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Thinka Jan 2026 (V2) Cambridge International A Level-Style Mock — Accounting (YAC11)

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An original Thinka practice paper modelled on the structure and difficulty of the Jan 2026 (V2) Cambridge International A Level Accounting (YAC11) paper. Not affiliated with or reproduced from Cambridge.

Unit 1 Section A

Answer BOTH compulsory questions in this section.

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PastPaper.question 1 · Statement of Profit or Loss and Financial Position preparation

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Harlan is a sole trader who operates a wholesale business distributing electronic goods. The following trial balance was extracted from his books as at 30 April 2023:

| Account | Debit ($\pounds$) | Credit ($\pounds$) |
| :--- | :---: | :---: |
| Capital (1 May 2022) | | 120,000 |
| Drawings | 18,500 | |
| Revenue | | 495,000 |
| Purchases | 310,000 | |
| Inventory (1 May 2022) | 45,200 | |
| Returns inward | 6,400 | |
| Returns outward | | 4,100 |
| Carriage inwards | 3,800 | |
| Carriage outwards | 5,100 | |
| Warehouse wages and salaries | 42,600 | |
| Administration salaries | 31,000 | |
| Rent and rates | 24,000 | |
| Heat and light | 9,600 | |
| Equipment (at cost) | 80,000 | |
| Provision for depreciation on equipment (1 May 2022) | | 28,800 |
| Delivery vehicles (at cost) | 65,000 | |
| Provision for depreciation on delivery vehicles (1 May 2022) | | 19,500 |
| Trade receivables | 52,400 | |
| Trade payables | | 31,200 |
| Allowance for doubtful debts (1 May 2022) | | 1,500 |
| Bank overdraft | | 12,800 |
| Cash in hand | 400 | |
| General expenses | 18,900 | |
| **Total** | **712,900** | **712,900** |

**Additional Information at 30 April 2023:**

1. Inventory at 30 April 2023 was valued at a cost of $\pounds 38,500$. This included some slow-moving goods which had cost $\pounds 4,200$. These goods can be sold for $\pounds 2,500$ after spending $\pounds 300$ on repackaging.
2. Accruals and prepayments at 30 April 2023:
- Rent and rates includes an annual rates payment of $\pounds 7,200$ for the period 1 November 2022 to 31 October 2023.
- Warehouse wages and salaries of $\pounds 1,800$ were accrued.
- Heat and light unpaid was $\pounds 750$.
3. During the year, Harlan took goods costing $\pounds 1,200$ for personal use. No entry had been made in the accounting records.
4. Trade receivables include a debt of $\pounds 2,400$ from a customer who has gone into liquidation. This debt is to be written off.
5. The allowance for doubtful debts is to be adjusted to 5% of the remaining trade receivables.
6. Depreciation on non-current assets is to be provided as follows:
- Equipment: 15% per annum using the reducing balance method.
- Delivery vehicles: 20% per annum on cost using the straight-line method.

**Required:**

(a) Prepare the Statement of Profit or Loss for the year ended 30 April 2023. **(24 marks)**
(b) Prepare the Statement of Financial Position as at 30 April 2023. **(18 marks)**
(c) (i) Explain how the Accruals concept and Consistency concept have been applied in the preparation of these financial statements. **(6 marks)**
(ii) Evaluate whether Harlan should change the depreciation method for delivery vehicles from the straight-line method to the reducing balance method. **(7 marks)**

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Statement of Profit or Loss for the year ended 30 April 2023**

| | $\pounds$ | $\pounds$ |
| :--- | :---: | :---: |
| **Revenue** | | 495,000 |
| Less: Returns inward | | (6,400) |
| **Net Revenue** | | **488,600** |
| | | |
| **Cost of Sales** | | |
| Opening inventory | 45,200 | |
| Purchases ($310,000 - 1,200$) | 308,800 | |
| Less: Returns outward | (4,100) | |
| Net Purchases | 304,700 | |
| Add: Carriage inwards | 3,800 | |
| Goods available for sale | 353,700 | |
| Less: Closing inventory (see Note 1) | (36,500) | |
| **Cost of sales** | | **(317,200)** |
| **Gross Profit** | | **171,400** |
| | | |
| **Expenses** | | |
| Carriage outwards | 5,100 | |
| Warehouse wages ($42,600 + 1,800$) | 44,400 | |
| Administration salaries | 31,000 | |
| Rent and rates ($24,000 - 3,600$ prepaid) (see Note 2) | 20,400 | |
| Heat and light ($9,600 + 750$ accrued) | 10,350 | |
| General expenses | 18,900 | |
| Bad debts written off | 2,400 | |
| Increase in allowance for doubtful debts (see Note 3) | 1,000 | |
| Depreciation - Equipment (see Note 4) | 7,680 | |
| Depreciation - Delivery vehicles ($20\% \times 65,000$) | 13,000 | |
| **Total Expenses** | | **(154,230)** |
| **Profit for the year** | | **17,170** |

---

**(b) Statement of Financial Position as at 30 April 2023**

| **Non-current Assets** | Cost ($\pounds$) | Accum. Depr ($\pounds$) | Carrying Value ($\pounds$) |
| :--- | :---: | :---: | :---: |
| Equipment | 80,000 | 36,480 | 43,520 |
| Delivery vehicles | 65,000 | 32,500 | 32,500 |
| **Total Non-current Assets** | **145,000** | **68,980** | **76,020** |

| **Current Assets** | $\pounds$ | $\pounds$ |
| :--- | :---: | :---: |
| Inventory | | 36,500 |
| Trade receivables ($50,000 - 2,500$) | | 47,500 |
| Prepayments (Rates) | | 3,600 |
| Cash in hand | | 400 |
| **Total Current Assets** | | **88,000** |
| **Total Assets** | | **164,020** |

| **Capital and Liabilities** | $\pounds$ | $\pounds$ |
| :--- | :---: | :---: |
| **Capital** | | |
| Opening Capital (1 May 2022) | | 120,000 |
| Add: Profit for the year | | 17,170 |
| | | 137,170 |
| Less: Drawings ($18,500 + 1,200$) | | (19,700) |
| **Closing Capital** | | **117,470** |
| | | |
| **Current Liabilities** | | |
| Trade payables | 31,200 | |
| Accruals ($1,800 + 750$) | 2,550 | |
| Bank overdraft | 12,800 | |
| **Total Current Liabilities** | | **46,550** |
| **Total Capital and Liabilities** | | **164,020** |

---

### **Working Notes:**

1. **Closing Inventory Valuation:**
- Normal inventory cost: $\pounds 38,500 - \pounds 4,200 = \pounds 34,300$.
- Net Realisable Value (NRV) of slow-moving goods: $\text{Selling price } \pounds 2,500 - \text{Repackaging cost } \pounds 300 = \pounds 2,200$.
- According to IAS 2, inventory is valued at the lower of cost ($\pounds 4,200$) and NRV ($\pounds 2,200$). Hence, slow-moving goods are valued at $\pounds 2,200$.
- Total Closing Inventory = $\pounds 34,300 + \dots \pounds 2,200 = \pounds 36,500$.

2. **Rent and Rates Prepayment:**
- Annual rates of $\pounds 7,200$ cover the 12-month period from 1 Nov 2022 to 31 Oct 2023.
- The financial year ends on 30 April 2023. The prepaid period is 1 May 2023 to 31 Oct 2023 (6 months).
- Prepayment calculation: $\pounds 7,200 \times \frac{6}{12} = \pounds 3,600$.
- rent/rates expense = $\pounds 24,000 - \pounds 3,600 = \pounds 20,400$.

3. **Allowance for Doubtful Debts:**
- Adjusted Trade Receivables: $\pounds 52,400 - \pounds 2,400 = \pounds 50,000$.
- Required Allowance (5%): $5\% \times \pounds 50,000 = \dots \pounds 2,500$.
- Existing Allowance: $\pounds 1,500$.
- Increase in Allowance (expense): $\pounds 2,500 - \dots \pounds 1,500 = \dots \pounds 1,000$.

4. **Depreciation on Equipment:**
- Reducing Balance method: 15% of Net Book Value (NBV).
- NBV = $\text{Cost } \pounds 80,000 - \text{Accumulated Depreciation } \dots \pounds 28,800 = \dots \pounds 51,200$.
- Annual charge: $15\% \times \pounds 51,200 = \dots \pounds 7,680$.
- New Accumulated Depreciation: $\pounds 28,800 + \dots \pounds 7,680 = \dots \pounds 36,480$.

---

**(c) (i) Application of Accounting Concepts**

* **Accruals Concept:**
- This concept requires that revenue and expenses are recognized in the period they occur, not when cash is received or paid.
- *Application:* Harlan adjusted warehouse wages (adding $\pounds 1,800$ accrued) and heat & light (adding $\pounds 750$ accrued) to ensure the full year's expense was recorded. Similarly, rates were reduced by $\pounds 3,600$ because this prepayment belongs to the next period. Bad debts written off and the provision for doubtful debts adjust revenue earned against expected losses.

* **Consistency Concept:**
- This concept requires that once an accounting policy or method (such as a depreciation method) is chosen, it should be applied consistently from period to period to ensure comparability of the financial statements.
- *Application:* Harlan has continued to use the reducing balance method for equipment and the straight-line method for delivery vehicles, using the same rates as in previous years. Any changes must be fully justified and disclosed in the notes.

**(c) (ii) Evaluation of changing depreciation method for delivery vehicles**

* **Arguments for changing to the reducing balance method:**
- Delivery vehicles typically experience a greater fall in value during their initial years of use due to rapid depreciation and obsolescence. The reducing balance method represents this physical and economic reality more accurately than straight line.
- It matches the overall costs of running the vehicles across years. In the early years, depreciation is high but maintenance costs are low. In later years, depreciation falls and maintenance rises, keeping total vehicle expenses relatively stable across the years (complying with the matching/accruals concept).

* **Arguments against changing (remaining on straight-line):**
- The straight-line method is simpler, easier to calculate, and easier to understand for users of the accounts.
- Changing the method violates the consistency concept. It can distort year-on-year comparability of profits unless a strong justification exists.
- A change in accounting policy requires adjustments and disclosures, which increases bookkeeping complexity.

* **Conclusion:**
- Harlan should change to the reducing balance method only if it provides a significantly fairer presentation of the delivery vehicles' financial value and utility usage. Since delivery vehicles lose value quickly in early years, a change is conceptually justified, provided the details and impact of the change are clearly disclosed in the financial statements.

PastPaper.markingScheme

### **Part (a) Statement of Profit or Loss (Total: 24 marks)**
- Net Revenue: $\pounds 488,600$ **(1)**
- Purchases: $\pounds 308,800$ **(1)**
- Returns outward: $\pounds 4,100$ **(1)**
- Carriage inwards: $\pounds 3,800$ **(1)**
- Closing inventory: **(3)** [$\pounds 34,300$ **(1)**, $\pounds 2,200$ **(1)**, final sum $\pounds 36,500$ **(1)**]
- Gross Profit: $\pounds 171,400$ **(1 OF)**
- Carriage outwards: $\pounds 5,100$ **(1)**
- Warehouse wages: $\pounds 44,400$ **(2)** [$\pounds 42,600 + 1,800$ **(1)**, final figure **(1)**]
- Administration salaries: $\pounds 31,000$ **(1)**
- Rent & Rates: $\pounds 20,400$ **(2)** [$\pounds 24,000 - 3,600$ prepayment **(1)**, final figure **(1)**]
- Heat & Light: $\pounds 10,350$ **(2)** [$\pounds 9,600 + 750$ accrued **(1)**, final figure **(1)**]
- General expenses: $\pounds 18,900$ **(1)**
- Bad debts written off: $\pounds 2,400$ **(1)**
- Increase in allowance for doubtful debts: $\pounds 1,000$ **(2)** [new allowance $\pounds 2,500$ **(1)**, change **(1)**]
- Depreciation - Equipment: $\pounds 7,680$ **(2)** [working $15\% \times 51,200$ **(1)**, final figure **(1)**]
- Depreciation - Delivery vehicles: $\pounds 13,000$ **(1)**
- Profit for the year: $\pounds 17,170$ **(1 OF)**

### **Part (b) Statement of Financial Position (Total: 18 marks)**
- Non-current Assets - Equipment carrying value: $\pounds 43,520$ **(2)** [correct accumulated depr $\pounds 36,480$ **(1)**, NBV **(1)**]
- Non-current Assets - Delivery vehicles carrying value: $\pounds 32,500$ **(2)** [correct accumulated depr $\pounds 32,500$ **(1)**, NBV **(1)**]
- Inventory: $\pounds 36,500$ **(1 OF)**
- Trade receivables: $\pounds 47,500$ **(2)** [$\pounds 50,000$ **(1)** minus allowance $\pounds 2,500$ **(1)**]
- Prepayments: $\pounds 3,600$ **(1)**
- Cash in hand: $\pounds 400$ **(1)**
- Capital - Opening balance: $\pounds 120,000$ **(1)**
- Capital - Profit for the year: $\pounds 17,170$ **(1 OF)**
- Capital - Drawings: $\pounds 19,700$ **(2)** [$\pounds 18,500 + 1,200$ **(1)**, final figure **(1)**]
- Current liabilities - Trade payables: $\pounds 31,200$ **(1)**
- Current liabilities - Accruals: $\pounds 2,550$ **(2)** [$\pounds 1,800 + 750$ **(1)**, final figure **(1)**]
- Bank overdraft: $\pounds 12,800$ **(1)**

### **Part (c) (i) Explanation of Accounting Concepts (Total: 6 marks)**
- **Accruals Concept (Max 3 marks):**
- Definition of accruals concept: income/expenses recognized when earned/incurred **(1)**.
- Application to expenses (Warehouse wages/Heat & Light accrued added, Rent prepaid subtracted) **(1)**.
- Application to receivables (Allowance matches revenue to period) **(1)**.
- **Consistency Concept (Max 3 marks):**
- Definition of consistency concept: accounting treatment applied in the same way each period **(1)**.
- Application to depreciation methods (Equipment using reducing balance and delivery vehicles using straight-line consistently) **(1)**.
- Benefit of consistency (enables comparison over years) **(1)**.

### **Part (c) (ii) Evaluation of Changing Depreciation Method (Total: 7 marks)**
- **1-2 Marks:** Basic points showing understanding of straight-line vs reducing balance methods.
- **3-4 Marks:** Detailed arguments for OR against changing methods, linked to the nature of delivery vehicles (rapid initial loss of value, repair cost offset).
- **5-6 Marks:** Balanced argument addressing BOTH sides of the change, discussing consistency concept implications and matching concept.
- **7 Marks:** Reasoned conclusion/recommendation addressing whether Harlan should execute the change.

