere to these time allocations.
The examination has three sections. Section A consists of 15 multiple-choice questions covering the
entire syllabus in financial and management accounting. In Section A you will need to answer all the
questions for which the maximum mark will be 30.
Section B consists of questions on financial accounting. Question 16 is compulsory and is worth 30

marks requiring preparation of financial statements from a trial balance with adjustments, the
question includes an additional section which asks for a short essay explaining financial accounting
principles or concepts. In Section B there are two further financial accounting questions worth 20
marks.
Section C consists of the longer questions in management accounting worth 20 marks each. There
will be three questions, you will be asked to answer one question in this section. You will then need
to answer one further question from either Section B or Section C.
The rubric of the examination states that workings must be submitted for all questions in Sections B
and C requiring calculations. The importance of this cannot be overstated, as in the absence of
workings, simple arithmetic errors cannot be distinguished from errors of principle and
understanding. Hence the absence of workings will very often lead to an over-penalisation of errors.
Of course, arithmetic errors may in some instances result in some loss of marks, and you should
always be careful to check your calculations. The rubric also states that any necessary assumptions
introduced in answering a question should be stated. If you do not understand what a question is
asking (a circumstance the examiners endeavour to avoid), then you must state any consequent
assumptions which you have made. Even if you do not answer in precisely the way the examiners
had hoped, you may get a good mark providing your assumptions are reasonable. The most frequent
reason for failing to do well in the examination, apart from lack of knowledge, is not answering the
question actually set. You should take time to read each question carefully, and then attempt to
answer everything the examiner requires. Far too many candidates include every scrap of knowledge
they have on a topic without specifically addressing the question and this can have a disastrous
effect on their marks. Read the question carefully and tailor your answer to precisely what it asks
and you should do well.
Note: Workings will not be marked for MCQs – the answers will be entered on a
pre-printed sheet supplied in the examination. There will not be negative marking –
you will get marks for all correct answers without deduction for wrong answers.
Accounting is a progressive subject where it is essential to understand a particular topic before you
go on to the next. Make sure that you understand the basic concepts and can apply them in an
appropriate manner so that there is a logical structure to your answers. Do not write something that
you do not understand for, if you do, you are likely to produce a muddled response. In answering
computational questions, think carefully about the layout and logical progression of your answer
before writing and set out your answer in a structured and easily readable format. You will be
rewarded for an appropriate, logical and sensible method even if the figures contain errors. The
subject guide and textbook contain numerous worked examples, which you should have studied
carefully, and practice questions with solutions which should form a key part of your study and
revision.
You will find 8-column accounting paper is incorporated into the answer booklet. It may be
particularly useful where tables of figures are required because it keeps answers neat and saves ruling
lines for different columns. You are strongly advised to practise using it while you are preparing
answers as part of your study of accounting. A sheet is available to download from the AC1025
Principles of accounting page of the VLE and you can print off as many sheets of the paper as
you need.
2
This subject does not require a lot of reading beyond the core text of Leiwy D. and R.E. Perks
Accounting: understanding and practice (Maidenhead: McGraw–Hill, 2013) fourth edition [ISBN
9780077139131], but it is essential that you adopt an approach of thorough study, plenty of practice
answering questions and an ability and willingness to think logically. All major topics are covered at
the appropriate level in the recommended text by Perks and Leiwy and others are covered in the
subject guide. References presented in the ‘Comments on specific questions’ Zone A and Zone B
indicate where certain topics may be found in the current edition of the subject guide (2015), which
is an essential part of the study material for this course. You are also encouraged to read the
financial press including accounting journals and listen to, or watch, financial programmes and visit
appropriate websites. This will enable you to keep abreast of current issues and help you to develop
your ideas and opinions about them.
Examination revision strategy
Many candidates are disappointed to find that their examination performance is poorer than they
expected. This may be due to a number of reasons, but one particular failing is ‘question
spotting’, that is, confining your examination preparation to a few questions and/or topics which
have come up in past papers for the course. This can have serious consequences.
We recognise that candidates might not cover all topics in the syllabus in the same depth, but you
need to be aware that examiners are free to set questions on any aspect of the syllabus. This
means that you need to study enough of the syllabus to enable you to answer the required number of
examination questions.
The syllabus can be found in the Course information sheet available on the VLE. You should read
the syllabus carefully and ensure that you cover sufficient material in preparation for the
examination. Examiners will vary the topics and questions from year to year and may well set
questions that have not appeared in past papers. Examination papers may legitimately include
questions on any topic in the syllabus. So, although past papers can be helpful during your revision,
you cannot assume that topics or specific questions that have come up in past examinations will
occur again.
If you rely on a question-spotting strategy, it is likely you will find yourself in difficulties
when you sit the examination. We strongly advise you not to adopt this strategy.
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Important note

references
section.
Comments on specific questions – Zone A
Section A of this examination consists of 15 Multiple Choice Questions. You should attempt to
answer ALL the questions. Each question has four possible answers (a–d). There is only one correct
answer to each of the questions. Please mark the correct answer on the special sheet provided. The
maximum mark for this part is 30.
Sections B and C: Please answer QUESTION 16 (30 marks) of Section B; ONE question from
Section C and ONE further question from either section B or C (except for Question 16 all
questions are worth 20 marks).
For Sections B and C only, workings should be submitted for all questions requiring calculations.
Any necessary assumptions introduced in answering a question are to be stated.
Section A
Candidates should answer ALL questions from this section.
Correct answers are shown in bold.
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Question 1
Consider these four statements:

(i) The market value of a share in a company listed on a major
stock exchange will always exceed its par value
(ii) A limited liability company will always have more net assets
than a partnership
(iii) The directors of a limited liability company cannot all be
shareholders of the company
(iv) The directors of a company cannot pay a dividend if the
company makes a loss for the year
A All of the statements are correct

B All of these statements are incorrect
C Statements (i) and (ii) and (iii) are correct
D Statements (iii) and (iv) are correct
Question 2
At 31 March 2019, the cash book of Company 2 showed a debit balance of £56. An
examination of the bank statements and the accounting records of the company
revealed the following:
On 30 March 2019, the bank wrote to Company 2 stating that a cheque of £360
received from a customer and banked on 25 March 2019 had bounced and had been
dishonoured. This letter was only received by Company 2 on 2 April 2019. Bank
charges of £460 appeared on the bank statement on 30.3.19 but the company was
unaware of this transaction. Receipts of £9,215 banked on 31 March 2019 were not
cleared through the banking system until April 2019, while payments totalling
£19,401, issued by the company in March 2019 were also not cleared through the
banking system until April 2019.
What was the balance appearing on the bank statement at 31 March 2019?
A £9,422
B £(10,950)
C £9,310
D £10,142
Workings:
Cash book: +£56 − £360 − £460 = −£764.
Bank rec:
Balance per bank statement = x.
+ uncleared receipts: +£9,215
− uncleared payment: −£19,401
= Corrected cash book balance = −£764.
So, x = −£764 − £9,215 + £19,401 = +£9,422.
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Question 3
The selling price of the inventory of Company 3, a wholesaler of exotic fruit, at 30

April 2019 is £89,000. The company sells its goods at a 45% margin. 25% of the
inventory has reached its ‘sell-by’ date and will be sold for £9,500.
Which of the following will be the correct value for closing inventory at that date
appearing in the statement of financial position?
A £39,538
B £46,212
C £55,534
D £52,564
Workings:
Cost = 55% × £89,000.
Cost = £48,950.
1/4 of this costing £12,238 will be sold for £9,500 so there will be a loss of £2,738. So, inventory
value = £48,950 − £2,738 = £46,212.
Question 4
On 1 February 2019, Company 4 had 50 units in inventory costing £26 each. During
the month, the following transactions occurred:
Date Buy/sell Units Price

2.2.19 Buy 74 £29
11.2.19 Sell 93 £61
13.2.19 Buy 65 £33
17.2.19 Buy 68 £27
25.2.19 Sell 100 £56
What is (i) the value of inventory at 28 February 2019 and (ii) the cost of goods sold
(COGS) for the month of February 2019 using the LIFO basis of accounting?
Inventory COGS
£ £
A 1,895 5,532
B 1,856 5,571
C 1,706 5,721
D 1,878 5,549
Workings:
LIFO Units Price/unit Inventory COGS

Inventory 50 26 1,300
Sell (19) 26 (494) 494
Buy 74 29 2,146
Sell (74) 29 (2,146) 2,146
Buy 65 33 2,145
Sell (32) 33 (1,056) 1,056
Buy 68 27 1,836
Sell (68) 27 (1,836) 1,836
Inventory 64 1,895
COGS 193 5,532
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Question 5
A refund from a supplier of £1,500 was entered in the cash book as a receipt and
treated as a receipt from a customer in the sales (receivables) ledger control account.
Which of the following accounting entries is needed to correct this?
Sales (receivables) Payables Bank

