ACCT Exam 4
What is the present value of a contract to receive $6,000 each year for the next five years? Interest rate is 4%.
26,712 = 6,000 x 4.452
The Georgia Theater is considering the acquisition of a machine that costs $480,000. The machine is expected to have a useful life of 12 years, a $30,000 residual value, annual cash flows of $60,000, and annual operating income of $48,000.
8 years = $480k / 60k
Sales Budget Formula
# of units * Unit Selling Price = Sales Revenue
Sanford Stadium is considering acquiring one of two machines. Machine A has an average rate of return of 20%. Machine B has an average rate of return of 35%.Based solely on the average rates of return, which machine should the company purchase?
Machine B
continuous budgeting
Maintains a 12-month projection into the future - Budget is continually revised by replacing the data for the month just ended with the budget data for the same month in the next year
Direct Materials Purchase formula
Materials to be purchased * Price per lb of material = Budget cost of materials purchased
Average rate of return
Measures the average income as a percent of the average investment - We want a high rate of return, high estimate annual income, and we want the average investment to be low - If given total income → total income/yr in useful life
Net PV formula
Net PV= PV Cash Inflows - Paid Today
Overhead cost
Overhead cost = factory depreciation expense and indirect materials
present and future value formula
PV = FV x Factor in Table FV= PV/Factor in Table
Net Present Value Method:
compares the amount to be invested with the present value of the net cash inflows - If the present value of the cash inflows equals or exceeds the amount to be invested, the proposal is desirable - We want Net PV to be as high as possible
Which of the following describes a budget that is prepared by continuously replacing the data for the month just ended with the budget data for the same month in the next year
continuous budget
The budget that estimates the quantities of direct materials to be purchased to support budgeted production and desired inventory level is the:
direct materials budget
Which of the following budgets will be prepared using the production budget?
direct materials purchases
production budget
estimates the number of units to be manufactured to meet budgeted sales and desired inventory levels
cash payback method
expected period of time between the date of an investment and the recovery in cash of the amount invested
When several alternative investment proposals of the same amount are being considered, the one with the highest positive net present value is the _____ desirable.
most
Which of the following is a component of the master budget?
production , sales, and capital expenditures budget
The first budget customarily prepared as part of an entity's master budget is the:
sales budget
Selling & Administrating Expenses Budget
sales commissions = total selling and admin expenses
Methods Not Using Present Values:
these methods do not consider the time value of money - average rate of return and cash payback
standard cost
compares a company's actual performance against the budget **Standard cost per unit = Standard price x Standard quantity**
A $50,000 capital investment proposal has an estimated life of three years and no residual value. The estimated net cash flows are below. The minimum desired rate of return for net present value analysis is 10%.
(15,000 x 0.909) + (25,000 x 0.826) + (30,000 x 0.751) = $13,635 + 20,650 + 22,530 = $56,815 $56,815 - $50,000 = $6,815
COGS
(direct materials + direct labor + overhead) * sales budget
Net PV Advantages
- Considers the cash flows of the investment - Considers the time value of money
Average Rate of Return advantages
- Easy to compute - Includes the entire amount of income earned over the life of the proposal (in comparison to cash payment) - Emphasizes accounting income (versus cash basis)
budgeting objectives
- Establishing specific goals - Executing plans to achieve those goals, - Periodically comparing actual results with the goals
Net PV Disadvantages
- Has more complex computations than methods that don't use present value - Assumes the cash flows can be reinvested at the minimum desired rate of return, which may not be valid
Criticisms of standards
- Limit operating improvements beyond the standard - May result in stale standards - Cause employees to unduly focus on their own operations to the possible harm of other operations that rely on them
Standards should be:
- Periodically reviewed to ensure that they reflect current operating conditions - Revised when prices, product designs, labor rates, or manufacturing methods change
Manufacturing Cost Variances: Direct labor
- Unfavorable rate variance may be caused by the improper scheduling and use of employees - Unfavorable time variance may be caused by a shortage of skilled employees
Why Methods Not Using Present Values are useful
- Useful in evaluating capital investment proposals with relatively short useful lives - Often used to screen proposals since they are easy to apply - Proposal that does not meet minimum standards is dropped - If a proposal meets minimum standards, it may be subject to further analysis using the present value methods
Capital Investment Analysis:
- process by which management plans, evaluates, and controls investments - use funds and affect operations for many years
Annuity
1. Multiple payments 2. Same amount is paid each time 3. Time between each payment is the same
Creature Comforts is considering the purchase of a new machine costing $200,000. Each year, for five years, the machine will generate estimated income from operations of $100,000 and net cash inflows of $75,000. At the end of five years, the machine will have no residual value. The company's desired rate of return is 8% (the rate that should be considered when using the present value tables). What is the net present value of this investment?
99,475 = (75k*3.993) - 200k
If the present value of $150,000 to be received ten years from now is equal to $103,000, which of the following statements would be false?
A promise to receive 103k per year for ten years has a present value of 150k
Standard cost systems:
Accounting systems that use standards for product costs Enable management to determine: - How much a product should cost (standard cost) - How much it does cost (actual cost)
Budgets for the month show a sales budget of 1,000 units and a production budget of 3,000 units. Each unit requires 4 yards of materials. The company currently has 2,000 yards of materials. The company would like to have 6,000 yards of materials at the end of the month. Each yard of material cost $10. What should the company budget for materials purchases?
