2025 IB DP Business management Practice Paper with Answers

(a) Calculate break-even level of output:
\(\text{Contribution per Unit} = \text{Price} - \text{Variable Cost} = \$6.00 - \$2.40 = \$3.60\)
\(\text{Break-even Quantity} = \frac{\text{Fixed Costs}}{\text{Contribution per Unit}} = \frac{\$18,000}{\$3.60} = 5,000 \text{ units}\)

(b) Calculate margin of safety:
\(\text{Margin of Safety} = \text{Expected Sales} - \text{Break-even Quantity}\)
\(\text{Margin of Safety} = 12,500 - 5,000 = 7,500 \text{ units}\)

(c) Effect of a 10% increase in fixed costs:
- New fixed costs: \(\$18,000 \times 1.10 = \$19,800\)
- New break-even level: \(\frac{\$19,800}{\$3.60} = 5,500 \text{ units}\)
- New margin of safety: \(12,500 - 5,500 = 7,000 \text{ units}\)

When fixed costs increase, the business must sell more units to cover these fixed overheads before starting to generate profit. Consequently, the break-even point rises (by 500 units). As a result of this higher threshold, the buffer zone between the target sales and break-even (margin of safety) shrinks (by 500 units), indicating higher financial risk.

(a) [3 marks]
- 1 mark for calculating correct contribution per unit ($3.60) or showing correct formula.
- 1 mark for correct working shown.
- 1 mark for correct break-even unit answer (5,000 units).

(b) [2 marks]
- 1 mark for showing correct formula or working.
- 1 mark for correct margin of safety (7,500 units).

(c) [5 marks]
- 1 mark for calculating the new break-even point (5,500 units).
- 1 mark for calculating the new margin of safety (7,000 units).
- 3 marks for clear explanation of the relationship: explaining that an increase in fixed costs requires more total contribution to cover them, thereby raising the break-even point, which directly erodes the margin of safety by the same volume (500 units) assuming demand remains constant.

(a) Calculate Capital Employed first:
\(\text{Capital Employed} = \text{Equity} + \text{Non-current Liabilities}\)
\(\text{Equity} = \text{Share Capital} + \text{Retained Earnings} = \$250,000 + \$150,000 = \$400,000\)
\(\text{Capital Employed} = \$400,000 + \$350,000 = \$750,000\)

Now, calculate Gearing Ratio:
\(\text{Gearing Ratio} = \frac{\text{Non-current Liabilities}}{\text{Capital Employed}} \times 100 = \frac{\$350,000}{\$750,000} \times 100 = 46.67\%\) (or \(46.7\%\))

(b) Calculate Return on Capital Employed (ROCE):
\(\text{ROCE} = \frac{\text{Operating Profit}}{\text{Capital Employed}} \times 100\)
\(\text{ROCE} = \frac{\$80,000}{\$750,000} \times 100 = 10.67\%\) (or \(10.7\%\))

(c) Method to reduce gearing:
To reduce gearing, Apex Robotics Ltd can issue additional ordinary shares (equity capital) and use the funds raised to repay a portion of their long-term bank loan.
- Disadvantage: Issuing new shares increases the total number of shareholders, which dilutes the control and voting power of existing shareholders. Additionally, it may dilute future earnings per share.

(a) [3 marks]
- 1 mark for correct calculation of capital employed ($750,000) or showing the correct formula.
- 1 mark for correct substitution into the gearing formula.
- 1 mark for correct answer of 46.67% or 46.7% (accept 47%).

(b) [3 marks]
- 1 mark for correct ROCE formula.
- 1 mark for correct substitution of numbers.
- 1 mark for correct final answer of 10.67% or 10.7% (allow OFR from part a capital employed).

(c) [4 marks]
- 1-2 marks for identifying and explaining a viable method to reduce gearing (e.g., issuing new shares to pay debt or retaining profit instead of paying dividends).
- 1-2 marks for identifying and explaining a relevant disadvantage of that choice (e.g., dilution of ownership control, or unhappy shareholders due to lack of dividends).