Control account (suppliers) account
Control account
A Cr: £1,500 Dr: £1,500
B Dr: £1,500 Cr: £1,500
C Cr: £1,500 Dr: £1,500
D No adjustment is
needed
The correct entry should have been:
Dr: Sales (receivables) account £1,500.
Cr: Payables (suppliers) control account £1,500.
The bank has been correctly debited but instead of treating this as a receipt from a supplier, it
was treated as a receipt from a customer. This is almost understandable since most receipts will
be from customers. However, this is rather unusually a refund from a supplier so to correct it, we
need to credit Payables control (where it should have been credited in the first place), and
debited it to the Sales ledger control account to remove the erroneous entry. No adjustment is
needed to Bank since it was a bank receipt and should be (and was) debited to Bank.
Question 6
One of the non-current assets – a vehicle – owned by Company 6 was sold during
the year for £2,000. The sum was received in cash. Instead of banking this sum, the
finance director used this sum as a deposit for the purchase of a new van, the full
cost of which is £16,000. The cost and accumulated depreciation of the vehicle sold
has already been correctly accounted for. Depreciation at 25% on a straight-line
basis of £3,500 has been accounted for.
Vehicles: Vehicles: Depreciation Vehicle:

at cost Accumulated expense disposal
depreciation account
A Dr: £2,000 Cr:£2,000
B Dr: £2,000 Cr: £500 Dr: £500 Cr:£2,000
C Dr: £1,500 Dr: £500 Dr:£2,000
D No adjustment is needed
Workings:
The cost of the new vehicle, £16,000 is, at present, understated by £2,000 since only £14,000
was paid via the bank. The trade-in price of the sold vehicle has not been accounted for. To
correct this:
Dr: vehicles: cost £2,000.
Cr: Vehicle disposal account: £2,000.
At present, the depreciation on the new vehicle has been calculated on its apparent cost of
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£14,000. 25% of £14,000 is £3,500. In fact, the cost is £16,000 so the depreciation expense is
understated by 25% of £2,000 = £500. To correct this:
Dr: depreciation expense £500.
Cr: accumulated depreciation £500.
Question 7
The following information relates to Company 7a and Company 7b, both of which
trade in similar activities and face similar risks:
Company 7a Company 7b
Profit before tax £7 million £32 million
Share price £5.70 £6.50
Tax expense £2.8 million £4.8 million
Number of shares 20 million 105 million
Which company has the higher earnings per share (EPS) and which company is
viewed by the market as having higher growth prospects?
A Higher EPS: Company 7a Higher growth prospects:

Company 7a
B Higher EPS: Company 7b Higher growth prospects:
Company 7a
C Higher EPS: Company 7a Higher growth prospects:
Company 7b
D Higher EPS: Company 7b Higher growth prospects:
Company 7b
Workings:
Company 7a Company 7a Company 7b Company 7b
Profit after tax 4.2m 27.2m

EPS 21p 25.9p
No of shares 20m 105m
Market value 570 650

PE ratio 27.1 25.1
EPS 21 25.9
Company 7b has the higher EPS.
Company 7a has the higher PE ratio which indicates that investors are more optimistic about
this company’s future than that of Company 7b.
Question 8
A machine required for this project was acquired 5 years ago for an earlier project,
at a cost of £25,000. It is being depreciated on a straight-line basis over ten years.
There is no expected selling price at the end of its useful economic life. The
machine has been locked in a warehouse for several months since it has had no
alternative use. However, the company has just been offered an alternative contract,
Project Z, using this machine which will generate a contribution of £4,500. The net
realisable value of the machine is £5,600.
The cost of keeping this machine in perfect working order is £900, payable
immediately but if it is used in the project 8, the maintenance cost will be £1,300.
8
What is the relevant cost of the project 8?
A £6,000
B £7,000
C £5,200
D £8,300
Workings:
Only future incremental cash costs are relevant. The HC is irrelevant; it is a sunk cost.
Depreciation is not a cash cost.
If the company does not proceed with project 8, it would sell the machine since the NRV of
£5,600 exceeds the contribution arising of £4,500. The incremental maintenance cost is £400.
So, the relevant cost is the NRV foregone + incremental maintenance cost = 5,600 + 400
= £6,000.
Question 9
Company 9 makes three products, W, B and A. Unit costs and revenues relating to
the three products are as follows:
W B A
£ £ £
Selling price 500 700 640
Direct materials 85 200 120
Direct labour 105 15 35
Variable overheads 21 3 7
Fixed overheads 30 40 15
Total costs 241 258 177
Profit per unit 259 442 463
All three products use materials which cost £40 per kilogram but suitable material
is in such short supply that the company cannot fulfil the demand for these three
products in their entirety. In what order should these three products be produced if
the company wishes to maximise its profit?
Best 2nd best 3rd best

A A W B
B W B A
C B A W
D A B W
Workings:
W B A
£ £ £
Selling price 500 700 640
Variable costs 211 218 162
Contribution per unit 289 482 478
Number kg per unit 2.125 5 3
Contribution per kg of £136 £96.40 £159.33
material
Ranking 2 3 1
9
Question 10
Company 10, a local road building contractor, had budgeted indirect costs for 2019
of £600,000. Budgeted labour hours for the year were 12,500 costing £260,000 and
budgeted machine hours were 14,000. The company marks-up the total cost of each
job by 40% to determine selling price.
The company has just completed a road repair for the local council. The direct costs
and machine hours of this job were as follows:
Materials: £32,100
Labour: 305 hours
Machining: 75 hours
What is the total selling price of this job assuming the company allocates overheads
on:
(i) A labour hour basis
(ii) A machine hour basis
(i) Labour hour basis (ii) Machine hour basis

A £53,084 £41,659
B £74,318 £58,323
C £65,436 £49,441
D £20,496 £4,521
Workings:
Overhead absorption rate:
(i) Labour hour basis: Indirect overheads/Number of labour hours = 600,000/12,500 = £48 per
labour hour.
(ii) Machine hour basis: Indirect overheads/Number of machine hours = 600,000/14,000 =

£42.86 per machine hour.
Direct costs:
Material: 32,100
Labour: 305 labour hours @ £20.80/hour 6,344
38,444
Indirect costs: labour hr basis: 305 × 48 14,640
Total cost 53,084
Mark-up: 40% 21,234
Selling price 74,318
Direct costs:
Material: 32,100
Labour: 305 labour hours @ £20.80/hour 6,344
38,444
Indirect costs: machine hr basis: 75 × 42.86 3,215
Total cost 41,659
Mark-up: 40% 16,664
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Question 11
Which of the following is NOT a cause of overtrading?
A Just-in-time inventory planning

B A rapid expansion of the scale of a business without raising
additional long-term finance
C Buying substantial inventories at a discounted price
D Offering sales to customers on 1-year interest-free terms
Question 12
Company 12 makes domestic robots.
The budget units to be sold and produced in February were 400. In February, in
fact, 425 units were sold and produced.
Budgeted and actual unit costs and revenues were as follows:
Budget Actual
£ £
Materials 40 43
Labour 27 26
Variable overheads 9 10
Fixed overheads 12 10
Total cost 88 89
Selling price 130 127
Profit 42 38
The sales price and sales volume contribution variance were which of the following:
Sales price variance Sales volume contribution variance

A £1,275 unfavourable £1,050 favourable
B £1,275 favourable £1,050 unfavourable
C £1,275 unfavourable £1,350 favourable
D £1,700 unfavourable £1,350 unfavourable
Workings:
Sales price variance = AVol(ASP − SSP) = 425(127 − 130) = £1,275 (unfavourable).
Sales volume contribution variance = SContn(A Units − S Units) = (130 − 76)(425 − 400) =
£1,350 (favourable).
Question 13
In 2018, Company 13 sold its only product for £575 per unit. Variable costs per
unit were £180. Fixed costs were £550,000. In 2019, the selling price per unit is
expected to fall by 9%, variable costs per unit are expected to rise by 20%, while
fixed costs are expected to rise by 3%. Since the company’s stated objective for
2019 is to make a profit before tax of £1 million, how many units must it sell?
A 1,844
B 3,814
C 3,925
D 5,099
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Workings:
Number of units to make a required profit = Fixed costs + required profit/Contribution/unit.
Fixed costs 2019 = £566,500.
Reqd profit 2019 = £1,000,000.
Selling price/unit 2019 = £523.25.
VC/unit 2019 = £216.00.
So, contn/unit = £307.25.
So, number of units to make a £1 million profit = 1,566,500/307.25 = 5,099 units.
Question 14
Sensitivity analysis is which of the following:
A The difference between the NPV and the IRR in conditions of uncertainty
B A means of reconciling the value of inventory using absorption costing with
its value using marginal costing
C A means of assessing which variables will have the greatest impact upon a
management accounting decision
D The degree to which standard costing variances are interdependent
Question 15
Company 15 is considering replacing all its machinery. The financial controller has
computed Net Present Value (NPV) of the project at two different discount rates.
The NPV at a discount rate of 12% is £1,700 negative and at a discount rate of 5%,
it is £340 negative. You are required to compute the Internal Rate of Return (IRR)
using linear interpolation or extrapolation.
The Internal Rate of Return of this project is which of the following:
A 6.8%
B 3.3%
C 3.8%
D 10.3%
Workings:
rate NPV
Given 12% (1,700)
Given 5% (340)
Change 7% (1,360)
Therefore: 1% (194)
So IRR = 5% − (340/194)% = 3.25%.
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Section B
Answer question 16 and not more than one further question from this section.
Question 16
Moore Ltd is a family business which buys fruit and vegetables in the open market
and acts as a wholesaler and retailer of these goods. The company’s trial balance at
31 December 2018 before any adjustments have been made is as follows:
Dr Cr
£ £
Land 150,000
Plant & equipment at cost 360,000
Plant & equipment, accumulated
depreciation at 1 January 2018 108,000
Delivery vans at cost 86,000
Delivery vans, accumulated
Inventory at 1 January 2018 123,000
Trade receivables 183,000
Provision for bad debts at 1 January
2018 10,000
Prepaid insurance at 1 January 2018 3,000
Accrued interest at 1 January 2018 4,000
Accrued electricity at 1 January 2018 8,000
Bank balance 18,000
Trade payables 111,000
10% debenture loan repayable in 2021 80,000
Ordinary share capital of 600,000
shares of 50p each 300,000
Retained profits at 1 January 2018 60,000
Sales revenue 2,049,000
Returns inward 88,000
Purchases 1,391,000
Insurance 17,000
Interim dividend paid 28,000
Distribution costs 327,000
Advertising 15,000
Electricity 20,000
Interest paid 6,000
Suspense account 5,000
Total 2,797,000 2,797,000
The following additional information is available:
i. On 1 June 2018, the company paid building insurance on one of its warehouses
of £6,000 for the twelve months ended 31 May 2019.
ii. Provision for any unpaid interest is to be made. An electricity invoice of £9,000
for the three months ended 31 January 2019 was received by the company on 6
February 2019. The directors propose to pay a dividend of £12,000 on 31 March
2019.
iii. In December 2018, the company sold a delivery van for £20,000. This sum was
received in cash and was not banked until 5 January 2019. The van which was
sold had been purchased in 2017 for £40,000. Neither the sale, nor the proceeds
of sale, have been accounted for in the accounting records of the company.
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iv. Depreciation is to be provided on the non-current assets using the following