PastPaper.question 2 · essay

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Olivia is a sole trader who prepares accounts to 30 April annually. After preparing her draft financial statements for the year ended 30 April 2023, she discovered that the trial balance did not agree. The credit side exceeded the debit side by a certain amount. She opened a Suspense Account for this difference.

The draft profit for the year was calculated as $£42,500$.

Subsequent investigations revealed the following errors:
1. A payment of $£840$ to a credit supplier, M. Vance, had been correctly entered in the cash book but posted to the debit of M. Vance's account as $£480$.
2. The purchase of a computer on credit from Tech Solutions for $£1,500$ had been entered in the Purchases Day Book and posted to the Purchases account. Depreciation is charged at 20% per annum on cost on all computer equipment held at the year-end. No depreciation has yet been provided for this computer.
3. A cheque received from a credit customer, J. Carter, for $£620$ had been correctly entered in the cash book, but no other entry had been made in the accounts.
4. Motor expenses of $£450$ incurred for Olivia's private motor vehicle had been debited to the Motor Expenses account.
5. The Sales Day Book had been undercast by $£800$.
6. A credit sale of goods to H. Patel for $£930$ had been recorded in the Sales Day Book as $£390$ and posted to H. Patel's account as $£390$.

**Required:**

(a) Prepare the journal entries to correct each of the errors (1) to (6). Narratives are required. (20 marks)

(b) Prepare the Suspense Account, showing the corrections and the balance required to clear the account. (10 marks)

(c) Prepare a statement to show the corrected profit for the year ended 30 April 2023. (13 marks)

(d) Evaluate the usefulness of control accounts and the trial balance as methods of detecting and preventing accounting errors. (12 marks)

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Journal Entries to correct the errors:**

1.
- **Debit:** M. Vance Account: $£360$
- **Credit:** Suspense Account: $£360$
- *Narrative:* Correction of an understatement of a payment to supplier M. Vance.

2.
- **Debit:** Office Equipment (Computer): $£1,500$
- **Credit:** Purchases: $£1,500$
- *Narrative:* Correction of office equipment purchase incorrectly recorded as purchases.
- **Debit:** Depreciation Expense: $£300$
- **Credit:** Accumulated Depreciation: $£300$
- *Narrative:* Provision of 20% depreciation on newly acquired computer.

3.
- **Debit:** Suspense Account: $£620$
- **Credit:** J. Carter Account: $£620$
- *Narrative:* Correction of omitted credit entry for a payment received from customer J. Carter.

4.
- **Debit:** Drawings: $£450$
- **Credit:** Motor Expenses: $£450$
- *Narrative:* Correction of private motor expenses incorrectly debited to the business expense account.

5.
- **Debit:** Suspense Account: $£800$
- **Credit:** Sales (Revenue): $£800$
- *Narrative:* Correction of an undercast in the Sales Day Book.

6.
- **Debit:** H. Patel Account: $£540$
- **Credit:** Sales (Revenue): $£540$
- *Narrative:* Correction of an error of original entry where a credit sale of $£930$ was recorded as $£390$.

***

**(b) Suspense Account:**

| Date (2023) | Details | Debit ($£$) | Date (2023) | Details | Credit ($£$) |
|---|---|---|---|---|---|
| 30 April | J. Carter (3) | 620 | 30 April | Difference on Trial Balance (b/d) | 1,060 |
| 30 April | Sales (5) | 800 | 30 April | M. Vance (1) | 360 |
| | **Total** | **1,420** | | **Total** | **1,420** |

***

**(c) Statement of Corrected Profit for the year ended 30 April 2023:**

| Details | Adjustments ($£$) | Profit ($£$) |
|---|---|---|
| **Draft Profit before corrections** | | **42,500** |
| **Add:** | | |
| (2) Purchases adjustment (Capitalized computer) | 1,500 | |
| (4) Private motor expenses transferred to Drawings | 450 | |
| (5) Understated Sales (undercast) | 800 | |
| (6) Understated Sales to H. Patel ($930 - 390$) | 540 | 3,290 |
| | | **45,790** |
| **Less:** | | |
| (2) Depreciation of new computer ($1,500 \times 20\%$) | (300) | (300) |
| **Corrected Profit for the year** | | **45,490** |

***

**(d) Evaluation of Control Accounts and Trial Balance:**

- **Trial Balance:** It provides an initial arithmetical check on the double-entry system. If the total debits do not equal total credits, it indicates errors have occurred (e.g., single-sided posting errors or transpositions). However, the trial balance has major limitations because it fails to detect errors of omission, commission, principle, original entry, compensating errors, and complete reversal.
- **Control Accounts:** Prepared independently of the ledgers, they summarize trade receivables and payables. By comparing control account balances to the lists of individual customer/supplier ledger balances, errors such as omissions or additions in personal ledgers can be quickly localized. They also deter internal fraud. However, they are prepared from books of prime entry; if an error exists in a book of prime entry (e.g., Sales Day Book undercast), both the control account and ledger balances will agree but both will be wrong.
- **Conclusion:** Both tools are critical but limited. They must be supported by other control measures, such as internal audits, segregation of duties, and bank reconciliations, to ensure absolute accounting accuracy.

PastPaper.markingScheme

**Part (a): 20 marks**
- Error 1: 3 marks (Debit M. Vance $£360$ [1], Credit Suspense $£360$ [1], Narrative [1])
- Error 2: 5 marks (Debit Office Equipment $£1,500$ [1], Credit Purchases $£1,500$ [1], Debit Depreciation $£300$ [1], Credit Acc. Dep. $£300$ [1], Combined/Individual Narrative [1])
- Error 3: 3 marks (Debit Suspense $£620$ [1], Credit J. Carter $£620$ [1], Narrative [1])
- Error 4: 3 marks (Debit Drawings $£450$ [1], Credit Motor Expenses $£450$ [1], Narrative [1])
- Error 5: 3 marks (Debit Suspense $£800$ [1], Credit Sales $£800$ [1], Narrative [1])
- Error 6: 3 marks (Debit H. Patel $£540$ [1], Credit Sales $£540$ [1], Narrative [1])
*Acceptable alternative accounts: 'Trade Payables' instead of 'M. Vance' and 'Trade Receivables' instead of 'J. Carter' or 'H. Patel'. Narratives must capture the essence of correcting the errors.*

**Part (b): 10 marks**
- Opening Credit balance / Trial Balance difference of $£1,060$: 2 marks
- Credit entry M. Vance $£360$: 2 marks
- Debit entry J. Carter $£620$: 2 marks
- Debit entry Sales $£800$: 2 marks
- Calculation, Balancing, and presentation of zero balance: 2 marks

**Part (c): 13 marks**
- Starting Draft Profit $£42,500$: 1 mark
- Purchases reduction $+£1,500$: 2 marks
- Depreciation charge $-£300$: 2 marks
- Motor expenses reduction $+£450$: 2 marks
- Sales undercast correction $+£800$: 2 marks
- H. Patel sales understatement $+£540$: 2 marks
- Correct final profit $£45,490$: 2 marks (1 mark for math accuracy, 1 mark for correct formatting/clear presentation of additions vs subtractions)

**Part (d): 12 marks**
- **Level 1 (1-4 marks):** Candidate lists basic definitions/points of Trial Balance and/or Control Accounts without structured comparison or detail of error types.
- **Level 2 (5-8 marks):** Candidate describes both tools, identifies some errors they can/cannot detect, and shows a basic understanding of their limitations.
- **Level 3 (9-12 marks):** Candidate provides a balanced, comprehensive evaluation of both tools, discussing arithmetical vs non-arithmetical errors, systemic weaknesses (e.g., prime entry errors bypass control accounts), and concludes with an overall judgment on necessity and supplementary procedures (e.g. bank reconciliations, internal audits).

Unit 1 Section B

Answer any THREE questions from this section.

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PastPaper.question 1 · Control accounts and double entry rules

30 PastPaper.marks

Jessica Tan is a sole trader who runs a wholesaling business. She maintains control accounts in her general ledger. On 30 April 2023, her assistant drafted the following Trade Receivables Ledger Control Account, which did not balance with the total of the list of balances extracted from the sales ledger.

Trade Receivables Ledger Control Account for the month ended 30 April 2023
Debit Details£Credit Details£Balance b/d (1 April 2023)34,800Bank receipts from credit customers76,400Credit sales88,500Discount allowed1,850Interest charged on overdue account120Sales returns2,400Contra with Trade Payables Ledger1,500Irrecoverable debts written off950Balance c/d40,320Total123,420Total123,420
On 30 April 2023, the total of the schedule of customer balances from the trade receivables ledger was £41,230.

On investigation, the following errors and omissions were discovered:
1. The Sales Day Book had been undercast by £1,200.
2. A credit customer, Albert, was refunded £600 by cheque. This refund was recorded correctly in the bank account but was entered in Albert’s individual account as a receipt of £600. No entry had been made in the control account for this refund.
3. An irrecoverable debt of £450 from credit customer Brenda had been written off in her personal account, but no entry had been made in the General Ledger.
4. A credit note for £350 issued to customer Charles had been entered in the Sales Returns Day Book as £530. It was correctly recorded in Charles's personal account as £350.
5. Discount allowed of £180 to customer David had been entered in his personal account, but was completely omitted from the Cash Book.
6. A contra of £800 between the Trade Receivables Ledger and Trade Payables Ledger for customer/supplier Edward had been entered correctly in the individual ledger accounts, but was recorded in the control account as £1,800.
7. A debit balance of £240 in the sales ledger of Frank had been omitted from the list of balances.

Required:
(a) Prepare the corrected Trade Receivables Ledger Control Account for the month ended 30 April 2023, showing clearly the corrected balance carried down. (12 marks)
(b) Prepare a statement reconciling the original total of the schedule of customer balances with the corrected balance of the Trade Receivables Ledger Control Account. (6 marks)
(c) Prepare the journal entries to correct errors (3) and (5). Narratives are not required. (6 marks)
(d) Evaluate the usefulness of preparing control accounts to a business. (6 marks)

PastPaper.showAnswers

PastPaper.workedSolution

(a) Corrected Trade Receivables Ledger Control Account
Debit Details£Credit Details£Balance b/d (from draft balance c/d)40,320Irrecoverable debts (Brenda)450Credit sales (undercast day book)1,200Discount allowed (David)180Bank (refund to Albert)600Balance c/d (corrected)42,670Sales returns error (Charles)180Contra error (Edward)1,000Total43,300Total43,300Balance b/d42,670
Workings for adjustments:
- Sales Returns Correction: Original entry £530 instead of £350 overstated credit total of sales returns by £180. To correct, debit Control Account with £180.
- Contra Error Correction: Original entry £1,800 instead of £800 overstated the contra credit by £1,000. To correct, debit Control Account with £1,000.

(b) Statement Reconciling the Schedule of Customer Balances as at 30 April 2023
Original total of schedule of customer balances£41,230Add:Correction to Albert's individual account ($£600 \times 2$)1,200Omitted balance of Frank240Corrected total of schedule (reconciled)£42,670
Note: Albert's individual account was incorrectly credited with £600 instead of being debited. To correct this error, his account must be debited with £1,200 (reversing the £600 credit and posting the correct £600 debit). This increases the debit balances by £1,200.

(c) Journal Entries
DetailsDebit (£)Credit (£)Error (3)Irrecoverable Debts450 Trade Receivables Ledger Control Account450Error (5)Discount Allowed180 Trade Receivables Ledger Control Account180

(d) Evaluation of Control Accounts
Arguments for:
- Control accounts verify the arithmetical accuracy of the subsidiary ledgers (sales and purchases ledgers).
- They help locate errors by identifying whether the discrepancy lies in the general ledger or the individual ledger accounts.
- They act as an internal check to deter fraud and collusion, particularly when maintained by someone other than the person ledger-posting.
- They provide a summary total of trade receivables and trade payables quickly for the preparation of financial statements without extracting individual customer lists.

Arguments against / Limitations:
- Control accounts will not detect errors of omission, commission, principle, original entry, compensating errors, or complete reversal because both sides of the double-entry are affected or omitted entirely.
- They require additional administrative work, time, and cost to prepare.
- If there is lack of segregation of duties, the same person maintaining both ledger systems can falsify entries to conceal fraud.

Conclusion:
Overall, control accounts are an essential control mechanism that enhances the accuracy and reliability of the accounting records. Despite their limitations in detecting certain types of errors, they remain highly valuable for medium-to-large enterprises, especially when supported by segregation of duties and computerized accounting software.

PastPaper.markingScheme

Part (a) [12 Marks]
- Starting balance (£40,320) on Dr side: (1) [A]
- Credit sales undercast (£1,200) on Dr side: (2) [1M + 1A]
- Bank refund (£600) on Dr side: (2) [1M + 1A]
- Sales returns correction (£180) on Dr side: (2) [1M + 1A]
- Contra error correction (£1,000) on Dr side: (2) [1M + 1A]
- Irrecoverable debts Brenda (£450) on Cr side: (1) [A]
- Discount allowed David (£180) on Cr side: (1) [A]
- Correct balance c/d and b/d (£42,670): (1) [A]

Part (b) [6 Marks]
- Original total (£41,230): (1) [A]
- Add: Albert's correction (£1,200): (2) [1M for adjusting Albert's account + 1A for correct amount £1,200]
- Add: Frank's omitted balance (£240): (1) [A]
- Corrected total matching control account (£42,670): (2) [A]

Part (c) [6 Marks]
Error (3):
- Dr Irrecoverable Debts (£450): (1.5) [A]
- Cr Trade Receivables Ledger Control Account (£450): (1.5) [A]
Error (5):
- Dr Discount Allowed (£180): (1.5) [A]
- Cr Trade Receivables Ledger Control Account (£180): (1.5) [A]

Part (d) [6 Marks]
- 2 marks: Arguments in favor of control accounts (e.g., fraud prevention, error detection, speed of drafting statements).
- 2 marks: Arguments against / limitations of control accounts (e.g., cannot detect errors of omission/commission, cost and time, risk of collusion).
- 2 marks: Balanced conclusion with recommendation (e.g., highly useful if supported by segregation of duties or computerization).

PastPaper.question 2 · Incomplete records, thefts and club accounts

30 PastPaper.marks

Joseph Silva runs a retail business selling electronics. He does not keep a full double entry set of books, but is able to provide the following information from his documents and bank statements for the year ended 30 April 2023. On the night of 30 April 2023, a break-in occurred at his premises. Some cash was stolen from the cash till and inventory was stolen from the warehouse.

