Finance Homework: Depreciation, Budgeting, Variance Analysis

This finance assignment solution addresses several key concepts in financial management. Question 1 focuses on depreciation calculations for a fleet of executive coaches, including the determination of annual depreciation expense, total investment, and net cash inflow, leading to the calculation of accounting rate of return, payback period, net present value (NPV), and internal rate of return (IRR). Question 2 delves into budgeting, specifically sales mix analysis, unit contribution margin calculations for different car models (Punto, Polo, BMW), and the determination of break-even sales, considering labor hour constraints and other factors like customer preferences. Question 3 examines pricing strategies and break-even analysis for various products, including the calculation of total revenue, variable costs, gross margins, and break-even units. Question 4 explores the roles and responsibilities of a budget committee, differentiating between incremental and zero-based budgeting, and explaining budgetary slack. Finally, Question 5 discusses variance analysis as a critical control mechanism, emphasizing its importance in standard costing systems, and provides a material price variance calculation.

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Question 1
Annual Depreciation Expenses
Fleet of executive coaches = (250-70)/5 = £ 36 million
Logical operational premises = (10/100)*20 = £ 2 million
Event requirement = (5/5) = £ 1 million
Hence, total annual depreciation expense = 36 + 2 + 1= £ 39 million
Also , total investment = 250 + 20 + 5 = £ 275 million
1) Net cash inflow every year is computed below.
Average annual profit = (61+56+11+21-14)/5 = £ 27million
Total initial investment = £ 275 million
Hence, accounting rate of return = (27/275)*100 = 9.82% p.a.
2) The project cash flows are indicated below.
Initial investment = £ 275 million
Cash inflows during the first three years = 88.41 + 84.36 + 47.91 = £ 220.68 million

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Amount of fourth year required to recover investment = (275-220.68)/56.01 = 0.97
Hence, payback period = 3+ 0.97 = 3.97 years
3) The NPV can be computed in the manner indicated below using 12% as the cost of capital.
NPV for the project comes out as = £ 3.70 million
4) The IRR computation is shown below.
The discount rate for zero NPV is IRR which comes out as 11.44% pa.

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5) The project would be rejected considering a negative NPV, IRR less than 12, ARR less than
desired. The payback period condition being fulfilled does not matter as it is an inferior
performance metric in comparison with NPV and IRR.
Question 2
1) The budgeted sales mix is 250 Punto cars, 500 Polo cars and 600 BMW cars.
Hence, the ratio of Punto:Polo: BMW = 250:500:600 or 5:10:12
Unit contribution margin (Punto) = 190- (63+24) = £103
Unit contribution margin (Polo) = 245-(76+48) = £121
Unit contribution margin (BMW) = 320 – (88+72) = £160
Hence, average contribution margin = (5/27)*103 + (10/27)*121 + (12/27)*160 = £135
Fixed overheads = £ 129,600
Let the total sales required be X
Hence, 135*X = 129600
Solving the above X= 960 cars
Punto = (5/27)*960 = 178 cars
Polo = (10/27)*960 = 356 cars
BMW = (12/27)*960 = 427 cars
2) The constraint is in the form of labour hours which is capped at 2750 per week
In order to maximise the profits, the car model with maximum contribution margins should be
made available first. The decreasing contribution margin of the cars is as follows.
BMW> POLO> Punta
Hence, the priority must be given in decreasing order to the above cars with highest being given
to BMW and lowest being given to Punta.
3) Other factors are outlined below.
 Customer preferences
 Customer budgetary constraint
 Change in demand due to economic factors
 Risk of accidents for particular models

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Question 3
Selling price for programmes = 6*1.75 = £ 10.5
Selling price for ties = 8*2.2 = £ 17.6
Selling price for scarves = 5*1.6 = £ 8
Selling price for T-shirts = 8*1.8 = £ 14.4
Selling price for Cds = 3.5*1.7 = £ 5.95
1) Let the sales price per ticket be X
Total revenue = 4000X
Total variable costs = $ 36000
Gross margins = 0.4*(4000X) = 1600X
Hence, 4000X – 36000 = 1600X
Solving the above X = £ 15
Hence, the total sales turnover = 15*4000 = £ 60,000
Let the breakeven unit sale of tickets be Y
Hence, (0.4*15) Y = 54000 (Breakeven Condition)
Solving the above, Y = 9,000 units
Thus, for breaking even 9000 tickets would have to be sold.
2) Variable Cost (2015) = (36000/4000)*1.05 = £ 9.45
Gross margins required = 40%
Let the sale price of one ticket be £ Z
Hence, Z – 9.45 = 0.4Z
Solving the above, Z = £ 15.75
3) Target return = 40%

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Hence, the price also should be given a mark of 40% over the total costs.
9.45*1.4 = £ 15.75
Clearly, this is within the prescribed increase of 6% which amounts to £ 15.9.
4) It is given that without impacting the sales, the price could be increased by 6% and hence it is
advisable to fix the price at £ 15.9 so as to maximise the returns.
Question 4
1) Budget committee has the overall responsibility of preparation and implementation of the
budget. Hence, it ensures that the financial situation of the company remains healthy. The
various roles are briefly mentioned below.
 It decides the objectives along with general policies of company
 It provides historical data to manager which is useful for forecasting.
 It reviews the budget estimates which are submitted by various departments.
 Revised budgets are approved by the committee
 Provide suggestions for efficiency improvement and to achieve goals outlined in the
budget.
 It also leads the coordination of the program for budgetary control.
2) An incremental budget refers to the budget which is essentially based on the previous year
budget. This is because the previous year budgets serves as the base on which this year estimates
are based by tweaking the previous year numbers taking into consideration the priorities and
objectives of the budget. Hence, in such budgets there are no major changes as the budgetary
requirement for the existing projects is normally extended by default.
3) A zero budget refers to the budget which is not based on the previous year budget and each
request for budget is critically analysed. It is typically a more exhaustive form of budget where
there does not exist any initial reference point and budgetary requests are based on the
underlying alignment with the budget objectives rather than past considerations. This typically
tends to bring about radical changes and if implemented property may lead to higher efficiency.
However, it tends to be complex and extremely time consuming.
4) Budgetary slack refers to the practice of revenue underestimation and expenses overestimation
so that the managers can achieve their targets with ease and hence maximise their performance
based compensation and promotions. It tends to have an adverse effect on cash budgeting and
profit planning. This is because in cash budgeting owing to budgetary slack, the estimated cash
required would be higher than it would be in actuality. Similarly, profit planning also leads to very
conservative numbers which may adverse impact project planning.

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Question 5
1) Variance analysis can serve as a critical control mechanism. This is by ensuring that there is a
standard costing and the same is compared with actual costing. By comparing the two, the
variances are obtained and then the precise reasons for these variances can be analysed. If there
is a favourable variance, then going forward the standard costing would consider the same. If
there is a negative variance, rectifying action would need to be undertaken so as to ensure that
negative variances are minimised. High positive variance may indicate budgetary slack and hence
provides protection against the same.
2) In a standard costing system, both flexible budgeting and variance analysis are imperative. This is
because flexible budgeting ensures that differences in quantity are considered separately from
the per unit cost estimates. The flexible budgeting ensures that the cost estimates are revised in
accordance to the change in production or client served. Hence, in such a case, the variance
analysis would essentially focus on the various variations which are not related to quantity but
rather the process and manpower efficiency.
3) The formula for material price variance is indicated below.
Material Price Variance = (Standard Unit Price – Actual Unit price )* Actual Quantity
-700 = (Standard unit price – (2800/35)) *35
Solving the above, standard unit price = £ 60
Standard material price = 60*35 = £ 2100