annual rates:
Land nil
Equipment 20% per year on a straight line basis
Delivery vans 40% per year on a reducing balance basis
A full year’s depreciation is provided in the year of acquisition and no
depreciation is provided in the year of disposal.
v. The inventory was counted on 31 December 2018 and valued at its selling price
of £196,000. Goods are marked-up by 40%.
vi. Corporation tax for the year ended 31 December 2018 is estimated to be
£19,000 and is to be paid on 1 October 2019.
vii. The company’s bookkeeper is new to the job and is not sure how to deal with
the following items:
(i) The sum of £14,000 was received as a direct payment into the company’s
bank account in December 2018 from a customer but it was unclear to her
which customer had sent this money.
(ii) The company’s corporation tax liability for the year ended 31 December 2017
had been estimated to be £60,000. However, the UK tax authority (known
as HMRC) had advised the company that, in fact, £69,000 was to be paid.
She has therefore credited the £14,000 and debited the remaining balance on
the taxation account respectively to a suspense account in the trial balance.
viii. A customer owing £9,000 has recently been declared bankrupt. The company
does not expect to recover any of this. A provision for bad debts of 5% of
remaining trade receivables is to be provided.
Required:
(a) Prepare an income statement for Moore Ltd for the year ended 31 December
2018, a statement of financial position at 31 December 2018 and statement of
changes in equity for the year ended 31 December 2018 in a form suitable for
presentation to the directors.
(26 marks)
(b) Prepare an answer to the following email you have recently received from the
company’s sales director:
‘The £15,000 advertising expense relates to a television campaign over the 2019
New Year holiday and was aimed at increasing customer awareness of seedless
dates totally new to UK consumers. I expect a huge interest in this product in
2019 and I believe the £15,000 should be treated as an asset and not as an
expense in the 2018 accounts.’
(4 marks)
(Total 30 marks)
Reading for this question
For part (a), you need to be able to correctly head up the Income Statement and the Statement
of Financial Position and the Statement of Movements of Equity. This question has many of the
usual adjustments one has seen in past examples and can be found in the subject guide Chapters
5–8, especially Chapter 8, and in Leiwy & Perks Chapter 10.
For part (b), this argument relates to the application of the accruals and the prudence concepts
and is discussed in the subject guide Chapter 3 and Leiwy & Perks pp. 58–65.
14
Approaching the question
It is vital that candidates know what debits and credits represent. This is essential in this
question because there is a suspense account which must be closed to a zero balance. Every
adjustment affects two figures. Many candidates still cannot handle:
• sales of non-current assets

• the difference between provisions for bad debts (Statement of Financial Position) and the
change in the provision for bad debts (Income Statement).
Note that the disposal of the non-current asset was particularly badly answered. The cost and
accumulated depreciation of the item sold must be removed from those two balances appearing in
the trial balance. Then we can compute the depreciation on the vehicle on the reducing balance
basis. By comparing the net book value of the item sold with the disposal proceeds, we can
establish the profit or loss on its sale.
Over- or under-provisions for the previous year’s corporation tax had to be determined. The fact
is, such adjustments appear year after year in the examination and candidates need to practise
such questions.
Dividends on ordinary shares are accounted for when paid so any proposed dividend only appears
as a ‘note to the accounts’ but not in the two statements themselves. Dividends paid are shown
as deductions from retained profits in the statement of movements in equity, not as an expense.
We have:
15
16
17
Question 17
The statements of financial position of Stiles Limited as at 31 December 2018 and

2017 and a summary of the income statement for the year ended 31 December 2018
appear below:
Statements of financial position at 31 December

2018 2017
£000 £000
Non-current assets
Land 900 600
Plant and machinery 230 255
1,130 855
Current Assets
Inventory 290 445
Trade receivables 608 420
Cash at bank 5 65
903 930
Total assets 2,033 1,785
Liabilities and equity

Non-current liabilities
8% redeemable preference shares 50 200
10% convertible debenture stock 180 150
230 350
Current liabilities
Trade payables 752 680
Interest accrued 4 5
Tax 37 29
Bank overdraft 160 86
953 800
Total liabilities 1,183 1,150
Equity
Ordinary share capital 240 140
Share premium 365 340
Revaluation reserve 170 70
Retained earnings 75 85
Total equity 850 635
Total liabilities and equity 2,033 1,785
Summary Income Statement for the Year Ended 31 December 2018
£000
Operating profit 170
Preference share dividend (10)
Interest expense (18)
Profit before tax 142
Tax (26)
Profit after tax 116
You are given the following information:
(i) The company’s depreciation policy is not to depreciate the land but to
depreciate the plant and machinery.
(ii) During the year items of plant machinery were sold at a profit of £7,000. These
machines had a net book value of £20,000.
(iii) Plant and machinery was acquired during the year at a cost of £17,000.
18
(iv) The new 10% convertible loan stock was issued on 1 January 2018 at par.
(v) Some of the 8% redeemable preference shares were redeemed, at par, on 1 July
2018
(vi) A dividend on the ordinary shares was paid during the year.
Required:
(a) Prepare a cash flow statement, together with the reconciliation statements of
operating profit and cash balance, for Stiles Limited for the year ended 31
December 2018.
(16 marks)
(b) Critically evaluate this company’s cash flow statement.
(4 marks)
(Total: 20 marks)
Subject guide, Chapter 11, and Leiwy & Perks Section 6.4.
(a) A typical cash-flow statement (CFS) question. It is important to know what appears in the
CFS and where it appears. Most of the figures are very straightforward. The difficult figures
involve four computations. These are as follows.
Interest paid, which is the current liability at the beginning of the year, plus the interest
expense less the sum still payable. The tax paid in the year is calculated in exactly the same
way. Sum paid to acquire non-current assets, both land and buildings and plant and
machinery are computed on the basis that the opening balance, less the net book value of
any asset sold in the year, less any depreciation expense plus any revaluation in the year
plus sums paid to acquire non-current assets will equal the closing balance. The sum raised
from the issue of shares is calculated on the basis of the movement in the share capital and
the share premium. A particular complication in this question relates to the dividend paid.
Usually, in CFS questions, the dividend paid in the year is given.
Opening retained profits + profit for the year − dividends paid = closing retained profits.
We have:
19
(b) There is more than one acceptable way to interpret a CFS and to advise managmeent
accordingly. However, your advice must depend upon the figures in your answer to (a).
There is a good net cash-flow from operations. However, poor credit control and tight
inventory control. If pressure was put on suppliers, they might react badly. There is a high
ordinary dividend paid, although little spent on plant and machinery. There is a large
investment in land: why? Overtrading? The cash position has deteriorated alarmingly.
20
Question 18
The Chief Executive Officer of Charlton plc, a large, diversified multinational

company, has asked you to examine the accounts of two other companies, Cohen
Limited and Wilson Limited. These two companies have been identified by the chief
accountant of Charlton plc as promising takeover targets.
Cohen Wilson
Ltd Ltd
Income statements for the year
ended 31 December 2018 £000 £000
Sales revenue 11,360 5,622
Cost of goods sold 7,950 4,225
Gross profit 3,410 1,397
Operating expenses 1,422 795
Operating profit 1,988 602
Interest expense 402 28
Profit before tax 1,586 574
Taxation 492 202
Profit after tax 1,094 372
£000 £000
Statements of financial position at
31 December 2018
Non-current assets 6,990 2,246
Current assets
Inventory 2,820 720
Trade receivables 1,352 828
Cash at bank 1,910 1,423
6,082 2,971
Current liabilities
Trade payables 1,425 1,109
Taxation 690 296
Overdrafts and short-term loans 3,424 637
5,539 2,042
Non-current liabilities: long-term 1,255 500
Loans
Equity
Share capital (£1 shares) 2,530 1,520
Share premium 2,040 –
Revaluation reserve – 800
Retained profits 1,708 355
Total equity 6,278 2,675
Other information which has been provided:

Cohen Wilson
Ltd Ltd
£000 £000
(i) Operating expenses include 382 195
depreciation
(ii) Expenditure on non-current 1,572 186
assets in 2018
(iii) Retained profits at 31
December 2017 1,134 23
21
(iv) The market value of shares in these two companies at 31 December 2018 was as
follows:
Cohen Ltd £5.24

Wilson Ltd £1.25
(v) The long-terms loans of these companies are secured debenture loans repayable
as follows:
Cohen Ltd in 2030

Wilson Ltd in 2037
Required:
(a) Compute the following ratios for these two companies to 1 decimal place, using
in each case, the appropriate notation:
Return on capital employed

Return on equity (after tax)
Payables period
Quick (or acid test) ratio
Dividend cover
Dividend yield
Interest cover
Gearing
(10 marks)
(b) Prepare notes for the board meeting at which these two companies will be
considered. Your notes should provide a comparison of the ratios you have
computed and any other factors you think should be brought to the attention of
the board using the information which has been provided, above.
(10 marks)
(Total: 20 marks)
(a) Usually, one question in Section B is a ratio analysis question asking for the calculation of,
say, eight ratios and then interpretation of the results by comparing two companies.
It is important in such a question to use the correct notation when writing each ratio. Is it a
percentage – for example, return on capital employed of 18.5%, a number of days – for
example, inventory period of 35 days or simply a number – for example, current ratio of 1.6.
Many candidaates present the profitability ratios as a decimal, not as a %.
Every candidate must learn the 16 or so ratios listed in the subject guide and Leiwy & Perks.
22
We have:
(b) When writing a report on the ratios, as in part (b) of this question, write something about
every ratio or perhaps two or three comments about each group of ratios (such as liquidity).
It is not enough to say the ratio is higher or lower than the previous year or the industrial
average or another company. You must say whether it is better or worse or impossible to
say and give possible reasons for significant differences in these comparisons.
23
Section C
Answer ONE question from this section and ONE further question from either Section B or Section
C.
Question 19
Peters Limited manufactures casings for toy drones. The standard cost of this
product is as follows:
£
Material X 8kg at £4/kg 32.00
Material Y 4kg at £7/kg 28.00
Labour 3 hours at £17/hour 51.00
Variable overheads 3 hours at £13/hour 39.00
Fixed overheads 12.50
Total Cost 162.50
Variable overheads are absorbed on a labour hour basis. The standard selling price
is £199 and budgeted production and sales for April 2019 was 120,000 units. In this
month, actual sales and production were 124,500 units and sales revenue totalled
£23,779,500.
Actual costs in the month were as follows:

£
Material X 809,250 kg 3,358,388
Material Y 529,125 kg 3,677,419
Labour 423,300 hours 6,561,150
Variable overheads 5,756,880
Fixed overheads 1,560,000
Total Costs 20,913,837
Required:
(a) Produce a performance report reconciling the actual profit to the budgeted
profit for the year, using the contribution approach showing both
efficiency/usage and price/rate variances.
(14 marks)
(b) Write a brief report for the directors of the company to explain possible causes
for each variance and drawing attention to any possible interdependence
between any of these variances.
(6 marks)
(Total 20 marks)
Subject guide, Chapter 17, and Leiwy & Perks, Chapter 18.
(a) This question involves the production of a performance report reconciling the actual profit
with the budgeted profit showing eight specified variances and using the contribution
approach.
As is common, candidates often get the price variances correct but get the efficiency/usage
variances incorrect. This is because they do not flex the budget and consider the standard
quantity of kg of material or hours of labour for the actual level of output (124,500 units, in
this instance).
24
We have:
(b) As usual, there were very few attempts to answer a question needing a written answer and
those that did attempt this question wrote very little and mostly that each variance was
favourable or adverse and for which few marks were awarded. A possible reason for each
variance and how these variances could arise and how they could be interconnected. For
example, a favourable labour rate variable might arise because the quality of their work is
poor or cheap materials could result in an adverse labour rate variance.
25
Question 20
Hunt Chemicals is preparing a cash budget for June and July 2019. At the end of
July 2019, the company has undertaken to repay a £100,000 loan to their bank
which had been borrowed in February 2019 to enable the business to survive during
the seasonal peak in the second quarter of the calendar year, April to June. The
bank balance at 1 June 2019 is expected to be £17,500.
Budgeted sales revenues are as follows:
April 2019 £360,000

May 2019 £500,000
June 2019 £600,000
July 2019 £300,000
August 2019 £240,000
Additional information:
(i) 70% of sales revenue is expected in the month of sales, subject to a 2% prompt
payment discount. 20% of sales revenue is expected in the month following
sales. 7% of sales revenue is expected to be received two months after sale and
the remainder of sales revenue is expected to be uncollectable.
(ii) The average selling price per unit is £100 and the average cost price is £75.
50% of the purchase price of goods is expected to be paid in the month of
purchase and 50% in the following month.
(iii) Target closing inventory is equal to the cost of goods sold in the following
month plus 25%.
(iv) Budgeted annual overheads are £800,000 which includes £300,000 of fixed costs
of which £60,000 is depreciation. The remainder of the overheads are variable
costs which vary with sales revenue and are paid in the month in which they
occurred. The budgeted sales revenue for the 2019 is £3 million.
(v) A dividend of £40,000 will be paid and non-current assets costing £50,000 will
be purchased and paid for in June while corporation tax of £75,000 will be paid
in July.
Required:
(a) Produce a cash budget for each of the months June and July 2019, in columnar
form.
(15 marks)
(b) Present a brief report to the directors of Hunt Chemicals, advising them on
steps which could be taken to improve the cash position of the business and how
they could seek to avoid a cash crisis when the next seasonal peak arises in
April to June 2020.
(5 marks)
(Total: 20 marks)
Subject guide, Sections 16.3–16.5, and Leiwy & Perks, Section 15.4.
(a) A straightforward question but in answering such questions, the format and connection
between workings and the solution is vital. It must be set out in columnar form. Very often,
as is the case, the main difficulty is computing purchase of inventory. Remember, in terms of
26
units, opening inventory + purchases − units sold = closing inventory. Rearranged as

purchases = closing inventory − opening inventory + units sold. The same argument relates
to the units produced.
We have:
(b) When a cash-flow crisis is foreseen, then some steps need to be identified which will mitigate
the problem while still being able to manage any possible company expansion, if that is
possible and which will also not lead to the loss of control of the business by the present
owners. Such steps should be commercially sensible.
27
Question 21
The professional football club, Hurst Academicals, is considering acquiring a highly

successful German international footballer. The transfer fee will be £42m, half of
which is payable immediately and the other half payable in one year’s time. His
annual salary during his 4-year contract will be £15.5 million. At the end of his
contract, the player will have no resale value to the club. The club’s sponsor has
agreed to increase the annual sponsorship fee from £4m to £16m, payable in
advance. Annual income from gate money is expected to rise by £6m in year 1 and
increase by 10% each year, thereafter. Merchandising income, from the sale of club
shirts emblazoned with the player’s name is expected to be £1m in year 1, rising by
5% each year. The player has a poor injury record and the club will pay an initial
insurance premium of 10% of the transfer fee, payable in advance to protect the
club against the risk of his contract coming to an early end as a result of this
problem. As a consequence of this transfer, the club will be able to loan two other
players to an inferior team, elsewhere in north London, thereby making annual
salary savings of £9 million.
Assume that all transactions are in cash and arise at the end of the year concerned
except where indicated above. The company’s cost of capital is 12%.
Required:
(a) Calculate the Net Present Value (NPV) of this acquisition.