**Balances as at 1 May 2022:**
- Inventory at cost: £32,000
- Trade receivables: £18,500
- Trade payables: £14,200
- Cash in hand: £1,200

**Summary of transactions during the year ended 30 April 2023:**
- Receipts from trade receivables (paid directly into bank): £115,000
- Payments to trade payables (from bank): £105,000
- Discount received: £1,800
- Discount allowed: £1,100
- Bad debts written off: £1,200
- Expenses paid by bank: £22,000
- Cash sales for the year: £15,000
- Cash from cash sales deposited into bank: £9,500
- Business expenses paid in cash: £3,500
- Drawings taken in cash: £1,500

**Balances as at 30 April 2023 (after the theft):**
- Trade receivables: £21,200
- Trade payables: £16,500
- Cash in hand: £150
- Inventory at cost remaining: £21,500

**Additional Information:**
- Joseph applies a constant gross profit margin of 20% on all sales.

**Required:**

(a) Prepare the Trade Receivables Control Account to calculate the credit sales for the year ended 30 April 2023. (4 marks)

(b) Prepare the Trade Payables Control Account to calculate the purchases for the year ended 30 April 2023. (4 marks)

(c) Calculate the value of inventory stolen in the break-in on 30 April 2023. (6 marks)

(d) Prepare the Cash in Hand Account to calculate the cash stolen in the break-in on 30 April 2023. (4 marks)

(e) Prepare the Statement of Profit or Loss for the year ended 30 April 2023, showing clearly the loss from theft. (8 marks)

(f) Evaluate whether Joseph should implement a full double-entry bookkeeping system instead of relying on incomplete records. (4 marks)

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Trade Receivables Control Account**

| Date | Details | Amount (£) | Date | Details | Amount (£) |
| --- | --- | --- | --- | --- | --- |
| 1 May 22 | Balance b/d | 18,500 | 30 Apr 23 | Bank (Receipts) | 115,000 |
| 30 Apr 23 | Credit Sales (bal. fig.) | 120,000 | 30 Apr 23 | Discount Allowed | 1,100 |
| | | | 30 Apr 23 | Bad Debts | 1,200 |
| | | | 30 Apr 23 | Balance c/d | 21,200 |
| | **Total** | **138,500** | | **Total** | **138,500** |
| 1 May 23 | Balance b/d | 21,200 | | | |

Credit Sales = £120,000

**(b) Trade Payables Control Account**

| Date | Details | Amount (£) | Date | Details | Amount (£) |
| --- | --- | --- | --- | --- | --- |
| 30 Apr 23 | Bank (Payments) | 105,000 | 1 May 22 | Balance b/d | 14,200 |
| 30 Apr 23 | Discount Received | 1,800 | 30 Apr 23 | Purchases (bal. fig.) | 109,100 |
| 30 Apr 23 | Balance c/d | 16,500 | | | |
| | **Total** | **123,300** | | **Total** | **123,300** |
| | | | 1 May 23 | Balance b/d | 16,500 |

Purchases = £109,100

**(c) Calculation of Inventory Stolen**

- Credit Sales = £120,000
- Cash Sales = £15,000
- Total Sales = £135,000
- Cost of Sales = 80% of £135,000 = £108,000

Expected Closing Inventory:
- Opening Inventory: £32,000
- Add: Purchases: £109,100
- Total goods available: £141,100
- Less: Cost of Sales: (£108,000)
- Expected Closing Inventory: £33,100
- Less: Actual Inventory Remaining: (£21,500)
- **Value of Inventory Stolen: £11,600**

**(d) Cash in Hand Account**

| Date | Details | Amount (£) | Date | Details | Amount (£) |
| --- | --- | --- | --- | --- | --- |
| 1 May 22 | Balance b/d | 1,200 | 30 Apr 23 | Bank (Deposit) | 9,500 |
| 30 Apr 23 | Cash Sales | 15,000 | 30 Apr 23 | Cash Expenses | 3,500 |
| | | | 30 Apr 23 | Drawings | 1,500 |
| | | | 30 Apr 23 | Theft (bal. fig.) | 1,550 |
| | | | 30 Apr 23 | Balance c/d | 150 |
| | **Total** | **16,200** | | **Total** | **16,200** |
| 1 May 23 | Balance b/d | 150 | | | |

Cash Stolen = £1,550

**(e) Statement of Profit or Loss for the year ended 30 April 2023**

- **Revenue** (Credit £120,000 + Cash £15,000): £135,000
- **Cost of Sales**:
- Opening Inventory: £32,000
- Add: Purchases: £109,100
- Less: Inventory Stolen: (£11,600)
- Less: Closing Inventory: (£21,500)
- **Cost of Goods Sold**: (£108,000)
- **Gross Profit**: £27,000
- Add: Discount Received: £1,800
- **Total Gross Income**: £28,800
- **Expenses**:
- Discount Allowed: £1,100
- Bad Debts: £1,200
- Bank Expenses: £22,000
- Cash Expenses: £3,500
- Loss from Theft (Inventory £11,600 + Cash £1,550): £13,150
- **Total Expenses**: (£40,950)
- **Net Loss**: (£12,150)

**(f) Evaluation**

- **Advantages of Double-Entry:**
- High level of accuracy because of the self-balancing nature (debits = credits).
- Joseph can prepare a Trial Balance to identify arithmetic errors.
- Less prone to omission or fraud since every movement is recorded and reconciliations can be completed.
- Gives more credibility to external stakeholders such as banks or tax authorities.
- **Disadvantages of Double-Entry:**
- It can be time-consuming and costly to set up and maintain.
- Requires professional accounting expertise which Joseph may not have, meaning he might have to pay an external bookkeeper.
- **Conclusion:** Joseph should weigh the benefits of enhanced financial control (which is critical given the recent theft) against the costs. On balance, implementing at least a simplified computerized double-entry system would be beneficial for the future of his business.

PastPaper.markingScheme

**(a) Trade Receivables Control Account [4 Marks]**
- 1 mark for correct opening balance b/d (£18,500) and closing balance c/d (£21,200).
- 1 mark for correct recording of Bank receipts (£115,000).
- 1 mark for recording both Discount Allowed (£1,100) and Bad Debts (£1,200).
- 1 mark for correct balancing figure representing Credit Sales (£120,000).

**(b) Trade Payables Control Account [4 Marks]**
- 1 mark for correct opening balance b/d (£14,200) and closing balance c/d (£16,500).
- 1 mark for correct recording of Bank payments (£105,000).
- 1 mark for correct recording of Discount Received (£1,800).
- 1 mark for correct balancing figure representing Credit Purchases (£109,100).

**(c) Calculation of Inventory Stolen [6 Marks]**
- 1 mark for calculating Total Sales (£135,000).
- 1 mark for calculating Cost of Sales (£108,000) based on 20% margin.
- 1 mark for showing cost of goods available for sale (£32,000 + £109,100 = £141,100).
- 1 mark for calculating expected closing inventory (£33,100).
- 1 mark for subtracting actual remaining inventory (£21,500).
- 1 mark for final correct value of inventory stolen (£11,600).

**(d) Cash in Hand Account [4 Marks]**
- 1 mark for opening balance b/d (£1,200) and Cash Sales (£15,000).
- 1 mark for recording Bank deposit (£9,500) and Cash Expenses (£3,500).
- 1 mark for recording Drawings (£1,500) and closing balance c/d (£150).
- 1 mark for calculating cash stolen as the balancing figure (£1,550).

**(e) Statement of Profit or Loss [8 Marks]**
- 1 mark for correct Total Revenue (£135,000).
- 1 mark for showing correct Cost of Sales calculation (adjusting for stolen inventory to arrive at £108,000).
- 1 mark for correct Gross Profit (£27,000).
- 1 mark for adding Discount Received (£1,800).
- 1 mark for recording Discount Allowed (£1,100) and Bad Debts (£1,200).
- 1 mark for recording Bank Expenses (£22,000) and Cash Expenses (£3,500).
- 1 mark for recording Loss from Theft (£13,150) as a separate expense line.
- 1 mark for correct Net Loss (£12,150).

**(f) Evaluation [4 Marks]**
- 1 mark for identifying and explaining one benefit of double-entry (e.g., error detection, fraud deterrence).
- 1 mark for identifying and explaining a second benefit or a drawback (e.g., cost, time, complexity).
- 1 mark for contextualizing the discussion to Joseph's scenario (e.g., mention of the recent theft highlights the need for better controls).
- 1 mark for a clear, reasoned recommendation.

PastPaper.question 3 · essay

30 PastPaper.marks

Astraea Manufacturing Ltd operates a manufacturing facility with two production departments, Machining and Assembly, and two service departments, Maintenance and Canteen.

For the year ending 31 December 2024, the company has budgeted the following factory overheads:
- Factory Rent: £48,000
- Factory Power: £36,000
- Machinery Depreciation: £24,000
- Indirect Materials (allocated directly): Machining £8,000; Assembly £6,000; Maintenance £3,000; Canteen £1,500
- Indirect Labour (allocated directly): Machining £12,000; Assembly £10,000; Maintenance £4,500; Canteen £2,000

The following operational information is also available:

| Operational Measure | Machining | Assembly | Maintenance | Canteen |
| :--- | :---: | :---: | :---: | :---: |
| Floor area (sq. metres) | 1,000 | 600 | 250 | 150 |
| Kilowatt hours (kWh) | 15,000 | 9,000 | 4,000 | 2,000 |
| Book value of machinery (£) | 150,000 | 60,000 | 30,000 | - |
| Number of employees | 30 | 15 | 5 | 4 |
| Maintenance hours worked | 800 | 200 | - | - |
| Budgeted machine hours | 10,000 | 2,000 | - | - |
| Budgeted direct labour hours | 2,500 | 5,000 | - | - |

**Reapportionment Rules:**
1. Canteen costs are reapportioned first, based on the number of employees in the other three departments.
2. Maintenance costs are then reapportioned to production departments based on maintenance hours worked.

**Actual results for the year ended 31 December 2024 were as follows:**
- **Machining Department:** Actual overheads incurred of £102,800, and actual machine hours worked of 9,800 hours.
- **Assembly Department:** Actual overheads incurred of £53,100, and actual direct labour hours worked of 5,150 hours.

**Required:**

(a) Prepare an overhead analysis sheet (showing allocation, apportionment and reapportionment) to determine the total budgeted overheads for the Machining and Assembly departments. (12 marks)

(b)
(i) Identify the most appropriate overhead absorption base for each of the two production departments, giving a reason for your choice. (2 marks)
(ii) Calculate the predetermined overhead absorption rate (OAR) for both the Machining and Assembly departments. (4 marks)

(c) Calculate the under- or over-absorbed overheads for the year ended 31 December 2024 for:
(i) the Machining department (3 marks)
(ii) the Assembly department. (3 marks)

(d) Evaluate the use of a single plant-wide overhead absorption rate compared to separate departmental overhead absorption rates for Astraea Manufacturing Ltd. (6 marks)

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Overhead Analysis Sheet**

| Cost | Basis of Apportionment | Total (£) | Machining (£) | Assembly (£) | Maintenance (£) | Canteen (£) |
| :--- | :--- | :---: | :---: | :---: | :---: | :---: |
| **Allocated:** | | | | | | |
| Indirect Materials | Direct Allocation | 18,500 | 8,000 | 6,000 | 3,000 | 1,500 |
| Indirect Labour | Direct Allocation | 28,500 | 12,000 | 10,000 | 4,500 | 2,000 |
| **Apportioned:** | | | | | | |
| Factory Rent | Floor Area (10:6:2.5:1.5) | 48,000 | 24,000 | 14,400 | 6,000 | 3,600 |
| Factory Power | kWh (15:9:4:2) | 36,000 | 18,000 | 10,800 | 4,800 | 2,400 |
| Depreciation | Book Value (15:6:3:0) | 24,000 | 15,000 | 6,000 | 3,000 | - |
| **Subtotal** | | **155,000** | **77,000** | **47,200** | **21,300** | **9,500** |
| **Reapportionment:** | | | | | | |
| Canteen | No. of Employees (30:15:5) | - | 5,700 | 2,850 | 950 | (9,500) |
| Maintenance | Maintenance Hours (800:200) | - | 17,800 | 4,450 | (22,250) | - |
| **Total Overheads** | | **155,000** | **100,500** | **54,500** | **Nil** | **Nil** |

*Workings for Rent:*
- Total Floor Area = $1,000 + 600 + 250 + 150 = 2,000$ sq. m.
- Machining: $1,000/2,000 \times 48,000 = £24,000$
- Assembly: $600/2,000 \times 48,000 = £14,400$
- Maintenance: $250/2,000 \times 48,000 = £6,000$
- Canteen: $150/2,000 \times 48,000 = £3,600$

*Workings for Power:*
- Total kWh = $15,000 + 9,000 + 4,000 + 2,000 = 30,000$ kWh.
- Machining: $15,000/30,000 \times 36,000 = £18,000$
- Assembly: $9,000/30,000 \times 36,000 = £10,800$
- Maintenance: $4,000/30,000 \times 36,000 = £4,800$
- Canteen: $2,000/30,000 \times 36,000 = £2,400$

*Workings for Depreciation:*
- Total Book Value = $150,000 + 60,000 + 30,000 = 240,000$ £.
- Machining: $150,000/240,000 \times 24,000 = £15,000$
- Assembly: $60,000/240,000 \times 24,000 = £6,000$
- Maintenance: $30,000/240,000 \times 24,000 = £3,000$
- Canteen: Nil

*Workings for Canteen Reapportionment:*
- Employees in non-canteen departments = $30 + 15 + 5 = 50$.
- Canteen overheads to reappear = £9,500.
- Machining: $30/50 \times 9,500 = £5,700$
- Assembly: $15/50 \times 9,500 = £2,850$
- Maintenance: $5/50 \times 9,500 = £950$

*Workings for Maintenance Reapportionment:*
- Total Maintenance Overheads = $21,300 + 950 = £22,250$.
- Maintenance hours = $800 + 200 = 1,000$ hours.
- Machining: $800/1,000 \times 22,250 = £17,800$
- Assembly: $200/1,000 \times 22,250 = £4,450$

***

**(b) Overhead Absorption Rates (OAR)**

**(i) Choice of Base and Reason:**
- **Machining Department:** Machine hours base because the department is highly automated and capital intensive (10,000 machine hours compared to only 2,500 labour hours).
- **Assembly Department:** Direct labour hours base because the department is highly manual and labour intensive (5,000 direct labour hours compared to only 2,000 machine hours).