(a) Capacity Utilization:
\(\text{Capacity Utilization} = \frac{\text{Actual Output}}{\text{Maximum Capacity}} \times 100\)
\(\text{Capacity Utilization} = \frac{1,200}{1,500} \times 100 = 80\%\)

(b) Make vs Buy analysis for 1,200 units:
- Cost to Make:
\(\text{Total Variable Cost} = 1,200 \times \$35 = \$42,000\)
\(\text{Avoidable Fixed Costs} = \$15,000\)
\(\text{Total Cost to Make} = \$42,000 + \$15,000 = \$57,000\)

- Cost to Buy:
\(\text{Total Cost to Buy} = 1,200 \times \$45 = \$54,000\)

- Financial Difference:
\(\text{Difference} = \$57,000 - \$54,000 = \$3,000\)

Buying (outsourcing) is financially preferable because it saves Nordic Wood \(\$3,000\) per year.

(c) Qualitative factors:
Nordic Wood positions itself as a producer of "high-quality hand-crafted wooden dining tables". If they outsource leg production, they lose direct control over quality. If the supplier's craftsmanship or wood grade is inferior, it could ruin the overall aesthetic and durability of the table, leading to complaints and a damaged brand reputation.

(a) [3 marks]
- 1 mark for correct formula.
- 1 mark for correct working.
- 1 mark for correct answer of 80%.

(b) [4 marks]
- 1 mark for calculating correct total cost to make ($57,000).
- 1 mark for calculating correct total cost to buy ($54,000).
- 1 mark for identifying the correct difference ($3,000).
- 1 mark for concluding that buying is the financially preferable option.

(c) [3 marks]
- 1 mark for identifying a valid qualitative factor (e.g., quality, reliability of delivery, impact on current employees).
- 2 marks for explaining the factor in context (linking it to Nordic Wood's reputation for high-quality hand-crafted items or potential demotivation of skilled workers).

### Part (a)
Organic growth (or internal growth) occurs when a business expands its own operations and scale of production using its own resources (such as reinvesting profits or taking out loans to open new outlets or launch new products), rather than merging or collaborating with other businesses.

### Part (b)
**Gearing Ratio Formula:**
$$\text{Gearing Ratio} = \frac{\text{Non-current Liabilities}}{\text{Capital Employed}} \times 100$$
Where: $\text{Capital Employed} = \text{Equity (Share Capital + Retained Earnings)} + \text{Non-current Liabilities}$

**(i) Before the $500,000 loan:**
* Total Equity = $400,000 (Share capital) + $100,000 (Retained earnings) = $500,000
* Non-current liabilities = $300,000
* Capital Employed = $500,000 + $300,000 = $800,000
* $$\text{Gearing Ratio} = \frac{\$300,000}{\$800,000} \times 100 = 37.5\%$$ (or 38% rounded)

**(ii) After the $500,000 loan:**
* New Non-current liabilities = $300,000 + $500,000 = $800,000
* Total Equity remains = $500,000
* New Capital Employed = $500,000 + $800,000 = $1,300,000
* $$\text{Gearing Ratio} = \frac{\$800,000}{\$1,300,000} \times 100 \approx 61.54\%$$ (accept 61.5% or 62% rounded)

### Part (c)
**Advantage of Option 2 (Merger with EcoTextiles):**
* **Synergy and Instant Market Presence:** A horizontal merger immediately grants GT three physical retail stores in major urban centers, eliminating a competitor and giving them instant access to new geographic markets. This physical presence helps overcome the stagnation caused by online fast-fashion competitors.

**Disadvantage of Option 2 (Merger with EcoTextiles):**
* **Loss of Control and Culture Clash:** Sharing ownership and decision-making 50/50 with the owners of EcoTextiles could lead to severe management conflicts, slower decision-making, or a clash in organizational culture. Maya and Chloe may no longer be able to protect their precise ethical standards if the new partners disagree.

### Part (d)
**Arguments for Option 1 (Internal Growth / E-commerce):**
* **Retention of Control:** Maya and Chloe maintain complete control over the brand, product quality, and ethical standards, which are central to their brand identity.
* **Global Reach:** An e-commerce platform allows the company to reach a global market, transcending regional limits.
* *Counter-argument:* Gearing ratio spikes from a safe 37.5% to a high-risk 61.54%. This means the firm is now highly geared, significantly increasing financial risk (higher fixed interest payments), which makes the business highly vulnerable to market downturns.

**Arguments for Option 2 (External Growth / Merger):**
* **No Added Debt:** This option keeps the company's financial risk low, maintaining the current manageable gearing level. This is crucial given the stagnant market conditions.
* **Immediate physical infrastructure:** The physical storefronts provide a diversified revenue stream to offset the pressure from online fast-fashion competitors.
* *Counter-argument:* This is a major structural change. A 50/50 split means deadlocks can occur in decision-making, and structural adjustments (rationalization costs) could hurt short-term cash flows.

**Evaluation / Synthesis:**
* The choice depends on the owners' risk tolerance and strategic vision. If retaining the pure brand essence and absolute control is paramount, Option 1 is superior, but they must accept the high financial risk of being 61.54% geared.
* If they want a faster path to diversification with lower financial liability, Option 2 is preferable, provided they can establish a robust partnership agreement to handle joint decision-making.

### Part (a) [2 marks]
* **1 mark** for a basic definition that shows some understanding of internal/organic growth (e.g., growing by yourself without a merger).
* **2 marks** for a clear and accurate definition indicating that the business expands using its own capabilities, resources, and reinvested profits, without merging or acquiring external firms.

### Part (b) [4 marks]
**Part (i):**
* **1 mark** for showing correct working: Capital Employed = $800,000 and formula set up correctly.
* **1 mark** for the correct answer: **37.5%** (accept 38%).

**Part (ii):**
* **1 mark** for showing correct working with the new loan: New Non-current liabilities = $800,000, New Capital Employed = $1,300,000.
* **1 mark** for the correct answer: **61.54%** (accept 61.5% or 62%).
* *(Note: Deduct 1 mark maximum across both parts if the percentage sign (%) is missing.)*

### Part (c) [4 marks]
* **For the advantage:**
* **1 mark** for identifying an advantage of horizontal mergers (e.g., economies of scale, physical presence, shared resources).
* **1 mark** for explaining the advantage in context of GT and EcoTextiles.
* **For the disadvantage:**
* **1 mark** for identifying a disadvantage (e.g., loss of control, culture clash, integration costs).
* **1 mark** for explaining the disadvantage in context of GT (e.g., 50/50 ownership split leading to deadlock, threat to original founders' values).

### Part (d) [10 marks]
* **1–2 marks:** A minimal response showing basic knowledge of growth strategies or gearing with little to no application or structure.
* **3–4 marks:** A descriptive response that outlines internal vs. external growth or lists pros and cons, but lacks deep analysis and does not use the calculated gearing ratio data.
* **5–6 marks:** An analytical response addressing both options, but may be unbalanced. Some reference is made to the gearing ratios calculated in Part (b), but the connection to strategic risk is weak. No clear judgment or conclusion.
* **7–8 marks:** A well-balanced, analytical discussion of both Option 1 and Option 2. Explicitly uses the gearing ratio results (e.g., high gearing risk of 61.54% vs. medium gearing of 37.5%) and discusses control issues. A conclusion is present but might not be fully justified.
* **9–10 marks:** An outstanding, balanced discussion demonstrating deep critical thinking. Integrates financial analysis (gearing levels) and qualitative issues (control, ethical vision, market stagnation). Provides a highly justified final recommendation based on the trade-offs between financial risk and managerial control.