(8 marks)
(b) Calculate the Accounting Rate of Return (ARR) using the average investment
method and assuming the company uses the straight line basis of depreciation .
(4 marks)
(c) Advise the company’s directors whether or not they should proceed with this
acquisition, giving the reasons for your recommendation.
(2 marks)
(d) What other facts should be taken into consideration in a decision of this nature?
(2 marks)
(e) The company’s financial advisor has suggested that instead of buying the player
outright and in the two instalments referred to above, that instead, the player is
acquired by the payment of 4 equal annual payments. At what annual cost
payment would the club be indifferent between the original payment of £42
million in two instalments and:
(i) four equal annual instalments, payable annually, the first instalment to be
paid in one year?
(2 marks)
(ii) four equal annual instalments, payable annually, the first instalment being
paid immediately?
(2 marks)
(Total: 20 marks)
These issues are explained very clearly in Leiwy & Perks Chapter 14 and in the subject guide
Chapters 18 and 19.
28
(a) This is a straightforward NPV question involving ‘relevant costing’ issues. NPV
computations must be arranged in columnar form.
We have:
(b) & (c) As usual, solutions to this question on ‘other factors to be taken into consideration’ are
usually not given. In this question, one must recognise that multi-millionaires owning
football clubs might not consider the maximisation of their wealth to be their main
investment criteria. We have:
(d) Those who run professional football teams are not necessarily primarily interested in
maximising shareholder wealth. Often it is personal and reflected glory. Moreover, football
is a team game and it is difficult to foresee the positive and negative effects on the other
team members, the supporters, and other stakeholders.
(e) The present value of the existing arrangement is 21 + 21 × 0.893 = £39.75 million.
(i) Let x be the annual annuity sum, then:
x × 3.037 = 39.75 ⇒ x = £13.09 million.
(ii) Let x be the annual annuity sum, then:
x + 2.402x = 39.75
i.e. 3.402x = 39.75, hence x =£11.68 million.
29

Important note

references
section.
Comments on specific questions – Zone B
Section A of this examination consists of 15 Multiple Choice Questions. You should attempt to
answer ALL the questions. Each question has four possible answers (a–d). There is only one correct
answer to each of the questions. Please mark the correct answer on the special sheet provided. The
maximum mark for this part is 30.
Sections B and C: Please answer QUESTION 16 (30 marks) of Section B; ONE question from
Section C and ONE further question from either section B or C (except for Question 16 all
questions are worth 20 marks).
For Sections B and C only, workings should be submitted for all questions requiring calculations.
Any necessary assumptions introduced in answering a question are to be stated.
Section A
Candidates should answer ALL questions from this section.
Correct answers are shown in bold.
30
Question 1
Consider these four statements:

(i) The market value of a share in a company listed on a major
stock exchange will always exceed its par value
(ii) A limited liability company will always have more net assets
than a partnership
(iii) The directors of a limited liability company cannot all be
shareholders of the company
(iv) The directors of a company cannot pay a dividend if the
company makes a loss for the year
A All of the statements are correct

B All of these statements are incorrect
C Statements (i) and (ii) and (iii) are correct
D Statements (iii) and (iv) are correct
Question 2
At 31 March 2019, the cash book of Company 2 showed a credit balance of £4,556.
An examination of the bank statements and the accounting records of the company
revealed the following:
On 30 March 2019, the bank wrote to Company 2 stating that a cheque of £50
received from a customer and banked on 25 March 2019 had bounced and had been
dishonoured. This letter was only received by Company 2 on 2 April 2019. Bank
charges of £116 appeared on the bank statement on 30 March 2019 but the
company was unaware of this transaction. Receipts of £3,112 banked on 31 March
2019 were not cleared through the banking system until April 2019, while payments
totalling £920, issued by the company in March 2019 were also not cleared through
the banking system until April 2019.
What was the balance appearing on the bank statement at 31 March 2019?
A £(6,914)
B £(2,530)
C £2,530
D £(8,754)
Workings:
Cash book: −£4,556 − £50 − £116 = −£4,722.
Bank rec:
Balance per bank statement = x.
+ uncleared receipts: +£3,112
− uncleared payment: −£920
= Corrected cash book balance = −£4,722.
So, x = −£4,722 − £3,112 + £920 = −£6,914.
31
Question 3
The selling price of the inventory of Company 3, a wholesaler of fresh fruit, at 30

April 2019 is £72,000. The company sells its goods at a 15% mark-up. One-third of
the inventory has reached its ‘sell-by’ date and will be sold for £14,500.
Which of the following will be the correct value for closing inventory at that date
appearing in the statement of financial position?
A £56,239
B £55,300
C £48,109
D £69,000
Workings:
Cost +15% = £72,000. Cost = £62,609.
1/3 of this costing £20,870 will be sold for £14,500 so there will be a loss of £6,370. So,
inventory value = £62,609 − £6,370 = £56,239.
Question 4
On 1 February 2019, Company 4 had 50 units in inventory costing £26 each. During
the month, the following transactions occurred:
Date Buy/sell Units Price

2.2.19 Buy 70 £28
11.2.19 Sell 90 £60
13.2.19 Buy 60 £31
17.2.19 Buy 65 £29
25.2.19 Sell 100 £55
What is (i) the value of inventory at 28 February 2019 and (ii) the cost of goods sold
(COGS) for the month of February 2019 using the AVCO basis, assuming the
company uses the perpetual method of inventory valuation?
Inventory COGS
£ £
A 1,618 5,387
B 1,573 5,432
C 1,595 5,410
D 1,440 5,565
Workings:
AVCO Units Price/unit Inventory COGS

Inventory 50 26 1,300
Buy 70 28 1,960
120 27.17 3,260
Sell (90) 27.17 (2,445) 2,445
30 27.17 815
Buy 60 31 1,860
Buy 65 29 1,885
155 29.42 4,560
Sell (100) 29.42 (2,942) 2,942
Inventory 55 29.42 1,618
COGS 5,387
32
Question 5
A refund from a supplier of £1,500 was entered in the cash book as a receipt and
treated as a receipt from a customer in the sales (receivables) ledger control account.
Sales (receivables) Payables Bank

Control account (suppliers) account
Control account
A Cr: £1,500 Dr: £1,500
B Dr: £1,500 Cr: £1,500
C Cr: £1,500 Dr: £1,500
The correct entry should have been:
Dr: Sales (receivables) account £1,500.
Cr: Payables (suppliers) control account £1,500.
The bank has been correctly debited but instead of treating this as a receipt from a supplier, it
was treated as a receipt from a customer. This is almost understandable since most receipts will
be from customers. However, this is rather unusually a refund from a supplier so to correct it, we
need to credit Payables control (where it should have been credited in the first place), and
debited it to the Sales ledger control account to remove the erroneous entry. No adjustment is
needed to Bank since it was a bank receipt and should be (and was) debited to Bank.
Question 6
One of the non-current assets – a vehicle – owned by Company 6 was sold during
the year for £2,000. The sum was received in cash. Instead of banking this sum, the
finance director used this sum as a deposit for the purchase of a new van, the full
cost of which is £16,000. The cost and accumulated depreciation of the vehicle sold
has already been correctly accounted for. Depreciation at 25% on a straight-line
basis of £3,500 has been accounted for, in respect of the new vehicle.
Vehicles: Vehicles: Depreciation Vehicle:

at cost Accumulated expense disposal
depreciation account
A Dr: £2,000 Cr:£2,000
B Dr: £2,000 Cr: £500 Dr: £500 Cr:£2,000
C Dr: £1,500 Dr: £500 Dr:£2,000
Workings:
The cost of the new vehicle, £16,000 is, at present, understated by £2,000 since only £14,000
was paid via the bank. The trade-in price of the sold vehicle has not been accounted for. To
correct this:
Dr: vehicles: cost £2,000. Cr: Vehicle disposal account: £2,000.
At present, the depreciation on the new vehicle has been calculated on its apparent cost of
£14,000. 25% of £14,000 is £3,500. In fact, the cost is £16,000 so the depreciation expense is
understated by 25% of £2,000 = £500. To correct this:
Dr: depreciation expense £500. Cr: accumulated depreciation £500.
33
Question 7
The following information relates to Company 7a and Company 7b, both of which
trade in similar activities and face similar risks:
Company 7a Company 7b
Profit before tax £7 million £32 million
Share price £5.70 £6.50
Tax expense £2.8 million £4.8 million
Number of shares 20 million 105 million
Which company has the higher earnings per share (EPS) and which company is
viewed by the market as having higher growth prospects?
A Higher EPS: Company 7a Higher growth prospects:

Company 7a
B Higher EPS: Company 7b Higher growth prospects:
Company 7a
C Higher EPS: Company 7a Higher growth prospects:
Company 7b
D Higher EPS: Company 7b Higher growth prospects:
Company 7b
Workings:
Company 7a Company 7a Company 7b Company 7b
Profit after tax 4.2m 27.2m

