2026 Cambridge IAL Accounting (9706) Practice Paper with Answers

1. Draft profit = \( \$86\,400 \)
2. Error 1: Repairs expense of $1 600 omitted from expenses (deduct $1 600); excess depreciation of \( 25\% \times \$1\,600 = \$400 \) charged (add back $400). Net adjustment = \( -\$1\,200 \).
3. Error 2: Sales returns ($950) reduces profit by $950. Incorrect credit to purchases returns increased profit by $950, so removing it reduces profit by another $950. Net adjustment = \( -\$1\,900 \).
4. Error 3: Omitted rent receivable increases profit = \( +\$1\,200 \).

Corrected profit = \( \$86\,400 - \$1\,200 - \$1\,900 + \$1\,200 = \$84\,500 \).

1 mark for correct option A.

1. Total profit available for appropriation = Profit for year + Total interest on drawings
\( = \$65\,000 + (\$800 + \$600) = \$66\,400 \)

2. Deduct appropriations:
- Interest on capital: Arlo \( 5\% \times \$60\,000 = \$3\,000 \); Baxter \( 5\% \times \$40\,000 = \$2\,000 \). Total = \( \$5\,000 \)
- Partner salary: Baxter = \( \$12\,000 \)
Total deductions = \( \$5\,000 + \$12\,000 = \$17\,000 \)

3. Residual profit to be shared = \( \$66\,400 - \$17\,000 = \$49\,400 \)

4. Baxter's share of residual profit = \( \frac{2}{5} \times \$49\,400 = \$19\,760 \).

1 mark for correct option B.

1. Existing shares = \( \frac{\$300\,000}{\$0.50} = 600\,000 \) shares.
2. Rights issue: \( \frac{600\,000}{4} = 150\,000 \) new shares issued at $0.80 ($0.50 nominal + $0.30 premium).
Increase in share premium = \( 150\,000 \times \$0.30 = \$45\,000 \).
Share premium before bonus issue = \( \$80\,000 + \$45\,000 = \$125\,000 \).

3. Total shares after rights issue = \( 600\,000 + 150\,000 = 750\,000 \) shares.
4. Bonus issue: \( \frac{750\,000}{5} = 150\,000 \) bonus shares.
Nominal value of bonus shares = \( 150\,000 \times \$0.50 = \$75\,000 \).
To preserve maximum flexibility (retaining revenue reserves), capital reserves (share premium) are utilised first for the bonus issue.

5. Closing balance on share premium = \( \$125\,000 - \$75\,000 = \$50\,000 \).

1 mark for correct option A.

1. Gross profit = \( 25\% \times \$480\,000 = \$120\,000 \)
2. Cost of sales = Revenue \( - \) Gross profit = \( \$480\,000 - \$120\,000 = \$360\,000 \)
3. Average inventory = \( \frac{\$32\,000 + \$40\,000}{2} = \$36\,000 \)
4. Rate of inventory turnover = \( \frac{\text{Cost of sales}}{\text{Average inventory}} = \frac{\$360\,000}{\$36\,000} = 10.0 \text{ times} \).

1 mark for correct option B.

1. Total units available = \( 120 + 200 + 150 = 470 \) units.
2. Total units sold = \( 220 + 140 = 360 \) units.
3. Closing inventory quantity = \( 470 - 360 = 110 \) units.
4. Under FIFO, the units remaining in closing inventory are from the latest batch received on 22 April (which had 150 units at $18 each).
5. Valuation of closing inventory = \( 110 \text{ units} \times \$18 = \$1\,980 \).

1 mark for correct option C.

1. Predetermined overhead absorption rate (OAR) = \( \frac{\text{Budgeted overheads}}{\text{Budgeted direct labour hours}} = \frac{\$240\,000}{40\,000 \text{ hours}} = \$6.00 \text{ per direct labour hour} \)

2. Overheads absorbed = Actual direct labour hours worked \( \times \) OAR
\( = 42\,000 \text{ hours} \times \$6.00 = \$252\,000 \)

3. Actual overheads incurred = \( \$258\,000 \)

4. Under-absorption = \( \$258\,000 - \$252\,000 = \$6\,000 \) (Actual overheads exceeded absorbed overheads).

1 mark for correct option A.

1. Calculate contribution per unit for each product:
- Product X: \( \$50 - \$26 = \$24 \)
- Product Y: \( \$70 - \$42 = \$28 \)
- Product Z: \( \$60 - \$35 = \$25 \)

2. Calculate contribution per unit of limiting factor (machine hour):
- Product X: \( \frac{\$24}{2.0 \text{ hours}} = \$12.00 \text{ per hour} \) (Rank 1)
- Product Z: \( \frac{\$25}{2.5 \text{ hours}} = \$10.00 \text{ per hour} \) (Rank 2)
- Product Y: \( \frac{\$28}{4.0 \text{ hours}} = \$7.00 \text{ per hour} \) (Rank 3)

3. The optimal production order is X, then Z, then Y.

1 mark for correct option A.

To find the corrected sales ledger control account balance:

- Original balance: $42 850 (Debit)
- Error 1: Sales journal understated by \(\$620 - 260 = +\$360\). Total sales posted to control account was understated, so add $360.
- Error 2: Contra entry omitted from sales ledger control account: deduct $450.
- Error 3: Sales returns journal omitted $310. Total sales returns posted to control account was understated, so deduct $310.
- Error 4: Dishonoured cheque omitted from control account: add $180.

Corrected balance = \(42\,850 + 360 - 450 - 310 + 180 = \$42\,630\).

[1 mark] for the correct option B ($42 630).

1. Calculate the predetermined overhead absorption rate (OAR):
$$\text{OAR} = \frac{\text{Budgeted overheads}}{\text{Budgeted direct labour hours}} = \frac{\$180\,000}{45\,000 \text{ hours}} = \$4.00 \text{ per direct labour hour}$$

2. Calculate the overhead absorbed based on actual activity:
$$\text{Overhead absorbed} = 47\,000 \text{ hours} \times \$4.00 = \$188\,000$$

3. Determine under-absorption or over-absorption:
$$\text{Under-absorption} = \text{Actual overhead} - \text{Absorbed overhead} = \$194\,000 - \$188\,000 = \$6\,000$$
Since the actual overheads ($194,000) exceeded the overheads absorbed ($188,000), there was an under-absorption of $6,000.

[1 mark] for B: $6,000 under-absorbed.

Incorrect distractors:
A: $6,000 over-absorbed (reversal of absorbed vs actual overheads).
C: $14,000 under-absorbed (simply actual minus budgeted overheads: $194,000 - $180,000).
D: $14,000 over-absorbed.

1. Calculate cost of sales:
$$\text{Cost of sales} = \text{Opening inventory} + \text{Purchases} - \text{Goods taken for personal use} - \text{Closing inventory}$$
$$\text{Cost of sales} = \$18\,400 + \$142\,600 - \$2\,400 - \$21\,000 = \$137\,600$$

2. Calculate revenue using the mark-up of $25\%$:
$$\text{Gross profit} = \$137\,600 \times 25\% = \$34\,400$$
$$\text{Revenue} = \text{Cost of sales} + \text{Gross profit} = \$137\,600 + \$34\,400 = \$172\,000$$

[1 mark] for C: $172,000.

Incorrect distractors:
A: $165,120 (treated 25% as gross margin, i.e., $137,600 / 0.8333 or applying 20% margin).
B: $171,250 (omitted drawings of goods: ($18,400 + $142,600 - $21,000) * 1.25 = $140,000 * 1.25 = $175,000).
D: $175,000 (failed to deduct goods taken for personal use from cost of sales).

1. Update the cash book to find the correct cash book balance:
$$\text{Unadjusted cash book balance (overdrawn)} = -\$4\,320$$
$$\text{Less: Direct debit for insurance} = -\$480$$
$$\text{Less: Bank charges} = -\$75$$
$$\text{Adjusted cash book balance (overdrawn)} = -\$4\,320 - \$480 - \$75 = -\$4\,875$$

2. Reconcile to the bank statement balance:
$$\text{Adjusted cash book balance} = \text{Bank statement balance} + \text{Uncredited deposits} - \text{Unpresented cheques}$$
$$-\$4\,875 = \text{Bank statement balance} + \$2\,110 - \$1\,650$$
$$-\$4\,875 = \text{Bank statement balance} + \$460$$
$$\text{Bank statement balance} = -\$4\,875 - \$460 = -\$5\,335$$

Therefore, the bank statement shows an overdrawn balance of $$5\,335$.

[1 mark] for B: $5,335 overdrawn.

Incorrect distractors:
A: $4,415 overdrawn (inverted uncredited deposits and unpresented cheques: -$4,875 + $460 = -$4,415).
C: $5,335 in credit (correct numerical value, but wrong state/sign).
D: $3,860 overdrawn (used unadjusted cash book balance without posting direct debit and charges: -$4,320 - $460 = -$4,780).

1. Calculate unit contribution:
$$\text{Unit contribution} = \text{Selling price} - \text{Variable costs} = \$45 - (\$14 + \$11 + \$5) = \$45 - \$30 = \$15$$

2. Calculate break-even output:
$$\text{Break-even output} = \frac{\text{Fixed costs}}{\text{Unit contribution}} = \frac{\$120\,000}{\$15} = 8\,000 \text{ units}$$

3. Calculate target output for a profit of $$45\,000\$:
$$\text{Target output} = \frac{\text{Fixed costs} + \text{Target profit}}{\text{Unit contribution}} = \frac{\$120\,000 + \$45\,000}{\$15} = \frac{\$165\,000}{\$15} = 11\,000 \text{ units}$$

4. Calculate margin of safety:
$$\text{Margin of safety} = \text{Target output} - \text{Break-even output} = 11\,000 - 8\,000 = 3\,000 \text{ units}$$
(Alternatively, $\text{Margin of safety} = \frac{\text{Target profit}}{\text{Unit contribution}} = \frac{$45\,000}{$15} = 3\,000 \text{ units}$).

[1 mark] for D: 3,000 units.

Incorrect distractors:
A: 8,000 units (this is the break-even volume).
B: 11,000 units (this is the total target output required).
C: 5,500 units (calculated using total fixed costs divided by gross margin/arithmetic error).

1. Rights issue:
- Initial number of shares = $\frac{$200\,000}{$0.50} = 400\,000 \text{ shares}$.
- Rights issue shares = $\frac{400\,000}{4} = 100\,000 \text{ shares}$.
- Rights issue price = $$0.80\$ (nominal value $$0.50$, premium $$0.30\$).
- Increase in share premium = \$100\,000 \times \$0.30 = \$30\,000\$.
- Share premium after rights issue = $$60\,000 + $30\,000 = $90\,000$.
- Total number of shares after rights issue = $400\,000 + 100\,000 = 500\,000 \text{ shares}$.

2. Bonus issue:
- Bonus issue shares = $\frac{500\,000}{5} = 100\,000 \text{ shares}$.
- Nominal value of bonus issue = $100\,000 \times $0.50 = $50\,000$.
- To preserve flexible reserves (retained earnings), the capital reserve (share premium) is utilised first.
- Balance on share premium account at 31 December 2025 = $$90\,000 - $50\,000 = $40\,000$.

[1 mark] for B: $40,000.

Incorrect distractors:
A: $10,000 (calculated bonus issue on nominal value as 100,000 * $0.80 = $80,000 reduction to share premium: $90,000 - $80,000 = $10,000).
C: $50,000 (calculated bonus issue on initial 400,000 shares: 80,000 * $0.50 = $40,000 reduction, giving $90,000 - $40,000 = $50,000).
D: $90,000 (funded bonus issue entirely from retained earnings).