Answer: $160,000 3,000 u * 4 yd = 12,000 2k + X - 12k = 6k X = 16k 16k * $10 = 160k
Budgets for the month of July show the following: Sales budget: 7,500 units Production budget: 10,000 units Each unit requires 3 direct labors hours to be produced. The labor rate per hour is $25. The total budgeted direct labor cost for production will be:
Answer: $750,000 10,000 u x 3hr = 30,000 x 25 = 750k
The expected sales volume for the current period is 7,800 units, the desired ending inventory is 500 units, and the beginning inventory is 250 units. According to the production budget, how many units will be produced in the current period?
Answer: 8050 250 + X - 7,800 = 500 X = 8050
average rate of return formula
Average Rate of Return = Estimated average annual income / Average Investment = % Average Investment = Initial cost + Residual Value / 2
Which of the following is a method of analyzing capital investment proposals which considers accounting income (as opposed to cash flows)?
Average rate of return
What is the expected average rate of return for a proposed investment of $2,000,000 in a fixed asset with a useful life of 5 years, no residual value, and an expected total income of $2,000,000?
Avg Annual Income = $2,000,000 total income / 5 years = $400,000 Avg Investment = $2,000,000 cost / 2 = $1,000,000 Avg RoR = $400,000 / $1,000,000 = 40%
Practice Q for Rate of Return: Cost of new machine = 500k Residual value = 0 Estimated total income for machine = 200k Expected useful life = 4 years
Avg annual income = 200k / 4 years = $50k Avg investment = 500k - 0 / 2 = 250k Avg rate of return = 50k / 250k = 20%
Product Budget formula
Beg. Inventory + X - Units Sold = Ending Inventory (X = units to be produced)
Cash Payback Formula
Cash payback period = initial cost / annual net cash inflow
Average rate of return disadvantages
Does not directly consider the expected cash flows from the proposal or the timing of the cash flows
standard cost example
Eg) Each guitar is expected to be made of 10 sq. ft. of wood. Each sq. ft. of wood is expected to cost $10 each. This is a total cost of $100 (10 sq ft x $10/sq ft). If the guitar ends up costing $150 of wood, we can then investigate if we went over budget due to using more wood for each guitar than we expected or the wood costing more than we expected.
Cash Receipts from Customers Budget
Estimate the amount of cash the company will receive from customers for sales made during this period and previous periods
Factory Overhead Budget formula
Factory Depreciation expense + Indirect Materials purchase = total overhead
What is the total cash collected in the month of February? Jan 1st Acc Rec = 100k Sales for Jan, Feb, March: 250,000, 100k, 300k 40% = cash, 60% credit → 20% this month and 80% collected in the following month
Feb sales = 100k 40% (cash) x 100k = 40k 60% (on acc) x 100k = 60k x 20% = 12,000 (Feb) 60% x 250k = 150k x 80% = 120k Collections = 12 + 40 + 120 = 174k
Ideal standards and currently attainable
Ideal Standards: Those that can be achieved only under perfect operating conditions Currently attainable: Standards that can be attained with reasonable effort
Which piece of information is used to calculate the Cash Payback Period?
Initial cost of investment and the annual net cash inflows
Period cost
Period cost = sales commissions
Methods Using Present Values:
Present value methods use the amount and timing of the net cash flows in evaluating an investment
The budget process involves all of the following except:
Promoting managers who achieve operational goals specified in the budget
budget income statement
SALES REVENUE - COGS --------------- GROSS PROFIT - OPERATING EXPENSES --------------------- OPERATING INCOME - INTEREST EXPENSE ---------------------- NET INCOME
cost variances
The differences between actual and standard costs - A favorable cost variance occurs when the actual cost is less than the standard cost. - An unfavorable cost variance occurs when the actual cost exceeds the standard cost
Manufacturing Cost Variances: Direct materials
Unfavorable quantity variance might be caused by: - Equipment that has not been properly maintained - Low-quality direct materials
direct labor budget formula
Units of inventory to be produced * Hours per unit = Hours used in production * Cost per hour = Cost of labor used in production
Direct Materials Purchases Budget formula
Units to be produced * Materials per unit = Materials used in production --> Beg. Materials Inventory + Materials purchased (X) - Materials used in production = Ending materials
Net PV example
a company is considering the purchase of a new machine costing 1 million. Each year, for 5 years, the machine will have estimated income from operations of $100,000 and net cash inflows of $250,000. At the end of 5 years the machine will have no residual value. The company's desired rate of return is 6%. What is the net present value? $250,000 x 4.212 (found in table) = 1,053,000 - 1,000,000 = $53,000
Present Value of an Annuity:
amount of cash needed today to yield a series of equal net cash flows at fixed time intervals in the future - Annuity: Series of equal net cash flows at fixed time intervals PV = Payment x Factor
flexible budgets
are DYNAMIC and provide budgeted amounts for a variety of sales or production quantities Ex) Here's what are budgeted costs would be if we sell 1,000 units and also here's what are budgeted costs would be if we sell 2,000 units
static budgets
are SET based on a certain quantity of sales or production Ex) All budgets are based on if the company sells 1,000 units of inventory
sales budget
begins by estimating the quantity of sales & sales price (always given)
Loosely set budget goals can lead to
budgetary slack
The Cost of Goods Sold budget is going to pull information from all of the following budgets, except:
cash budget