EPS 21p 25.9p
No of shares 20m 105m
Market value 570 650

PE ratio 27.1 25.1
EPS 21 25.9
Company 7b has the higher EPS.
Company 7a has the higher PE ratio which indicates that investors are more optimistic about
this company’s future than that of Company 7b.
Question 8
A machine required for this project was acquired for an earlier project 5 years ago
at a cost of £25,000. It is being depreciated on a straight-line basis over ten years.
There is no expected selling price at the end of its useful economic life. The
machine has been locked in a warehouse for several months since it has had no
alternative use. However, the company has just been offered an alternative contract,
Project Z, using this machine which will generate a contribution of £4,500. The net
realisable value of the machine is £5,600.
The cost of keeping this machine in perfect working order is £900, payable
immediately but if it is used in the project 8, the maintenance cost will be £1,300.
What is the relevant cost of the project 8?
A £6,900
B £6,000
C £5,800
D £8,100
34
Workings:
Only future incremental cash costs are relevant. The HC is irrelevant; it is a sunk cost.
Depreciation is not a cash cost.
If the company does not proceed with project 8, it would sell the machine since the NRV of
£5,600 exceeds the contribution arising of £4,500. The incremental maintenance cost, at first
sight, appears to be £400 but, in fact, it is £1,300 because if Company 8 sold the machine (the
best alternative to project 8) there would be no further maintenance cost.
So, the relevant cost is the NRV foregone + total future maintenance cost = 5,600 + 1,300
= £6,900.
Question 9
Company 9 makes three products, P, Q and R. Unit costs and revenues relating to
these three products are as follows:
P Q R
£ £ £
Selling price 1,500 2,500 3,300
Direct materials 450 650 1,160
Direct labour 250 150 650
Variable overheads 50 30 130
Fixed overheads 300 400 200
Total costs 1,050 1,230 2,140
Profit per unit 450 1,270 1,160
All three products use labour which costs £50 an hour but suitable labour is in such
short supply that the company cannot fulfil the demand for these three products in
their entirety. In what order should these three products be produced if the
company wishes to maximise its profit?
Best 2nd best 3rd best

A P Q R
B R P Q
C Q R P
D Q P R
Workings:
P Q R
£ £ £
Selling price 1,500 2,500 3,300
Variable costs 750 830 1,940
Contribution per unit 750 1,670 1,360
Number of labour hours per unit 5 3 13
Contribution per labour hour 150 557 105
Ranking 2 1 3
Question 10
Company 10, a local road building contractor, had budgeted indirect costs for 2019
of £1,400,000. Budgeted labour hours for the year were 22,500 costing £360,000 and
budgeted machine hours were 40,000. The company marks-up the total cost of each
job by 30% to determine selling price.
35
The company has just completed a road repair for the local council. The direct costs
and machine hours of this job were as follows:
Materials: £45,000
Labour: 415 hours
Machine hours: 120 hours
What is the total selling price of this job assuming the company allocates overheads
on:
(i) A labour hour basis
(ii) A machine hour basis
(i) Labour hour basis (ii) Machine hour basis

A £100,699 £72,592
B £77,461 £55,840
C £25,821 £4,200
D £92,067 £63,960
Workings:
Overhead absorption rate:
(i) Labour hour basis: Indirect overheads/Number of labour hours = 1,400,000/22,500 = £62.22
per labour hour.
(ii) Machine hour basis: Indirect overheads/Number of machine hours = 1,400,000/40,000 = £35
per machine hour.
Direct costs:
Material: 45,000
Labour: 415 labour hours @ £16/hour 6,640
51,640
Indirect costs: labour hr basis: 415 × 62.22 25,821
Total cost 77,461
Mark-up: 30% 23,238
Direct costs:
Material: 45,000
Labour: 415 labour hours @ £16/hour 6,640
51,640
Indirect costs: machine hr basis: 120 × 35 4,200
Total cost 55,840
Mark-up: 30% 16,752
36
Question 11
Which of the following is NOT a cause of overtrading?
A Just-in-time inventory planning

B A rapid expansion of the scale of a business without raising
additional long-term finance
C Buying substantial inventories at a discounted price
D Offering sales to customers on 1-year interest-free terms
Question 12
Company 12 makes domestic robots.
The budget units to be sold and produced in February were 300. In February, in
fact, 320 units were sold and produced. Budgeted labour was 7,500 hours costing
£225,000.
In fact, 7,900 hours were used costing £189,600.
The labour rate variance and the labour efficiency variance were which of the
following:
labour rate variance labour efficiency variance

A £47,400 unfavourable £3,000 unfavourable
B £47,400 favourable £12,000 unfavourable
C £47,400 favourable £3,000 favourable
D £47,400 unfavourable £12,000 unfavourable
Workings:
Labour rate variance = AH(AR − SR) = 7,900(24 − 30) = £47,400 (favourable).
Labour efficiency variance = SR(AH − SH) = 30(7,900 − (320 × 25)) = 30(7,900 − 8,000) £3,000
(favourable).
Question 13
In 2018, Company 13 sold its only product for £270 per unit. Variable costs per unit
were £146. Fixed costs were £550,000. In 2019, the selling price per unit is expected
to fall by 15%, variable costs per unit are expected to rise by 25%, while fixed costs
are expected to rise by 5%. The budgeted sales for 2018 were 15,000 units and for
2019 are 17,500 units. The margin of safety for 2019 is which of the following:
A 29.8%
B 30.3%
C 42.4%
D 70.4%
Workings:
BEP = Fixed costs/Contribution per unit = 577,500/(229.50 − 182.50) = 12,288 units.
M of S = (budget units − BEP)/budgeted units = (17,500 − 12,288)/17,500 = 29.8%.
37
Question 14
Sensitivity analysis is which of the following:
A The difference between the NPV and the IRR in conditions of

uncertainty
B A means of reconciling the value of inventory using absorption costing
with its value using marginal costing
C A means of assessing which variables will have the greatest impact
upon a management accounting decision
D The degree to which standard costing variances are interdependent
Question 15
Company 15 is considering undertaking a new project. The financial controller has

computed Net Present Value (NPV) of the project at two different discount rates.
The NPV at a discount rate of 12% is £4,700 positive and at a discount rate of 20%,
it is £7,400 negative. You are required to compute the Internal Rate of Return
(IRR) using linear interpolation or extrapolation.
The Internal Rate of Return of this project is which of the following:
A 23.1%
B 16.9%
C 15.1%
D 8.9%
Workings:
rate NPV
Given 12% 4,700
Given 20% (7,400)
Change 8% 12,100
Therefore: 1% 1,513
So IRR = 12% + (4,700/1,513)% = 15.1%.
38
Section B
Answer question 16 and not more than one further question from this section.
Question 16
Armstrong Ltd is a family business which imports and sells soft drinks. The
company’s trial balance at 31 December 2018 before any adjustments have been
made is as follows:
Dr Cr
£ £
Land 200,000
Equipment at cost 540,000
Equipment, accumulated depreciation
at 1 January 2018 162,000
Delivery vans at cost 129,000
Delivery vans, accumulated
Inventory at 1 January 2018 199,560
Trade receivables 275,100
Provision for bad debts at 1 January
2018 15,300
Prepaid rent at 1 January 2018 2,500
Accrued interest at 1 January 2018 1,700
Bank balance 11,400
Trade payables 146,390
10% debenture loan repayable in 2030 105,000
Ordinary share capital of 900,000
shares of 50p each 450,000
Retained profits at 1 January 2018 52,350
Sales revenue 2,826,175
Purchases 2,013,900
Wages and salaries 98,400
Rent 85,500
Interim dividend paid 39,480
Distribution costs 229,500
Interest paid 7,875
Suspense account 15,500
Total 3,836,315 3,836,315
The following additional information is available:
i. The figure for prepayments at 1 January 2018 in the trial balance is in respect
of two months’ rent paid in advance. On 1 November 2018, the company paid
rent on one of its premises of £28,500 for six months, in advance.
ii. Provision for any unpaid interest is to be made. The directors propose to pay a
dividend of £15,000 on 3 March 2019.
iii. In December 2018, the company sold a delivery van for £1,500. This sum was
received in cash and used to pay a bonus to the company’s security officer who
retired on the last day of the year. The van which was sold had been purchased
in 2016 for £24,000. Neither the sale nor the proceeds of sale have been
accounted for in the accounting records of the company.
iv. Depreciation is to be provided on the non-current assets using the following
annual rates:
Land nil
Equipment 10% per year on a straight line basis
Delivery vans 20% per year on a reducing balance basis
39
A full year’s depreciation is provided in the year of acquisition and no

depreciation is provided in the year of disposal.
v. The inventory was counted on 31 December 2018 and valued, at cost, at

£219,000. Included in this were some crates of soft drinks which cost £6,000,
which were damaged and it is believed these goods could be sold for £1,500.
vi. A customer owing £9,600 has recently been declared bankrupt. The company
does not expect to recover any of this. A provision for bad debts of 3% of
remaining trade receivables is to be provided.
vii. Corporation tax for the year ended 31 December 2018 is estimated to be
£62,000 and is to be paid on 1 October 2019.
viii. The company’s bookkeeper is new to the job and is not sure how to deal with
the following items:
(i) A one-off payment of £10,000 was received on 30 June 2018 as consideration

for the company agreeing to carry an advertisement for a leading brand of
soft drinks on two of its delivery vans for the year ended 30 June 2019. All
the cost of respraying the vans was borne by the advertiser.
(ii) The company’s corporation tax liability for the year ended 31 December 2017
had been estimated as £65,800. However, the UK tax authority (known as
HMRC) disputed this figure and the final liability was agreed and paid by
the Company on 1 October 2018 as £91,300.
She has therefore credited and debited respectively the balances relating to
these two items (i) and (ii) to a suspense account in the trial balance.
Required:
(a) Prepare an income statement for Armstrong Ltd for the year ended 31
December 2018, a statement of financial position at 31 December 2018 and
statement of changes in equity for the year ended 31 December 2018 in a form
suitable for presentation to the directors.
(26 marks)
(b) Answer to the following email you have recently received from the company’s
sales director:
‘Why is the land valued at £200,000 when it is evident it must be worth
£600,000 at the very least. Why don’t we include this land at its market value
and this would increase our profit by £400,000?’
(4 marks)
(Total 30 marks)
For part (a), you need to be able to correctly head up the Income Statement and the Statement
of Financial Position and the Statement of Movements of Equity. This question has many of the
usual adjustments one has seen in past examples and can be found in the subject guide Chapters
5–8, especially Chapter 8, and in Leiwy & Perks Chapter 10.
For part (b), this argument relates to the application of the accruals and the prudence concepts
and is discussed in the subject guide Chapter 3 and Leiwy & Perks pp. 58–65.
40
It is vital that candidates know what debits and credits represent. This is essential in this
question because there is a suspense account which must be closed to a zero balance. Every
adjustment affects two figures. Many candidates still cannot handle:
• sales of non-current assets