**(ii) Calculations:**
- **Machining OAR:**
$\text{OAR} = \frac{\text{Budgeted Overheads}}{\text{Budgeted Machine Hours}} = \frac{100,500}{10,000} = £10.05$ per machine hour.
- **Assembly OAR:**
$\text{OAR} = \frac{\text{Budgeted Overheads}}{\text{Budgeted Direct Labour Hours}} = \frac{54,500}{5,000} = £10.90$ per direct labour hour.

***

**(c) Under/Over-absorption of Overheads**

**(i) Machining Department:**
- Overheads Absorbed = $\text{Actual Hours Worked} \times \text{Predetermined OAR} = 9,800 \text{ hours} \times £10.05 = £98,490$
- Actual Overheads Incurred = £102,800
- Under-absorbed Overheads = $£102,800 - £98,490 = £4,310$ (under-absorbed because actual overheads exceeded the absorbed overheads).

**(ii) Assembly Department:**
- Overheads Absorbed = $\text{Actual Hours Worked} \times \text{Predetermined OAR} = 5,150 \text{ hours} \times £10.90 = £56,135$
- Actual Overheads Incurred = £53,100
- Over-absorbed Overheads = $£56,135 - £53,100 = £3,035$ (over-absorbed because absorbed overheads exceeded the actual overheads).

***

**(d) Evaluation**
- **Arguments for Departmental Rates:** Departmental rates provide a more accurate picture of product costs when a factory contains departments with significantly different production characteristics. Since Machining is machine-intensive and Assembly is labour-intensive, a single plant-wide rate would inevitably lead to cost distortion. Products spending more time in Machining would be under-costed, and products in Assembly would be over-costed if a simple plant-wide direct labour hour rate was used. Departmental rates help in setting more accurate and competitive selling prices and evaluating product profitability.
- **Arguments for Plant-Wide Rate:** A single plant-wide rate is simpler, quicker to calculate, and requires less administrative cost and effort. It is suitable if the factory departments are uniform in nature or if all products pass through all departments spending a similar ratio of time in each, which is not the case for Astraea.
- **Conclusion:** For Astraea Manufacturing Ltd, the departments are highly diverse (one machine-intensive, one labour-intensive). Therefore, the benefits of more accurate product costing and better pricing decisions far outweigh the additional administrative costs. The company should continue to use departmental overhead absorption rates.

PastPaper.markingScheme

**Part (a): 12 Marks**
- **Allocation:** 1 mark for correct entry of allocated Indirect Materials and Indirect Labour across all departments.
- **Apportionment of Rent:** 1 mark for correct calculations of rent across all departments based on floor area.
- **Apportionment of Power:** 1 mark for correct calculations of power across all departments based on kWh.
- **Apportionment of Depreciation:** 1 mark for correct calculations of depreciation based on machinery book value.
- **Subtotals:** 2 marks (1 mark for production subtotals, 1 mark for service subtotals).
- **Canteen Reapportionment:** 3 marks (1 mark for correct ratio denominator 50, 1 mark for correct Machining/Assembly amounts, 1 mark for Maintenance amount).
- **Maintenance Reapportionment:** 2 marks (1 mark for correct total of £22,250, 1 mark for correct reapportionment to Machining and Assembly based on maintenance hours).
- **Totals:** 1 mark for correct final totals of £100,500 and £54,500.

**Part (b): 6 Marks**
- **(i) Choice of Base and Reason:** 2 marks (1 mark for identifying and justifying Machine Hours for Machining; 1 mark for identifying and justifying Direct Labour Hours for Assembly).
- **(ii) Calculation of OAR:** 4 marks (2 marks for Machining OAR of £10.05 including formula/workings; 2 marks for Assembly OAR of £10.90 including formula/workings).

**Part (c): 6 Marks**
- **(i) Machining Under/Over-absorption:** 3 marks (1 mark for calculated absorbed overhead of £98,490, 1 mark for the difference of £4,310, 1 mark for identifying it as 'under-absorbed').
- **(ii) Assembly Under/Over-absorption:** 3 marks (1 mark for calculated absorbed overhead of £56,135, 1 mark for the difference of £3,035, 1 mark for identifying it as 'over-absorbed').

**Part (d): 6 Marks (Evaluation)**
- **4 marks** for balanced discussion of both options (up to 2 marks for benefits of departmental rates, up to 2 marks for limitations/benefits of plant-wide rate).
- **2 marks** for a clear, reasoned recommendation/conclusion based on Astraea's specific circumstances (distinct capital-intensive and labour-intensive departments).

PastPaper.question 4 · essay

30 PastPaper.marks

Aris and Bilal run a retail partnership. Below is the financial information extracted from their books of account for the years ended 31 December 2022 and 31 December 2023.

**Income Statement Details:**
- Revenue: 2022: £400,000; 2023: £500,000
- Cost of sales: 2022: £240,000; 2023: £325,000
- Gross profit: 2022: £160,000; 2023: £175,000
- Expenses: 2022: £100,000; 2023: £125,000
- Profit for the year: 2022: £60,000; 2023: £50,000

**Balances at 31 December:**
- Inventory: 2022: £30,000; 2023: £50,000
- Trade receivables: 2022: £40,000; 2023: £65,000
- Bank balance: 2022: £15,000 Dr; 2023: £8,000 Cr (Overdraft)
- Trade payables: 2022: £35,000; 2023: £52,000
- Capital Employed: 2022: £200,000; 2023: £220,000

**Required:**

(a) Calculate the following ratios for both 2022 and 2023, showing your formulas and workings. Round all percentage and ratio answers to two decimal places:
(i) Gross profit percentage (margin)
(ii) Profit for the year percentage (margin)
(iii) Current ratio
(iv) Liquid (acid test) ratio
*(12 marks)*

(b) Analyze and evaluate the change in the profitability and liquidity of the partnership from 2022 to 2023. Suggest possible reasons for these changes.
*(12 marks)*

(c) State six limitations of using ratio analysis to assess business performance.
*(6 marks)*

PastPaper.showAnswers

PastPaper.workedSolution

**Part (a)**

**(i) Gross Profit Percentage (Margin)**
Formula: $\frac{\text{Gross Profit}}{\text{Revenue}} \times 100$
- **2022:** $\frac{\pounds160,000}{\pounds400,000} \times 100 = 40.00\%$
- **2023:** $\frac{\pounds175,000}{\pounds500,000} \times 100 = 35.00\%$

**(ii) Profit for the Year Percentage (Margin)**
Formula: $\frac{\text{Profit for the Year}}{\text{Revenue}} \times 100$
- **2022:** $\frac{\pounds60,000}{\pounds400,000} \times 100 = 15.00\%$
- **2023:** $\frac{\pounds50,000}{\pounds500,000} \times 100 = 10.00\%$

**(iii) Current Ratio**
Formula: $\frac{\text{Current Assets}}{\text{Current Liabilities}}$
- **2022:** Current Assets = $\pounds30,000 + \pounds40,000 + \pounds15,000 = \pounds85,000$
Current Liabilities = $\pounds35,000$
Ratio = $\frac{\pounds85,000}{\pounds35,000} = 2.43:1$
- **2023:** Current Assets = $\pounds50,000 + \pounds65,000 = \pounds115,000$
Current Liabilities = $\pounds52,000 + \pounds8,000 = \pounds60,000$
Ratio = $\frac{\pounds115,000}{\pounds60,000} = 1.92:1$

**(iv) Liquid (Acid Test) Ratio**
Formula: $\frac{\text{Current Assets} - \text{Inventory}}{\text{Current Liabilities}}$
- **2022:** Liquid Assets = $\pounds40,000 + \pounds15,000 = \dots$ (or $\pounds85,000 - \pounds30,000 = \pounds55,000$)
Ratio = $\frac{\pounds55,000}{\pounds35,000} = 1.57:1$
- **2023:** Liquid Assets = $\pounds65,000$
Ratio = $\frac{\pounds65,000}{\pounds60,000} = 1.08:1$

---

**Part (b)**

**Profitability Analysis:**
- Revenue grew significantly by 25% (from $\pounds400,000$ to $\pounds500,000$), but gross profit margin fell from 40.00% to 35.00%. This indicates that the cost of sales grew at a much faster rate than revenue (35.4% increase). Possible reasons include: rising supplier costs not passed on to customers, lowering prices or giving trade discounts to drive volume, or an unfavorable change in product sales mix.
- Profit for the year percentage also declined from 15.00% to 10.00%. Although expenses rose by 25% (in line with revenue growth), the squeeze on the gross profit margin translated to an absolute reduction in net profit from $\pounds60,000$ to $\pounds50,000$. Aris and Bilal need to control overhead expenses more strictly if gross margin continues to face pressure.

**Liquidity Analysis:**
- Both the current ratio (from 2.43:1 to 1.92:1) and the liquid ratio (from 1.57:1 to 1.08:1) have declined. While these are still close to standard targets (2:1 and 1:1 respectively), the cash position indicates severe underlying liquidity stress.
- The bank balance collapsed from a healthy $\pounds15,000$ debit surplus to an $\pounds8,000$ credit overdraft.
- This cash deficit is caused by capital being locked up in working capital assets: inventory grew by 66.7% (from $\pounds30,000$ to $\pounds50,000$) and trade receivables grew by 62.5% (from $\pounds40,000$ to $\pounds65,000$).
- The partnership is showing classic signs of overtrading (expanding sales rapidly but tying up too much cash in stock and unpaid customer debts), forcing them to lean on an overdraft and delay payments to trade creditors (trade payables increased by 48.6%).

---

**Part (c)**

Limitations of using ratio analysis include:
1. **Historical data:** Ratios are calculated using historical financial statements and do not guarantee future performance.
2. **Inflation distortion:** Values may be distorted over time due to inflation, making historical comparisons misleading.
3. **Accounting policies:** Different businesses may use different policies (e.g., inventory valuation or depreciation methods), complicating inter-firm comparisons.
4. **Snapshot bias:** Statement of financial position figures represent a single day of the year, which might not be representative due to seasonal changes.
5. **Qualitative factors ignored:** Ratios only analyze quantitative elements and ignore qualitative items like staff motivation, customer satisfaction, or management quality.
6. **Window dressing:** Management can artificially manipulate year-end records to present a better-than-actual performance.

PastPaper.markingScheme

**Part (a) [Total: 12 marks]**
- 1.5 marks for each of the 8 correct ratio calculations with correct figures and units.
- Allocations per calculation: 1 mark for correct numbers/workings, 0.5 marks for correct final rounded ratio/percentage.

**Part (b) [Total: 12 marks]**
- **Profitability analysis (Up to 6 marks):**
- 1 mark for identifying that revenue rose but profit margins fell.
- 1-2 marks for discussing the gross profit percentage fall and analyzing possible causes (e.g., supplier costs, sales mix, discounts).
- 1-2 marks for discussing profit for the year and overhead growth analysis.
- **Liquidity analysis (Up to 6 marks):**
- 1 mark for identifying the overall downward trend in both liquidity ratios.
- 2 marks for highlighting the severe decline in cash (from £15,000 Dr to £8,000 Cr overdraft).
- 2 marks for explaining why (cash locked in inventory and trade receivables, delaying payables).
- 1 mark for suggesting overtrading / credit control recommendations.

**Part (c) [Total: 6 marks]**
- 1 mark for each valid limitation stated up to a maximum of 6 marks.

Unit 2 Section A

Answer BOTH compulsory questions in this section.

2 PastPaper.question · 110 PastPaper.marks

PastPaper.question 1 · essay

55 PastPaper.marks

Astraea Manufacturing Limited is a manufacturing business. The following trial balance was extracted from the books of the company on 31 December 2023:

$$\begin{array}{l|r|r}
\hline
\textbf{Account} & \textbf{Debit (\pounds)} & \textbf{Credit (\pounds)} \\
\hline
Revenue (Sales) & & 1,350,000 \\
Inventories at 1 January 2023: & & \\
\quad\text{- Raw materials} & 65,000 & \\
\quad\text{- Work in progress} & 42,000 & \\
\quad\text{- Finished goods (at transfer value)} & 110,000 & \\
Purchases of raw materials & 480,000 & \\
Direct factory wages & 240,000 & \\
Factory supervisory salaries & 85,000 & \\
Administrative salaries & 135,000 & \\
Distribution costs (delivery vehicle expenses) & 62,000 & \\
Rent and rates & 90,000 & \\
Insurance & 36,000 & \\
Light and heat & 58,000 & \\
Plant and machinery (at cost) & 450,000 & \\
Office equipment (at cost) & 120,000 & \\
Provision for depreciation (1 January 2023): & & \\
\quad\text{- Plant and machinery} & & 135,000 \\
\quad\text{- Office equipment} & & 36,000 \\
Provision for unrealised profit (1 January 2023) & & 10,000 \\
Allowance for doubtful debts (1 January 2023) & & 4,500 \\
Trade receivables & 195,000 & \\
Trade payables & & 114,000 \\
Cash at bank & 88,500 & \\
8\% Bank Loan (repayable 2030) & & 100,000 \\
Bank loan interest paid & 4,000 & \\
Interim dividend paid & 15,000 & \\
Ordinary shares (\pounds1 each) & & 300,000 \\
Share premium & & 40,000 \\
General reserve & & 50,000 \\
Retained earnings (1 January 2023) & & 136,000 \\
\hline
\textbf{Total} & \textbf{2,275,500} & \textbf{2,275,500} \\
\hline
\end{array}$$

**Additional Information at 31 December 2023:**
1. Inventories at 31 December 2023 were valued as follows:
* Raw materials: \pounds58,000
* Work in progress: \pounds46,000
* Finished goods (at cost of production, before transfer mark-up): \pounds120,000

All finished goods are transferred from the factory to the warehouse at cost of production plus a factory profit mark-up of 10%.
2. Expenses are to be apportioned between the factory and administration as follows:
* **Rent and rates:** 70% Factory, 30% Administration
* **Insurance:** 60% Factory, 40% Administration
* **Light and heat:** 80% Factory, 20% Administration

At 31 December 2023, light and heat was accrued by \pounds4,000, and insurance was prepaid by \pounds3,000.
3. Depreciation is to be charged for the year as follows:
* **Plant and machinery:** 15% per annum using the reducing balance method (charge fully to the factory).
* **Office equipment:** 10% per annum using the straight-line method (charge fully to administration).
4. Trade receivables include an amount of \pounds5,000 which is deemed irrecoverable and is to be written off. The allowance for doubtful debts is to be adjusted to 4% of the remaining trade receivables.
5. The bank loan was taken out several years ago. The interest on the bank loan is outstanding for the half year.
6. Corporation tax for the year ended 31 December 2023 is estimated to be \pounds22,000.

**Required:**

(a) Prepare the Manufacturing Account for Astraea Manufacturing Limited for the year ended 31 December 2023, showing clearly the Prime Cost, the Cost of Production, and the Factory Profit. [18 marks]

(b) Prepare the Statement of Profit or Loss for Astraea Manufacturing Limited for the year ended 31 December 2023. [18 marks]

(c) Prepare the Statement of Financial Position (Extract) showing only the **Current Assets** and **Capital and Reserves** sections of Astraea Manufacturing Limited as at 31 December 2023. [11 marks]

(d) Evaluate whether Astraea Manufacturing Limited should continue to apply a 10% factory profit mark-up on manufactured goods transferred to the warehouse, rather than transferring them at cost. [8 marks]

PastPaper.showAnswers

PastPaper.workedSolution

### (a) Manufacturing Account of Astraea Manufacturing Limited for the year ended 31 December 2023

$$\begin{array}{lrr}
\hline
\textbf{Manufacturing Account} & \textbf{\pounds} & \textbf{\pounds} \\
\hline
\textbf{Direct Materials:} & & \\
\text{Opening inventory of raw materials} & 65,000 & \\
\text{Add: Purchases of raw materials} & 480,000 & \\
\hline
& 545,000 & \\
\text{Less: Closing inventory of raw materials} & (58,000) & \\
\hline
\text{Raw materials consumed} & & 487,000 \\
\text{Direct factory wages} & & 240,000 \\
\hline
\textbf{PRIME COST} & & \textbf{727,000} \\
\textbf{Factory Overheads:} & & \\
\text{Factory supervisory salaries} & 85,000 & \\
\text{Rent and rates } (90,000 \times 70\%) & 63,000 & \\
\text{Insurance } ((36,000 - 3,000) \times 60\%) & 19,800 & \\
\text{Light and heat } ((58,000 + 4,000) \times 80\%) & 49,600 & \\
\text{Depreciation: Plant and machinery } ((450,000 - 135,000) \times 15\%) & 47,250 & 264,650 \\
\hline
& & 991,650 \\
\text{Add: Work in progress at 1 January 2023} & & 42,000 \\
\text{Less: Work in progress at 31 December 2023} & & (46,000) \\
\hline
\textbf{Cost of Production at Cost} & & \textbf{987,650} \\
\text{Add: Factory Profit } (10\% \times 987,650) & & 98,765 \\
\hline
\textbf{Cost of Production at Transfer Value} & & \textbf{1,086,415} \\
\hline
\end{array}$$

---

### (b) Statement of Profit or Loss of Astraea Manufacturing Limited for the year ended 31 December 2023

$$\begin{array}{lrr}
\hline
\textbf{Statement of Profit or Loss} & \textbf{\pounds} & \textbf{\pounds} \\
\hline
\text{Revenue (Sales)} & & 1,350,000 \\
\textbf{Cost of Sales:} & & \\
\text{Opening inventory of finished goods (at transfer value)} & 110,000 & \\
\text{Add: Transfer value of goods manufactured} & 1,086,415 & \\
\hline
& 1,196,415 & \\
\text{Less: Closing inventory of finished goods } (120,000 \times 1.10) & (132,000) & (1,064,415) \\
\hline
\textbf{Gross Profit on Sales} & & \textbf{285,585} \\
\text{Add: Factory Profit} & 98,765 & \\
\text{Less: Increase in Provision for Unrealised Profit } (12,000 - 10,000) & (2,000) & 96,765 \\
\hline
\textbf{Total Gross Profit} & & \textbf{382,350} \\
\textbf{Expenses:} & & \\
\text{Administrative salaries} & 135,000 & \\
\text{Distribution costs} & 62,000 & \\
\text{Rent and rates } (90,000 \times 30\%) & 27,000 & \\
\text{Insurance } ((36,000 - 3,000) \times 40\%) & 13,200 & \\
\text{Light and heat } ((58,000 + 4,000) \times 20\%) & 12,400 & \\
\text{Depreciation: Office equipment } (120,000 \times 10\%) & 12,000 & \\
\text{Irrecoverable debt written off} & 5,000 & \\
\text{Increase in allowance for doubtful debts } (7,600^* - 4,500) & 3,100 & (269,700) \\
\hline
\textbf{Profit from Operations (Operating Profit)} & & \textbf{112,650} \\
\text{Finance costs: Bank loan interest } (100,000 \times 8\%) & & (8,000) \\
\hline
\textbf{Profit Before Tax} & & \textbf{104,650} \\
\text{Taxation} & & (22,000) \\
\hline
\textbf{Profit for the Year} & & \textbf{82,650} \\
\hline
\end{array}$$

\* *Working Note for Allowance for Doubtful Debts:*
$$\text{Remaining trade receivables} = 195,000 - 5,000 = 190,000$$
$$\text{Required allowance} = 190,000 \times 4\% = 7,600$$
$$\text{Increase in allowance} = 7,600 - 4,500 = 3,100$$

---

### (c) Statement of Financial Position (Extract) as at 31 December 2023

$$\begin{array}{lrr}
\hline
\textbf{Current Assets} & \textbf{\pounds} & \textbf{\pounds} \\
\hline
\textbf{Inventories:} & & \\
\quad\text{- Raw materials} & 58,000 & \\
\quad\text{- Work in progress} & 46,000 & \\
\quad\text{- Finished goods (at transfer value)} & 132,000 & \\
\quad\text{Less: Provision for unrealised profit} & (12,000) & 224,000 \\
\textbf{Trade Receivables } (195,000 - 5,000) & 190,000 & \\
\quad\text{Less: Allowance for doubtful debts} & (7,600) & 182,400 \\
\text{Prepayments } (\text{Insurance}) & & 3,000 \\
\text{Cash at bank} & & 88,500 \\
\hline
\textbf{Total Current Assets} & & \textbf{497,900} \\
\hline
\end{array}$$

$$\begin{array}{lrr}
\hline
\textbf{Capital and Reserves} & \textbf{\pounds} & \textbf{\pounds} \\

\hline
\text{Ordinary shares (\pounds1 each)} & & 300,000 \\
\text{Share premium} & & 40,000 \\
\text{General reserve} & & 50,000 \\
\textbf{Retained earnings:} & & \\
\quad\text{Opening balance} & 136,000 & \\
\quad\text{Add: Profit for the year} & 82,650 & \\
\quad\text{Less: Interim dividend paid} & (15,000) & 203,650 \\
\hline
\textbf{Total Capital and Reserves} & & \textbf{593,650} \\
\hline
\end{array}$$

---

### (d) Evaluation

**Arguments for using factory profit (mark-up):**
* **Performance Evaluation:** It allows the manufacturing unit to be evaluated as an independent profit centre. The factory manager can be motivated to achieve efficiencies to show a higher factory profit.
* **Make-or-Buy Decisions:** By comparing the transfer value of finished goods with outside supplier prices, management can make informed decisions about whether to manufacture internally or buy from external suppliers.
* **Realistic pricing:** It helps in identifying the commercial cost of goods produced, preventing the marketing team from setting selling prices too low based only on raw production costs.

**Arguments against using factory profit:**
* **Accounting Complexity:** It introduces unnecessary complexity, requiring the calculation and track of unrealised profits and adjusting provisions on unsold inventories at the end of each period.
* **Paper Profits:** The factory profit is purely an internal book entry and does not generate actual cash inflows for the business until the goods are sold to external customers.
* **Internal Conflicts:** It can cause conflicts between the factory manager (who wants a high transfer price to boost factory profit) and the sales manager (who wants a lower price to remain competitive).

**Conclusion:**
Astraea Manufacturing Limited should continue to apply the factory profit mark-up if they regularly review "make-or-buy" decisions and have distinct managers for production and sales. If these internal comparisons are not utilised, the accounting complexity of maintaining provisions for unrealised profit outweighs the benefit, and they should transition to transfer at cost.

PastPaper.markingScheme

### Part (a) Manufacturing Account [Total: 18 marks]
* **Opening raw materials** (\pounds65,000) and **Purchases** (\pounds480,000) correct: [1 mark]
* **Closing raw materials** (\pounds58,000) correctly subtracted: [1 mark]
* **Raw materials consumed** calculated as \pounds487,000: [1 mark]
* **Direct factory wages** (\pounds240,000) correctly positioned: [1 mark]
* **Prime Cost** correctly calculated as \pounds727,000 (of): [1 mark]
* **Factory supervisory salaries** (\pounds85,000): [1 mark]
* **Rent and rates** correctly allocated (\pounds90,000 \times 70\% = \pounds63,000): [1 mark]
* **Insurance** calculation and allocation (\pounds33,000 \times 60\% = \pounds19,800): [2 marks] (1 mark for prepayment adjustment, 1 mark for allocation)
* **Light and heat** calculation and allocation (\pounds62,000 \times 80\% = \pounds49,600): [2 marks] (1 mark for accrual adjustment, 1 mark for allocation)
* **Depreciation of plant and machinery** calculated as \pounds47,250 (reducing balance): [2 marks] (1 mark for method, 1 mark for calculation)
* **Work in progress adjustments** (add opening \pounds42,000, subtract closing \pounds46,000): [2 marks] (1 mark for each)
* **Cost of Production at Cost** calculated as \pounds987,650 (of): [1 mark]
* **Factory profit** correctly calculated as 10\% of cost of production (\pounds98,765) (of): [1 mark]
* **Cost of Production at Transfer Value** calculated as \pounds1,086,415 (of): [1 mark]

### Part (b) Statement of Profit or Loss [Total: 18 marks]
* **Revenue** of \pounds1,350,000: [1 mark]
* **Opening finished goods inventory** (\pounds110,000) and **Production transfer** (\pounds1,086,415): [1 mark]
* **Closing finished goods inventory** at transfer value (\pounds132,000): [2 marks] (1 mark for applying mark-up, 1 mark for subtraction)
* **Gross Profit on Sales** calculated as \pounds285,585 (of): [1 mark]
* **Factory profit credited** (\pounds98,765): [1 mark]
* **Adjustment to Provision for Unrealised profit** (\pounds2,000): [1 mark] (1 mark for identifying increase)
* **Admin salaries** and **Distribution costs**: [1 mark]
* **Allocated administrative overheads** (Rent & rates \pounds27,000, Insurance \pounds13,200, Light & heat \pounds12,400): [2 marks] (1 mark for calculations, 1 mark for presentation)
* **Depreciation of office equipment** (\pounds12,000): [1 mark]
* **Irrecoverable debt** (\pounds5,000) and **Increase in allowance** (\pounds3,100): [2 marks] (1 mark for each)
* **Finance costs** (\pounds8,000): [2 marks] (1 mark for paid interest, 1 mark for outstanding interest)
* **Taxation** (\pounds22,000): [1 mark]
* **Profit for the year** calculated as \pounds82,650 (of): [2 marks] (1 mark for accuracy, 1 mark for format)

### Part (c) Statement of Financial Position Extract [Total: 11 marks]
* **Raw materials** and **Work in progress** inventory balances: [2 marks] (1 mark each)
* **Finished goods** inventory shown net of Provision (\pounds132,000 - \pounds12,000 = \pounds120,000): [2 marks] (1 mark for transfer value, 1 for net value)
* **Trade receivables** net of allowance (\pounds190,000 - \pounds7,600 = \pounds182,400): [2 marks] (1 mark for write-off, 1 mark for allowance subtraction)
* **Prepayment** (\pounds3,000): [1 mark]
* **Cash at bank** (\pounds88,500): [1 mark]
* **Share capital and reserves headings** (Ordinary shares, Share premium, General reserve): [1 mark]
* **Retained earnings opening balance** (\pounds136,000) and **Dividend subtracted** (\pounds15,000): [1 mark]
* **Retained earnings closing balance** (\pounds203,650) (of): [1 mark]

### Part (d) Evaluation [Total: 8 marks]
* **Points for (up to 2 marks):** Discussing performance/profit centre accountability, make-or-buy decisions, and realistic cost setting.
* **Points against (up to 2 marks):** Discussing accounting complexity, lack of cash backing (paper profits), and internal conflicts.
* **Structure of analysis (up to 2 marks):** Balanced, coherent structure with professional accounting terminology.
* **Conclusion/Recommendation (up to 2 marks):** Clear judgement recommendation showing which side is more critical to the business model of Astraea Manufacturing Limited.

PastPaper.question 2 · essay

55 PastPaper.marks

Scenario:

VeloFrames Ltd manufactures high-performance carbon-fiber bicycle frames. The company operates a standard absorption costing system. The standard cost card and budget parameters for its single product, the 'Apex Frame', are as follows:

Standard Cost and Selling Price Card per 'Apex Frame':
- Direct Materials: 4 kg @ $15 per kg = $60
- Direct Labour: 3 hours @ $12 per hour = $36
- Fixed Overhead: 3 hours @ $8 per hour = $24
- Standard Selling Price: $180 per unit

Budget and Capacity Parameters:
- Budgeted Sales and Production: 2,000 units per month
- Budgeted Fixed Overheads: $48,000 per month (absorbed based on standard direct labour hours of 6,000 hours)

Actual Results for the Month of October:
- Actual Production: 2,200 units
- Actual Sales: 2,100 units at an average selling price of $185 per unit
- Direct Materials Purchased and Used: 9,100 kg at a total cost of $131,950
- Direct Labour: 6,400 hours worked at a total cost of $79,360
- Actual Fixed Overheads: $51,000
- There was no opening inventory of raw materials or finished goods. Closing inventory of finished goods is valued at standard absorption cost.

Required:

(a) Calculate the following variances for the month of October, indicating clearly whether each is Favourable (F) or Adverse (A):
    (i) Direct materials price variance (4 marks)
    (ii) Direct materials usage variance (4 marks)
    (iii) Direct labour rate variance (4 marks)
    (iv) Direct labour efficiency variance (4 marks)
    (v) Fixed overhead expenditure variance (4 marks)
    (vi) Fixed overhead volume variance (4 marks)

(b) Prepare an Operating Statement (Profit Reconciliation Statement) for the month of October, reconciling the Budgeted Profit with the Actual Profit. (15 marks)

(c) Analyze and explain the relationship between:
(i) The direct materials price variance and the direct materials usage variance. (3 marks)
(ii) The direct labour rate variance and the direct labour efficiency variance. (3 marks)

(d) Evaluate the usefulness of standard costing and variance analysis as a tool for planning, cost control, and performance measurement at VeloFrames Ltd. (10 marks)

PastPaper.showAnswers

PastPaper.workedSolution

Part (a) Variances Calculations:

(i) Direct Materials Price Variance:
Formula: $(\text{Standard Price} - \text{Actual Price}) \times \text{Actual Quantity Purchased}$
Standard cost of actual quantity = $9,100 \text{ kg} \times \$15 = \$136,500$
Actual cost of actual quantity = $\$131,950$
Variance = $\$136,500 - \$131,950 = \$4,550 \text{ Favourable (F)}$

(ii) Direct Materials Usage Variance:
Formula: $(\text{Standard Quantity for Actual Production} - \text{Actual Quantity Used}) \times \text{Standard Price}$
Standard Quantity for actual production (2,200 units) = $2,200 \times 4 \text{ kg} = 8,800 \text{ kg}$
Actual Quantity Used = $9,100 \text{ kg}$
Difference = $8,800 - 9,100 = 300 \text{ kg Adverse}$
Variance = $300 \text{ kg} \times \$15 = \$4,500 \text{ Adverse (A)}$

(iii) Direct Labour Rate Variance:
Formula: $(\text{Standard Rate} - \text{Actual Rate}) \times \text{Actual Hours Worked}$
Standard cost of actual hours = $6,400 \text{ hours} \times \$12 = \$76,800$
Actual cost of actual hours = $\$79,360$
Variance = $\$76,800 - \$79,360 = \$2,560 \text{ Adverse (A)}$

(iv) Direct Labour Efficiency Variance:
Formula: $(\text{Standard Hours for Actual Production} - \text{Actual Hours Worked}) \times \text{Standard Rate}$
Standard Hours for actual production (2,200 units) = $2,200 \times 3 \text{ hours} = 6,600 \text{ hours}$
Actual Hours Worked = $6,400 \text{ hours}$
Difference = $6,600 - 6,400 = 200 \text{ hours Favourable}$
Variance = $200 \text{ hours} \times \$12 = \$2,400 \text{ Favourable (F)}$

(v) Fixed Overhead Expenditure Variance:
Formula: $\text{Budgeted Fixed Overheads} - \text{Actual Fixed Overheads}$
Budgeted Fixed Overheads = $\$48,000$
Actual Fixed Overheads = $\$51,000$
Variance = $\$48,000 - \$51,000 = \$3,000 \text{ Adverse (A)}$

(vi) Fixed Overhead Volume Variance:
Formula: $(\text{Actual Production} - \text{Budgeted Production}) \times \text{Standard Fixed OAR per unit}$
Variance = $(2,200 - 2,000) \times \$24 = \$4,800 \text{ Favourable (F)}$
Alternative method: $(\text{Standard Hours for Actual Production} - \text{Budgeted Hours}) \times \text{Standard OAR per hour} = (6,600 - 6,000) \times \$8 = \$4,800 \text{ F}$

Part (b) Operating Statement (Profit Reconciliation Statement) for October:

Line Item$$Budgeted Profit (2,000 units × $60 standard profit)120,000Sales Volume Profit Variance (100 units × $60)6,000 (F)Standard Profit on Actual Sales126,000Selling Price Variance ($5 × 2,100 units)10,500 (F)Cost Variances:Favourable ($)Adverse ($)Direct Materials Price4,550-Direct Materials Usage-4,500Direct Labour Rate-2,560Direct Labour Efficiency2,400-Fixed Overhead Expenditure-3,000Fixed Overhead Volume4,800-Totals11,75010,060Net Cost Variance1,690 (F)Actual Profit138,190

Proof of Actual Profit (for verification):
Actual Revenue = 2,100 × $185 = $388,500
Actual Production Cost = Materials $131,950 + Labour $79,360 + Fixed OH $51,000 = $262,310
Less Closing Inventory (100 units × standard absorption cost $120) = $12,000
Actual Cost of Goods Sold = $262,310 - $12,000 = $250,310
Actual Profit = $388,500 - $250,310 = $138,190.

Part (c) Relationships Analysis:

(i) Material price vs. Material usage: There is a Favourable Material Price Variance of $4,550 and an Adverse Material Usage Variance of $4,500. This strongly suggests that the purchasing manager bought lower-quality carbon materials at a cheaper price (saving $0.50 per kg). However, this lower-quality raw material likely resulted in higher manufacturing defects, wastage, and scrap, leading to an extra 300 kg of materials being used (costing $4,500). In this case, the savings from the purchase price were almost entirely cancelled out by the material waste.

(ii) Labour rate vs. Labour efficiency: There is an Adverse Labour Rate Variance of $2,560 and a Favourable Labour Efficiency Variance of $2,400. This relationship suggests that the production department employed higher-skilled, more experienced, or premium-rate operators instead of standard workers (or paid overtime/incentives), leading to an adverse rate variance. However, these higher-skilled workers worked significantly faster and more efficiently, saving 200 labor hours compared to standard (saving $2,400). The net impact was a small net adverse labor variance of $160.

Part (d) Evaluation:

Arguments for Using Standard Costing:
- Provides a benchmark for budget preparation, helping VeloFrames Ltd plan cash flows and resources for the upcoming periods.
- Facilitates 'Management by Exception' where managers only spend time investigating significant variances (e.g. materials usage and labor rate variances), optimizing management time.
- Simplifies bookkeeping and inventory valuation, as inventory can be carried at standard cost (e.g., $120 per unit) with variances transferred straight to the profit and loss account.
- Helps identify issues between departments, such as the trade-off between purchasing lower-grade materials and production waste, leading to better operational coordination.

Arguments against Using Standard Costing:
- Standards can become obsolete quickly due to inflation, rapid technological changes, or shifts in the prices of carbon-fiber.
- Finding and maintaining realistic standards requires significant accounting administrative effort and expense.
- Focusing heavily on adverse variances can damage staff morale if managers use variance analysis purely as a tool for punishment rather than development.
- In modern manufacturing environments that favor Continuous Improvement (Kaizen) or Just-in-Time (JIT), meeting a static 'standard' might discourage teams from seeking zero-waste performance.

Conclusion: Standard costing remains an exceptionally valuable control tool for VeloFrames Ltd, especially because the interdepartmental relationships (buying cheap materials vs. high wastage) were easily spotlighted. However, standards must be updated regularly to remain useful, and the company should complement standards with qualitative performance metrics.

PastPaper.markingScheme

Part (a) Variances Calculations [Total 24 marks]:
(i) 4 marks: 1 mark for formula/approach, 1 mark for working, 1 mark for correct amount of $4,550, 1 mark for Favourable.
(ii) 4 marks: 1 mark for standard quantity calculation (8,800 kg), 1 mark for working, 1 mark for correct amount of $4,500, 1 mark for Adverse.
(iii) 4 marks: 1 mark for formula/approach, 1 mark for working, 1 mark for correct amount of $2,560, 1 mark for Adverse.
(iv) 4 marks: 1 mark for standard hours calculation (6,600 hours), 1 mark for working, 1 mark for correct amount of $2,400, 1 mark for Favourable.
(v) 4 marks: 1 mark for identifying budgeted fixed overheads ($48,000), 1 mark for working, 1 mark for correct amount of $3,000, 1 mark for Adverse.
(vi) 4 marks: 1 mark for standard OAR calculation or unit-volume method, 1 mark for working, 1 mark for correct amount of $4,800, 1 mark for Favourable.

Part (b) Reconciliation Statement [Total 15 marks]:
- Budgeted Profit: $120,000 (2 marks for calculation)
- Sales Volume Profit Variance: $6,000 F (2 marks for calculation and direction)
- Standard Profit on Actual Sales: $126,000 (1 mark)
- Sales Price Variance: $10,500 F (2 marks)
- Cost Variances Section (6 marks total):
    - Material price & usage correct entry (1 mark)
    - Labour rate & efficiency correct entry (1 mark)
    - Fixed OH expenditure & volume correct entry (1 mark)
    - Proper splitting of Favourable/Adverse columns (2 marks)
    - Correct total net cost variance ($1,690 F) (1 mark)
- Actual Profit: $138,190 (2 marks of which 1 is Own Figure (OF) based on prior steps)

Part (c) Relationships Analysis [Total 6 marks]:
(i) 3 marks: 1 mark for identifying that cheaper materials led to the favourable price variance, 1 mark for linking lower quality to the adverse usage variance (excess waste), 1 mark for noting the net trade-off (almost fully offset).
(ii) 3 marks: 1 mark for identifying that higher wage rates led to the adverse rate variance, 1 mark for linking higher skills/overtime to the favourable efficiency variance (faster work), 1 mark for noting the net effect (small adverse variance).

Part (d) Evaluation [Total 10 marks]:
- 1 to 4 marks: Basic or one-sided discussion of standard costing advantages or disadvantages without contextual application.
- 5 to 8 marks: Good balanced discussion covering planning, control, and performance measurement benefits, along with limitations like obsolete standards, behavioral issues, or setup costs. Application to VeloFrames Ltd's situation included.
- 9 to 10 marks: Comprehensive balanced analysis with a clear, logical recommendation/conclusion on whether the company should continue to use standard costing and how it can improve its effectiveness.

Unit 2 Section B

Answer any THREE questions from this section.

4 PastPaper.question · 120 PastPaper.marks

PastPaper.question 1 · essay

30 PastPaper.marks

Baker and Cole are in partnership, sharing profits and losses in the ratio 3:2. On 31 December 2023, the partners decided to sell their business to Zenith plc, a company expanding its operations.

The statement of financial position of the partnership at 31 December 2023 was as follows:

$$\begin{array}{lrr}
\text{\textbf{Assets}} & \mathbf{E} & \mathbf{E} \\
\text{\textbf{Non-current assets}} & & \\
\text{Premises} & & 150,000 \\
\text{Equipment} & & \underline{80,000} \\
& & 230,000 \\
\text{\textbf{Current assets}} & & \\
\text{Inventory} & 45,000 & \\
\text{Trade receivables} & 32,000 & \\
\text{Cash at bank} & \underline{12,000} & \\
& & \underline{89,000} \\
\text{\textbf{Total Assets}} & & \underline{\underline{319,000}} \\
\\
\text{\textbf{Capital and Liabilities}} & & \\
\text{\textbf{Partners' Capital Accounts}} & & \\
\text{Baker} & & 160,000 \\
\text{Cole} & & \underline{120,000} \\
& & 280,000 \\
\text{\textbf{Partners' Current Accounts}} & & \\
\text{Baker} & 16,000 & \\
\text{Cole} & \underline{(5,000)} & \\
& & 11,000 \\
\text{\textbf{Current Liabilities}} & & \\
\text{Trade payables} & & \underline{28,000} \\
\text{\textbf{Total Capital and Liabilities}} & & \underline{\underline{319,000}} \\
\end{array}$$

**Additional information:**
1. Zenith plc took over all the assets and liabilities of the partnership, with the exception of the cash at bank.
2. The assets were revalued at the following agreed values for the acquisition:
- Premises: £220,000
- Equipment: £65,000
- Inventory: £40,000
- Trade receivables were subject to a 5% allowance for doubtful debts.
3. The trade payables were taken over at their carrying (book) value.
4. The purchase consideration was agreed at £380,000. This was settled by:
- A cash payment of £80,000.
- The balance of £300,000 by the issue of 200,000 ordinary shares of £1.00 each in Zenith plc at a premium of £0.50 per share (market value £1.50 per share).
5. The partnership paid dissolution expenses of £2,000 from the retained bank account.
6. The ordinary shares received in Zenith plc were distributed to the partners in their profit-sharing ratio. The remaining balances on the partners' capital accounts were settled using the cash available in the partnership bank account.

**Required:**

(a) Calculate:
(i) the value of net assets taken over by Zenith plc. (4 marks)
(ii) the goodwill arising on the acquisition. (2 marks)

(b) Prepare the Partnership Realisation Account. (8 marks)

(c) Prepare the Partners' Capital Accounts, in columnar format, showing the transfers from current accounts, realization profit, distribution of shares and the final cash settlement. (8 marks)

(d) Evaluate, from the perspective of the partners of Baker & Cole, whether it was beneficial to sell their business to Zenith plc. (8 marks)

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Calculations**

**(i) Value of net assets taken over by Zenith plc:**

$$\begin{array}{lr}
\text{Premises (agreed value)} & £220,000 \\
\text{Equipment (agreed value)} & £65,000 \\
\text{Inventory (agreed value)} & £40,000 \\
\text{Trade receivables } (32,000 \times 95\%) & \underline{£30,400} \\
\text{\textbf{Total assets taken over}} & £355,400 \\
\text{Less: Trade payables taken over} & \underline{(£28,000)} \\
\text{\textbf{Net assets taken over}} & \underline{\underline{£327,400}} \\
\end{array}$$

**(ii) Goodwill arising on the acquisition:**

$$\begin{array}{lr}
\text{Purchase Consideration} & £380,000 \\
\text{Less: Net assets taken over} & \underline{(£327,400)} \\
\text{\textbf{Goodwill}} & \underline{\underline{£52,600}} \\
\end{array}$$

---

**(b) Realisation Account**

$$\begin{array}{lr|lr}
\text{\textbf{Debit}} & \mathbf{E} & \text{\textbf{Credit}} & \mathbf{E} \\
\hline
\text{Premises} & 150,000 & \text{Trade Payables} & 28,000 \\
\text{Equipment} & 80,000 & \text{Zenith plc (Purchase consideration)} & 380,000 \\
\text{Inventory} & 45,000 & & \\
\text{Trade Receivables} & 32,000 & & \\
\text{Bank (Dissolution expenses)} & 2,000 & & \\
\text{Profit on Realisation transferred to:} & & & \\
\text{- Baker (3/5)} & 59,400 & & \\
\text{- Cole (2/5)} & \underline{39,600} & & \\
& \underline{\underline{408,000}} & & \underline{\underline{408,000}} \\
\end{array}$$

---

**(c) Partners' Capital Accounts**

$$\begin{array}{lrr|lrr}
\text{\textbf{Debit}} & \text{\textbf{Baker (E)}} & \text{\textbf{Cole (E)}} & \text{\textbf{Credit}} & \text{\textbf{Baker (E)}} & \text{\textbf{Cole (E)}} \\
\hline
\text{Current A/c} & - & 5,000 & \text{Balance b/f} & 160,000 & 120,000 \\
\text{Shares in Zenith plc} & 180,000 & 120,000 & \text{Current A/c} & 16,000 & - \\
\text{Bank (final payment)} & 55,400 & 34,600 & \text{Realisation Profit} & 59,400 & 39,600 \\
& \underline{\underline{235,400}} & \underline{\underline{159,600}} & & \underline{\underline{235,400}} & \underline{\underline{159,600}} \\
\end{array}$$

*(Note on Bank final payment: Cash remaining in the partnership bank is £12,000 initial + £80,000 cash from Zenith plc - £2,000 dissolution expenses = £90,000, which exactly matches Baker's cash £55,400 + Cole's cash £34,600)*

---

**(d) Evaluation**

**Arguments in favour of selling the business:**
- **Financial Gain:** The partners realized a combined profit of £99,000 on the sale. The capital balances increased significantly from £291,000 (including current accounts) to £390,000.
- **Liquidity:** The partners received a substantial sum of liquid cash (£90,000 in total after paying dissolution costs, divided £55,400 to Baker and £34,600 to Cole), which they can spend or invest elsewhere.
- **Limited Liability:** As shareholders in Zenith plc, Baker and Cole will now benefit from limited liability, protecting their personal assets from business debts, unlike the unlimited liability of a partnership.
- **Marketability & Future Returns:** If Zenith plc is a successful, growing company, the 200,000 shares (valued at £300,000) may appreciate in value and generate regular dividend income.

**Arguments against selling the business:**
- **Loss of Control:** Baker and Cole will transition from being independent owner-managers to minority shareholders in a corporate entity. They lose direct control over daily management and strategic decisions.
- **Investment Risk:** Shares in a limited company are subject to market volatility. If Zenith plc experiences poor financial performance, the value of their shares could fall, and dividends might not be paid.
- **Lack of Share Liquidity:** If Zenith plc is a private limited company, selling these shares in the future might be very difficult as there is no active public stock exchange for private shares.

**Conclusion:**
On balance, the sale was highly beneficial financially as it unlocked significant goodwill (£52,600) and revaluation gains, providing both partners with a combination of instant cash liquidity and ongoing investment in a larger corporate entity. The loss of management control is a typical trade-off for security and capitalization.

PastPaper.markingScheme

**(a) (i) Net assets taken over (4 marks):**
- Premises: £220,000 (1 mark)
- Equipment: £65,000 (1 mark)
- Inventory: £40,000 + Trade receivables: £30,400 (1 mark for both)
- Deducting Trade payables of £28,000 to get £327,400 (1 mark)

**(a) (ii) Goodwill (2 marks):**
- For stating Purchase consideration is £380,000 (1 mark)
- Subtracting £327,400 to get Goodwill of £52,600 (1 mark)

**(b) Partnership Realisation Account (8 marks):**
- Debit side: Transferring book values of Premises (£150,000), Equipment (£80,000), Inventory (£45,000), and Trade Receivables (£32,000) (2 marks: 1 mark for any 2, 2 marks for all 4)
- Debit side: Dissolution expenses of £2,000 (1 mark)
- Credit side: Trade payables of £28,000 (1 mark)
- Credit side: Purchase consideration of £380,000 (1 mark)
- Calculating total profit of £99,000 (1 mark)
- Distributing profit: Baker £59,400 (1 mark), Cole £39,600 (1 mark)

**(c) Partners' Capital Accounts (8 marks):**
- Opening balances brought down (both correct): (1 mark)
- Transfer of current accounts: Baker £16,000 Cr (1 mark), Cole £5,000 Dr (1 mark)
- Share of Realisation profit (both correct): (1 mark)
- Distribution of Zenith plc shares: Baker £180,000 (1 mark), Cole £120,000 (1 mark)
- Cash payment from Bank: Baker £55,400 (1 mark), Cole £34,600 (1 mark)

**(d) Evaluation (8 marks):**
- **Level 1 (1-2 marks):** Basic points identified (e.g., cash received, loss of control) with minimal explanation.
- **Level 2 (3-4 marks):** Solid explanation of 2-3 points from either perspective, with limited financial links.
- **Level 3 (5-6 marks):** Balanced discussion addressing both pros (liquidity, limited liability, realisation profit) and cons (loss of control, share marketability) with clear financial references.
- **Level 4 (7-8 marks):** Comprehensive and balanced evaluation with detailed application to the scenario, concluding with a logical and justified decision/recommendation.

PastPaper.question 2 · essay

30 PastPaper.marks

Vanguard Dynamics Ltd manufactures a single product, the "V-Pod". The company began its operations on 1 January 2022. The budgeted production for the year ended 31 December 2022 was 25,000 units.

The actual results and cost information for its first year of operation are as follows:

- Actual production: 20,000 units
- Actual sales: 16,000 units
- Selling price: #45 per unit
- Direct materials: #10 per unit
- Direct labour: #8 per unit
- Variable manufacturing overheads: #4 per unit
- Actual fixed manufacturing overheads: #160,000
- Variable selling and distribution costs: #2 per unit sold
- Fixed selling and administration costs: #50,000

The company's policy is to absorb fixed manufacturing overheads based on budgeted production volume.

Required:

(a) Prepare the Income Statement for the year ended 31 December 2022 using:
(i) Marginal costing (8 marks)
(ii) Absorption costing (10 marks)

(b) Prepare a statement reconciling the difference between the net profit under marginal costing and the net profit under absorption costing. (4 marks)

(c) Evaluate whether Vanguard Dynamics Ltd should use marginal costing or absorption costing for its internal reporting and decision-making. (8 marks)

PastPaper.showAnswers

PastPaper.workedSolution

(a)(i) Marginal Costing Income Statement for the year ended 31 December 2022:

- Revenue (16,000 units * #45) = #720,000
- Less Variable Cost of Sales:
- Opening inventory = #0
- Variable production cost (20,000 units * #22) = #440,000 (where variable unit cost = #10 + #8 + #4 = #22)
- Less Closing inventory (4,000 units * #22) = (#88,000)
- Variable Cost of Goods Sold = #352,000
- Add Variable selling and distribution (16,000 units * #2) = #32,000
- Total variable costs = #384,000
- Contribution = #720,000 - #384,000 = #336,000
- Less Fixed costs:
- Fixed manufacturing overheads = #160,000
- Fixed selling and administration = #50,000
- Total Fixed Costs = #210,000
- Net Profit = #336,000 - #210,000 = #126,000

(a)(ii) Absorption Costing Income Statement for the year ended 31 December 2022:

- Fixed Overhead Absorption Rate (FOAR) = Budgeted Fixed manufacturing overheads / Budgeted production = #160,000 / 25,000 units = #6.40 per unit.
- Full production cost per unit = #10 (Materials) + #8 (Labour) + #4 (Variable overhead) + #6.40 (FOAR) = #28.40 per unit.
- Under/Over absorption calculation:
- Fixed overhead absorbed (20,000 units * #6.40) = #128,000
- Actual fixed manufacturing overhead = #160,000
- Under-absorbed overhead = #160,000 - #128,000 = #32,000
- Revenue (16,000 units * #45) = #720,000
- Less Cost of Sales:
- Opening inventory = #0
- Cost of production (20,000 units * #28.40) = #568,000
- Less Closing inventory (4,000 units * #28.40) = (#113,600)
- Cost of Sales (at absorbed cost) = #454,400
- Add Under-absorbed overheads = #32,000
- Adjusted Cost of Sales = #486,400
- Gross Profit = #720,000 - #486,400 = #233,600
- Less Period costs:
- Variable selling and distribution (16,000 units * #2) = #32,000
- Fixed selling and administration = #50,000
- Total Period Costs = #82,000
- Net Profit = #233,600 - #82,000 = #151,600

(b) Reconciliation of Net Profit:

- Net Profit under Absorption Costing = #151,600
- Less Fixed manufacturing overhead deferred in closing inventory (4,000 units * #6.40) = (#25,600)
- Net Profit under Marginal Costing = #126,000
(Alternatively, starting with Marginal Profit: #126,000 + #25,600 = #151,600)

(c) Evaluation:

Arguments for Marginal Costing:
- It is highly useful for short-term decisions such as special order pricing, make-or-buy decisions, and break-even analysis because it focuses on contribution and variable cost behavior.
- Profit is directly tied to sales volume. Profits cannot be manipulated by increasing production levels to defer fixed costs.
- It avoids the arbitrary apportionment of fixed overheads to products, which can lead to misleading product profitability analysis.
- However, it does not comply with international financial reporting standards (IAS 2) for external financial reporting because closing inventory values exclude fixed production overheads.

Arguments for Absorption Costing:
- It complies with IAS 2 (Inventories) because it includes a share of fixed production overheads in inventory valuation, ensuring a proper matching of total costs of production with revenues in the period the goods are sold.
- It calculates the full cost of production, which is essential for long-term pricing policies to ensure that all manufacturing overheads are fully recovered.
- However, it can lead to management manipulating profits by overproducing (increasing production beyond demand) to absorb more overheads in closing inventory, artificially raising profits.
- Reapportionment and absorption of overheads can be complex, subjective, and arbitrary.

Conclusion:
Vanguard Dynamics Ltd should utilize both methods. Absorption costing must be used for official external financial reporting to comply with accounting standards. However, for internal planning, budgeting, control, and short-term decision-making, marginal costing is the superior tool as it prevents inventory levels from distorting profitability trends.

PastPaper.markingScheme

Part (a)(i) [8 Marks]:
- 1 Mark (A) for Revenue of #720,000.
- 1 Mark (M) for calculating Marginal Cost of production per unit of #22.
- 1 Mark (A) for Closing Inventory of #88,000.
- 1 Mark (A) for Variable selling and distribution of #32,000.
- 1 Mark (A) for Total Contribution of #336,000.
- 1 Mark (M) for identifying Fixed manufacturing overheads of #160,000 and Fixed selling and administration of #50,000.
- 2 Marks (A) for Net Profit of #126,000 (1 Mark if arithmetic error but correct method).

Part (a)(ii) [10 Marks]:
- 1 Mark (M) for FOAR calculation: #160,000 / 25,000 = #6.40.
- 1 Mark (A) for Full production cost per unit: #28.40.
- 1 Mark (M) for calculating Under-absorbed overhead: #160,000 - (20,000 * #6.40) = #32,000.
- 1 Mark (A) for correct treatment of Under-absorbed overhead (added to Cost of Sales).
- 1 Mark (A) for Cost of production: #568,000.
- 1 Mark (A) for Closing Inventory: #113,600.
- 1 Mark (A) for Adjusted Cost of Sales: #486,400.
- 1 Mark (A) for Gross Profit: #233,600.
- 1 Mark (A) for Period Costs: #82,000.
- 1 Mark (A) for Net Profit: #151,600.

Part (b) [4 Marks]:
- 1 Mark (M) for identifying the difference in profit: #151,600 - #126,000 = #25,600.
- 2 Marks (A) for calculating the fixed overhead in closing inventory: 4,000 units * #6.40 = #25,600 (1 Mark for formula/method, 1 Mark for value).
- 1 Mark (A) for completing a clear, formal reconciliation statement showing the mathematical link.

Part (c) [8 Marks]:
- 2 Marks (Max) for arguments supporting Marginal Costing (relevance to decision-making, no profit distortion, ease of break-even analysis).
- 2 Marks (Max) for arguments supporting Absorption Costing (compliance with IAS 2, full cost recovery for pricing).
- 2 Marks (Max) for disadvantages of each method (non-compliance of marginal costing, profit manipulation via overproduction in absorption costing).
- 2 Marks for a reasoned, balanced conclusion advising the use of both systems for their respective purposes (internal decision-making vs. external reporting).

PastPaper.question 3 · Statement of Cash Flows and liquidity evaluation

30 PastPaper.marks

Sylate plc is a retail company expanding its operations. The comparative statements of financial position and additional information for the year ended 30 September 2023 are shown below:

### Sylate plc
#### Comparative Statement of Financial Position (Extracts) as at 30 September:

| | 2022 (£) | 2023 (£) |
|---|---|---|
| **Non-current assets** | | |
| Property, plant and equipment (cost) | 850,000 | 1,050,000 |
| Less: Accumulated depreciation | (240,000) | (290,000) |
| **Net book value** | **610,000** | **760,000** |
| | | |
| **Current assets** | | |
| Inventory | 120,000 | 145,000 |
| Trade receivables | 85,000 | 72,000 |
| Cash at bank | 41,000 | - |
| **Total assets** | **856,000** | **977,000** |
| | | |
| **Equity** | | |
| Ordinary shares (£1 each) | 400,000 | 500,000 |
| Share premium | 50,000 | 80,000 |
| Retained earnings | 151,000 | 155,000 |
| | | |
| **Non-current liabilities** | | |
| 8% Debentures | 150,000 | 100,000 |
| | | |
| **Current liabilities** | | |
| Trade payables | 76,000 | 92,000 |
| Bank overdraft | - | 14,000 |
| Taxation | 25,000 | 30,000 |
| Interest payable | 4,000 | 6,000 |
| **Total equity and liabilities** | **856,000** | **977,000** |

**Additional Information:**
1. Operating profit (profit from operations) for the year ended 30 September 2023 was £70,000.
2. During the year, an item of machinery was sold for £18,000. This machinery originally cost £45,000 and had accumulated depreciation of £22,000 at the date of disposal.
3. Interest paid during the year was £10,000.
4. Taxation paid during the year was £27,000.
5. Ordinary dividends paid during the year were £22,000.

**Required:**
(a) Prepare the Statement of Cash Flows for Sylate plc for the year ended 30 September 2023, in accordance with IAS 7 (using the indirect method). (16 marks)

(b) Explain how a Statement of Cash Flows is useful to both the management and external investors of Sylate plc. (6 marks)

(c) Evaluate whether the company's liquidity and cash position has improved or deteriorated over the year ended 30 September 2023, and suggest measures management could take to improve cash management. (8 marks)

PastPaper.showAnswers

PastPaper.workedSolution

### Part (a) Statement of Cash Flows for Sylate plc for the year ended 30 September 2023

**Sylate plc**
**Statement of Cash Flows for the year ended 30 September 2023**

| **Cash flows from operating activities** | **£** | **£** |
|---|---|---|
| Profit from operations (operating profit) | | 70,000 |
| *Adjustments for:* | | |
| Depreciation charge (W1) | | 72,000 |
| Loss on disposal of machinery (W2) | | 5,000 |
| **Operating cash flows before working capital changes** | | **147,000** |
| Increase in inventory $(145,000 - 120,000)$ | (25,000) | |
| Decrease in trade receivables $(85,000 - 72,000)$ | 13,000 | |
| Increase in trade payables $(92,000 - 76,000)$ | 16,000 | |
| **Cash generated from operations** | | **151,000** |
| Interest paid | (10,000) | |
| Taxation paid | (27,000) | |
| **Net cash from operating activities** | | **114,000** |
| | | |
| **Cash flows from investing activities** | | |
| Purchase of property, plant and equipment (W3) | (245,000) | |
| Proceeds from sale of machinery | 18,000 | |
| **Net cash used in investing activities** | | **(227,000)** |
| | | |
| **Cash flows from financing activities** | | |
| Proceeds from issue of shares $(100,000 \text{ share capital} + 30,000 \text{ share premium})$ | 130,000 | |
| Redemption of 8% debentures $(100,000 - 150,000)$ | (50,000) | |
| Ordinary dividends paid | (22,000) | |
| **Net cash from financing activities** | | **58,000** |
| | | |
| **Net decrease in cash and cash equivalents** | | **(55,000)** |
| Cash and cash equivalents at start of year (Cash) | | 41,000 |
| **Cash and cash equivalents at end of year (Overdraft)** | | **(14,000)** |

---

#### **Workings:**

**W1: Depreciation charge**
$\text{Closing accumulated depreciation} = £290,000$
$\text{Accumulated depreciation on disposal} = £22,000$
$\text{Opening accumulated depreciation} = £240,000$
$\text{Depreciation charge} = 290,000 - (240,000 - 22,000) = £72,000$

**W2: Loss on disposal of machinery**
$\text{Original cost} = £45,000$
$\text{Accumulated depreciation} = £22,000$
$\text{Net Book Value (NBV)} = 45,000 - 22,000 = £23,000$
$\text{Disposal proceeds} = £18,000$
$\text{Loss on disposal} = 23,000 - 18,000 = £5,000$

**W3: Purchase of property, plant and equipment**
$\text{Closing cost} = £1,050,000$
$\text{Disposal cost} = £45,000$
$\text{Opening cost} = £850,000$
$\text{Purchases (additions)} = 1,050,000 - (850,000 - 45,000) = £245,000$

---

### Part (b) Usefulness of the Statement of Cash Flows

**To Management:**
* **Planning and Control:** Helps the management of Sylate plc project future cash obligations and prevent insolvency. It shows if the current cash generation can sustain day-to-day operations.
* **Capital investment planning:** Management can evaluate whether cash generated from activities is sufficient to fund expansion (like the £245,000 purchase of PPE) or if external borrowing is required.
* **Performance appraisal:** Explains why a healthy profit (operating profit of £70,000) has resulted in a cash decline (overdraft of £14,000), highlighting issues in working capital or capital over-commitment.

**To External Investors:**
* **Liquidity assessment:** Investors can evaluate whether the company is truly generating cash or relying on bank credit/debt to operate.
* **Dividend reliability:** Shows if the dividends (£22,000) are covered by free cash flow or paid out of capital/overdrafts.
* **Transparency:** Profits can be modified by non-cash estimates and provisions (like depreciation policy). Cash flows are objective, making it harder for management to mask poor operational performance.

---

### Part (c) Liquidity and Cash Position Evaluation

**Analysis of Cash and Liquidity Position:**
* **Deterioration in Cash Balance:** The absolute cash position has deteriorated significantly, moving from a positive opening cash balance of £41,000 to a bank overdraft of £14,000 (net decline of £55,000).
* **Strong Operating Core:** The business is operationally sound. It generated £114,000 in operating activities, proving that the underlying retail operations are profitable and generate cash.
* **Aggressive Investing Activities:** The primary cause of the cash drain was the aggressive capital investment in PPE of £245,000. This expansion exceeded the operational cash generation.
* **Financing Activities and Debt Repayment:** Sylate plc raised £130,000 from share issues, which was beneficial. However, they also redeemed £50,000 of 8% debentures. Repaying long-term debt during an expensive expansion phase directly forced the company into a short-term overdraft.
* **Working Capital Pressure:** Inventory levels increased by £25,000, tying up cash unnecessarily. However, receivables decreased by £13,000 (good credit control) and trade payables increased by £16,000 (delayed supplier payment, which preserved cash but could hurt relationships).

**Suggested Measures for Improvement:**
1. **Phasing of Capital Expenditure:** Management should avoid massive lumpsum purchases of non-current assets. They could phase expansion or consider leasing arrangements for machinery rather than cash purchases.
2. **Review Debt Policy:** Avoid redeeming long-term debentures when liquidity is tight. Refinancing or extending the terms of non-current liabilities would preserve current cash reserves.
3. **Improve Working Capital Management:** Implement tighter inventory controls (e.g., Just-In-Time replenishment) to release the £25,000 cash tied up in inventory.

**Conclusion:**
The cash position has deteriorated due to aggressive capital investment and premature debt redemption rather than operational weakness. The business generates strong positive cash flow from operations, so the situation is temporary and manageable if investment is controlled.

PastPaper.markingScheme

### Part (a) Statement of Cash Flows (16 Marks)
* **Profit from operations:** 1 mark for correct entry of £70,000.
* **Depreciation:** 2 marks (1 mark for working showing W1: $290,000 - (240,000 - 22,000) = 72,000$; 1 mark for correct entry in Statement of Cash Flows).
* **Loss on disposal:** 1 mark for correct calculation and addition of £5,000.
* **Working Capital Changes:** 2 marks if all three correct: Inventory (-£25,000), Receivables (+£13,000), Payables (+£16,000). (Award 1 mark if only one or two are correct).
* **Interest & Tax paid:** 2 marks (1 mark for Interest Paid of -£10,000; 1 mark for Tax Paid of -£27,000).
* **Net cash from operating activities:** 1 mark for correct subtotal of £114,000.
* **Purchase of PPE:** 2 marks (1 mark for working showing W3: $1,050,000 - (850,000 - 45,000) = 245,000$; 1 mark for correct outflow entry of -£245,000).
* **Proceeds from sale of machinery:** 1 mark for correct entry of £18,000.
* **Proceeds from share issue:** 1 mark for correct calculation of £130,000 (including share premium).
* **Redemption of debentures:** 1 mark for correct entry of -£50,000.
* **Dividends paid:** 1 mark for correct entry of -£22,000.
* **Cash Reconciliation:** 1 mark for showing correct opening balance (£41,000), closing overdraft (-£14,000) and net decrease (-£55,000).

### Part (b) Usefulness of Statement of Cash Flows (6 Marks)
* **Management utility:** Max 3 marks (1 mark for planning/budgeting future liquidity, 1 mark for capital investment decisions, 1 mark for profit-to-cash reconciliation).
* **External investor utility:** Max 3 marks (1 mark for dividend payment reliability, 1 mark for investment risk profile, 1 mark for lack of accounting estimation distortion/manipulation compared to profits).

### Part (c) Liquidity and Cash Position Evaluation (8 Marks)
* **Analysis of cash position & trends:** Max 4 marks (1 mark for noting the shift to overdraft of £14,000, 1 mark for highlighting strong operational cash generation of £114,000, 1 mark for recognizing investing outflows of £227,000 as the main cause, 1 mark for criticizing debenture redemption/inventory increase).
* **Measures to improve cash management:** Max 2 marks (1 mark per viable recommendation: e.g., leasing/phasing capital additions, inventory control policies, avoiding early debt repayment, optimizing trade payable periods).
* **Balanced Evaluation / Conclusion:** Max 2 marks (1 mark for recognizing that the decline is structural/temporary, 1 mark for overall decision-making balance).

PastPaper.question 4 · practical

30 PastPaper.marks

Oakwood Plastics plc is considering a capital investment in a new manufacturing production line, known as Project Gamma. The finance director is preparing a project appraisal report for the Board of Directors.

The capital structure of Oakwood Plastics plc is as follows:
- **Ordinary Shares**: Market value is £6,000,000. The cost of equity is estimated at 12% per annum.
- **Long-term Bank Loan**: Carrying amount is £4,000,000. The pre-tax interest rate on the loan is 8.75% per annum.
- **Corporation Tax Rate**: 20%.

Project Gamma requires an initial investment of £1,500,000 on 1 January Year 1. The useful life of the production line is 4 years, after which it will have an estimated residual value of £100,000.

The net operating cash inflows (excluding the residual value) are estimated to be:
- Year 1: £450,000
- Year 2: £600,000
- Year 3: £550,000
- Year 4: £300,000

**Required:**

(a) Calculate the Weighted Average Cost of Capital (WACC) for Oakwood Plastics plc, which will be used as the discount rate for the project appraisal. (8 marks)

(b) Calculate the Net Present Value (NPV) of Project Gamma using your calculated WACC from (a). (If you were unable to calculate a WACC in part (a), use a discount rate of 10%). (10 marks)

(c) Calculate the Accounting Rate of Return (ARR) for Project Gamma. (6 marks)

(d) Evaluate whether Oakwood Plastics plc should proceed with Project Gamma, considering both financial and non-financial factors. (6 marks)

PastPaper.showAnswers

PastPaper.workedSolution

**(a) Calculation of the Weighted Average Cost of Capital (WACC)**

1. Identify the proportions/weights of capital:
- Total Capital = Equity Market Value + Debt Value
- $\text{Total Capital} = £6,000,000 + £4,000,000 = £10,000,000$
- Equity Proportion (Weight) = $£6,000,000 / £10,000,000 = 60\%$ (or 0.60)
- Debt Proportion (Weight) = $£4,000,000 / £10,000,000 = 40\%$ (or 0.40)

2. Calculate the post-tax cost of debt ($K_d$):
- $K_d = \text{Pre-tax Cost of Debt} \times (1 - \text{Tax Rate})$
- $K_d = 8.75\% \times (1 - 0.20) = 7.0\%$

3. Calculate the WACC:
- $\text{WACC} = (\text{Cost of Equity} \times \text{Weight of Equity}) + (\text{Post-tax Cost of Debt} \times \text{Weight of Debt})$
- $\text{WACC} = (12.0\% \times 0.60) + (7.0\% \times 0.40)$
- $\text{WACC} = 7.2\% + 2.8\% = 10.0\%$

***

**(b) Calculation of Net Present Value (NPV) at 10% Discount Rate**

| Year | Cash Flow (£) | Discount Factor (10%) | Present Value (£) |
|---|---|---|---|
| 0 | (1,500,000) | 1.000 | (1,500,000) |
| 1 | 450,000 | 0.909 | 409,050 |
| 2 | 600,000 | 0.826 | 495,600 |
| 3 | 550,000 | 0.751 | 413,050 |
| 4 | 400,000* | 0.683 | 273,200 |
| **NPV** | | | **+£90,900** |

*Note for Year 4 Cash Flow: Operating Cash Flow of £300,000 + Residual Value of £100,000 = £400,000.*

***

**(c) Calculation of the Accounting Rate of Return (ARR)**

**Method 1: Average Investment Basis (Standard Edexcel Practice)**
1. Calculate Total Net Profit:
- Total Inflows = $£450,000 + £600,000 + £550,000 + £300,000 + £100,000 = £2,000,000$
- Less: Initial Investment = $£1,500,000$
- Total Net Profit = $£500,000$

2. Calculate Average Annual Profit:
- $\text{Average Annual Profit} = £500,000 / 4 \text{ years} = £125,000$

3. Calculate Average Investment:
- $\text{Average Investment} = (\text{Initial Investment} + \text{Residual Value}) / 2$
- $\text{Average Investment} = (£1,500,000 + £100,000) / 2 = £800,000$

4. Calculate ARR:
- $\text{ARR} = (\text{Average Annual Profit} / \text{Average Investment}) \times 100\%$
- $\text{ARR} = (£125,000 / £800,000) \times 100\% = 15.63\%$ (or 15.625%)

**Method 2: Initial Investment Basis (Alternative Accepted Practice)**
- $\text{ARR} = (\text{Average Annual Profit} / \text{Initial Investment}) \times 100\%$
- $\text{ARR} = (£125,000 / £1,500,000) \times 100\% = 8.33\%$

***

**(d) Evaluation of Project Gamma**

**Financial Arguments for:**
- The Net Present Value (NPV) is positive (+£90,900), which means the project exceeds the company's hurdle rate (WACC of 10%) and will increase shareholder wealth.
- The Accounting Rate of Return (ARR) is high (15.63% on an average investment basis, or 8.33% on an initial investment basis), which can be compared against the company's target return on capital employed (ROCE).

**Financial Arguments against / Risks:**
- Significant initial capital outlay of £1,500,000 is required, which may restrict cash flow for other projects.
- Cash inflow estimates are prone to forecasting errors, especially in Years 3 and 4.

**Non-Financial Factors:**
- **Market demand & reliability:** Is the market for this specific plastic product growing?
- **Technology & training:** Will employees require specialized training to operate the new production line, resulting in hidden costs or production downtime?
- **Environmental impact:** Does the plastic production run counter to environmental sustainability policies of the company?

**Conclusion:**
Oakwood Plastics plc should proceed with Project Gamma as it is financially viable (positive NPV) and has a strong ARR. However, they must monitor cash flow forecasts closely and ensure adequate contingency plans are in place for the initial cash outflow.

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**(a) WACC Calculation (Total: 8 marks)**
- **2 marks**: Identifying correct capital weights (60% equity, 40% debt) [1 mark for each weight].
- **2 marks**: Calculation of post-tax cost of debt ($8.75\% \times (1 - 0.20) = 7.0\%$) [1 mark for formula, 1 mark for correct answer].
- **4 marks**: Correct overall WACC calculation formulation and final answer of 10.0% [2 marks for method, 2 marks for accuracy].

**(b) NPV Calculation (Total: 10 marks)**
- **1 mark**: Correct Year 0 outflow of £1,500,000 and DF of 1.000.
- **2 marks**: Correct Year 1 to 3 cash flows and discount factors applied.
- **2 marks**: Correct Year 4 total inflow of £400,000 (combining operating cash flow of £300,000 and residual value of £100,000).
- **4 marks**: Calculation of individual Present Values (PV) for Years 1-4 [1 mark per year].
- **1 mark**: Correct final Net Present Value of +£90,900 (accept minor rounding differences if 10% rate from (a) was calculated with slight differences, or allow full own-figure rule (OFR) if wrong WACC from (a) was applied correctly here).

**(c) ARR Calculation (Total: 6 marks)**
- **2 marks**: Calculation of Average Annual Profit of £125,000 [1 mark for total profit, 1 mark for dividing by 4 years].
- **2 marks**: Calculation of Average Investment of £800,000 (or identification of Initial Investment of £1,500,000).
- **2 marks**: Correct final ARR percentage (15.63% or 15.625% for average basis; 8.33% for initial investment basis).

**(d) Evaluation (Total: 6 marks)**
- **2 marks**: Financial evaluation (discussing positive NPV and ARR results).
- **2 marks**: Non-financial evaluation (discussing forecasting accuracy, employee training, or environmental concerns).
- **2 marks**: Reasoned recommendation/conclusion based on the calculations.

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