1. Calculate cost of sales:
$$\text{Gross profit margin} = 25\%$$
$$\text{Cost of sales} = \text{Revenue} \times (100\% - 25\%) = \$480\,000 \times 75\% = \$360\,000$$

2. Calculate average inventory:
$$\text{Average inventory} = \frac{\text{Opening inventory} + \text{Closing inventory}}{2} = \frac{\$28\,000 + \$32\,000}{2} = \$30\,000$$

3. Calculate inventory turnover in days:
$$\text{Inventory turnover (days)} = \frac{\text{Average inventory}}{\text{Cost of sales}} \times 365 = \frac{\$30\,000}{\$360\,000} \times 365 = \frac{1}{12} \times 365 = 30.42 \approx 30.4 \text{ days}$$
To the nearest whole day, it is $30.4$ days (or $30.4$ days).

[1 mark] for C: 30.4 days.

Incorrect distractors:
A: 22.8 days (used Revenue instead of Cost of sales: ($30,000 / $480,000) * 365 = 22.8 days).
B: 28.4 days (used opening inventory instead of average inventory: ($28,000 / $360,000) * 365 = 28.4 days).
D: 32.4 days (used closing inventory instead of average inventory: ($32,000 / $360,000) * 365 = 32.4 days).

1. Issue on 15 October (350 units total):
- From opening balance: $200 \text{ units} \times $6.00 = $1\,200$
- From purchase of 8 October: $150 \text{ units} \times $6.50 = $975$
- Total cost of issue on 15 October = $$1\,200 + \$975 = \$2\,175\$
- Inventory remaining after 15 October: \$150 \text{ units} \text{ at } \$6.50\$.

2. Issue on 28 October (200 units total):
- From remaining 8 October purchase: \$150 \text{ units} \times \$6.50 = \$975\$
- From purchase of 22 October: \$50 \text{ units} \times \$7.00 = \$350\$
- Total cost of issue on 28 October = $$975 + $350 = $1\,325$
- Inventory remaining at 31 October: $200 \text{ units} \text{ at } $7.00 = $1\,400$.

3. Total value of materials issued:
$$\text{Total value} = \$2\,175 + \$1\,325 = \$3\,500$$

[1 mark] for B: $3,500.

Incorrect distractors:
A: $3,450 (incorrect unit allocation or using initial units repeatedly).
C: $3,600 (used simple average price: $6.50 * 550 or AVCO approximation).
D: $3,700 (valued issues at the latest purchase prices, i.e., LIFO pricing).

To calculate the closing balance of the sales ledger control account:

Debit side (increases receivables):
- Opening balance: $34 200
- Credit sales: $118 400
- Dishonoured cheque: $750
- Total debits = $34 200 + $118 400 + $750 = $153 350

**Credit side (decreases receivables):**
- Cash received: $109 600
- Discounts allowed: $2 300
- Returns inwards: $3 100
- Irrecoverable debts: $1 250
- Purchases ledger contra: $1 800
- Total credits = $109 600 + $2 300 + $3 100 + $1 250 + $1 800 = $118 050

Closing Balance:
\(\text{Closing balance} = \$153 350 - \$118 050 = \$35 300\)

1 mark for correct option B ($35 300).

1. Calculate the predetermined overhead absorption rate (OAR):
$$\text{OAR} = \frac{\text{Budgeted overheads}}{\text{Budgeted direct labour hours}} = \frac{\$240\,000}{60\,000\text{ hours}} = \$4.00\text{ per direct labour hour}$$

2. Calculate the overhead absorbed:
$$\text{Absorbed overhead} = 62\,500\text{ hours} \times \$4.00 = \$250\,000$$

3. Determine over / under absorption:
$$\text{Under absorption} = \text{Actual overhead incurred} - \text{Overhead absorbed} = \$258\,000 - \$250\,000 = \$8\,000\text{ under absorbed}$$

Since absorbed overhead ($250 000) is less than actual overhead incurred ($258 000), overheads were under absorbed by $8 000.

B is correct [1 mark].
A represents $8 000 over-absorbed (reversed sign).
C represents $10 000 over-absorbed based on budgeted hours vs actual cost.
D represents $18 000 under-absorbed based solely on expenditure difference.

1. Calculate credit sales by preparing the Trade Receivables control account:
$$\text{Credit sales} = \text{Closing receivables} + \text{Receipts} + \text{Discounts allowed} + \text{Irrecoverable debts} - \text{Opening receivables}$$
$$\text{Credit sales} = \$33\,100 + \$164\,500 + \$3\,200 + \$1\,800 - \$28\,400 = \$174\,200$$

2. Add cash sales to find total revenue:
$$\text{Total revenue} = \text{Credit sales} + \text{Cash sales} = \$174\,200 + \$42\,000 = \$216\,200$$

D is correct [1 mark].
A equals $174 200 (credit sales only, omitted cash sales).
B equals $211 200 (deducted discounts allowed and irrecoverable debts instead of adding them).
C equals $214 400 (omitted irrecoverable debts written off).

1. Initial number of ordinary shares:
$$\text{Shares} = \frac{\$400\,000}{\$0.50} = 800\,000\text{ shares}$$

2. Rights issue:
$$\text{Number of rights shares} = \frac{800\,000}{4} = 200\,000\text{ shares}$$
$$\text{Nominal value added} = 200\,000 \times \$0.50 = \$100\,000$$
$$\text{Share premium created} = 200\,000 \times (\$0.80 - \$0.50) = 200\,000 \times \$0.30 = \$60\,000$$
$$\text{Share premium balance before bonus issue} = \$120\,000 + \$60\,000 = \$180\,000$$
$$\text{Total shares in issue after rights issue} = 800\,000 + 200\,000 = 1\,000\,000\text{ shares}$$

3. Bonus issue:
$$\text{Number of bonus shares} = \frac{1\,000\,000}{5} = 200\,000\text{ shares}$$
$$\text{Nominal value of bonus issue} = 200\,000 \times \$0.50 = \$100\,000$$
To maintain reserves in their most flexible (distributable) form, the company uses capital non-distributable reserves (share premium) first before retained earnings:
$$\text{Share premium utilised} = \$100\,000$$
$$\text{Final share premium balance} = \$180\,000 - \$100\,000 = \$80\,000$$

A is correct [1 mark].
B equals $100 000 (calculated bonus issue on 800 000 shares instead of 1 000 000 shares).
C equals $180 000 (bonus issue funded entirely out of retained earnings).
D equals $240 000 (added premium rather than deducting bonus issue).

1. Calculate Gross profit:
$$\text{Gross profit} = 25\% \times \$600\,000 = \$150\,000$$

2. Calculate Cost of sales:
$$\text{Cost of sales} = \text{Revenue} - \text{Gross profit} = \$600\,000 - \$150\,000 = \$450\,000$$

3. Calculate Rate of inventory turnover:
$$\text{Rate of inventory turnover} = \frac{\text{Cost of sales}}{\text{Average inventory}} = \frac{\$450\,000}{\$45\,000} = 10.0\text{ times}$$

B is correct [1 mark].
A equals 3.33 times (Gross profit / Average inventory).
C equals 12.0 times (profit after expenses or (Revenue - Profit margin) / Average inventory).
D equals 13.33 times (Revenue / Average inventory).

1. Update the cash book balance:
$$\text{Initial balance} = -\$4\,150$$
$$\text{Less unrecorded bank charges} = -\$120$$
$$\text{Less direct debit} = -\$380$$
$$\text{Less dishonoured cheque} = -\$650$$
$$\text{Updated cash book balance (overdrawn)} = -\$4\,150 - \$120 - \$380 - \$650 = -\$5\,300$$

2. Prepare Bank Reconciliation to find Bank Statement balance:
$$\text{Updated cash book balance} = -\$5\,300$$
$$\text{Add unpresented cheques} = +\$1\,420$$
$$\text{Less uncredited deposits} = -\$2\,100$$
$$\text{Bank statement balance} = -\$5\,300 + \$1\,420 - \$2\,100 = -\$5\,980\text{ (overdrawn / debit balance)}$$

C is correct [1 mark].
A equals $4 620 overdrawn (incorrect treatment of unpresented cheques and uncredited deposits).
B equals $5 300 overdrawn (updated cash book balance without bank reconciliation adjustments).
D equals $7 400 overdrawn (added rather than subtracted dishonoured cheque and direct debit).

1. Contribution per unit:
$$\text{Contribution per unit} = \text{Selling price} - \text{Variable cost} = \$50 - \$30 = \$20$$

2. Break-even output in units:
$$\text{Break-even units} = \frac{\text{Fixed costs}}{\text{Contribution per unit}} = \frac{\$180\,000}{\$20} = 9\,000\text{ units}$$

3. Required output for target profit:
$$\text{Target units} = \frac{\text{Fixed costs} + \text{Target profit}}{\text{Contribution per unit}} = \frac{\$180\,000 + \$60\,000}{\$20} = \frac{\$240\,000}{\$20} = 12\,000\text{ units}$$

4. Margin of safety in units:
$$\text{Margin of safety} = \text{Target units} - \text{Break-even units} = 12\,000 - 9\,000 = 3\,000\text{ units}$$

A is correct [1 mark].
B equals 6 000 units.
C equals 9 000 units (the break-even units).
D equals 12 000 units (total output required for target profit).

1. Under the periodic weighted average method, the weighted average cost per unit is calculated across all goods available for sale during the period:
- 1 May: 100 units @ $12 = $1 200
- 10 May: 200 units @ $15 = $3 000
- 24 May: 100 units @ $16 = $1 600
$$\text{Total units available} = 100 + 200 + 100 = 400\text{ units}$$
$$\text{Total cost of goods available} = \$1\,200 + \$3\,000 + \$1\,600 = \$5\,800$$
$$\text{Periodic weighted average cost per unit} = \frac{\$5\,800}{400\text{ units}} = \$14.50\text{ per unit}$$

2. Calculate closing inventory units:
$$\text{Closing inventory units} = 400 - (180 + 120) = 400 - 300 = 100\text{ units}$$

3. Valuation of closing inventory:
$$\text{Closing inventory valuation} = 100\text{ units} \times \$14.50 = \$1\,450$$

C is correct [1 mark].
A equals $1 200 (valued at opening cost $12).
B equals $1 400 (perpetual AVCO calculation error).
D equals $1 600 (valued at FIFO closing unit cost $16).

Under the historic cost concept (and IAS 16 rules regarding capital expenditure), the initial cost of a non-current asset includes all direct costs incurred in bringing the asset to its present location and condition for its intended operational use. Therefore, carriage inwards on a non-current asset is capital expenditure and must be debited to the Machinery cost account, not treated as revenue expenditure in an expense account.

1 mark for identifying B (Historic cost). Distractor notes: Consistency relates to applying the same accounting treatment across periods; Money measurement requires items to have monetary value; Prudence ensures assets/profits are not overstated, but here the asset was understated due to the failure to record total historic cost.

1. Draft profit = $52 400

2. Error 1: Sales returns was credited to purchase returns. Sales returns reduces gross profit (-$1 200). Crediting purchase returns previously understated cost of sales, thus overstating profit by $1 200. To correct both: -$1 200 - $1 200 = -$2 400.

3. Error 2: Motor vehicle repairs of $800 should be an expense (-$800). However, $800 was capitalized and depreciated at 20% ($160 expense charged). To correct: -$800 + $160 = -$640.

4. Error 3: Discounts received was debited to discounts allowed. Discounts allowed was overstated by $450 (expenses too high), and discounts received was omitted (income too low). To correct: +$450 + $450 = +$900.

Corrected profit = $52 400 - $2 400 - $640 + $900 = $50 260.

B is correct [1 mark].
A fails to double the effect of single-sided mispostings.
C omits the depreciation adjustment on the capitalized repair cost.
D adds all corrections instead of deducting net negative adjustments.

1. Initial shares in issue = $300 000 / $0.50 = 600 000 shares.

2. Rights issue (1 for 4):
- Number of shares issued = 600 000 / 4 = 150 000 shares.
- Nominal value = 150 000 x $0.50 = $75 000.
- Share premium created = 150 000 x ($0.80 - $0.50) = $45 000.
- Balances after rights issue: Share capital = $375 000 (750 000 shares), Share premium = $90 000 + $45 000 = $135 000.

3. Bonus issue (1 for 5):
- Number of bonus shares = 750 000 / 5 = 150 000 shares.
- Nominal value of bonus shares = 150 000 x $0.50 = $75 000.
- Increase in share capital = +$75 000 -> Total share capital = $375 000 + $75 000 = $450 000.
- Financed from share premium = -$75 000 -> Remaining share premium = $135 000 - $75 000 = $60 000.

A is correct [1 mark].
B fails to deduct the bonus issue amount from the share premium account.
C calculates the bonus issue based only on the original 600 000 shares rather than the shares in issue after the rights issue.
D incorrectly calculates the bonus issue at full rights price.

1. Calculate Cost of Sales:
Cost of Sales = Revenue / (1 + Mark-up) = $600 000 / 1.25 = $480 000.

2. Calculate Credit Purchases:
Cost of Sales = Opening Inventory + Purchases - Closing Inventory
$480 000 = $44 000 + Purchases - $52 000
Purchases = $480 000 + $52 000 - $44 000 = $488 000.

3. Calculate Trade Payables:
Trade payables turnover (days) = (Trade Payables / Credit Purchases) x 365
73 = (Trade Payables / $488 000) x 365
Trade Payables = $488 000 x (73 / 365) = $488 000 x 0.20 = $97 600.

C is correct [1 mark].
A uses revenue instead of credit purchases ($600 000 x 73 / 365 = $120 000).
B uses cost of sales instead of purchases ($480 000 x 73 / 365 = $96 000).
D treats mark-up as margin ($600 000 x 0.75 = $450 000 -> purchases = $458 000 -> payables = $91 600).

1. Calculate the predetermined overhead absorption rate (OAR):
OAR = Budgeted overheads / Budgeted direct labour hours = $168 000 / 42 000 = $4.00 per direct labour hour.

2. Calculate absorbed overheads:
Absorbed overheads = Actual direct labour hours x OAR = 44 500 hours x $4.00 = $178 000.

3. Calculate actual overheads incurred:
Under-absorption occurs when Actual Overheads > Absorbed Overheads.
Under-absorption = Actual Overheads - Absorbed Overheads
$3 400 = Actual Overheads - $178 000
Actual Overheads = $178 000 + $3 400 = $181 400.

D is correct [1 mark].
A deducts under-absorption from absorbed overheads ($178 000 - $3 400 = $174 600).
B adds under-absorption to budgeted overheads ($168 000 + $3 400 = $171 400).
C is the absorbed overhead figure without adjusting for under-absorption.

1. Calculate raw material required per unit:
- Product X: $16 / $4 per kg = 4 kg
- Product Y: $20 / $4 per kg = 5 kg

2. Calculate contribution per unit:
- Product X: $50 - ($16 + $12 + $4) = $50 - $32 = $18
- Product Y: $68 - ($20 + $18 + $6) = $68 - $44 = $24

3. Calculate contribution per kg of limiting factor (raw material):
- Product X: $18 / 4 kg = $4.50 per kg
- Product Y: $24 / 5 kg = $4.80 per kg
- Ranking: 1st Product Y, 2nd Product X

4. Allocate material to maximise contribution:
- Product Y (1 000 units x 5 kg) = 5 000 kg (Contribution = 1 000 x $24 = $24 000)
- Remaining material = 8 000 kg - 5 000 kg = 3 000 kg
- Product X (3 000 kg / 4 kg) = 750 units (Contribution = 750 x $18 = $13 500)
- Total contribution = $24 000 + $13 500 = $37 500

5. Calculate maximum profit:
Maximum profit = Total contribution - Fixed costs = $37 500 - $15 000 = $22 500.

B is correct [1 mark].
A prioritises Product X first ($21 960 profit).
C is the total contribution before deducting fixed costs ($37 500).
D assumes unlimited material to satisfy full demand ($45 600 - $15 000 = $30 600).

1. Calculate the predetermined overhead absorption rate (OAR):
$$\text{OAR} = \frac{\text{Budgeted overheads}}{\text{Budgeted direct labour hours}} = \frac{\$192\,000}{24\,000} = \$8.00 \text{ per direct labour hour}$$

2. Calculate the overhead absorbed:
$$\text{Overhead absorbed} = \text{Actual direct labour hours} \times \text{OAR} = 25\,200 \times \$8.00 = \$201\,600$$

3. Calculate the under/over absorption:
$$\text{Under/Over absorption} = \text{Overhead absorbed} - \text{Actual overhead incurred} = \$201\,600 - \$205\,500 = -\$3\,900$$

Since actual overhead incurred exceeds absorbed overhead, overheads are under-absorbed by $3 900.

B is correct [1 mark].
- Calculation of OAR: $192 000 / 24 000 = $8.00 per hour.
- Absorbed overhead: 25 200 × $8.00 = $201 600.
- Over/under absorption: $201 600 - $205 500 = $3 900 under-absorbed.

Incorrect options:
- A: Misinterprets under-absorbed as over-absorbed.
- C: Multiplies the difference in hours (1 200) by OAR ($8.00) and treats it as over-absorbed ($9 600).
- D: Takes the difference between actual and budgeted overheads ($205 500 - $192 000 = $13 500).

### Part (a): Calculation of Total Revenue

1. Cash Sales:
$$\begin{array}{lr}
\text{Cash banked} & \$32\,500 \\
\text{Add: Cash purchases paid from till} & \$4\,100 \\
\text{Add: Cash drawings } (52 \times \$150) & \$7\,800 \\
\text{Add: Casual wages paid from till} & \$3\,600 \\
\hline
\textbf{Total Cash Sales} & \mathbf{\$48\,000}
\end{array}$$

2. Credit Sales (Trade Receivables Account):
$$\begin{array}{lr}
\text{Trade receivables at 30 September 2025} & \$11\,400 \\
\text{Add: Receipts from credit customers} & \$84\,200 \\
\text{Add: Irrecoverable debt written off} & \$600 \\
\text{Add: Discounts allowed} & \$1\,500 \\
\hline
& \$97\,700 \\
\text{Less: Trade receivables at 1 October 2024} & (\$9\,800) \\
\hline
\textbf{Total Credit Sales} & \mathbf{\$87\,900}
\end{array}$$

Total Revenue:
$$\text{Total Revenue} = \$48\,000 + \$87\,900 = \mathbf{\$135\,900}$$

---

### Part (b): Calculation of Total Purchases

1. Credit Purchases (Trade Payables Account):
$$\begin{array}{lr}
\text{Trade payables at 30 September 2025} & \$7\,650 \\
\text{Add: Payments to trade payables} & \$56\,400 \\
\text{Add: Discounts received} & \$1\,150 \\
\text{Add: Purchases returns} & \$850 \\
\hline
& \$66\,050 \\
\text{Less: Trade payables at 1 October 2024} & (\$8\,300) \\
\hline
\textbf{Total Credit Purchases} & \mathbf{\$57\,750}
\end{array}$$

2. Total Purchases:
$$\begin{array}{lr}
\text{Credit purchases} & \$57\,750 \\
\text{Add: Cash purchases} & \$4\,100 \\
\hline
\textbf{Total Purchases} & \mathbf{\$61\,850}
\end{array}$$

---

### Part (c): Statement of Profit or Loss

Tariq
Statement of Profit or Loss for the year ended 30 September 2025

$$\begin{array}{lrr}
\hline
& \$ & \$ \\
\hline
\text{Revenue} & & 135\,900 \\
\textbf{Cost of sales} & & \\
\text{Opening inventory} & 14\,600 & \\
\text{Purchases } (\$61\,850 - \$1\,200 \text{ drawings}) & 60\,650 & \\
\text{Less: Purchases returns} & (850) & \\
\hline
& 74\,400 & \\
\text{Less: Closing inventory} & (17\,200) & (57\,200) \\
\hline
\textbf{Gross profit} & & \mathbf{78\,700} \\
\text{Discount received} & & 1\,150 \\
\hline
& & 79\,850 \\
\textbf{Expenses} & & \\
\text{Casual wages} & 3\,600 & \\
\text{Rent } (\$7\,400 + \$600 - \$800) & 7\,200 & \\
\text{General expenses } (\$12\,850 - \$350 + \$420) & 12\,920 & \\
\text{Discounts allowed} & 1\,500 & \\
\text{Irrecoverable debts} & 600 & \\
\text{Increase in allowance for irrecoverable debts } (5\% \times \$11\,400 - \$490 = \$570 - \$490) & 80 & \\
\text{Depreciation: Equipment } (10\% \times [\$42\,000 + \$6\,000]) & 4\,800 & (30\,700) \\
\hline
\textbf{Profit from operations} & & \mathbf{49\,150} \\
\text{Finance costs (loan interest: } 10\% \times \$10\,000 \times 6/12 \text{ or } \$4\,000 - \$3\,400) & & (600) \\
\hline
\textbf{Profit for the year} & & \mathbf{48\,550} \\
\hline
\end{array}$$

---

### Part (d): Capital at 1 October 2024

$$\begin{array}{lrr}
\hline
\textbf{Assets} & \$ & \$ \\
\hline
\text{Equipment (carrying value: } \$42\,000 - \$13\,600) & & 28\,400 \\
\text{Inventory} & & 14\,600 \\
\text{Trade receivables} & 9\,800 & \\
\text{Less: Allowance for irrecoverable debts} & (490) & 9\,310 \\
\text{Rent prepaid} & & 600 \\
\text{Bank} & & 3\,150 \\
\hline
\textbf{Total Assets} & & \mathbf{56\,060} \\
\hline
\textbf{Liabilities} & & \\
\text{Trade payables} & 8\,300 & \\
\text{General expenses accrued} & 350 & \\
\text{10\% Bank loan} & 10\,000 & (18\,650) \\
\hline
\textbf{Capital at 1 October 2024} & & \mathbf{37\,410} \\
\hline
\end{array}$$

---

### Part (e): Advice on Employing a Bookkeeper

Advantages of employing a bookkeeper:
- Ensures full, accurate double-entry accounting records are maintained on a timely basis, reducing the risk of errors, fraud, or omitted transactions.
- Frees up Tariq's time to concentrate on core business operations, sales generation, and customer relations.
- Improves credit control (faster collection of debts and monitoring of credit limits), which reduces irrecoverable debts and enhances cash flow.
- Year-end financial statements can be prepared faster and at lower external accounting/audit fees.

Disadvantages of employing a bookkeeper:
- Extra ongoing staff costs (wages/salary, employee benefits) which will increase operating overheads and reduce net profit.
- Need to provide accounting software, computer hardware, and an office workspace.
- Risk of confidential financial information being accessed by an employee.

Recommendation:
Considering the scale of operations and the growing trade receivables and transactions, Tariq should employ a part-time bookkeeper (or outsource bookkeeping services). The improved financial control and time saved will outweigh the moderate additional expense.

(a) Total revenue [6 marks]
- Calculation of total cash sales: $48 000 [1 mark for $32 500 + $4 100 + $7 800 + $3 600; 1 mark for correct final figure]
- Calculation of credit sales: $87 900 [1 mark for correct inclusion of receipts, bad debt, discounts allowed; 1 mark for deducting opening balance and arriving at $87 900]
- Total revenue = $135 900 [1 mark + 1 mark own figure (OF)]

(b) Total purchases [5 marks]
- Credit purchases: $57 750 [1 mark for payments + closing balance; 1 mark for discount received + returns; 1 mark for deducting opening balance to get $57 750]
- Cash purchases: $4 100 [1 mark]
- Total purchases = $61 850 [1 mark (OF)]

(c) Statement of Profit or Loss [11 marks]
- Revenue: $135 900 (OF) [1 mark]
- Cost of sales correctly showing opening inventory ($14 600), purchases less drawings and returns ($59 800), and closing inventory ($17 200) to give $57 200 [2 marks]
- Gross profit: $78 700 (OF) [1 mark]
- Other income: Discount received $1 150 [1 mark]
- Expenses:
- Casual wages ($3 600) [1 mark]
- Rent adjusted ($7 200) [1 mark]
- General expenses adjusted ($12 920) [1 mark]
- Discounts allowed ($1 500) + Irrecoverable debts ($600) + Increase in allowance ($80) [1 mark for all three correct]
- Depreciation charge ($4 800) [1 mark]
- Finance costs ($600) and Profit for the year ($48 550) (OF) [1 mark]

(d) Capital at 1 October 2024 [3 marks]
- Calculation of total assets: $56 060 [1 mark]
- Calculation of total liabilities: $18 650 [1 mark]
- Capital = $37 410 [1 mark]

(e) Evaluation and Advice [5 marks]
- Up to 2 marks for valid advantages of employing a bookkeeper (e.g. reduced errors, time saving, better credit control, lower audit fees) [1 mark each, max 2 marks]
- Up to 2 marks for valid disadvantages (e.g. additional wage expense, software costs, loss of financial privacy) [1 mark each, max 2 marks]
- Explicit advice / justified recommendation based on points raised [1 mark]

(a) Ratios for the year ended 31 December 2025:

(i) Gross profit margin (%):
$$\text{Gross Profit} = \$600\,000 - \$420\,000 = \$180\,000$$
$$\text{Gross Profit Margin} = \left(\frac{\$180\,000}{\$600\,000}\right) \times 100 = 30.00\%$$

(ii) Profit margin (%):
$$\text{Profit for the year} = \$180\,000 - \$90\,000 = \$90\,000$$
$$\text{Profit Margin} = \left(\frac{\$90\,000}{\$600\,000}\right) \times 100 = 15.00\%$$

(iii) Rate of inventory turnover (times):
$$\text{Average Inventory} = \frac{\$45\,000 + \$70\,000}{2} = \$57\,500$$
$$\text{Rate of Inventory Turnover} = \frac{\$420\,000}{\$57\,500} = 7.30\text{ times}$$
*(Note: If calculated using year-end inventory: $\frac{$420\,000}{$70\,000} = 6.00\text{ times}$)*

(iv) Trade receivables turnover (days):
$$\text{Credit Sales} = 80\% \times \$600\,000 = \$480\,000$$
$$\text{Trade Receivables Turnover} = \left(\frac{\$64\,000}{\$480\,000}\right) \times 365 = 48.67\text{ days} \approx 49\text{ days}$$

---

(b) Possible reasons for the increase in gross profit margin (from 25.00% to 30.00%):
1. Increase in selling prices: Tariq may have increased the unit selling price of hardware goods without an equivalent increase in unit purchase costs, directly widening the gross margin per unit sold.
2. Lower unit cost of purchases: Tariq may have negotiated bulk purchase discounts with suppliers due to higher trading volumes, or sourced from cheaper alternative suppliers.
3. Change in sales mix: Tariq may have sold a higher proportion of premium/higher-margin products compared to lower-margin standard hardware items.
4. Reduction in inventory wastage/theft: Improved stock controls leading to fewer damaged, obsolete, or stolen goods written off in cost of sales.

---

(c) Evaluation of introducing a 3% cash discount:

Arguments in favour of introducing the discount:
- Improved liquidity and cash flow: Encourages customers to settle debts promptly (within 14 days rather than 49 days), providing Tariq with liquid funds to pay suppliers or reduce overdraft interest.
- Reduced risk of irrecoverable debts: Quicker payments reduce the risk of customer default and lower administrative chasing costs.
- Competitive advantage: Customers may choose Tariq over competitors due to the financial incentive of early settlement.

Arguments against introducing the discount:
- Direct reduction in profitability: Offering a 3% discount on credit sales reduces revenue and profit margins (e.g., up to $3\% \times $480\,000 = $14\,400$ if all credit customers take the discount).
- Customers who already pay promptly: Customers who were previously paying on time receive a discount without changing their behavior, resulting in lost revenue for Tariq.
- Risk of customer abuse / disputes: Customers may take the discount even if paying after the 14-day limit, leading to credit control disputes.

Recommendation/Conclusion:
Tariq should consider alternative credit control measures first, such as establishing stricter credit vetting, sending timely electronic statements, and charging interest on overdue accounts before committing to a 3% discount, as 3% is relatively high and will noticeably erode net profit margins unless cash flow urgency is critical.

(a) [4 marks total]
(i) 1 mark for 30.00% (or 30%)
(ii) 1 mark for 15.00% (or 15%)
(iii) 1 mark for 7.30 times (allow 7.3 times or 6.00 times if year-end inventory is used with working)
(iv) 1 mark for 49 days (or 48.67 days; allow 39 days if total revenue $600 000 is used)

(b) [4 marks total]
1 mark for identifying each valid reason (max 2 marks) plus 1 mark for development/explanation linking to the increase in margin (max 2 marks):
- Increased selling price without corresponding increase in cost of goods (1) + development (1)
- Purchase prices decreased / trade discounts obtained due to higher order quantities (1) + development (1)
- Change in sales product mix towards higher-margin goods (1) + development (1)
- Better inventory management / lower spoilage or theft (1) + development (1)

(c) [7 marks total]
- Up to 3 marks for arguments in favour (e.g. improves cash flow / reduces trade receivables collection period from 49 days, lowers risk of bad debts, improves working capital).
- Up to 3 marks for arguments against (e.g. cost of discount up to $14 400 reduces profit margin, prompt payers gain discount without benefit to Tariq, potential disputes over settlement dates).
- 1 mark for a clear, justified recommendation/conclusion based on the preceding analysis.

### Part (a)
- Capital reserves arise from capital transactions (e.g., issue of shares above par, revaluation of non-current assets) and cannot normally be distributed to shareholders as cash dividends by law.
* Example: Share premium / Revaluation reserve.
- Revenue reserves arise from accumulated trading profits and gains from normal business activities and are freely available for distribution as cash dividends.
* Example: Retained earnings / General reserve.

---

### Part (b) Workings & Statement of Changes in Equity

Workings:
1. Rights Issue (1 March 2025):
- Existing shares on 1 Jan 2025 = $\frac{$200\,000}{$0.50} = 400\,000\text{ shares}$
- Rights shares issued = $\frac{400\,000}{4} = 100\,000\text{ shares}$
- Ordinary share capital increase = $100\,000 \times $0.50 = $50\,000$
- Share premium increase = $100\,000 \times ($0.80 - $0.50) = $30\,000$
- Total shares in issue after rights issue = $400\,000 + 100\,000 = 500\,000\text{ shares}$

2. **Bonus Issue (1 June 2025):**
- Bonus shares issued = $\frac{500\,000}{5} = 100\,000\text{ shares}$
- Ordinary share capital increase = $100\,000 \times $0.50 = $50\,000$
- To preserve reserves in the most flexible (distributable) form, capital reserves (share premium) are utilised first.
- Available share premium before bonus = $$40\,000 + \$30\,000 = \$70\,000\$.
- Deduct from share premium = $$50\,000$.
- Total shares in issue after bonus issue = $500\,000 + 100\,000 = 600\,000\text{ shares}$

3. **Interim Dividend Paid (1 September 2025):**
- Dividend = $600\,000\text{ shares} \times $0.04 = $24\,000$ (deducted from retained earnings).

4. **Transfer to General Reserve (31 December 2025):**
- Deduct $$15\,000\$ from retained earnings; add $$15\,000$ to general reserve.

#### Calder Valley Ltd
Statement of Changes in Equity for the year ended 31 December 2025

$$\begin{array}{|l|r|r|r|r|r|}
\hline
& \begin{array}{c}\text{Share} \\ \text{Capital} \\ \$ \end{array} & \begin{array}{c}\text{Share} \\ \text{Premium} \\ \$ \end{array} & \begin{array}{c}\text{General} \\ \text{Reserve} \\ \$ \end{array} & \begin{array}{c}\text{Retained} \\ \text{Earnings} \\ \$ \end{array} & \begin{array}{c}\text{Total} \\ \text{Equity} \\ \$ \end{array} \\
\hline
\text{Balance at 1 Jan 2025} & 200\,000 & 40\,000 & 25\,000 & 68\,000 & 333\,000 \\
\text{Rights issue} & 50\,000 & 30\,000 & - & - & 80\,000 \\
\text{Bonus issue} & 50\,000 & (50\,000) & - & - & - \\
\text{Profit for the year} & - & - & - & 82\,000 & 82\,000 \\
\text{Dividends paid} & - & - & - & (24\,000) & (24\,000) \\
\text{Transfer to general reserve} & - & - & 15\,000 & (15\,000) & - \\
\hline
\textbf{Balance at 31 Dec 2025} & \mathbf{300\,000} & \mathbf{20\,000} & \mathbf{40\,000} & \mathbf{111\,000} & \mathbf{471\,000} \\
\hline
\end{array}$$

---

### Part (c) Advice & Justification

Option 1: 7% Debentures
- Advantages:
- Debenture holders do not have voting rights; ownership and control of existing shareholders are not diluted.
- Interest payable ($$7\,000\$ per annum) is tax-deductible, reducing taxable profit.
- *Disadvantages:*
- Increases gearing and financial risk of the business.
- Fixed annual interest must be paid regardless of whether the company makes a profit or experiences cash flow difficulties.
- Debentures must eventually be repaid on maturity.

**Option 2: Rights Issue**
- *Advantages:*
- Permanent capital with no obligation to repay the principal.
- Dividends are discretionary and do not have to be paid if profit/cash flow is poor.
- Lowers gearing and maintains financial stability.
- *Disadvantages:*
- If existing shareholders do not take up their rights or sell them, voting control could shift.
- Issue costs and administrative expenses are often higher than issuing loan stock.

**Recommendation:**
Calder Valley Ltd should choose **Option 1 (Debentures)** if current gearing is low and future operating cash flows are stable enough to service the $$7\,000$ annual interest commitment without risking solvency, thereby preserving shareholder equity returns without dilution. (Alternatively, Option 2 is justified if directors prioritise liquidity safety and reducing financial risk). [A clear, justified conclusion must be reached].

(a) [3 marks total]
- 1 mark for explaining that capital reserves cannot be distributed as cash dividends / arise from capital transactions.
- 1 mark for explaining that revenue reserves represent accumulated trading profits available for dividend distribution.
- 1 mark for providing one valid example of each (e.g. capital: share premium/revaluation reserve; revenue: retained earnings/general reserve).

(b) [7 marks total]
- 1 mark: Opening balances row and layout correct.
- 1 mark: Rights issue ($50 000 share capital, $30 000 share premium, total $80 000).
- 1 mark: Bonus issue ($50 000 share capital, $(50 000) share premium; zero effect on total).
- 1 mark: Profit for the year ($82 000 retained earnings and total).
- 1 mark: Dividend paid ($(24 000) retained earnings and total).
- 1 mark: Transfer to general reserve (+$15 000 general reserve, $(15 000) retained earnings).
- 1 mark: Correct closing row totals ($300 000; $20 000; $40 000; $111 000; $471 000) (allow OF if derived from candidate's row entries).

(c) [5 marks total]
- Max 2 marks for discussing Option 1 (debentures) (e.g., fixed interest commitment, tax-deductible, gearing increase, no voting dilution).
- Max 2 marks for discussing Option 2 (rights issue) (e.g., permanent capital, discretionary dividends, no debt risk, issue costs, potential dilution if ignored).
- 1 mark for a clear, reasoned recommendation/advice supported by the analysis.

(a) (i) Overhead Analysis Sheet for the year ending 31 December 2026

| Item | Basis of apportionment | Total ($) | Machining ($) | Assembly ($) | Maintenance ($) | Canteen ($) |
| :--- | :--- | :---: | :---: | :---: | :---: | :---: |
| Allocated indirect costs | Direct allocation | 110 000 | 46 200 | 31 050 | 17 750 | 15 000 |
| Factory rent & rates | Floor area (5:3:1:1) | 50 000 | 25 000 | 15 000 | 5 000 | 5 000 |
| Factory power | Power (kWh) (2:1:1:0) | 35 000 | 17 500 | 8 750 | 8 750 | — |
| Staff welfare | Employees (25:20:5:0) | 25 000 | 12 500 | 10 000 | 2 500 | — |
| **Total allocated & apportioned** | | **220 000** | **101 200** | **64 800** | **34 000** | **20 000** |
| Reapportion Canteen | Employees (25:20:5) | — | 10 000 | 8 000 | 2 000 | (20 000) |
| Sub-total | | 220 000 | 111 200 | 72 800 | 36 000 | 0 |
| Reapportion Maintenance | Ratio (80% : 20%) | — | 28 800 | 7 200 | (36 000) | — |
| **Total departmental overheads** | | **220 000** | **140 000** | **80 000** | **0** | **0** |

---

**(a) (ii) Predetermined Overhead Absorption Rates (OAR)**

- **Machining department** (machine hour basis as it is capital/machine intensive):
$$\text{OAR} = \frac{\$140\,000}{7\,000\text{ machine hours}} = \$20.00\text{ per machine hour}$$

- **Assembly department** (direct labour hour basis as it is labour intensive):
$$\text{OAR} = \frac{\$80\,000}{16\,000\text{ direct labour hours}} = \$5.00\text{ per direct labour hour}$$

---

**(b) (i) Under- / Over-absorption of overheads**

- **Machining department:**
- Overhead absorbed = $7\,200\text{ actual machine hours} \times $20.00 = $144\,000$
- Actual overhead incurred = $$148\,500\$
- Under-absorbed overhead = $$148\,500 - $144\,000 = $4\,500\text{ (Under-absorbed)}$

- **Assembly department:**
- Overhead absorbed = $15\,800\text{ actual direct labour hours} \times $5.00 = $79\,000$
- Actual overhead incurred = $$76\,200\$
- Over-absorbed overhead = $$79\,000 - $76\,200 = $2\,800\text{ (Over-absorbed)}$

---

(b) (ii) Reasons for under- or over-absorption
1. Actual overhead expenditure was different from budgeted overhead expenditure.
2. Actual activity level (machine hours / labour hours) was different from budgeted activity level.

---

(c) (i) Total cost and unit cost of Component Z under Absorption Costing

Per Unit Cost of Component Z:
- Direct materials: $$18.00\$
- Direct labour:
- Machining (\$0.5\text{ hrs} \times \$14.00\$): $$7.00$
- Assembly ($1.5\text{ hrs} \times $10.00$): $$15.00\$
- **Prime cost per unit:** $$40.00$
- Absorbed production overheads:
- Machining ($1.2\text{ machine hours} \times $20.00$): $$24.00\$
- Assembly (\$1.5\text{ direct labour hours} \times \$5.00\$): $$7.50$
- **Total absorption cost per unit:** $$40.00 + \$31.50 = \$71.50\$

Total Cost for Special Order (500 units):
$$\text{Total cost} = 500 \times \$71.50 = \$35\,750$$

---

(c) (ii) Contribution and overall profit/loss for Special Order

- Special order revenue (\$500\text{ units} \times \$55.00\$): $$27\,500$
- Variable cost per unit = Prime cost = $$40.00\$
- Total variable costs (\$500\text{ units} \times \$40.00\$): $$20\,000$
- **Total Contribution:** $$27\,500 - \$20\,000 = \$7\,500\$ (or contribution per unit = $$55.00 - $40.00 = $15.00$)
- Apparent absorption profit/(loss) = Revenue ($$27\,500\$) - Total absorption cost ($$35\,750$) = $($8\,250)$ loss
- Net financial impact on business profit = Increase in total profit by **$$7\,500\$** (because fixed overheads are already fixed and committed; spare capacity exists).

---

(d) Advice to Directors

Financial factors:
- The order yields a positive contribution of $$15.00$ per unit (totaling $$7\,500\$), which increases overall business profit since fixed costs are already covered.
- Under absorption costing, the order appears to make a loss of $$8\,250$ ($$16.50\$ per unit) because it absorbs $$15\,750$ of fixed overheads that will be incurred regardless of the order.

**Non-financial factors:**
- Spare capacity is currently available, so accepting the order avoids idle resource wastage.
- Risk that existing regular customers might discover the discounted price ($$55.00\$ vs standard absorption cost $$71.50$) and demand lower prices.
- Potential for future repeat business at regular profitable prices if customer satisfaction is high.
- The order must not compromise future higher-margin orders if capacity becomes constrained.

Conclusion/Recommendation:
Advise the directors to accept the special order provided this is a one-off order and will not affect relationships with existing customers.

(a) (i) [7 marks]
- 1 mark for correct allocation of indirect production costs across all four departments.
- 1 mark for correct apportionment of Factory rent & rates (floor area basis).
- 1 mark for correct apportionment of Factory power (kWh basis).
- 1 mark for correct apportionment of Staff welfare (employee count basis).
- 1 mark for correct subtotals before service reapportionment.
- 1 mark for correct reapportionment of Canteen costs.
- 1 mark for correct reapportionment of Maintenance costs and final department totals (Machining: $140 000; Assembly: $80 000).

(a) (ii) [3 marks]
- 1 mark for Machining OAR formula/basis (machine hours) and correct rate ($20.00 per machine hour).
- 1 mark for Assembly OAR formula/basis (direct labour hours) and correct rate ($5.00 per direct labour hour).
- 1 mark for correct justification/naming of bases (Machining is machine-intensive; Assembly is labour-intensive).

(b) (i) [4 marks]
- Machining department:
- 1 mark for absorbed overhead calculation ($7 200 \times $20 = $144 000).
- 1 mark for correct under-absorption value ($4 500) and stating 'under-absorbed'.
- Assembly department:
- 1 mark for absorbed overhead calculation ($15 800 \times $5 = $79 000).
- 1 mark for correct over-absorption value ($2 800) and stating 'over-absorbed'.

(b) (ii) [2 marks]
- 1 mark for stating that actual overhead expenditure differed from budgeted overheads.
- 1 mark for stating that actual activity level/hours differed from budgeted hours.

(c) (i) [5 marks]
- 1 mark for direct materials ($18.00) and direct labour calculations ($7.00 + $15.00 = $22.00).
- 1 mark for Machining overhead absorbed ($1.2 \times $20 = $24.00).
- 1 mark for Assembly overhead absorbed ($1.5 \times $5 = $7.50).
- 1 mark for unit cost calculation ($71.50 per unit).
- 1 mark for total cost calculation ($35 750 for 500 units).

(c) (ii) [4 marks]
- 1 mark for total revenue calculation ($27 500).
- 1 mark for total variable cost calculation ($20 000).
- 1 mark for total contribution calculation ($7 500 / $15 per unit).
- 1 mark for absorption loss calculation ($8 250) OR clear statement that business profit increases by $7 500.

(d) [5 marks]
- 1–2 marks for relevant financial points (positive contribution of $7 500 vs apparent absorption loss of $8 250; fixed overheads are sunk/committed).
- 1–2 marks for relevant non-financial points (utilization of spare capacity; danger of price contagion/customer discontent; prospect of future orders).
- 1 mark for clear, justified advice/recommendation consistent with arguments presented.

### (a) Subscriptions Account for the year ended 31 December 2025

$$\begin{array}{llr|llr}
\hline
\text{Date} & \text{Details} & \$ & \text{Date} & \text{Details} & \$ \\
\hline
\text{2025} & & & \text{2025} & & \\
\text{Jan 1} & \text{Balance b/d (arrears)} & 1\,600 & \text{Jan 1} & \text{Balance b/d (advance)} & 900 \\
\text{Dec 31} & \text{Income and Expenditure} & 25\,000 & \text{Dec 31} & \text{Bank (receipts)} & 24\,800 \\
& \text{Balance c/d (advance)} & 1\,350 & & \text{Irrecoverable subscriptions} & 350 \\
& & & & \text{Balance c/d (arrears)} & 1\,900 \\
\hline
& & 27\,950 & & & 27\,950 \\
\hline
\end{array}$$

---

### (b) Refreshment Bar Trading Account for the year ended 31 December 2025

$$\begin{array}{lrr}
\hline
& \$ & \$ \\
\hline
\text{Revenue (Bar takings)} & & 38\,600 \\
\text{Less: Cost of sales} & & \\
\quad \text{Opening inventory} & 2\,400 & \\
\quad \text{Purchases (W1)} & 21\,230 & \\
\hline
& 23\,630 & \\
\quad \text{Less: Closing inventory} & (3\,100) & (20\,530) \\
\hline
\text{Gross profit} & & 18\,070 \\
\text{Less: Expenses} & & \\
\quad \text{Bar manager wages} & 7\,800 & \\
\quad \text{Apportioned general expenses (\$20\% \times \$8\,240\$) (W2)} & 1\,648 & (9\,448) \\
\hline
\textbf{Profit on refreshment bar transferred to I&E} & & \mathbf{8\,622} \\
\hline
\end{array}$$

Workings:
- W1 (Purchases):
$$\text{Payments to suppliers } (\$21\,400) + \text{Closing payables } (\$980) - \text{Opening payables } (\$1\,150) = \$21\,230$$
- W2 (Total General Expenses for the year):
$$\text{Paid } (\$8\,100) + \text{Accrued at 31 Dec } (\$560) - \text{Accrued at 1 Jan } (\$420) = \$8\,240$$
$$\text{Bar portion} = 20\% \times \$8\,240 = \$1\,648$$

---

### (c) Income and Expenditure Account for the year ended 31 December 2025

$$\begin{array}{lrr}
\hline
\textbf{Income} & \$ & \$ \\
\hline
\text{Subscriptions} & & 25\,000 \\
\text{Refreshment bar profit} & & 8\,622 \\
\text{Tournament surplus (\$4\,200 - \$2\,900)} & & 1\,300 \\
\text{Donations received} & & 2\,500 \\
\hline
\text{Total Income} & & 37\,422 \\
\hline
\textbf{Expenditure} & & \\
\text{General club expenses (\$80\% \times \$8\,240\$)} & 6\,592 & \\
\text{Insurance (W3)} & 2\,120 & \\
\text{Maintenance of courts} & 3\,450 & \\
\text{Secretary's honorarium} & 1\,500 & \\
\text{Irrecoverable subscriptions written off} & 350 & \\
\text{Loss on disposal of sports equipment (\$1\,200 - \$950)} & 250 & \\
\text{Depreciation -- Clubhouse and courts (\$5\% \times \$140\,000\$)} & 7\,000 & \\
\text{Depreciation -- Sports equipment (W4)} & 3\,100 & (24\,362) \\
\hline
\textbf{Surplus of income over expenditure} & & \mathbf{13\,060} \\
\hline
\end{array}$$

Workings:
- W3 (Insurance):
$$\text{Paid } (\$2\,200) + \text{Prepaid 1 Jan } (\$300) - \text{Prepaid 31 Dec } (\$380) = \$2\,120$$
- W4 (Depreciation on Sports equipment):
$$\text{Opening valuation } (\$18\,500) + \text{Additions } (\$5\,600) - \text{Disposal NBV } (\$1\,200) - \text{Closing valuation } (\$19\,800) = \$3\,100$$

---

### (d) Evaluation and Advice

Option 1: Life Membership Scheme
Advantages:
- Generates immediate lump-sum cash inflows with no liability for repayment of capital.
- No annual finance costs or interest charges incurred, preserving future surpluses.
- May increase long-term member commitment and usage of clubhouse facilities.

Disadvantages:
- Deprives the club of regular annual subscription income from these members in future years.
- If funds raised are exhausted on the project, the club must still service these life members for many years without recurring income.
- Requires at least 50 members to join the scheme ($$50\,000 / \$1\,000\$), which may be unrealistic.

**Option 2: 5-Year Bank Loan**
*Advantages:*
- Spreads the capital cost over 5 years, matching financing with the long-term benefit of the facility.
- Retains ongoing annual subscription income from all current and new members.
- With current annual surplus of $$13\,060$, the club appears to have sufficient cash generation to service annual loan repayments.

*Disadvantages:*
- Incurs interest charges ($8\% \text{ of } $50\,000 = $4\,000$ in Year 1), increasing club expenditure.
- Requires fixed annual principal repayments of $$10\,000\$, placing cash flow strain on the club if membership drops.
- The bank may require collateral / security over club assets.

Conclusion/Recommendation:
The committee should be advised to choose Option 2 (or a blended approach). The club currently generates a healthy annual operating surplus of $$13\,060$, which can comfortably meet the loan interest and principal repayments while preserving recurring subscription revenues from members for future operational sustainability.

(a) Subscriptions Account [4 marks]
- [1] Opening balances correctly placed (Arrears $$1\,600\$ Dr, Advance $$900$ Cr)
- [1] Closing balances correctly placed (Arrears $$1\,900\$ Cr, Advance $$1\,350$ Dr)
- [1] Bank receipts $$24\,800\$ (Cr) AND Irrecoverable subscriptions $$350$ (Cr)
- [1] Transfer to Income & Expenditure Account $$25\,000\$ (Dr) (balancing figure)

**(b) Refreshment Bar Trading Account [5 marks]**
- [1] Revenue / Takings $$38\,600$
- [1] Purchases $$21\,230\$ (calculated with trade payables adjustment)
- [1] Cost of sales $$20\,530$ and Gross profit $$18\,070\$
- [1] Bar expenses: Wages $$7\,800$ + Apportioned general expenses $$1\,648\$
- [1] Profit on refreshment bar $$8\,622$ (OF)

**(c) Income and Expenditure Account [10 marks]**
- [1] Subscriptions $$25\,000\$ (OF from part a)
- [1] Refreshment bar profit $$8\,622$ (OF from part b)
- [1] Tournament profit $$1\,300\$ and Donations $$2\,500$
- [1] General expenses $$6\,592\$ (\$80\% \times \$8\,240\$)
- [1] Insurance $$2\,120$
- [1] Court maintenance $$3\,450\$ + Secretary's honorarium $$1\,500$
- [1] Irrecoverable subscriptions $$350\$ + Loss on disposal $$250$
- [1] Depreciation on Clubhouse and courts $$7\,000\$
- [1] Depreciation on Sports equipment $$3\,100$
- [1] Surplus of income over expenditure $$13\,060\$ (OF)

(d) Advice and Justification [6 marks]
- [1]-[2] Up to 2 marks for analysis of Life Membership Scheme (advantages/disadvantages)
- [1]-[2] Up to 2 marks for analysis of Bank Loan (advantages/disadvantages)
- [1]-[2] Up to 2 marks for a clear, justified recommendation based on financial analysis (e.g., ability to service debt from the $$13\,060$ annual surplus vs loss of long-term recurring revenue).

### (a) Statement of Cash Flows for Vespera plc for the year ended 31 December 2025

Workings:
1. Loss on disposal:
- Carrying amount = $90 000 - $58 000 = $32 000
- Proceeds = $27 000
- Loss on disposal = $32 000 - $27 000 = $5 000

2. **Purchase of Property, Plant and Equipment (PPE):**
- Opening carrying amount: $480 000
- Less: Carrying amount of disposal: ($32 000)
- Less: Depreciation charge: ($65 000)
- Subtotal before additions = $383 000
- Closing carrying amount = $620 000
- Purchases of PPE = $620 000 - $383 000 = $237 000

3. **Interest paid:**
- Opening payable ($3 000) + P/L charge ($5 400) - Closing payable ($2 000) = $6 400

4. **Tax paid:**
- Opening tax ($30 000) + P/L charge ($26 000) - Closing tax ($28 000) = $28 000

5. **Dividends paid:**
- Profit for the year = $112 000 - $5 400 - $26 000 = $80 600
- Opening retained earnings ($140 000) + Profit for the year ($80 600) - Closing retained earnings ($175 000) = $45 600

6. **Proceeds from share issue:**
- Share capital increase ($100 000) + Share premium increase ($30 000) = $130 000

---

#### Vespera plc
#### Statement of Cash Flows for the year ended 31 December 2025

| Cash flows from operating activities | $ | $
|---|---:|---:|
| Profit from operations | | 112 000 |
| Adjustments for: | | |
| Depreciation | 65 000 | |
| Loss on disposal of non-current assets | 5 000 | |
| Operating profit before working capital changes | | 182 000 |
| Increase in inventories (108 000 - 92 000) | (16 000) | |
| Decrease in trade receivables (74 000 - 66 000) | 8 000 | |
| Decrease in trade payables (54 000 - 61 000) | (7 000) | |
| Cash generated from operations | | 167 000 |
| Interest paid | (6 400) | |
| Taxation paid | (28 000) | |
| Net cash from operating activities | | 132 600 |
| | | |
| Cash flows from investing activities | | |
| Purchase of property, plant and equipment | (237 000) | |
| Proceeds from sale of plant | 27 000 | |
| Net cash used in investing activities | | (210 000) |
| | | |
| Cash flows from financing activities | | |
| Proceeds from issue of ordinary shares | 130 000 | |
| Repayment of debentures (80 000 - 50 000) | (30 000) | |
| Dividends paid | (45 600) | |
| Net cash from financing activities | | 54 400 |
| | | |
| Net decrease in cash and cash equivalents | | (23 000) |
| Cash and cash equivalents at 1 January 2025 | | 18 000 |
| Cash and cash equivalents at 31 December 2025 | | (5 000) |

---

### (b) Reasons why a profitable business may experience a net cash outflow
- Substantial capital expenditure / investing cash outflows: Purchasing high-cost non-current assets uses large amounts of cash in the short term, whereas depreciation is spread over several future periods.
- Working capital absorption: Significant cash tied up in increasing inventories or higher trade receivables due to offering credit to customers.
- Financing cash outflows: Large cash repayments of long-term borrowings/debentures or dividend distributions to shareholders that exceed operating cash flow.
- Accrual accounting versus cash timing: Profit is recognized when earned rather than when cash is received; revenue recognized may remain uncollected while costs must be settled in cash.

---

### (c) Evaluation of Rights Issue vs Debentures

Rights issue of ordinary shares:
- Advantages:
- No mandatory annual interest payments; dividends are discretionary.
- Capital is permanent and does not need to be repaid.
- Reduces gearing and financial risk.
- Existing shareholders maintain proportionate voting rights if they take up their rights.
- Disadvantages:
- Dilutes ownership if shareholders do not take up their rights.
- Issue costs can be high.
- Dividends are not tax-deductible (unlike debenture interest).

7% Debentures:
- Advantages:
- No dilution of control/voting rights for existing shareholders.
- Debenture interest is tax-deductible, lowering effective borrowing costs.
- Interest rate is fixed at 7%, allowing predictable cash forecasting.
- Disadvantages:
- Increases gearing and financial risk.
- Mandatory interest payments regardless of company profitability.
- Principal of $200 000 must eventually be repaid or refinanced at maturity; may require security/charge on assets.

**Recommendation:**
Vespera plc's debentures decreased from $80 000 to $50 000, and it already holds an overdraft of $5 000 at year-end. If existing gearing is low, debentures could preserve shareholder control and provide tax relief on interest. However, given the cash drain and need to maintain liquidity, a rights issue is safer as it avoids committed interest outflows. Therefore, the directors are advised to proceed with a rights issue / debentures (with appropriate justification).

(a) Statement of Cash Flows [15 marks]
- Profit from operations: $112 000 [1]
- Depreciation: $65 000 [1]
- Loss on disposal: $5 000 [1] (or [1] for working showing $32 000 carrying amount - $27 000)
- Increase in inventories: ($16 000) [1]
- Decrease in trade receivables: $8 000 [1]
- Decrease in trade payables: ($7 000) [1]
- Interest paid: ($6 400) [1]
- Taxation paid: ($28 000) [1]
- Purchase of PPE: ($237 000) [2] (1 mark for partial working)
- Proceeds from sale of plant: $27 000 [1]
- Proceeds from share issue: $130 000 [1]
- Repayment of debentures: ($30 000) [1]
- Dividends paid: ($45 600) [1]
- Net decrease in cash and opening/closing cash balances correctly reconciled: [1]

(b) Explanation of cash vs profit [4 marks]
- 1 mark for each valid point identified and 1 mark for explanation, up to a maximum of 4 marks (2 points × 2 marks each).
- e.g. High capital expenditure on PPE [1] requiring immediate cash while profit is charged gradually via depreciation [1].
- e.g. Cash used to repay non-current liabilities/dividends [1] which are financing cash outflows that do not affect operating profit [1].
- e.g. Working capital expansion / large build-up of inventory/receivables [1] which absorbs cash without reducing current year profit [1].

(c) Advise the directors [6 marks]
- Arguments in favour of rights issue (max 2 marks)
- Arguments in favour of debentures (max 2 marks)
- Drawbacks/risks of either option (max 2 marks)
- Clear supported recommendation/advice [1 mark]
(Max 5 marks if no clear recommendation given)

### Workings and Solutions

#### Working 1: Calculation of Purchase Consideration
$$\begin{array}{lr}
\hline
\text{Agreed value of assets taken over:} & \$ \\
\hline
\text{Land and buildings} & 190\,000 \\
\text{Plant and machinery} & 55\,000 \\
\text{Delivery vehicles} & 25\,000 \\
\text{Inventory} & 40\,000 \\
\text{Trade receivables } (\$38\,000 - \$3\,000) & 35\,000 \\
\hline
\text{Total agreed assets} & 345\,000 \\
\text{Less: Trade payables taken over} & (40\,000) \\
\hline
\text{Fair value of net identifiable assets} & 305\,000 \\
\text{Add: Goodwill} & 55\,000 \\
\hline
\textbf{Total Purchase Consideration} & \mathbf{360\,000} \\
\hline
\end{array}$$

#### Working 2: Settlement of Purchase Consideration
- Cash consideration = $$60\,000\$
- Balance satisfied in shares = $$360\,000 - $60\,000 = $300\,000$
- Number of shares issued = $\frac{$300\,000}{$1.50} = 200\,000$ shares of $$1\$ each
- Ordinary share capital increase = \$200\,000 \times \$1.00 = \$200\,000\$
- Share premium increase = \$200\,000 \times \$0.50 = \$100\,000\$

---

### (a) Realisation Account

$$\begin{array}{lr|lr}
\hline
\textbf{Dr} & \$ & \textbf{Cr} & \$ \\
\hline
\text{Land and buildings} & 140\,000 & \text{Trade payables} & 40\,000 \\
\text{Plant and machinery} & 68\,000 & \text{Varnex Ltd (Purchase consideration)} & 360\,000 \\
\text{Delivery vehicles} & 32\,000 & & \\
\text{Inventory} & 42\,000 & & \\
\text{Trade receivables} & 38\,000 & & \\
\text{Capital accounts (profit on realisation):} & & & \\
\quad \text{Brian } (3/5) & 48\,000 & & \\
\quad \text{Colin } (2/5) & 32\,000 & & \\
\hline
& \mathbf{400\,000} & & \mathbf{400\,000} \\
\hline
\end{array}$$

---

### (b) Partners' Capital Accounts

$$\begin{array}{lrr|lrr}
\hline
\textbf{Dr} & \textbf{Brian (\$)} & \textbf{Colin (\$)} & \textbf{Cr} & \textbf{Brian (\$)} & \textbf{Colin (\$)} \\
\hline
\text{Shares in Varnex Ltd} & 180\,000 & 120\,000 & \text{Balance b/d} & 150\,000 & 100\,000 \\
\text{Cash / Bank} & 36\,000 & 24\,000 & \text{Current accounts} & 18\,000 & 12\,000 \\
& & & \text{Realisation a/c (profit)} & 48\,000 & 32\,000 \\
\hline
& \mathbf{216\,000} & \mathbf{144\,000} & & \mathbf{216\,000} & \mathbf{144\,000} \\
\hline
\end{array}$$

Note on distribution ratio: Final capital balances before settlement are Brian $$216\,000$ and Colin $$144\,000\$ (total $$360\,000$, which is $60\%:40\%$ or $3:2$).
- Shares allocated: Brian = $120\,000$ shares (value $$180\,000\$); Colin = \$80\,000\$ shares (value $$120\,000$).
- Cash allocated: Brian = $$36\,000\$; Colin = $$24\,000$.

---

### **(c) Statement of Financial Position of Varnex Ltd as at 1 January 2026**

$$\begin{array}{lrr}
\hline
& \$ & \$ \\
\hline
\textbf{Non-current assets} & & \\
\text{Goodwill} & & 55\,000 \\
\text{Property, plant and equipment } (\$420\,000 + \$190\,000 + \$55\,000 + \$25\,000) & & 690\,000 \\
\hline
& & 745\,000 \\
\textbf{Current assets} & & \\
\text{Inventory } (\$85\,000 + \$40\,000) & 125\,000 & \\
\text{Trade receivables } (\$64\,000 + \$35\,000) & 99\,000 & \\
\text{Cash and cash equivalents } (\$92\,000 - \$60\,000) & 32\,000 & 256\,000 \\
\hline
\textbf{Total assets} & & \mathbf{1\,001\,000} \\
\hline
\textbf{Equity and liabilities} & & \\
\textbf{Equity} & & \\
\text{Ordinary shares of } \$1 \text{ each } (\$300\,000 + \$200\,000) & & 500\,000 \\
\text{Share premium } (\$50\,000 + \$100\,000) & & 150\,000 \\
\text{Retained earnings} & & 180\,000 \\
\hline
& & 830\,000 \\
\textbf{Non-current liabilities} & & \\
\text{8\% Debentures (2032)} & & 70\,000 \\
\textbf{Current liabilities} & & \\
\text{Trade payables } (\$61\,000 + \$40\,000) & & 101\,000 \\
\hline
\textbf{Total equity and liabilities} & & \mathbf{1\,001\,000} \\
\hline
\end{array}$$

---

### **(d) Accounting Treatment of Purchased Goodwill**
- Purchased goodwill represents the excess of the purchase consideration over the fair value of identifiable net assets acquired and is recognised as an intangible non-current asset on the Statement of Financial Position.
- In accordance with IAS 38 and IAS 36, goodwill is **not** amortised systematically; instead, it is tested annually for impairment (or more frequently if there is an indicator of impairment) and written down to its recoverable amount if impaired.

---

### **(e) Evaluation: Acquisition vs Organic Growth**

**Advantages of acquisition:**
- **Immediate market presence:** Instant acquisition of established customers, suppliers, and skilled staff without time delays.
- **Elimination of competition:** Reduces direct market competition and increases market share immediately.
- **Lower uncertainty:** Historical performance and cash flows of the partnership are already proven.

**Disadvantages of acquisition:**
- **Cost of goodwill:** Paid $$55\,000\$ for goodwill which may quickly impair if customers leave.
- Integration and culture: Potential resistance from employees or differing operational styles.
- Dilution and liquidity: Issued 200 000 new shares (diluting existing shareholders) and paid out $$60\,000$ cash, lowering liquid reserves.

Conclusion/Recommendation:
- The acquisition is justified because it allows immediate scaling of operations and secures valuable tangible assets at agreed market values, provided the directors actively manage customer retention to protect the acquired goodwill.

(a) Realisation Account [6 marks]
- [1] All partnership book assets debited correctly (Land $$140\text{k}\$, Plant $$68\text{k}$, Vehicles $$32\text{k}\$, Inventory $$42\text{k}$, Receivables $$38\text{k}\$). (All 5 correct for [1], do not allow bank).
- [1] Trade payables credited at book value ($$40\,000$).
- [2] Purchase consideration credited ($$360\,000\$) [1 for calculation of net assets + goodwill, 1 for entry].
- [1] Profit on realisation calculated ($$80\,000$).
- [1] Profit correctly split 3:2 to Brian ($$48\,000\$) and Colin ($$32\,000$).

**(b) Capital Accounts [5 marks]**
- [1] Balances b/d correct (Brian $$150\,000\$, Colin $$100\,000$).
- [1] Transfer of current accounts credited (Brian $$18\,000\$, Colin $$12\,000$).
- [1] Own figure (OF) Realisation profit credited (Brian $$48\,000\$, Colin $$32\,000$).
- [1] Shares debited (Brian $$180\,000\$, Colin $$120\,000$).
- [1] Cash debited (Brian $$36\,000\$, Colin $$24\,000$).

**(c) Statement of Financial Position [8 marks]**
- [1] Intangible asset: Goodwill $$55\,000\$.
- [2] Non-current assets PPE: $$690\,000$ [1 for adding agreed values to existing cost, 1 for correct total].
- [1] Current assets: Inventory $$125\,000\$ and Trade Receivables $$99\,000$.
- [1] Cash and cash equivalents: $$32\,000\$ (existing $$92\,000$ less cash consideration $$60\,000\$).
- [1] Ordinary share capital: $$500\,000$ (existing $$300\,000\$ + new issue $$200\,000$).
- [1] Share premium: $$150\,000\$ (existing $$50\,000$ + premium on new issue $$100\,000\$).
- [1] Liabilities: Debentures $$70\,000$ and Trade payables $$101\,000\$ ($$61\text{k} + $40\text{k}$).

(d) Goodwill treatment [2 marks]
- [1] Stating goodwill is recognised as an intangible asset at cost / difference between consideration and net assets.
- [1] Explaining goodwill is not amortised but subject to annual impairment review under IAS 36/38.

(e) Evaluation and Advice [4 marks]
- [1] Max 2 marks for benefits of acquisition (speed, existing client base, less startup risk).
- [1] Max 2 marks for drawbacks of acquisition / benefits of organic growth (dilution of ownership, loss of cash, integration difficulties, risk of impaired goodwill).
- [1] Justified recommendation / conclusion based on arguments presented.

(a)(i) Production budget (units)

$$\begin{array}{lrrr}
\hline
\textbf{Month} & \textbf{October} & \textbf{November} & \textbf{December} \\
\hline
\text{Budgeted sales (units)} & 4\,000 & 5\,000 & 6\,000 \\
\text{Add: Budgeted closing inventory} & 1\,000 & 1\,200 & 900 \\
\hline
\text{Total units required} & 5\,000 & 6\,200 & 6\,900 \\
\text{Less: Opening inventory} & (800) & (1\,000) & (1\,200) \\
\hline
\textbf{Budgeted production (units)} & \mathbf{4\,200} & \mathbf{5\,200} & \mathbf{5\,700} \\
\hline
\end{array}$$

Workings:
- Closing inventory:
- Oct: $20\% \times 5\,000 = 1\,000$
- Nov: $20\% \times 6\,000 = 1\,200$
- Dec: $20\% \times 4\,500 = 900$

---

(a)(ii) Raw materials purchases budget

$$\begin{array}{lrrr}
\hline
\textbf{Month} & \textbf{October} & \textbf{November} & \textbf{December} \\
\hline
\text{Material required for production (kg)} & 10\,500 & 13\,000 & 14\,250 \\
\text{Add: Budgeted closing inventory (kg)} & 1\,300 & 1\,425 & 1\,150 \\
\hline
\text{Total material required (kg)} & 11\,800 & 14\,425 & 15\,400 \\
\text{Less: Opening inventory (kg)} & (1\,050) & (1\,300) & (1\,425) \\
\hline
\textbf{Budgeted purchases (kg)} & \mathbf{10\,750} & \mathbf{13\,125} & \mathbf{13\,975} \\
\text{Standard purchase price per kg} & \$8 & \$8 & \$8 \\
\hline
\textbf{Budgeted purchase cost (\$)} & \mathbf{\$86\,000} & \mathbf{\$105\,000} & \mathbf{\$111\,800} \\
\hline
\end{array}$$

Workings:
- Material usage for production:
- Oct: $4\,200 \times 2.5 = 10\,500\text{ kg}$
- Nov: $5\,200 \times 2.5 = 13\,000\text{ kg}$
- Dec: $5\,700 \times 2.5 = 14\,250\text{ kg}$
- Closing inventory (10% of following month requirement):
- Oct: $10\% \times 13\,000 = 1\,300\text{ kg}$
- Nov: $10\% \times 14\,250 = 1\,425\text{ kg}$
- Dec: $10\% \times 11\,500 = 1\,150\text{ kg}$

---

(b) Cash budget for the three months ending 31 December 2026

$$\begin{array}{lrrr}
\hline
& \textbf{October (\$)} & \textbf{November (\$)} & \textbf{December (\$)} \\
\hline
\textbf{Receipts:} & & & \\
\text{Cash sales} & 70\,560 & 88\,200 & 105\,840 \\
\text{Receipts from credit customers} & 168\,000 & 168\,000 & 210\,000 \\
\hline
\textbf{Total receipts} & \mathbf{238\,560} & \mathbf{256\,200} & \mathbf{315\,840} \\
\hline
\textbf{Payments:} & & & \\
\text{Trade payables (materials)} & 95\,000 & 86\,000 & 105\,000 \\
\text{Direct labour} & 75\,600 & 93\,600 & 102\,600 \\
\text{Variable overheads} & 25\,200 & 31\,200 & 34\,200 \\
\text{Fixed overheads} & 18\,000 & 18\,000 & 18\,000 \\
\text{Machinery purchase} & - & 20\,000 & 20\,000 \\
\hline
\textbf{Total payments} & \mathbf{213\,800} & \mathbf{248\,800} & \mathbf{279\,800} \\
\hline
\textbf{Net cash flow} & \mathbf{24\,760} & \mathbf{7\,400} & \mathbf{36\,040} \\
\text{Opening bank balance} & 15\,000 & 39\,760 & 47\,160 \\
\hline
\textbf{Closing bank balance} & \mathbf{39\,760} & \mathbf{47\,160} & \mathbf{83\,200} \\
\hline
\end{array}$$

Workings:
- Total sales value: Oct $4\,000 \times $60 = $240\,000$; Nov $5\,000 \times $60 = $300\,000$; Dec $6\,000 \times $60 = $360\,000$.
- Cash sales ($30\% \text{ after } 2\% \text{ discount} = 30\% \times 98\% = 29.4\%$):
- Oct: $$240\,000 \times 0.294 = \$70\,560\$
- Nov: $$300\,000 \times 0.294 = $88\,200$
- Dec: $$360\,000 \times 0.294 = \$105\,840\$
- Credit customer receipts (\$70\%\$ received 1 month in arrears):
- Oct: Sept credit sales balance = $$168\,000$
- Nov: Oct credit sales = $70\% \times $240\,000 = $168\,000$
- Dec: Nov credit sales = $70\% \times $300\,000 = $210\,000$
- Direct labour cost ($1.5\text{ hours} \times $12 = $18\text{ per unit}$ produced):
- Oct: $4\,200 \times $18 = $75\,600$
- Nov: $5\,200 \times $18 = $93\,600$
- Dec: $5\,700 \times $18 = $102\,600$
- Variable overheads ($1.5\text{ hours} \times $4 = $6\text{ per unit}$ produced):
- Oct: $4\,200 \times $6 = $25\,200$
- Nov: $5\,200 \times $6 = $31\,200$
- Dec: $5\,700 \times $6 = $34\,200$
- Note: Factory depreciation of $$6\,000$ per month is a non-cash expense and is omitted from the cash budget.

---

(c) Advice on adopting participative budgeting

Benefits of participative budgeting:
- Improves motivation and morale of operational managers as they feel involved in setting targets and their opinions are valued.
- Increases accuracy and realism of budget estimates because lower-level managers possess closer day-to-day knowledge of operational constraints, machine capacities, and supplier conditions.
- Enhances commitment and goal congruence; managers are more likely to take ownership of budgets they helped create rather than seeing them as unreasonable imposed targets.

Drawbacks of participative budgeting:
- Increases the risk of budgetary slack (cushioning/padding budgets by overestimating costs or underestimating revenues) so that targets are easily achieved.
- More time-consuming and expensive to co-ordinate, negotiate, and consolidate across multiple departments.
- Sub-unit managers may focus on departmental self-interest rather than overarching corporate strategic objectives.

Evaluation / Conclusion:
- Calverton Ltd should adopt a participative budgeting approach, but ensure senior management exercises rigorous oversight, review, and benchmarking to challenge proposed targets and prevent the creation of excessive budgetary slack.

(a)(i) Production budget (3 marks)
- 1 mark for correct calculation of closing inventories (1 000, 1 200, 900)
- 1 mark for correct opening inventory treatments (800, 1 000, 1 200)
- 1 mark for all three final production unit figures (4 200, 5 200, 5 700)

(a)(ii) Raw materials purchases budget (6 marks)
- 1 mark for material usage calculation (10 500, 13 000, 14 250 kg)
- 1 mark for closing inventory calculation (1 300, 1 425, 1 150 kg)
- 1 mark for opening inventory deduction (1 050, 1 300, 1 425 kg)
- 1 mark for purchase quantities in kg (10 750, 13 125, 13 975 kg)
- 2 marks (1 mark for Oct/Nov, 1 mark for Dec) for purchase values in $ ($86 000, $105 000, $111 800)

(b) Cash budget (10 marks)
- 2 marks for cash sales (1 mark if discount correctly applied to all 3 months: $70 560, $88 200, $105 840)
- 2 marks for receipts from credit customers ($168 000, $168 000, $210 000)
- 1 mark for payments to trade payables ($95 000, $86 000, $105 000 [Own Figure from (a)(ii)])
- 1 mark for direct labour payments ($75 600, $93 600, $102 600 [Own Figure from (a)(i)])
- 1 mark for variable overhead payments ($25 200, $31 200, $34 200 [Own Figure from (a)(i)])
- 1 mark for fixed overheads ($18 000 each month) and omission of depreciation
- 1 mark for machinery payments ($20 000 in Nov, $20 000 in Dec)
- 1 mark for correctly derived net cash flow and closing bank balances ($39 760, $47 160, $83 200)

(c) Evaluative Advice (6 marks)
- Up to 2 marks for benefits of participative budgeting (motivation, practical operational insight, goal congruence).
- Up to 2 marks for drawbacks of participative budgeting (budgetary slack, time-consuming process, potential conflict/lack of strategic alignment).
- 2 marks for a clear, justified conclusion/advice based on candidate's points.

### (a) Definition and Identification of Cost Drivers
- Definition: A cost driver is any factor or activity that causes a change in the total cost of an activity / cost pool. (1 mark)
- Cost drivers identified (any two):
- Number of production set-ups (1 mark)
- Number of quality inspections (1 mark)
- Number of purchase orders processed
- Machine hours

---

### (b) Traditional Absorption Costing

#### (i) Overhead Absorption Rate (OAR) per Direct Labour Hour
- Total Direct Labour Hours (DLH):
$$\text{Standard: } 10\,000 \times 1.50 = 15\,000 \text{ hours}$$
$$\text{Deluxe: } 4\,000 \times 2.50 = 10\,000 \text{ hours}$$
$$\text{Elite: } 1\,000 \times 4.00 = 4\,000 \text{ hours}$$
$$\text{Total DLH} = 15\,000 + 10\,000 + 4\,000 = 29\,000 \text{ hours (1 mark)}$$

- Predetermined OAR:
$$\text{OAR} = \frac{\$464\,000}{29\,000 \text{ hours}} = \$16.00 \text{ per direct labour hour (1 mark)}$$

#### (ii) Total Unit Production Cost (Traditional Absorption Costing)

$$\begin{array}{lrrr}
\hline
\textbf{Cost Element} & \textbf{Standard (\$)} & \textbf{Deluxe (\$)} & \textbf{Elite (\$)} \\
\hline
\text{Direct materials} & 24.00 & 42.00 & 75.00 \\
\text{Direct labour (\$12/hr)} & 18.00 & 30.00 & 48.00 \\
\text{Production overhead (\$16/DLH)} & 24.00 & 40.00 & 64.00 \\
\hline
\textbf{Total Unit Production Cost} & \mathbf{66.00} & \mathbf{112.00} & \mathbf{187.00} \\
\hline
\end{array}$$

(1 mark per correct product unit cost)

---

### (c) Activity Based Costing (ABC)

#### (i) Cost Driver Rates

1. Machine set-ups:
$$\text{Total set-ups} = 20 + 35 + 45 = 100$$
$$\text{Rate} = \frac{\$120\,000}{100} = \$1\,200 \text{ per set-up (1 mark)}$$

2. Quality inspections:
$$\text{Total inspections} = 60 + 90 + 90 = 240$$
$$\text{Rate} = \frac{\$144\,000}{240} = \$600 \text{ per inspection (1 mark)}$$

3. Material handling and ordering:
$$\text{Total purchase orders} = 50 + 70 + 80 = 200$$
$$\text{Rate} = \frac{\$80\,000}{200} = \$400 \text{ per purchase order (1 mark)}$$

4. Machine operating and maintenance:
$$\text{Total machine hours} = (10\,000 \times 1.00) + (4\,000 \times 2.00) + (1\,000 \times 6.00) = 10\,000 + 8\,000 + 6\,000 = 24\,000 \text{ hours}$$
$$\text{Rate} = \frac{\$120\,000}{24\,000} = \$5.00 \text{ per machine hour (1 mark)}$$

#### (ii) Total Unit Production Cost (ABC)

Apportionment of Overheads:
- Standard:
- Set-ups: \(20 \times \$1\,200 = \$24\,000\)
- Inspections: \(60 \times \$600 = \$36\,000\)
- Ordering: \(50 \times \$400 = \$20\,000\)
- Machine: \(10\,000 \times \$5.00 = \$50\,000\)
- Total Overhead = $130\,000
- Overhead per unit = \(\frac{\$130\,000}{10\,000} = \$13.00\)

- **Deluxe:**
- Set-ups: \(35 \times \$1\,200 = \$42\,000\)
- Inspections: \(90 \times \$600 = \$54\,000\)
- Ordering: \(70 \times \$400 = \$28\,000\)
- Machine: \(8\,000 \times \$5.00 = \$40\,000\)
- Total Overhead = $164\,000
- Overhead per unit = \(\frac{\$164\,000}{4\,000} = \$41.00\)

- Elite:
- Set-ups: \(45 \times \$1\,200 = \$54\,000\)
- Inspections: \(90 \times \$600 = \$54\,000\)
- Ordering: \(80 \times \$400 = \$32\,000\)
- Machine: \(6\,000 \times \$5.00 = \$30\,000\)
- Total Overhead = $170\,000
- Overhead per unit = \(\frac{\$170\,000}{1\,000} = \$170.00\)

**Unit Production Cost Table:**

$$\begin{array}{lrrr}
\hline
\textbf{Cost Element} & \textbf{Standard (\$)} & \textbf{Deluxe (\$)} & \textbf{Elite (\$)} \\
\hline
\text{Direct materials} & 24.00 & 42.00 & 75.00 \\
\text{Direct labour} & 18.00 & 30.00 & 48.00 \\
\text{ABC Overhead per unit} & 13.00 & 41.00 & 170.00 \\
\hline
\textbf{Total Unit Production Cost} & \mathbf{55.00} & \mathbf{113.00} & \mathbf{293.00} \\
\hline
\end{array}$$

*(Workings for total overhead per product: 2 marks; unit ABC overhead and final unit costs: 1 mark per product)*

---

### **(d) Cost Difference Explanation for Elite Product**
- Under traditional absorption costing, overhead is absorbed on direct labour hours (a volume-based driver). Elite represents only 13.8% of total DLH (\(4\,000 / 29\,000\)) and therefore receives a small share of overhead ($64 per unit). (1 mark)
- Under ABC, overheads are driven by batch and complexity-related activities. Elite accounts for 45% of set-ups, 37.5% of inspections, and 40% of purchase orders, despite accounting for only 6.7% of total production volume. (1 mark)
- Traditional absorption costing results in high-volume products (Standard) cross-subsidising low-volume, complex products (Elite), causing Elite to be severely under-costed under traditional absorption costing. (1 mark)

---

### (e) Advice to Directors

Benefits of implementing ABC:
- Provides more accurate product cost information by reflecting the actual consumption of non-volume overhead activities.
- Eliminates cross-subsidisation, revealing that Elite's actual cost is $293.00 compared to $187.00; allows Veloce to adjust pricing or discontinue unprofitable lines.
- Facilitates activity management and cost control by identifying activities with high cost drivers (e.g., set-ups, inspections).

Drawbacks / Limitations of ABC:
- Implementation is costly, time-consuming, and requires extensive record-keeping for cost pools and drivers.
- Overheads may still require subjective apportionments to activity cost pools.
- If market prices are determined by external competition, knowing the ABC cost may not allow Veloce to raise prices for Elite.

Conclusion / Recommendation:
- A clear recommendation supported by the balance of arguments (e.g., Veloce should adopt ABC because the manufacturing process is complex, diversified across batch sizes, and overheads represent a substantial proportion of costs, making accurate pricing essential).

(a) [Max 3 marks]
- 1 mark for clear definition of cost driver (factor/activity causing cost to be incurred / change).
- 1 mark each for identifying any two cost drivers from the scenario (max 2 marks).

(b)(i) [2 marks]
- 1 mark for calculating total direct labour hours (29 000 hours).
- 1 mark for predetermined OAR ($16.00 per DLH).

**(b)(ii) [3 marks]**
- 1 mark for Standard unit cost = $66.00
- 1 mark for Deluxe unit cost = $112.00
- 1 mark for Elite unit cost = $187.00

(c)(i) [4 marks]
- 1 mark: Set-up rate ($1 200 per set-up)
- 1 mark: Inspection rate ($600 per inspection)
- 1 mark: Purchase order rate ($400 per order)
- 1 mark: Machine rate ($5.00 per machine hour)

(c)(ii) [5 marks]
- 2 marks for total overhead apportionment (1 mark for correct method, 1 mark for all three totals: $130 000, $164 000, $170 000).
- 1 mark for Standard ABC unit cost ($55.00) [allow own figure (OF)]
- 1 mark for Deluxe ABC unit cost ($113.00) [allow OF]
- 1 mark for Elite ABC unit cost ($293.00) [allow OF]

(d) [Max 3 marks]
- 1 mark for explaining that traditional costing uses labour hours which assigns a low overhead share to low-volume products.
- 1 mark for explaining that ABC allocates overhead based on activity consumption (Elite consumes high % of set-ups/inspections/orders relative to volume).
- 1 mark for identifying cross-subsidisation / under-costing under traditional costing.

(e) [Max 5 marks]
- Up to 2 marks for advantages of ABC (more accurate unit cost, better pricing/decision making, cost control).
- Up to 2 marks for disadvantages of ABC (high implementation cost, complexity, subjectivity in driver selection).
- 1 mark for a justified conclusion/recommendation based on preceding arguments.