• the difference between provisions for bad debts (Statement of Financial Position) and the
change in the provision for bad debts (Income Statement).
Note that the disposal of the non-current asset was particularly badly answered. The cost and
accumulated depreciation of the item sold must be removed from those two balances appearing in
the trial balance. Then we can compute the depreciation on the vehicle on the reducing balance
basis. By comparing the net book value of the item sold with the disposal proceeds, we can
establish the profit or loss on its sale.
Over- or under-provisions for the previous year’s corporation tax had to be determined. The fact
is, such adjustments appear year after year in the examination and candidates need to practise
such questions.
Dividends on ordinary shares are accounted for when paid so any proposed dividend only appears
as a ‘note to the accounts’ but not in the two statements themselves. Dividends paid are shown
as deductions from retained profits in the statement of movements in equity, not as an expense.
(a) We have:
41
42
(b) This argument relates to the application of the prudence concept. A revaluation on property
is not a realised profit so it cannot be credited to the Income Statement. The double entry
here is:
Dr: property.
Cr: Revaluation reserve in the Statement of Movements in Equity with the increase in the
net book value.
Based upon the prudence concept, do not take a profit until it is realised. The revaluation
surplus would be credited to a non-distributable revaluation reserve. It can only be valued
in the Statement of Financial Position if it has been independently and expertly valued.
43
Question 17
The statements of financial position of Graham Limited as at 31 December 2018 and

2017 and a summary of the income statement for the year ended 31 December 2018
appear below:
Statements of financial position at 31 December

2018 2017
£000 £000
Non-current assets
Land 170 140
Plant and machinery 111 121
281 261
Current Assets
Inventory 197 220
Trade receivables 1,318 714
Cash at bank – 23
1,515 957
Liabilities and equity

Non-current liabilities
15% redeemable preference shares 60 50
10% convertible debenture stock 80 100
140 150
Current liabilities
Interest accrued – 7
Tax 26 17
Bank overdraft 200 3
939 532
Total liabilities
1,079 682
Equity
Ordinary share capital 400 300
Share premium 50 –
Revaluation reserve 85 80
Retained earnings 182 156
Total equity 717 536
Summary Income Statement for the Year Ended 31 December 2018
£000
Operating profit 174
Loss on sale of plant and machinery (5)
Preference share dividend (9)
Interest expense (8)
Profit before tax 152
Tax (22)
Profit after tax 130
You are given the following information:
(i) The company’s depreciation policy is not to depreciate the land but to
depreciate the plant and machinery.
(ii) During the year items of plant machinery were sold for £3,000. These machines
had a net book value of £8,000.
44
(iii) Plant and machinery was acquired during the year at a cost of £14,000.
(iv) The new preference shares were issued on 1 October 2018 at par.
(v) Some of the 10% convertible debenture stock in the 2017 figures was redeemed,
at par, on 1 January 2018.
(vi) A dividend on the ordinary shares was paid during the year.
Required:
(a) Prepare a cash flow statement, together with the reconciliation statements of
operating profit and cash balance, for Graham Limited for the year ended 31
December 2018.
(16 marks)
(b) Critically evaluate this company’s cash flow statement.
(4 marks)
(Total: 20 marks)
(a) A typical cash-flow statement (CFS) question. It is important to know what appears in the
CFS and where it appears. Most of the figures are very straightforward. The difficult figures
involve four computations. These are as follows.
Interest paid, which is the current liability at the beginning of the year, plus the interest
expense less the sum still payable. The tax paid in the year is calculated in exactly the same
way. Sum paid to acquire non-current assets, both land and buildings and plant and
machinery are computed on the basis that the opening balance, less the net book value of
any asset sold in the year, less any depreciation expense plus any revaluation in the year
plus sums paid to acquire non-current assets will equal the closing balance. The sum raised
from the issue of shares is calculated on the basis of the movement in the share capital and
the share premium. A particular complication in this question relates to the dividend paid.
Usually, in CFS questions, the dividend paid in the year is given.
Opening retained profits + profit for the year − dividends paid = closing retained profits.
We have:
45
(b) There is more than one acceptable way to interpret a CFS and to advise managmeent
accordingly. However, your advice must depend upon the figures in your answer to (a).
46
Question 18
The Chief Executive Officer of Sammels plc, a large, diversified multinational

company, has asked you to examine the accounts of two other companies, Neill
Limited and Simpson Limited. These two companies have been identified by the
chief accountant of Sammels plc as promising takeover targets.
Neill Ltd Simpson

Ltd
Income statements for the year
ended 31 December 2018 £000 £000
Sales revenue 5,680 2,811
Cost of goods sold 3,975 2,112
Gross profit 1,705 699
Operating expenses 711 398
Operating profit 994 301
Interest expense 201 14
Profit before tax 793 287
Taxation 246 101
Profit after tax 547 186
£000 £000
Statements of financial position at 31
December 2018
Non-current assets 3,495 1,123
Current assets
Inventory 1,410 360
Trade receivables 676 414
Cash at bank 955 711
3,041 1,485
Current liabilities
Taxation 345 148
Overdrafts and short-term loans 1,711 319
2,768 1,021
Non-current liabilities: long-term
Loans 629 250
Equity
Share capital (£1 shares) 1,265 760
Share premium 1,020 –
Revaluation reserve – 400
Retained profits 854 177
Total equity 3,139 1,337
Other information which has been provided:

Neill Simpson
Ltd Ltd
£000 £000
(i) Operating expenses include depreciation 191 97
(ii) Expenditure on non-current assets in 786 93
2018
47
(iii) The market value of shares in these two companies at 31 December 2018 was as
follows:
Neill Ltd £5.24
Simpson Ltd £1.25
(iv) The long-terms loans of these companies are secured.
(v) The debenture loans are repayable as follows:
Neill Ltd in 2030
Simpson Ltd in 2037
Required:
(a) Compute the following ratios for these two companies to 1 decimal place, where
appropriate using in each case, the appropriate notation:
Gross profit percentage
Operating profit percentage
Inventory period
Current ratio
Trade receivables period
Earnings per share
PE ratio
Gearing
(10 marks)
(b) Prepare notes for the board meeting at which these two companies will be
considered. Your notes should provide a comparison of the ratios you have
computed and any other factors you think should be brought to the attention of
the board using the information which has been provided, above.
(10 marks)
(Total: 20 marks)
(a) Usually, one question in Section B is a ratio analysis question asking for the calculation of,
say, eight ratios and then interpretation of the results by comparing two companies.
It is important in such a question to use the correct notation when writing each ratio. Is it a
percentage – for example, return on capital employed of 18.5%, a number of days – for
example, inventory period of 35 days or simply a number – for example, current ratio of 1.6.
Many candidaates present the profitability ratios as a decimal, not as a %.
Every candidate must learn the 16 or so ratios listed in the subject guide and Leiwy & Perks.
48
We have:
(b) When writing a report on the ratios, as in part (b) of this question, write something about
every ratio or perhaps two or three comments about each group of ratios (such as liquidity).
It is not enough to say the ratio is higher or lower than the previous year or the industrial
average or another company. You must say whether it is better or worse or impossible to
say and give possible reasons for significant differences in these comparisons.
49
Section C
Answer ONE question from this section and ONE further question from either Section B or Section
C.
Question 19
Kennedy Limited manufactures casings for toy drones. The standard cost of this
product is as follows:
£
Material X 8kg at £4/kg 32.00
Material Y 4kg at £7/kg 28.00
Labour 3 hours at £17/hour 51.00
Variable overheads 3 hours at £13/hour 39.00
Fixed overheads 12.50
Total Cost 162.50
Variable overheads are absorbed on a labour hour basis. The standard selling price
is £199 and budgeted production and sales for April 2019 was 120,000 units. In this
month, actual sales and production were 124,500 units and sales revenue totalled
£23,779,500.
Actual costs in the month were as follows:

£
Material X 809,250 kg 3,358,388
Material Y 529,125 kg 3,677,419
Labour 423,300 hours 6,561,150
Variable overheads 5,756,880
Fixed overheads 1,560,000
Total Costs 20,913,837
Required:
(a) Produce a performance report reconciling the actual profit to the budgeted
profit for the year, using the contribution approach showing both
efficiency/usage and price/rate variances.
(14 marks)
(b) Write a brief report for the directors of the company to explain possible causes
for each variance and drawing attention to any possible interdependence
between any of these variances.
(6 marks)
(Total 20 marks)
Subject guide, Chapter 17, and Leiwy & Perks, Chapter 18.
(a) This question involves the production of a performance report reconciling the actual profit
with the budgeted profit showing eight specified variances and using the contribution
approach.
As is common, candidates often get the price variances correct but get the efficiency/usage
variances incorrect. This is because they do not flex the budget and consider the standard
quantity of kg of material or hours of labour for the actual level of output (124,500 units, in
this instance).
50
We have:
(b) As usual, there were very few attempts to answer a question needing a written answer and
those that did attempt this question wrote very little and mostly that each variance was
favourable or adverse and for which few marks were awarded. A possible reason for each
variance and how these variances could arise and how they could be interconnected. For
example, a favourable labour rate variable might arise because the quality of their work is
poor or cheap materials could result in an adverse labour rate variance.
51
Question 20
Radford Chemicals is preparing a cash budget for June and July 2019. At the end
of July 2019, the company has undertaken to repay a £100,000 loan to their bank
which had been borrowed in February 2019 to enable the business to survive during
the seasonal peak in the second quarter of the calendar year, April to June. The
bank balance at 1 June 2019 is expected to be £17,500.
Budgeted sales revenues are as follows:
April 2019 £360,000

May 2019 £500,000
June 2019 £600,000
July 2019 £300,000
August 2019 £240,000
Additional information:
(i) 70% of sales revenue is expected in the month of sales, subject to a 2% prompt
payment discount. 20% of sales revenue is expected in the month following
sales. 7% of sales revenue is expected to be received two months after sale and
the remainder of sales revenue is expected to be uncollectable.
(ii) The average selling price per unit is £100 and the average cost price is £75.
50% of the purchase price of goods is expected to be paid in the month of
purchase and 50% in the following month.
(iii) Target closing inventory is equal to the cost of goods sold in the following
month plus 25%.
(iv) Budgeted annual overheads are £800,000 which includes £300,000 of fixed costs
of which £60,000 is depreciation. The remainder of the overheads are variable
costs which vary with sales revenue and are paid in the month in which they
occurred. The budgeted sales revenue for the 2019 is £3 million.
(v) A dividend of £40,000 will be paid and non-current assets costing £50,000 will
be purchased and paid for in June while corporation tax of £75,000 will be paid
in July.
Required:
(a) Produce a cash budget for each of the months June and July 2019, in columnar
form.
(15 marks)
(b) Present a brief report to the directors of Radford Chemicals, advising them on
steps which could be taken to improve the cash position of the business and how
they could seek to avoid a cash crisis when the next seasonal peak arises in
April to June 2020.
(5 marks)
(Total: 20 marks)
Subject guide, Sections 16.3–16.5, and Leiwy & Perks, Section 15.4.
(a) A straightforward question but in answering such questions, the format and connection
between workings and the solution is vital. It must be set out in columnar form. Very often,
as is the case, the main difficulty is computing purchase of inventory. Remember, in terms of
52
units, opening inventory + purchases − units sold = closing inventory. Rearranged as

purchases = closing inventory − opening inventory + units sold. The same argument relates
to the units produced.
We have:
(b) When a cash-flow crisis is foreseen, then some steps need to be identified which will mitigate
the problem while still being able to manage any possible company expansion, if that is
possible and which will also not lead to the loss of control of the business by the present
owners. Such steps should be commercially sensible.
53
Question 21
The professional football club, Highbury Academicals, is considering acquiring a

highly successful German international footballer. The transfer fee will be £42m,
half of which is payable immediately and the other half payable in one year’s time.
His annual salary during his 4-year contract will be £15.5 million. At the end of his
contract, the player will have no resale value to the club. The club’s sponsor has
agreed to increase the annual sponsorship fee from £4m to £16m, payable in
advance. Annual income from gate money is expected to rise by £6m in year 1 and
increase by 10% each year, thereafter. Merchandising income, from the sale of club
shirts emblazoned with the player’s name is expected to be £1m in year 1, rising by
5% each year. The player has a poor injury record and the club will pay an initial
insurance premium of 10% of the transfer fee, payable in advance to protect the
club against the risk of his contract coming to an early end as a result of this
problem. As a consequence of this transfer, the club will be able to loan two other
players to an inferior team, elsewhere in north London, thereby making annual
salary savings of £9 million.
Assume that all transactions are in cash and arise at the end of the year concerned
except where indicated above. The company’s cost of capital is 12%.
Required:
(a) Calculate the Net Present Value (NPV) of this acquisition.

(8 marks)
(b) Calculate the Accounting Rate of Return (ARR) using the average investment
method and assuming the company uses the straight line basis of depreciation .
(4 marks)
(c) Advise the company’s directors whether or not they should proceed with this
acquisition, giving the reasons for your recommendation.
(2 marks)
(d) What other facts should be taken into consideration in a decision of this nature?
(2 marks)
(e) The company’s financial advisor has suggested that instead of buying the player
outright and in the two instalments referred to above, that instead, the player is
acquired by the payment of 4 equal annual payments. At what annual cost
payment would the club be indifferent between the original payment of £42
million in two instalments and:
(i) four equal annual instalments, payable annually, the first instalment to be
paid in one year?
(2 marks)
(ii) four equal annual instalments, payable annually, the first instalment being
paid immediately?
(2 marks)
(Total: 20 marks)
These issues are explained very clearly in Leiwy & Perks Chapter 14 and in the subject guide
Chapters 18 and 19.
54
(a) This is a straightforward NPV question involving ‘relevant costing’ issues. NPV
computations must be arranged in columnar form.
We have:
(b) & (c) As usual, solutions to this question on ‘other factors to be taken into consideration’ are
usually not given. In this question, one must recognise that multi-millionaires owning
football clubs might not consider the maximisation of their wealth to be their main
investment criteria. We have:
(d) Those who run professional football teams are not necessarily primarily interested in
maximising shareholder wealth. Often it is personal and reflected glory. Moreover, football
is a team game and it is difficult to foresee the positive and negative effects on the other
team members, the supporters, and other stakeholders.
(e) The present value of the existing arrangement is 21 + 21 × 0.893 = £39.75 million.
(i) Let x be the annual annuity sum, then:
x × 3.037 = 39.75 ⇒ x = £13.09 million.
(ii) Let x be the annual annuity sum, then:
x + 2.402x = 39.75
i.e. 3.402x = 39.75, hence x =£11.68 million.
55

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Examiners’ commentaries 2019

Examiners’ commentaries 2019

Information about the subject guide and the Essential reading

What the examiners are looking for

Section B consists of questions on financial accounting. Question 16 is compulsory and is worth 30

Examination revision strategy

Examiners’ commentaries 2019

Information about the subject guide and the Essential reading

Comments on specific questions – Zone A

Candidates should answer ALL questions from this section.

Correct answers are shown in bold.

Consider these four statements:

A All of the statements are correct

Cash book: +£56 − £360 − £460 = −£764.

Balance per bank statement = x.

+ uncleared receipts: +£9,215

− uncleared payment: −£19,401

= Corrected cash book balance = −£764.

So, x = −£764 − £9,215 + £19,401 = +£9,422.

The selling price of the inventory of Company 3, a wholesaler of exotic fruit, at 30

Cost = 55% × £89,000.

Date Buy/sell Units Price

LIFO Units Price/unit Inventory COGS

Which of the following accounting entries is needed to correct this?

Sales (receivables) Payables Bank

The correct entry should have been:

Dr: Sales (receivables) account £1,500.

Cr: Payables (suppliers) control account £1,500.

Which of the following accounting entries is needed to correct this?

Vehicles: Vehicles: Depreciation Vehicle:

Dr: vehicles: cost £2,000.

Cr: Vehicle disposal account: £2,000.

Dr: depreciation expense £500.

Cr: accumulated depreciation £500.

A Higher EPS: Company 7a Higher growth prospects:

Company 7a Company 7a Company 7b Company 7b

Profit after tax 4.2m 27.2m

Market value 570 650

Company 7b has the higher EPS.

What is the relevant cost of the project 8?

Best 2nd best 3rd best

(i) Labour hour basis (ii) Machine hour basis

Overhead absorption rate:

(ii) Machine hour basis: Indirect overheads/Number of machine hours = 600,000/14,000 =

Which of the following is NOT a cause of overtrading?

A Just-in-time inventory planning

Company 12 makes domestic robots.

Budgeted and actual unit costs and revenues were as follows:

Sales price variance Sales volume contribution variance

Sales price variance = AVol(ASP − SSP) = 425(127 − 130) = £1,275 (unfavourable).

Number of units to make a required profit = Fixed costs + required profit/Contribution/unit.

Fixed costs 2019 = £566,500.

Reqd profit 2019 = £1,000,000.

Selling price/unit 2019 = £523.25.

VC/unit 2019 = £216.00.

So, contn/unit = £307.25.

So, number of units to make a £1 million profit = 1,566,500/307.25 = 5,099 units.

Sensitivity analysis is which of the following:

The Internal Rate of Return of this project is which of the following: