CA Final May 2023 Suggested Answers Paper 5 Strategic Cost Management and Performance Evaluation (Old Scheme)

FOR CA FINAL EXAM PREPARATION

CA Final 2023
Suggested Answers ·
Paper 5 Strategic Cost
Management and
Performance
Evaluation (Old
Scheme)
EXAM YEAR TYPE

CA Final 2023 Suggested Answers
SUBJECT

Paper 5 Strategic Cost Management and Performance Evaluation (Old Scheme)
DATE

May 2023

Notes · Sample Papers · Previous Year Papers · Mock Tests

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION
Question No.1 is compulsory.

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Candidates are also required to answer any

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four questions from the remaining five questions.

Question 1m
Working notes should form part of the respective answers.
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FlexlFashions is an Indian retail clothing chain company. It specializes in designing and sellingag
g fashion clothes and accessories. The primary factor in Flex’s successful run is attributable
anew
to two simple business connotations compared to its peers:
(i) Management’s Philosophy centers around preserving views like -
▪ Failure to recognize our failures creates conditions for more failures.
▪ Lot of ideas will remain ideas unless you have a strong team.
▪ One satisfied customer brings in ten new customers with him whereas one dissatisfied
customer takes away ten.

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(ii) Business Philosophy is centered on three basic aspects -

m and accessory designs every three weeks
Flex Fashions supply chain is highly responsive and is central to its business success.
▪ It brings innovative and exclusive eclothing
▪

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on an average, whereas its acompetitors change the designs every two or three
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▪
months.
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It carries more than 10,000 distinct varieties of items per year in hundreds of its stores,
compared to its competitors, who carry 2,000 to 3,000 items in their stores.
Business Strategy
Flex Fashions core market is female oriented in the age group of 20 to 35 years. The company
reaches out this market by opening their stores in town centers and places with high
concentration of females in this age range.

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Research for demand forecasting for clothing and other accessories and recent trends in the

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fashion industry are observed by visiting colleges, universities, health clubs, pubs, etc.in

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different cities. The research data is used to set the product demand levels in the different

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stores.
Reducing production activities (short production runs) to create scarcityaofs especific designs
s e g l Flex Fashions
l a does not have lots of excess inventory, nor does it need to bring big a
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generates a sense of eagerness to buy, while supplies last. As a consequence,
mark-downs on its clothing
and accessory range. Hence, Flex Fashions has high inventory turnover ratio compared to its
peers. But such short-term focused order cycles demand forecast requires to be much more
accurate than its competitors and need reliable suppliers.

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2 FINAL EXAMINATION: MAY, 2023

The company adopts a limited exchange/return policy whereby any customer, who is not happy
with the product, whether it is found damaged or defective, needs a change in colour or design
or for any other reason, is allowed to return the product within three days only. Even though it
is less than the competitors' average of seven days, the company adopts this strict return policy
to have clear control over its inventory management.
Customers visit the Flex Fashions stores twelve times in a year on an average compared to just
three times in a year for its competitors. The state of art structure of Flex Fashions stores
encourages customers to visit the stores instead of ordering on the internet. As a result, Flex
Fashions sells 85 percent of items at full price compared to 65 percent of items at full price by
its competitors. Further, the advantage of higher customer step-in's just leaves 8 to 9 percent
of items unsold compared to the industry average of 15 to 20 percent. As the company is less
tech savvy, the present business model even though it yields excellent results in the major cities
is limiting the market in remote locations.
Flex’s factories can quickly increase and decrease the production rates, so that there are fewer
inventories in the supply chain and less requirement of the working capital. The company
produces only 35 to 40 percent of their manufacturing in advance versus the 80 to 90 percent
done by competitors. The company does not need to place big bets on yearly fashion trends.
They can make many smaller bets on short term trends that are easier to predict. However, the
reliability of suppliers is vital as any disruption would delink the supply chain.
The company's supply chain is fast moving, finely tuned and requires constant attention to keep
it running smoothly. Supply chain planners and managers of the company are constantly
watching customer demand and making adjustments to manufacturing and supply chain
operations.
The founder of Flex Fashions, Mr. VK is aging and could foresee the need of management
transfer to the next generation by the end of the decade. To facilitate smooth sailing, he wants
to develop a second line to understand the complex business operations of the company. He
believes that irrespective of too many successful milestones the company has passed,
challenges always remain and the worst may hit any time. Success is not always guaranteed
and failure could greet any time. He wanted to identify the talent and to bring suitable
replacement, to keep the successful track of the company for further decades to come.
Presuming that you are one of the contenders to be his substitute, you are requested to analyse
the situations given to you along with the existing policies, procedures and circumstances that
the company is dealing with.
Required
(i) The three management philosophies defined by Flex Fashions is no doubt essential for the
success of any entity in general, but is there any specific philosophy that can be directly
related to any one of the processes of Supply Chain Management? IDENTIFY and
EXPLAIN the process. (3 Marks)

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 3

(ii) Apart from the above, DISCUSS the other seven processes that would fit in the supply
chain management framework. (7 Marks)

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(iii) It appears that Flex Fashions evaluates the probable demand through analysing the

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customer behavioural thinking by visiting schools; colleges etc. and amend its supply

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chain. ADVISE on any factors that should be specifically looked during such analysis.

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(iv) DESCRIBE the types of supply chain in the context of the company, citing the requirement
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a(v)g Do you feel that all is well with Flex Fashions Supply Chain? EVALUATE three areas
of the separation of supply chain. (2 Marks)

where risk mitigation is possible in near future. (3 Marks)
(vi) Mr. VK used to convey on different forums and meetings of the company that "the blueprint
of supply chain model used by our company is easy to imagine but difficult to practice." To
use the methodology effectively, the incumbent must learn about the models and operating
procedures used by the company for the last 30 years. Good supply chain models enable
people to understand the potentials and see the opportunities that a real- time supply chain

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offers. EVALUATE the statement given by Mr. VK. (3 Marks)

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(i) The initial two points are general in nature .and would support managerial decisions in a
Answer

m ‘one satisfied customer brings in ten new
ei.e.,
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motivational way but the third point

Relationship Management a
customers whereas the dissatisfied will take away ten’ is relatable to Customers
Process of SCM. It precisely directs us to find the needs of
the customers and providing them with best possible situations.
Customer Relationship Management is to manage and analyse customer’s interaction
and data throughout the life cycle with the main motive of improving business relations, as
well as the strategies and technologies used in Customer Relationship Management
(CRM). Relation includes relations with customers, assisting in customer retention and
driving sales growth. Customers information under different channels are compiled through

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CRM. The staff dealing with customers get a detailed information about customer’s

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personal information, purchase history, buying preferences and concerns. Organizations

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must ensure customers are satisfied with their products and services for higher customer

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retention.

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In the given case Flex fashions is having the practice of retaining the customers by

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observing the changes in customer’s preference, habits and different
a monitoring them on a periodic basis. This is one form of maintaining the customer relations
by which their priorities are taken care off by analysing the social and fashion patterns.
This allows the business to know more about target audiences and how best to cater for
their needs.

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4 FINAL EXAMINATION: MAY, 2023

(ii) The other seven processes that would fit in the supply chain management framework
would be:
1. Supplier Relationship Management: It provides a structure as to how relationships
with the supplies are developed and maintained. From the facts of the case, it is
observed that the company’s products are highly contemporary, and all the products
are subject to consistent revision and replacements. The inventory turnover also
seems to be on higher side compared to the industry average. So, to prevent stock
outs this process should be sensitively carried out.
2. Customer Service Management: In general, this signifies the key points of contracts
administering the products and service agreements. Considering the nature of the
business of the company, this is relatively less relevant but certain level of services
like, exchange of clothes could be allowed to the customers for a limited period after
sale, no dearth of sales personnel in show rooms less waiting time etc. These sort of
practices falls under Customer Service Management process.
3. Demand Management: It assists in providing the structure of optimizing the
customer’s requirement with supply chain capabilities. All the parameters of Flex
limited are well ahead of the industry average and it is being managed well. It appears
that the company is having right processes in place the management is matching
supply with the demand proactively and executing the plan with no disruptions.
4. Order fulfilment: It generally includes all activities necessary to define customer
requirements, design the logistics network and fill customer orders. This would have
negative bearing unless properly met. Flex Fashions is maintaining 10,000 distinct
items per year in hundreds of its stores across the country compared to competitors
that carries 2 to 3 thousand. So adequate stocks are being maintained towards
demand and order fulfilment.
5. Manufacturing flow management: Includes all activities necessary to move
products through plants and obtain, implement and manage manufacturing flexibility
in the supply chain. The company is showing the ability to manage manufacturing
resources to meet various customer fashions and requirements.
6. Product Development and commercialization: It provides the structure for
developing and bringing to market new products jointly with customers and suppliers.
This may be less relevant in the context of the company as it seems that the fashions
and products are exclusively developed with the in-house study and research carried
on its own.
7. Returns Management: Includes all activities related to returns, reverse logistics,
gatekeeping and avoidance. The company is following a return policy of its own with
an object to ensure full satisfaction with respect to the products it sold.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 5

(iii) Customer insight is the key to Flex Fashions business operations. Based on these insights
innovative and exclusive clothing and accessory designs are developed every thre e weeks.

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Flex Fashions carries at least 10,000 variety of items per year.

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Being such a critical process, key factors for analysis are as follows:
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▪
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Information flow collected from customers by visiting schools, colleges etc. has to be
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combined into a database. This information flow has to be analysed daily in order to

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l▪a Flex Fashions should be able to obtain right insights, at the right time. It should alsoa
quickly catch on to developing customer fashion preferences.
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ag be able get access to high quality information all through the year. In addition to
customer facing sales staff, the company may want to employ marketing
professionals and trend analysts who can understand and provide valuable
customer insights.
▪ Sales personnel, store managers and employees at the shop floor should be
particularly trained to be able to listen, understand and note down customer needs
and comments, be observant to new styles and trends. They are in the forefront of
customer research, the driving force of its business operations. Hence, they

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should be well trained and highly skilled to be able to identify relevant, useful and

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potentially viable information that can be quickly turned in a product for Flex

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Fashions.

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▪ The ability to develop designs quickly

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and have the items produced immediately

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requires that product information should be standardized. This means standard

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definitions for items used in the product, standard definitions for the products
themselves etc. This allows for quick and accurate design with clear manufacturing
instructions.
▪ Moreover, management should also keep in mind the psychological needs social
needs, esteem ego and self-fulfillment need of existing and future customers.
(iv) It is given in the case study, that Flex Fashions produces only 35% to 40% of its
manufacturing in advance. This follows a push supply chain model which would be ideal
for products with standard designs based on more predictable demand patterns.

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Remaining production is for exclusive, innovative products it produces based on current

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customer preference. Customer insights form the basis of demand forecasting that in turn

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determines its production. The items are then produced on short notice and sent to stores

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for sale. These are the bets that the company takes on short term trends. These in a sense

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follow the pull system of supply chain. The pull is based on current customer trends and

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not necessarily based on an individual customer choice.

a These are the types of supply chains in the business model of Flex Fashions.
The push supply chain model follows predictable demand patterns and hence is made to
stock. The pull model is based on current customer trends, where products are made only
if there is a demand for it. Hence, the requirement of the separation of supply chain.

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6 FINAL EXAMINATION: MAY, 2023

(v) Areas of risk mitigation in supply chain of Flex Fashions
A highly responsive, agile, and flexible supply chain is central to the success of Flex
Fashions success. The risks and possible areas for mitigation can be as follows:
▪ Demand forecasting: Demand forecasting should be highly accurate based on
reliable and viable information and customer feedback. It is this information that forms
the basis for production and therefore, revenue generation. There should be no
redundancy in collection and communication of this information throughout the
organization. If a trend is not caught on at the correct time, it is a lost opportunity for
Flex Fashions. At the same time, if an item is produced based on customer research
that is not entirely popular/ viable then it will result in unsold stock. Hence, constant
oversight of demand forecasting systems and processes is vital to mitigate the
risk of lost sales opportunities and data redundancy.
▪ Short production runs: Due to the nature of this business model, the production
model has to be very flexible to cater to constant change in customer demands.
Hence, Flex Fashions should have the ability to get access to sufficient raw material
inventory on demand in order to cater to immediate production demands.
One way of doing this is perhaps, to make bulk purchases of its standard raw material
inputs from its suppliers and stock them in inventory to be made available on demand.
Alternatively, appropriate arrangements can be made with suppliers to ensure
seamless availability of raw material on demand.
It is given in the case study that supply chain managers and planners are constantly
watching customer demand and making adjustments to manufacturing and supply
chain operations. This is a process that is critical to ensure that there are no stock
outs that can result in lost sale opportunities.
Accurate demand forecasting and ability to maintain seamless short production runs
is critical to maintain the brand image and future growth of Flex Fashions.
▪ Digital presence: Flex Fashions is not tech savvy. Its customer reach and thereby
the yield in the major cities is excellent under the current model. However, it is unable
to get similar results in remote locations.
Customer choices in remote locations could be the gap in the market which
competitors may identify and take advantage of. Hence, Flex Fashions should
increase its presence either physically or through digital platforms (for example
having a company website to take orders online and receive feedback) in remote
locations. For a company where the customer is the co-designer of its products,
it needs to have a widespread presence in order to understand varying customer
needs across different geographical locations.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 7

(vi) Flex Fashions is a highly customer-centric company, where customer experience is one
of its unique competencies. However, implementation of this strategy is driven by the

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company’s employees. The company has to nurture its employees to maintain a highly

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motivated and entrepreneurial environment. Employees must be able to identify with the

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company’s vision while they should also be given opportunities for personal growth.

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Authority and responsibility should be clearly defined.

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It is not only the customer facing staff, but the company should also employ trend analysts,
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marketing professionals who can understand and communicate valuable customer
insights. To have a highly dynamic operating environment where product life is short,
production runs are short, business operations are based on customer insights and fashion
trends, it is important to have transparent and seamless communication between various
departments.
The sales and marketing teams receiving customer feedback need to communicate with
the designers and merchandisers. Designers and merchandisers have to be highly aware
of customer needs and preferences at store level. Similarly, production teams have to be

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in constant touch with sales and marketing teams, designers, and procurement specialists

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. that good supply chain models enable
to ensure that there are no production delays.

people to understand potentials and seeem
Hence, there is a lot of value to Mr. VK’s statement

l a s opportunities that a real time supply chains offers.

who are well aware of differentgmodels and functions and operating processes within
Understanding and implementing opportunities can be done only by motivated employees

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the company. This will enable them to take timely and informed decisions that can help in
creating Flex Fashions portfolio of bestselling products.


▪ Conceptually correct brief explanations are sufficient for each step.
▪ Alternate points and reasoning are also possible. However, issue must be addressed

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properly, and answer must respond to the requirement.

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. plastic
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Question 2

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eis ` 400. These
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Bottles Company is a growing manufacturer and supplier of the finest quality

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water bottles. The full cost of one set (2 plastic bottles of 1 litre each)
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bottles are available in multicolour. These bottles are leak-proof and
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beverages. These bottles are made with food-grade plastic and are safe to store
beverages. The company produces and sells 95,000 sets per annum. The company has
fixed its selling price to earn 20% profit on the selling price. Relevant cost data per annum
are as follows:

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8 FINAL EXAMINATION: MAY, 2023

Cost Component Budget Actual Actual Cost p.a. (`)
Direct Material 28,000 Kg. 31,920 Kg. 1,90,00,000
Direct Labour 32,000 Hrs. 35,625 Hrs 57,00,000
Machine Setup 10,000 Hrs. 10,000 Hrs. 38,00,000
Mechanical Assembly 60,000 Hrs. 60,000 Hrs. 95,00,000
It has been revealed that the actual and budgeted operating levels are the same. Actual
and standard rates of material purchase and labour rate per hour are also the same. Any
variance in cost is solely on account of the difference in the material usage and hours
required to complete the production.
Another manufacturer has launched a similar set of bottles in the market at an aggressive
price of ` 460 per set which has resulted in a downfall in the sales volume of the company.
The management is concerned with the current market situation. It has called a meeting
of the development and marketing team. After the meeting, the following decisions have
been taken:
(I) To alter the design to make the bottle more attractive with a curvy shape that ensures
a better grip and a handy wrist strap that helps to carry it with ease and also hang if
necessary. This will cost ` 10 per set.
(II) To maintain the company's existing sales volume and amount of present profit per
set, reduce the selling price by ` 50.
Required
(i) CALCULATE the present selling price and profit per set. Also, calculate the mark-
up% on the full cost per set. (3 Marks)
(ii) IDENTIFY the non-value-added activities in the production process. (1 Mark)
(iii) CALCULATE the new target cost per set and the new revised cost per set after
implementation of the above decisions. (2 Marks)
(iv) CALCULATE the amount of reduction in cost that is required to achieve the new target
cost. (1 Mark)
(v) RECOMMEND the strategy, the company should adopt to achieve the target cost
calculated in (iii) above. (5 Marks)
(b) S Limited is a medical equipment manufacturing company and manufactures Magnetic
Resonance Imaging (MRI) machines, pacemakers, blood pressure monitors,
chemistry/blood gas analyzers, and wireless patient monitors etc. The company uses JIT
manufacturing and carries insignificant levels of inventory. The company manufactures
everything needed for manufacturing medical equipment except for semiconductors which
is purchased from two local suppliers: RIM Electronics and XYZ Limited. Both the suppliers
are reliable and seldom deliver late, however, RIM sells the semiconductor for ` 564 per

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 9

unit while XYZ sells the same semiconductor for ` 516 per unit. S Limited purchases 80
percent of semiconductors from XYZ Limited because of its lower price. The total annual

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demand is 10,00,000 units of semiconductors.

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Ms. Geena, RIM’s vice president sales, recently met Jatin, purchasing manager of S

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Limited and urged him to purchase more of its units, arguing that RIM’s semiconductor is

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of much higher quality and so should prove to be less costly than its competitor's low -

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quality semiconductor. Geena offered to supply S Limited with all semiconductors required

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and asked for a long-term contract. With a five-year contract for 8,00,000 or more units,
RIM will sell the semiconductor for ` 540 per unit. Jatin is intrigued by the offer and
wonders if the higher-quality semiconductor actually does cost less than the lower-quality
semiconductor purchased from XYZ Limited.
To assess the effect on cost of the two semiconductors, the following data were collected
for supplier related activities and suppliers:
Activity data
Activity Cost

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Inspecting semiconductors (sampling only) ` 57,60,000

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Reworking products (due to failed semiconductors) ` 1,82,55,000

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Warranty work (due to failed semiconductors) ` 11,52,00,000

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Supplier data

Purchase price per unit
a RIM
` 564
XYZ
` 516
Number of semiconductor units purchased 2,00,000 units 8,00,000 units
Sampling hours 40 hours 1,960 hours
Rework hours 90 hours 1,410 hours
Warranty hours 400 hours 7,600 hours

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Required

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(i) EVALUATE the cost per unit for each supplier, taking into consideration the costs of

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the supplier-related activities and using the current prices and sales volume. ADVISE,

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whether the purchase manager of S Limited should accept or reject the contractual

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offer made by RIM. (5 Marks)

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(ii) Suppose that S Limited loses ` 2,40,00,000 in sales per annum because of the
a reputation effect of defective units attributable to failed semiconductor. SELECT one
of the drivers already listed and assign the cost of lost sales to each supplier.
CALCULATE change in per unit cost of each supplier. (Assume the situation before
RIM accepting the offer exists.) (3 Marks)

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10 FINAL EXAMINATION: MAY, 2023

Answer
(a) (i) Present selling price per unit (set) is `500 i.e., `400 (full cost per set) + `100 (1/5 of
selling price or 1/4 of cost price)
Mark-up = (Profit per set / Full cost per set) × 100 i.e. (`100/ `400) × 100 = 25%
(ii) Machine setup is the time required to get the machines and the assembly line ready
for production. Alive Bottle company spent 10,000 hours on setting up, which does
not add value to the bottle set directly. Hence, it is a non-value add activity.
(iii) New Target Cost per unit (set)
Particular Amount in `
Target Price (`500 – `50) 450
Less: Desired Return per set 100
Target Cost per unit (set) 350
Revised Cost per unit (set)
Particular Amount in `
Present cost per unit (set) 400
Add: Design Alteration Cost 10
Revised Cost per unit (set) 410
(iv) Cost Reduction Target
Particular Amount in `
Revised Cost per unit (set) 410
Less: Target Cost per unit (set) 350
Cost Reduction Target per unit (set) 60
(v) As calculated above, revised cost per unit (set) is `410 while the target cost per unit
is `350. Hence, the cost has to be reduced at least by `60 per unit. Critical
aspects at which Alive Bottles Company shall focus–wastage in term of productivity
i.e., usage of material and efficiency in labour; design of product in term of quality
and function it renders, and material or components used as input; design of
processes including lay-out through which product will be manufactured i.e., machine
set-up and mechanical assembly. Value analysis / value engineering shall be
applied (by answering following questions) to focus on the above stated aspects in
order to attain the target cost–
▪ Can the product be designed better to make the production more efficient?
▪ Is reduction of design (reduce features only, not functions) possible?

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 11

▪ Can the design be minimized to include fewer parts and thus make it easier and
efficient to manufacture?

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▪ Can any process eliminate or reduced?

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Can be substitute parts to make it more efficient? Or
.
▪

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eIt is important to note that target costing is a dynamic and corrective approach, gla
▪ Is there simply a better way of producing the same product?

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la care must be taken for product quality, characteristics, and utility. a
ag Analysis of the cost data shows the variances between the budget and actual material
usage and labour hours. It is given that the material procurement rate and labour hour
rate is the same for budgets and actuals. Hence, the increment in cos t of direct
materials and labour is due to inefficient use of material and labour hours to
complete the same level of production of 95,000 sets of bottles.
Corrective actions to address these inefficiencies could result in the following
savings:

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▪ Inefficiencies resulted in use of extra 3,920 kg. of material.

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Material cost per kg. = Actual cost/ Actual material usage = `1,90,00,000 /

emin extra cost = 3,920 kg. × `595.238… per kg.
31,920 kg. = `595.238… per kg.

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Therefore, inefficiencies resulted

If corrective actiona
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= `23,33,333.33
is taken, for 95,000 sets of bottles this translates to a saving
of `24.56 per set.
OR (assumed alteration cost is part of direct material)
Material cost per sq. ft. = Actual cost (revised)/ Actual material usage =
(`1,90,00,000 + `10 × 95,000) / 31,920 kg. = `625 per kg.
Therefore, inefficiencies resulted in extra cost = 3,920 kg. × `625 per kg. =
`24,50,000

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If corrective action is taken, for 95,000 sets of bottles this translates to a saving

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of `25.79 per set.

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▪ Inefficiencies resulted in extra 3,625 hours to be spent in production

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Labour cost per hr. = Actual cost / Actual labour hrs. = `57,00,000 / 35,625 hrs.

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= `160 per hr.
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a Therefore, inefficiencies resulted in extra cost = 3,625 hrs. × `160 per hour =
`5,80,000.
If corrective action is taken, for 95,000 sets of bottles this translates to a saving
of `6.11 per unit.

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12 FINAL EXAMINATION: MAY, 2023

▪ Machine setup cost is a non-value-added cost. Value analysis can be done to
determine if the setup time of 10,000 hours can be reduced. However, since
these activities have been carried out for a reason, care should be taken to
ensure that this change should not adversely impact the production
activity later down the stream.
▪ Mechanical assembly cost are costs incurred during the production process
on the assembly line. Value analysis can be done to determine if the production
process can be made more efficient. For example, the process can be
streamlined, such that steps can be combined that can be handled by fewer
people (process centering).
(b) (i) Workings
Calculation of “Activity Rate”

Supplier related Cost (`) Activity Driver Hours Activity Driver
Activity Rate (`)
[A] [B] [A]÷[B]
Inspecting 57,60,000 Sampling Hours 2,000 2,880
Semiconductors
Rework Products 1,82,55,000 Rework Hours 1,500 12,170
Warranty Work 11,52,00,000 Warranty Hours 8,000 14,400
Statement Showing “Overheads Allocation”
Supplier related Cost Driver RIM XYZ Total
Activity
Inspecting Sampling Hours 1,15,200 56,44,800 57,60,000
Semiconductors (40 hrs.× (1,960 hrs.×
`2,880) `2,880)
Rework Products Rework Hours 10,95,300 1,71,59,700 1,82,55,000
(90 hrs.× (1,410 hrs. ×
`12,170) `12,170)
Warranty Work Warranty Hours 57,60,000 10,94,40,000 11,52,00,000
(400 hrs. × (7,600 hrs. ×
`14,400) `14,400)
Total 69,70,500 13,22,44,500 13,92,15,000

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 13

Statement Showing “Semiconductor Cost”

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RIM (`) XYZ (`)

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Supplier Related Activity Cost 69,70,500 13,22,44,500

Unit Cost.
Quantity
c o 2,00,000 8,00,000
e m
em
34.85 165.31
la s
a s
l Total
Add: Semiconductor Price (base price) 564.00 516.00
a g
g
a Alternatively
598.85 681.31

RIM (`) XYZ (`)
Purchase price 564.00 516.00
Inspecting semiconductors 0.58* 7.06
Reworking products 5.47* 21.45

m 598.85
Warranty work 28.80 136.80

. co
Total 681.31

s em
Or

g l a RIM (`) XYZ (`)
Purchase price
Inspecting semiconductors
a 564.00
0.57*
516.00
7.06
Reworking products 5.48* 21.45
Warranty work 28.80 136.80
Total 598.85 681.31
* Due to rounding off impact

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Evaluation/ Advise

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The basic price of per unit of semiconductor provided by the RIM and XYZ is `564 and

c. o se
m
`516 respectively. It seems that semiconductors provided by the RIM are costly. But it is

em la
also important to take into account per unit cost related to the supplier-related activities in

s g
respect of RIM and XYZ which is `34.85 and `165.31 respectively. Therefore, actual per

gla a
unit cost to buy from RIM and XYZ is `598.85 and `681.31 respectively instead of the

a
figures as mentioned earlier due to extra cost related to supplier related activities. Now the
semiconductor from XYZ has become more costlier than the provided by the RIM. Hence,
it is financially viable to go ahead with RIM only.

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14 FINAL EXAMINATION: MAY, 2023

Furthermore, RIM’s semiconductor is of much higher quality and wants to enter with S in
a five-year contract for 8,00,000 or more units at a lower base rate of `540 per unit i.e.,
`24 less than the normal quoted rate. This offer is a good opportunity for S since RIM will
be able to procure high quality semiconductors at comparatively less price. In addition,
better relationships and increased interaction with RIM will lead to less incidents or issues
of poor performance in S, which in turn lead to reduced costs through failures.
(ii) Change in per unit cost of each supplier
Warranty hours would act as the best driver of the three choices.
Calculation of “Activity Rate”
Activity Cost (`) Activity Driver Hours Activity Driver Rate (`)
[A] [B] [A]÷[B]
Loses in sales 2,40,00,000 Warranty hours 8,000 3,000
Statement Showing “Assignment/ Allocation of Cost”
Activity Cost RIM XYZ Total
Driver
Loses in Warranty 12,00,000 2,28,00,000 2,40,00,000
sales hours (400 hours × `3,000) (7,600 hours × `3,000)

Statement Showing “Assignment of Cost/ unit”
RIM (`) XYZ (`)
Loses in sales (assigned) 12,00,000 2,28,00,000
Quantity 2,00,000 8,00,000
Unit Cost 6.00 28.50
Change in unit cost of each supplier on account of lost sales (based on warranty
hours) would be `6 and `28.50 for RIM and XYZ respectively.
Question 3
Chetan, an owner of a firm, operates a chain of fast-food restaurants that has expanded to more
than 50 outlets, of which 90 percent are franchised. Two of the firm-operated outlets, RST and
XYZ, are among the fastest growing outlets. Both are considering expanding their menus to
include pasta. Purchase and installation of the necessary equipment costs ` 10,80,000 per
outlet. Other information is as follows:
Particulars RST (`) XYZ (` )
Current Investment 53,40,000 1,04,40,000
Revenue 66,03,000 1,05,64,000
Expense 55,35,000 89,98,000

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 15

Adding pasta to the menu may increase the profits by ` 1,83,600 for RST and ` 2,19,600 for
XYZ outlets, respectively.

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The firm evaluates its manager’s performance on the basis of return on investment. Managers

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of individual outlets have decision rights over the pasta expansion.

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Required
(i)
a s e
CALCULATE the return on investment for both outlets before pasta is added, for the pasta
g la
l a
a(ii)g Assuming
project only, and for both the outlets after expansion. (4 Marks)
a 14 per cent cost of capital, CALCULATE residual income for both outlets
before and after the potential expansion. (4 Marks)
(iii) EVALUATE on the basis of ROI whether the firm's operated outlets RST and XYZ would
choose to expand their menus. What difference would the answer make if the outlets were
franchised? (3 Marks)
(iv) Chetan is seeking investment funds to expand the chain of fast-food restaurants to 100
outlets, which would be firm’s operated. He is currently in the process of putting together

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a business plan which will outline his strategy to increase the firm-operated outlets. He

.
recently attended a seminar on what to include in a business plan. Chetan remembers that

em
he will need to determine what the Critical Success Factors (CSFs) for his business are,

a s
but he is confused about how these differ from core competences.
l
a g
(a) ASSESS why Chetan needs to identify CSFs as part of its strategy development and
how they differ from core competences. (6 Marks)
(b) ADVISE the possible CSFs for Chetan's chain of fast-food restaurants. (3 Marks)
Answer
(i) Return on Investment (ROI) for the outlets before, after and for the expansion
project.
Return on Investment (ROI) for the outlets before the expansion project.

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c. o
Particulars RST (`) XYZ (`)

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c. o em89,98,000
Revenue 66,03,000 1,05,64,000

em
Less: Expense
10,68,000la
55,35,000
s
las Net income (profit) …(A)
a g 15,66,000

ag Investment
Return on investment (ROI)
…(B)
…(A)/ (B)
53,40,000
20.00%
1,04,40,000
15.00%

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16 FINAL EXAMINATION: MAY, 2023

Return on Investment (ROI) for the expansion project alone.
Particulars RST (`) XYZ (`)
Net income (profit) …(A) 1,83,600 2,19,600
Investment …(B) 10,80,000 10,80,000
Return on investment (ROI) …(A)/ (B) 17.00% 20.33%
Return on Investment (ROI) for the outlets after the expansion project.
Particulars RST (`) XYZ (`)
Profit before pasta project 10,68,000 15,66,000
Add: Profit from pasta project 1,83,600 2,19,600
Total profit after pasta project …(A) 12,51,600 17,85,600
Investment before pasta project 53,40,000 1,04,40,000
Add: Investment for pasta project 10,80,000 10,80,000
Total investment after pasta project …(B) 64,20,000 1,15,20,000
Return on investment (ROI) …(A)/ (B) 19.50% 15.50%
(ii) Residual income (RI) before and after the expansion project.
Residual Income before expansion project.
Particulars RST (`) XYZ (`)
Net income (profit) …(A) 10,68,000 15,66,000
Investment …(B) 53,40,000 1,04,40,000
Cost of capital @14% of (B) …(C) 7,47,600 14,61,600
Residual income (RI) …(A) – (C) 3,20,400 1,04,400
Residual Income after expansion project.
Particulars RST (`) XYZ (`)
Profit after pasta project …(A) 12,51,600 17,85,600
Investment after pasta project …(B) 64,20,000 1,15,20,000
Cost of capital @14% of (B) …(C) 8,98,800 16,12,800
Residual income (RI) …(A) – (C) 3,52,800 1,72,800
(iii) Evaluation of project based on ROI
Summary of ROI before and after the project.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 17

Particulars RST (`) XYZ (`)
ROI before the project 20.00% 15.00%
m
m c. o
ROI for the project 17.00% 20.33%

.c o
ROI after the project 19.50% ↓
e m
15.50% ↑

s emHence outlet RST should not go ahead with the project. Referring to above glas
The ROI of outlet RST falls from 20% to 19.50% after the implementation of the pasta

a the ROI on pasta project alone is 17%, while the ROI without the pasta project isa
ltable,
project.

g
a 20%. Hence, implementing the project reduces the overall ROI for outlet RST to 19.50%.
The ROI of outlet XYZ increases from 15% to 15.50% after the implementation of the
pasta project. Hence, outlet XYZ should go ahead with the project. Referring to table
above, the ROI on pasta project alone is 20.33%, while the ROI without the pasta project
is 15%. Hence, implementing the project increases the overall ROI for outlet XYZ to
15.50%.
In a franchising agreement, there is a contractual relationship between 2 entities,

m
whereby one entity (the franchisor) allows the other entity (franchisee) to use its brand

c. o
name and business model to distribute products or services to customers. The franchisee
in return pays an initial fee and also continuing royalty fee for the use of the franchisor’s

s em does not know the business potential and
brand name and business model.

l
When opening new outlets, the company
g aoutlets. In a franchise agreement, the franchisor can
a of various sites/ locations without significant risk. If a
chances of success of the different
assess the profitability potential
specific outlet fails, the franchisee bears the loss caused by the failure. Franchise outlets
typically open faster and become profitable faster than independently owned outlets.
Chetan can let out outlets RST and XYZ on franchise and in return receive initial franchise
fee along with regular royalty fee from the franchisee / licensee. He already has many
outlets under the franchise business model. Chetan (the franchisor) benefits from this
model because he need not make any investment towards implementing this project.
This investment of `10,80,000 is instead borne by the franchisee and not by Chetan.

m
c. o
Hence instead of making investments in the outlets, Chetan shares the brand name and

m
c. o
technical know-how in return for franchise fee. This would help Chetan with his
expansion plans.
m is earning
eoutlet
em an ROI of 20%, while the larger XYZ outlet is earning an ROI of 15%. la
s
s
Alternatively- The two units currently have different ROIs. The smaller RST

la g adding the project to
Since the project’s ROI (for Pasta) is 17% for RST and 20.33% foraXYZ,
ag the RST outlet lowers its average ROI; adding the project to the XYZ outlet raises its average
ROI. The RST outlet manager will avoid adding pasta to the menu, since the outlet’s ROI
would drop as a result.

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18 FINAL EXAMINATION: MAY, 2023

The XYZ outlet’s manager, however, will want to add pasta since the outlet’s ROI would
subsequently rise.
If the stores were franchised units, both owners would definitely expand. The ROI of the project
is higher than the cost of capital. This ensures a positive residual income for the project.
As long as the residual income is positive, any franchise owner would jump at the
opportunity.
Franchise owners would not care if the store’s ROI dropped as long as the residual
income increased.

(iv) (a) Using Critical Success Factors
Critical Success Factors (CSFs) are a small number of areas in which:
▪ Satisfactory results will enable successful competitive performance and
▪ An organisation must excel in order to outperform competition.
Chetan must attempt to determine the CSFs for his company- operated outlets for a
number of reasons.
(1) It is the only way he can present potential investors with a sound business
case for his venture. He is convinced with the company operated outlets. But
he needs to show he can define what success is, and what is necessary to
achieve it, within the business sector he has chosen.
(2) CSFs provide a basis for strategy formulation, as they focus on the strategic
goals that must be pursued in order to compete successfully: the features of
Chetan’s product/ service that will be most highly valued by customers, and
which will be a potential source of competitive advantage. The fast – food market
is highly competitive, so outperforming competitors will be a helpful priority.
(3) CSFs offer an alternative to a more comprehensive goal structure or
hierarchy of objectives, which may be too rigid for a small start-up venture
in a new market: they will enable Chetan to focus on competitive essentials and
remain flexible in how he (and individual outlets within his chain) will pursue
them at the tactical and operational level. This will allow for variations in local
markets, infrastructure, product availability, outlet manager ability and so on.
(4) CSFs provide a useful framework for identifying the business processes
and activities which will yield each CSF; defining the Key Performance
Indicators (KPIs) which will be used to evaluate performance in delivering them;
and monitoring competitor activity for its effect on the CSF structure.
Distinguishing CSFs from core competences
Competences are 'the activities or processes through which the organisation
deploys its resources effectively.’ Core competences are competences which both
outperform competitors and are unique or difficult for competitors to imitate.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 19

Core competences represent the distinctive abilities that Chetan's venture must
develop and display if its CSFs are to be achieved. The two concepts are related, in

m
that CSFs should focus attention on whether the venture has or can develop the core

m c. o
competences to compete successfully: both concepts take a competitive view of

.co e m
strategy. However, the emphasis has shifted from what must be achieved (CSFs) to

m la s
the special skills and processes that will enable the required achievement (core

s ecompetences).
g
l a a
ag
(b) Possible CSFs for Chetan's chain of fast food restaurants
The CSF's for Chetan's chain of fast food restaurants could include the following.
▪ Right restaurant locations – Proximity to significant centres of population, easy
access, and adequate parking facilities.
▪ Distinctive brand identity – Recognizable and distinctive brand with a good
reputation for quality of service and diversity and freshness of product.
▪ Speed of service – Must meet customer expectations based on benchmark
standards set by competitors.
▪
o m
Child friendly facilities – Needs of children and families must be catered for
successfully.
. c
m
(a) Critical Success Factor (CSF) and coreecompetencies
sare critical for business success and for the attainment
Alternatively (iv)

l a
g requirements that are fundamental to an organization’s
success. These are the areas whereait is essential for the organization to outperform its competitors
Critical Success Factors (CSF) are areas that
of corporate objectives. CSFs are performance

in order to succeed. Performance measures are required to be put in place in such areas and keep
them in focus in order to attain strategic objectives.
Identifying CSFs would depend on –
1. the industry that the organization operates in. For example, the food industry must have as o ne
of its CSFs ‘compliance with FSSAI standards’.
2. the company itself and its situation within the industry. For example, a firm that has decided to
compete on the basis of quality, features of a product or service that are valued by the customer

m
would define CSF for the organization.

co
3. temporal organisational factors. For example, short-term cash and working capital management.

m .
c. o
4. the wider economic factors. For example, in a time of global crises ‘gas supply availability’ could

m
se
be a CSF.

em la
Core competencies are the resources and capabilities of an organization that gives it a competitive

s g
advantage over its rivals. Core competencies are unique to the organization and are difficult to

la a
replicate by competitors. Core competencies could be an organization’s IT systems that can build

ag
flexibility into its operations, culture of fostering innovation, ability to have timely access to talented
pool of human resource to implement a project, strong communication systems within an organization
etc. More the core competencies an organization develops, the better are chances of success.
An organization has different resources like physical resources, human resources, and financial
resources. An organization must be aware of the resources it currently has and what would be required
in future in order to obtain its strategic objectives.

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20 FINAL EXAMINATION: MAY, 2023

Resources that have the capability of giving a competitive edge would be– development of
organization brand, patents, trademarks (intangible resource), access to critical raw material needed
for production (physical resource), employee development and training programs that cultivate talent
within an organization,
Hence, if an organization builds a set of strong resources and core competencies and deploy
them in areas that are critical to success (that is the Critical Success Factors (CSF)) then an
organization will be in a position to develop winning strategies that can assure them success
over its competitors. A successful business strategy would require the organization to match
its core competencies, resources and critical success factors.
Chetan can use any of the identified core competencies to expand his outlets. For example, a well -
developed digital presence (core competency) using good IT infrastructure (resource) can help
increase the reach of his business to potential customers. Offering good quality food (CSF) to a
widespread customer base would improve the brand value of his business (resource). Strong brand
value is an intangible resource that can then be used to diversify into other related industries for
example opening gourmet hotels catering to niche customer base (strategy).
(b) Possible CSFs for Chetan’s fast food restaurants:
▪ Quality of food served at outlets: Today’s health conscious customer would prefer to have food
that does not adversely impact his health.
▪ Innovation: Customer tastes and preferences are generally changing in the fast food industry.
Hence, Chetan may have to come up with newer product (food items) offering to keep up with
customer preferences.
▪ Distribution channels: Chetan has to have good distribution channels that ensure that the market
reach is as widespread as possible.
▪ Distinctive brand identity: Recognizable and distinctive brand with a good reputation for quality
of service and diversity and freshness of product.
▪ Speed of service: Must meet customer expectations based on benchmark standards set by
competitors.
▪ Child friendly facilities: Needs of children and families must be catered for successfully.


▪ Conceptually correct brief explanations are sufficient for (iii) & (iv).
▪ Alternate points/ CSFs (or examples) and reasoning are also possible. However, issue
must be addressed properly, and answer must respond to the requirement.
Question 4
(a) GBTCL Bearings is a multi-product manufacturing company. It is preparing its annual
budget for 2023-24. The management has come to know that in the last year, the budget
presented before them, was prepared without the involvement of senior staff in the budget
process. Now the management has strictly advised the budget team to involve the senior
staff in the budget process for 2023-24.
Required
LIST the potential three advantages and two disadvantages to the GBTCL Bearings of
involving the senior staff in the budget preparation process. (5 Marks)

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 21

OR
CEC Limited produces electric scooters. CEC uses a system of standard costing to set its

m
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budgets. Budgets are set annually by the Finance department and approved by the Board

m
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of Directors of CEC. The Finance department prepares variance reports each month for

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review at the Board of Directors meeting, where actual performance is monitored by

em
comparison to budgeted figures.

la s
l a s
A new CFO (Chief Finance Officer), Akshaj has recently joined CEC from a competitor
a g
ag
organisation where there was a Total Quality Management culture. Customer Service
discuss the implementation of Kaizen costing at the next meeting of the Board of Directors.
He would also like to review the current planning and control system at CEC with a view
to making changes so that it could support Kaizen costing concepts.
Required
(i) EXPLAIN two basic principles of Total Quality Management. (2 Marks)
(ii) RECOMMEND three changes required to CEC’s planning and control system to
support the adoption of Kaizen costing concepts. (3 Marks)

m
(b) The management of a leading telecom company providing fixed-line services is quite

. co
worried about customer complaints regarding service quality and billing. Customer VGB

em
has appointed Mr Kumar as its head of service quality. He has been assigned the task to

s
analyse the complaints received from the customers for faults, excess charging, customer

g l a
service etc. The necessary information is given below:

a
Complaint Categories
Customer Service
No. of Complaints
155
Activation of wrong plans 110
Connection Installations 106
Late attending to complaints 247
Overcharging/Wrong Billing 504
Faults in Line 385

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Transfer of connections 45

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Non-posting of payments to account 61
.c o
c. o Required
s
m
e type. (Pareto
s em l a
(i) PREPARE a frequency table to construct Pareto Chart for the complaint

la
chart preparation is not required).
g
a quality should focus on
(3 Marks)

ag (ii) IDENTIFY the key complaint categories area where the head
service. (2 Marks)
(Calculations up to 2 Decimals)

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22 FINAL EXAMINATION: MAY, 2023

(c) GPR furniture is a manufacturer of high-quality wooden doors. It has two customers VGB
and VGC. The selling price of one wooden door is ` 7,000. The production cost per unit
is ` 5,350.
Details of customers' VGB and VGC for the period are given below:
Particulars Customer VGB Customer VGC
Wooden Doors purchased (nos.) 1,250 2,500
No. of purchase orders 10 (each of 125 doors) 20 (each of 125 doors)
No. of deliveries
- Normal 8 0
- Rushed 2 0
Kilometres per delivery 200 200
Additional costs are:
Order processing cost ` 3,000 per order
Normal delivery cost ` 20 per kilometre
Product handling cost ` 100 per door
Rushed delivery cost ` 30 per kilometre
The company has the policy to give a discount of 6% on the selling price on orders for 100
doors or more and to further give a 10% discount on the undiscounted selling price if a
customer uses his own transport to take the delivery at the factory gate.
Assume that production levels are not altered by these orders.
Required
(i) CALCULATE the contribution and profit per unit for each customer. (6 Marks)
(ii) ANALYSE the profitability by comparing profit per unit for each customer. (2 Marks)
(iii) COMMENT on the discount policy on normal delivery. (2 Marks)
Answer
(a) There are potential advantages and disadvantages of the involvement of staff in the
preparation of the budget.
Potential advantages include:
▪ Senior staff may agree to accept the targets because they would take ownership of it
as their budget.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 23

▪ Senior staff may have a better understanding of what results can be achieved and at
what costs. For examples, they may have a better knowledge of product

m
specifications and how the costs may be controlled more efficiently and effectively.
▪
m
Senior staff cannot blame unrealistic goals as an excuse for not achieving budget
c. o
.co e m
expectations.
▪
e m
Senior staff would feel that they are being appreciated for the value that their
l a s
s
l▪a Senior staff may get the opportunity to discuss organisational issues, in which ana
experience brings to the running of the multiproduct manufacturing company.
g
ag exchange of information and ideas can help to solve problems and agree future
actions.
Potential disadvantages include:
▪ Senior staff may be excellent in job profile but could lack the practical knowledge
required to formulate their budget.
▪ Senior staff may limit the benefits of participation due to personality traits of
participants.

m
▪ Senior staff may consume a great deal of time arguing with each other.
▪
. co
Senior staff may decide among themselves to artificially inflate the proposed

em
budget so that it is easier for them to attain the cost targets they have set.

l a s OR
(i)
a g
Principles of Total Quality management
Following points are principles that help guide companies in achieving quality
improvement. The principles are founded on the idea that upper management must
develop a commitment to quality and provide a system to support this commitment
that involves all employees and supplier’. Further, quality improvements cannot
happen without organizational change that comes from upper management.
▪ "Create constancy of purpose towards improvement". Replace short-term
reaction with long-term planning.

o m
▪ "Adopt the new philosophy". The implication is that management should actually

m c
▪ "Cease dependence on inspection". If variation is reduced, there is.no need to
adopt his philosophy, rather than merely expect the workforce to do so.

c. o inspect manufactured items for defects, because there won’t beem
s
em la suppliers mean
any.

las a g
▪ "Move towards a single supplier for any one item." Multiple

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variation between feedstock.
▪ "Improve constantly and forever". Constantly strive to reduce variation.
▪ "Institute training on the job". If people are inadequately trained, they will not all
work the same way, and this will introduce variation.

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24 FINAL EXAMINATION: MAY, 2023

▪ "Institute leadership". Deming makes a distinction between leadership and mere
supervision. The latter is quota and target-based.
▪ "Drive out fear". Deming sees management by fear as counter- productive in the
long term, because it prevents workers from acting in the organisation’s best
interests.
▪ "Break down barriers between departments". Another idea central to TQM is t he
concept of the ‘internal customer’, that each department serves not the
management, but the other departments that use its outputs.
▪ "Eliminate slogans". Another central TQM idea is that it’s not people who make
most mistakes - it’s the process they are working within. Harassing the workforce
without improving the processes they use is counter-productive.
▪ "Eliminate management by objectives". Deming saw production targets as
encouraging the delivery of poor-quality goods.
▪ "Remove barriers to pride of workmanship". Many of the other problems outlined
reduce worker satisfaction.
▪ "Institute education and self-improvement".
▪ "The transformation is everyone’s job".
Alternative
Total Quality Management has two basic principles: ‘get it right first time ‘and ‘continuous
improvement’. Get it right first time essentially equates to aiming for a zero-defect target. This
principle is based on the premise that prevention costs are less than the cost of correction.
The principle of continuous improvement is based on the idea that, although the ideal
state may never be achieved, it is the aim. A target of zero defects may not be achievable.
However, the principle of never being satisfied until this is achieved will engender the
correct behaviour of continually seeking to improve.
(ii) The suggestive changes which are required to be adopted Kaizen Costing
concepts in CEC are as follows:
Standard Cost Control System to Cost Reduction System –
Traditionally Standard Costing system assumes stability in the current manufacturing
process and standards are set keeping the normal manufacturing process into
account thus the whole effort is on to meet performance cost standard.
On the other hand, Kaizen Costing believes in continuous improvements in
manufacturing processes and hence, the goal is to achieve cost reduction target. The
first change required is the standard setting methodology i.e., from earlier Cost
Control System to Cost Reduction System.
Reduction in the periodicity of setting Standards and Variance Analysis –
Under the existing planning and control system followed by the CEC, standards are
set annually and based on these standards monthly variance reports are generated

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 25

for analysis. But under Kaizen Costing system cost reduction targets are set for small
periods say for a week or a month. So, the period covered under a standard should

m
c. o
be reduced from annually to monthly and the current practice of generating variance

m
reports may be continued or may be reduced to a week.

. c o e m
m involved in the manufacturing process are highly appreciated while setting las
Participation of Executives or Workers in standard setting –

s eactually
Under the Kaizen Costing system participation of workers or executives who are
g
l a standards. So, the current system of setting budgets and standards by the Financea
ag department with the mere consent of the Board of Directors required to be changed.
(b) (i) Frequency Table
Complaint Categories No. of % of Total Cumulative
Complaints Items Percentage
Over Charging/ Wrong Billing 504 31.25 31.25
Faults in Line 385 23.87 55.12

m
c. o 155
Late attending of complaints 247 15.31 70.43
Customer Service 9.61 80.04

s em 106
Activation of wrong plans 110 6.82 86.86
Connection Installations
l a
Non-posting of paymentsgto account
6.57 93.43

a
Transfer of connections
61
45
3.78
2.79
97.21
100.00
Total 1,613
(ii) Mr. Kumar should focus on the over-charging/ wrong billing, faults in line, late
attending of complaints, and customer service (in priority order), because they
constitute 80% of complaints instances.
(c) (i) Contribution and profit per unit of Wooden Door

m
c. o
Particulars Customer VGB Customer VGC

m
c. o m
Selling price per wooden door 7,000 7,000

em se 420
(undiscounted)

s
Less: Discount (quantity) `7,000 × 6% 420
g la
gla Less: Discount (delivery) `7,000 × 10%
a
--- 700

a Selling price (net of discount)
Less: Production cost per unit (variable)
6,580
5,350
5,880
5,350
Contribution per wooden door 1,230 530

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26 FINAL EXAMINATION: MAY, 2023

Both customers VGB and VGC place orders of more than 100 doors. Hence both
customers get discount for quantity ordered at 6% of `7,000 = `420 per wooden door.
Customer VGB has both normal and rushed deliveries provided by GPR furniture.
Customer VGC has no deliveries from GPR furniture, which means that the customer
is using his own transport to take delivery from factory gate. Hence Customer VGC is
given a discount of 10% of `7,000 = `700 per wooden door.
Calculation of profit per wooden door
Particulars Customer Customer
VGB VGC
Contribution per wooden door 1,230 530
Quantity 1,250 2,500
Total contribution …(A) 15,37,500 13,25,000
Order processing cost 30,000 60,000
# of orders × cost per order
Customer VGB = 10 orders × `3,000
Customer VGC = 20 orders × `3,000
Total order processing cost …(B) 30,000 60,000
Delivery cost
Normal delivery cost 32,000 0
# of deliveries × 200 kms per delivery × cost per
kilometer (`20 per km)
Rushed delivery cost 12,000 0
# of deliveries × 200 kms per delivery × cost per
kilometer (`30 per km)
Total delivery cost …(C) 44,000 0
Product handling cost 1,25,000 2,50,000
# number of wooden doors sold × product handling
cost per unit
Customer VGB = 1,250 doors × `100 per door
Customer VGC = 2,500 doors × `100 per door
Total product handling cost …(D) 1,25,000 2,50,000
Total profit on sales ….(A)- (B)-(C)-(D) 13,38,500 10,15,000
Profit per wooden door sold 1,070.80 406

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 27

(ii) Analysis- The profit per wooden door for Customer VGB is `1,070.80 per door and
profit per wooden door for Customer VGC is `406 per door. The profit per wooden

m
c. o
door is significantly lower in case of Customer VGC as compared to Customer VGB.

m
This is primarily because of the discount given to Customer VGC for arran ging

.co e m
for transport to take delivery at the factory gate. The discount works out to

m
eHence, it is more profitable to sell the doors to Customer VGB as compared to gla
` 700 per door which significantly reduces the contribution per wooden door.
s
s
la Customer VGC. a
ag Alternatively- Even though customer VGB has a lower sales volume (= 50% of customer
VGC), it is contributing almost 1.32 times the profit that is being contributed by VGC. Also,
the overall discount offered to customer VGB is quite less.

(iii) Discount policy on normal delivery
Both customers VGB and VGC are located 200 kms from GPR furniture. Customer
VGB utilizes delivery services of GPR furniture for which the charge is `20 per
kilometre.

m
. co
Hence for a single delivery the cost will be 1 delivery × `20 per km × 200 kms =

em
`4,000 per delivery. Each order comprises of 125 doors. Hence the delivery cost per

s
wooden door is `32 per wooden door.

g l a
Note that out of the total sales of 1,250 doors to customer VGB, normal delivery is for
a
1,000 doors (8 orders × 125 doors each) while the rushed delivery order is for 250
doors (2 orders × 125 doors).
On the other hand, customer VGC takes delivery from the factory gate by making his
own arrangements. For this he gets a discount of 10% of the undiscounted selling
price which is `700 per wooden door.
Has GPR done a normal delivery for customer VGC, the delivery cost would be
similar to that incurred for customer VGB, that is ` 32 per wooden door. Instead

m
GPR is giving a discount of ` 700 per wooden door for this customer to make

m c. o
his own transportation arrangements. This results in a net loss in revenue of

c. o m above, for
This is the primary reason for the low profit per unit calculated inetable
` 668 per wooden door sold to customer VGB.

em s
la thefordiscount
las a g
sales made to customer VGB. Hence it is suggested to discontinue

g
policy given to customers for making their own arrangements taking
a deliveries from the factory gate.

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28 FINAL EXAMINATION: MAY, 2023

Question 5
(a) A manufacturing company furnishes the following data relating to the actual output of
14,300 units produced in the last quarter:
Particulars (` ) (` )
Sales …(A) 12,28,000
Direct Material 2,17,750
Direct Wages 1,72,500
Variable Overheads 2,12,000
Total Cost …(B) 6,02,250
Profit …(A)-(B) 6,25,750
The standard material cost per unit is ` 15. The standard wage rate is ` 10.50 per hour and
the standard variable overhead rate is ` 12.50 per hour.
The company uses a JIT system and the budgeted production and sale quantity is 15,000 units.
The following are the variances from standard costs recorded during the last quarter:
Particulars Variance (`)
1. Direct Material Cost Variances 3,250 A
2. Direct Labour Variances
Labour Rate Variance 2,640 F
Labour Efficiency Variance 5,040 F
3. Variable Overhead Variances
VOH Expenditure Variance ?
VOH Efficiency Variance ?
4. Sales Variance
Sales Price Variance 12,500 F
Sales Volume Variance ?
Required
(i) CALCULATE the missing variances. (6 Marks)
(ii) PREPARE the original budget and reconcile the budgeted profit with the actual profit.
(6 Marks)
(b) Unique Products Limited manufactured and sold 7,500 units per year of a particular
product, generating sales value of ` 7,50,000. After charging direct material cost 30% of
sales value, direct labour cost 20% of sales value and variable overheads cost ` 10 per
unit, the company earned ` 16.65 per unit during the year.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 29

The existing equipment can produce a maximum of 10,000 units per annum. In case, the
demand exceeds the maximum output, new equipment will be required which will cost ` 5

m
Lakhs and it will have a life span of 10 years, with no residual value.

m
A prospective customer is willing to place an order with the company for 5,000 units per
c. o
.co e m
year regularly at 90% of the present selling price, which will be, if accepted, over and above

m
the existing market for 7,500 units.
e la s
l a s
Irrespective of the fact whether or not the new order materializes, the cost increase with
a g
ag (i) 10% in the Direct Materials.
immediate effect is:

(ii) 25% in the Direct Labour.
(iii) ` 25,000 in fixed overheads per year.
If the order of additional 5,000 units is accepted, the fixed overheads will increase by
another ` 25,000 by way of increased administration expenses. (Assume there are no
opening/closing stock inventories. Variable cost will increase in direct proportion to the
output.)

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You are required to RECOMMEND whether the company should accept the new business

.
at the stipulated price or decline the new order and make a concerted sales drive to sell

em
the present unused capacity at the present selling price. The sales drive will cost ` 30,000
per year.
l a s (8 Marks)

ag
Note: Ignore the financial charges on the cost of the equipment.
Answer
(a) Part (i) & (ii)
For Cross Verification Only
Direct Material
Material Cost Variance = `3,250 (A)
Material Cost Variance = Standard Cost* – Actual Cost
`3,250 (A) = Standard Cost – `2,17,750

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Standard Cost = `2,14,500

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c. o
(*) Standard Cost refers to Standard Cost of Standard Quantity

m
se
for Actual Output

em la
 `2,14,500 

s
Actual Quantity =

g
 `15 

la a
 

ag
= 14,300 unit (given)
Direct Labour `
Labour Cost Variance = Standard Cost * – Actual Cost
`7,680 (F) = Standard Cost – `1,72,500

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30 FINAL EXAMINATION: MAY, 2023

Standard Cost = `1,80,180
(*) Standard Cost refers to Standard Cost of Standard
Time for Actual Output/Production
 `1,80,180 
Standard Cost per unit =   = `12.60
 14,300 units 
Standard Rate per hour = `10.50
 `12.60 
Standard Time per unit =   = 1.20 hrs.
 `10.50 
Labour Rate Variance = Standard Cost of Actual Time – Actual Cost
` 2,640 (F) = Standard Cost of Actual Time – `1,72,500
Standard Cost of = `1,75,140
Actual Time
 `1,75,140 
Actual Hours Worked =   = 16,680
 `10.5 
Variable Overheads
Standard Rate per hour = `12.50
Standard Rate per unit = `12.50 × 1.2 hrs. = `15.00
Expenditure Variance = Budgeted Overheads for Actual Hours Worked –
Actual Variable Overheads
= `12.50 ×16,680 hrs – `2,12,000
= `2,08,500 – `2,12,000
= `3,500 (A)
Efficiency Variance = Standard Variable Overhead for Output – Budgeted
Overheads for Actual Hours
Or
= Standard Rate per hour × (Standard Hours for actual
output – Actual Hours Worked)
= `12.50 × (14,300 hrs × 1.2 hrs – 16,680 hrs)
= `6,000 (F)
Sales Variances (Turnover Based)
Price Variance = Actual Sales – Standard Sales
`12,500 (F) = `12,28,000 – Standard Sales
Standard Sales = `12,15,500

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 31

 S tandardSales 
Budgeted Price per unit = 
 Actual Quantity 
m
m c. o
 `12,15,500 

co
=
m


. e
 14,300 units 

em = `85
la s
l a s
Volume Variance = Standard Sales – Budgeted Sales
a g
ag
= `12,15,500 – `85 × 15,000 units
= `59,500 (A)
Sales Variances (Margin Based)
Sales Margin Price Variance
= Sales Price Variance
= 12,500 (F)
Original Budget and Standard Cost Sheet

om
Particulars Budget Standard Cost
(Budgeted units - 15,000 units)
. c …(A) (`) Per Unit (`)
Sales
s em 12,75,000 85.00

g l
Direct Materials @ `15 per unit
a 2,25,000 15.00

a
Direct Wages @ `12.60 per unit
Variable Overheads @ `15 per unit
1,89,000
2,25,000
12.60
15.00
Total Cost …(B) 6,39,000 42.60
Budgeted Profit …(A-B) 6,36,000 42.40
Sales Margin Volume = Sales Volume Variance × Budgeted Net Profit Ratio
Variance

m
 `42.4 

co
= 59,500 (A) ×  
m .
 `85 

c. o = `29,680 (A)
se
m
s em Alternatively
g la
gla Sales Margin Volume
a
= Budgeted Margin p.u.× (Actual Qty.– Budgeted Qty.)

a Variance
= `42.40 × (14,300 units – 15,000 units)
= `29,680 (A)

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32 FINAL EXAMINATION: MAY, 2023

Statement of Reconciliation (Budgeted and Actual Profit)
`
Budgeted Profit 6,36,000
Add: Sales Margin Volume Variance 29,680 (A)
Standard Profit 6,06,320
Add: Sales Price Variance 12,500 (F)
Less: Material Cost Variances 3,250 (A)
Add: Labour Efficiency Variance 5,040 (F)
Add: Labour Rate Variance 2,640 (F)
Add: Variable Overhead Efficiency Variance 6,000 (F)
Less: Variable Overhead Expense Variance 3,500 (A)
Actual Profit 6,25,750
(b) Workings: Incremental Approach
Particulars Current Current Option – I Option – II
Demand Demand (New (Concerted
Original Revised Customer) Sales
Rate Rate Drive)
Sales (units) 7,500 7,500 5,000 2,500
(i.e., 2/3 of (i.e., 1/3 of
7,500) 7,500)
Sales in (`) …(A) 7,50,000 7,50,000 4,50,000 2,50,000
Direct Material (`) 2,25,000 2,47,500 1,65,000 82,500
Original- 30% of sales value; Revised- Original × 110%
Direct Labour (`) 1,50,000 1,87,500 1,25,000 62,500
Original- 20% of sales value; Revised- Original × 125%
Variable Overheads (`) `10 per unit 75,000 75,000 50,000 25,000
Variable Cost (`) …(B) 4,50,000 5,10,000 3,40,000 1,70,000
Contribution (`) …(A) - (B) 3,00,000 2,40,000 1,10,000 80,000
Less: Sales Drive Cost (`) 0 0 0 30,000
Less: Dep. On New Equipment (1/10) 0 0 50,000 0
Less: Fixed Overheads (`) 1,75,125 2,00,125 25,000 0
Original- (3,00,000- 16.65 ×7,500); Revised- +25,000
Earnings (`) 1,24,875 39,875 35,000 50,000

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 33

Alternatively: Total Approach
Particulars Current Current After After

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Demand Demand Considering Considering

o m
Original Revised Option – I Option – II

.c Rate Rate
e m
m
e in (`)
Sales (units) 7,500 7,500 12,500 10,000
la s
a s
l Direct Material
Sales …(A) 7,50,000 7,50,000 12,00,000 10,00,000
a g
ag Direct (`)
Labour (`)
2,25,000
1,50,000
2,47,500
1,87,500
4,12,500
3,12,500
3,30,000
2,50,000
Variable Overheads (`) 75,000 75,000 1,25,000 1,00,000
Variable Cost (`) …(B) 4,50,000 5,10,000 8,50,000 6,80,000
Contribution (`) …(A)-(B) 3,00,000 2,40,000 3,50,000 3,20,000
Less: Sales Drive Cost (`) 0 0 0 30,000
Less: Dep. On New 0 0 50,000 0
Equipment (1/10)

om
Less: Fixed Overheads (`) 1,75,125 2,00,125 2,25,125 2,00,125
Earnings (`) 1,24,875
. c 39,875 74,875 89,875

s em
Incremental Change N.A. --- 35,000 50,000
Recommendation
g l a
a
If company decides to accept order from prospective customer (option 1) who is willing to
buy 5,000 units per year regularly, there would be incremental earnings of `35,000 per
annum which is lower than the incremental earnings that would be earned from co ncerted
sales drive (option 2). Based on purely financial consideration company may decide to not
to go beyond the current capacity level i.e., may opt for concerted sales drive only. But,
this financial analysis of both options did not consider any qualitative factors, such as–
(i) Developing and maintaining long term and intimate relationships with the profitable
customers provides valuable benefits to the company as the relationships between

m
company and customers grow, a customer who is satisfied with the company’s

co
products and services, tends to commit the relationship, and buy more over time.

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c. o m
(ii) Cost of keeping the existing customers is less expensive than the cost of acquiring

se
new customers.

s em la
(iii) Another consideration is the impact on existing customers if the price offered for the

la a g
special order is lower than the regular price. These effects may create a bad dynamic

ag
between the company and its customers, or they may cause customers to seek
products from competitors.
Therefore, an overall cost/ benefit analysis in which Unique Products Limited would
consider not only the quantitative but the qualitative factors also, before making its final
decision on whether or not to accept the special order.

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34 FINAL EXAMINATION: MAY, 2023

Question 6
(a) APR is about to launch a new model of a gaming console, Product 'AS5'. Product 'AS5' is
the company's first gaming console and features unique technology developed by APR.
APR expects the unique technology and exclusive design to attract both new and existing
customers.
Given the unique nature of this gaming console, APR has no experience of the price
demand relationship of this product. However, based on experience from previous
products, it expects that during the product's introductory phase, at a selling price of
` 21,000, the demand would be 2,000 units per month. For every ` 2,000 increase in
selling price the monthly demand would reduce by 250 units, and for every ` 2,000
decrease in selling price the monthly demand would increase by 250 units.
The variable costs of production for one unit of Product 'AS5’ are as follows:

Direct materials ` 8,925
Direct labour ` 5,975
Variable overhead ` 2,100
APR is planning a digital marketing campaign during the introductory phase of product
'AS5'. The total cost of the digital marketing campaign is yet to be finalised with the
marketing team. However, after deducting the cost of digital marketing campaign, the CEO
requires a minimum profit of ` 1,26,25,000 for the introductory phase. The introductory
phase of Product 'AS5' is expected to have a duration of three months. There are no other
specific fixed costs associated with Product 'AS5'.
Required
(i) CALCULATE the maximum cost of the digital marketing campaign to meet the CEO's
profit requirement for the product 'AS5' introductory phase.
Note: The Company will set the price for a unit of Product 'AS5' to maximise profit
during the introductory phase.
If P = a - bx then MR = a - 2bx (6 Marks)
(ii) DISCUSS two reasons why it may not be appropriate to set the introductory price of
Product 'AS5, using the assumptions contained in the profit-maximisation model you
used in part (i). (4 Marks)
(b) Rose Limited is a producer of A2 milk and a variety of dairy products that it sells under the
brand name "ROSE, to various retail outlets across the city. The company operates on a
financial year basis and begins its annual budgeting process in the last week of March
when the Chief Executive Officer (CEO) establishes targets for total sales revenue and net
operating income before taxes for the next financial year. The sales target is given to

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 35

Marketing Department, where the Marketing Head, Charan formulates a sales budget in
both units and value terms. Charan also estimates the cost of the marketing activities

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required to support the target sales volume and prepares a tentative marketing expense

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budget. The Operations Head uses the sales and profit targets and the tentative marketing

co m
expense budget to ascertain the amount that can be budgeted for purchases and office

m .
expenses. After estimating the amount required for office expenses, the Operations Head
s e
s e la
then forwards to the Purchases Department, the amount that is proposed to be utilised for

l a
purchases. Ms. Nisha who is in-charge of production and purchases develops a purchases
a g
ag
plan that will acquire the required quantity of inventory when needed within the cost
constraints set by the Operations Head.
However, despite having targets none of these departments has achieved their budgets in
recent years. Sales often run below the target. Also, the profit target is hardly met since
costs are not cut enough. In fact, costs often run above the original budget in all
departments.
The CEO is concerned that the company had not been able to meet its sales and profit
targets. He employed a consultant with considerable relevant industry experience. The
consultant suggested a participatory budgeting approach where the marketing and

o m
c
production managers would be requested by the CEO to coordinate in order to estimate
sales and purchases quantities.
Charan decided that he would make am
.
potential customers, and customers' s e patterns. Subsequently, he would intuitively
beginning by looking at recent sales history,

lanotpasswantit toto Ms.
spending

quantity. Charan and Ms. Nishaa g
forecast the best sales quantity and
did fall
Nisha so she can estimate purchases
short of the sales estimates, they gave
themselves a little breathing room by lowering the initial sales estimates between 5% and
10%. As a result, they had to adjust the projected purchases as the year progressed, which
changes the estimated ending inventory. They also made similar adjustments to expenses
by adding at least 10% to the initial estimates.
Required
(i) IDENTIFY the budgeting approach presently being followed. (1 Marks)

o m
(ii) EVALUATE why the company’s original budget approach failed to achieve the CEO's

m .c
sales and profit targets. (2 Marks)

c. o m
e (3 Marks)
(iii) DISCUSS the key features of the participatory budgeting approach as recommended
s
em l aprojected purchases
by the consultant.

las g
a under the new(2 Marks)
(iv) EVALUATE why the sales estimates have been understated and

ag
overstated by the marketing head and procurement manager budget
approach.
(v) EXPLAIN what is meant by budgetary slack. (2 Marks)

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36 FINAL EXAMINATION: MAY, 2023

Answer
(a) (i) Calculation of the maximum cost of the digital marketing campaign to meet the
profit requirement for the product’s introductory phase.
Price at which demand is Zero:
P = a – bx
`21,000 = a – (`2,000/ 250) × 2,000
`21,000 = a – `16,000
a = `37,000*
*Can also be calculated by tabulating the selling price and quantity for different demand levels till
demand is zero.
The Marginal Cost of a unit of AS5 is `17,000/-
Now, Price Equation for ‘AS5’
P = a – bx
P = 37,000 – (2,000 / 250) × x
Revenue (R) = x × [37,000 – 8x]
= 37,000x – 8x2
Marginal Revenue (MR) = a – 2bx
= 37,000 – 2 × (8) × x
= 37,000 – 16x
Marginal Cost (MC) = 17,000
Profit is Maximum where Marginal Revenue (MR) equals to Marginal Cost (MC)
37,000 – 16x = 17,000
x = 1,250 units
By Putting the Value of ‘x’ in Price Equation, Value of ‘P’ is Obtained
P = 37,000 – (2,000 / 250) × x
= 37,000 – 8 × 1,250
= `27,000
At Selling Price of `27,000 APR’s Profit will be Maximum.
Value of ‘Mkt. Cost’ for the introductory phase is Obtained as under:
(Selling Price p.u. – Variable Cost p.u.) × Qty. – Mkt. Cost = Desired Profit
(27,000 – 17,000) × 1,250 × 3 – Mkt. Cost = 1,26,25,000
Mkt. Cost = 2,48,75,00
Maximum cost of the digital marketing campaign to meet the profit requirement
for the product’s introductory phase would be ` 2,48,75,000.

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PAPER – 5: STRATEGIC COST MANAGEMENT AND PERFORMANCE EVALUATION 37

Alternatively
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Sales 1,250 × 3 × `27,000 10,12,50,000

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Less: Variable cost 1,250 × 3 × `17,000 6,37,50,000

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Less: Desired Profit 1,26,25,000

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(ii) There are many unknowns, uncertainties, and usually unforeseeable risks involved ina
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Amount available for digital marketing campaign 2,48,75,000

bringing a new product to market. Usually, demand has to be generated during the
product’s introduction stage. However, it depends on the product’s complexity,
its degree of novelty, its fit into consumer needs, and the presence of
competitive substitutes of one form or another. The profit maximisation model
assumes that price is the only determinant of demand, as stated earlier it is extremely
difficult to determine a demand factor with any degree of accuracy at this stage,
therefore APR may end up making the wrong pricing decision. Rather than aiming for
maximum profit, APR may try to achieve target profit at this stage.

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(b) (i) The budgetary approach presently followed by Rose Limited is top-down approach

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(or imposed style). The CEO established the target for sales and net operating

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income before taxes for the next financial year. This is then communicated to the

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Marketing Department and Operations. The respective heads of department in turn

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prepare departmental budget based on the targets set by the CEO. This is the feature

a
of top-down budget approach.
(ii) Possible reasons for the failure of the top-down approach –
(a) This approach suffers from the risk of being inaccurate. The assumptions and
expectations of the management about business growth may be inaccurate. If
the dairy industry in which Rose Limited operates undergoes constant change,
the assumptions made by the CEO for setting the sales target may become
redundant quickly.
(b) In this approach, the budget figures are imposed on the sales personnel and

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other staff by the CEO. There is very little employee participation in preparing

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the budget. Hence, the budget will be of no interest for employees since their
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involvement is ignored. Moreover, employees are responsible for achieving the

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target set out as per the budget. However, the budget is controlled by the CEO.

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Hence responsibility without authority creates a negative working environment.

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This adversely impacts employee motivation to achieve budget targets.

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(iii) Features of participative budget (or bottom up approach) recommended by the
consultant.
As per the participative budget approach, the marketing and production managers
would be requested by the CEO to co-ordinate to estimate the sales and purchase
quantities.

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38 FINAL EXAMINATION: MAY, 2023

(a) This approach will create a sense of responsibility among employees and
fosters creativity. The budget goals could become the managers’ personal goals
thereby promoting goal congruence in the organization.
(b) The sales and production managers have intricate knowledge of the
business, since they are more involved with the day to day operations as
compared to the CEO. This knowledge will perhaps enhance the budgeting
process and help come up with a more realistic budget target.
(c) The managers are being given the authority to provide suggested targets for
the budget and along with that they have the responsibility to ensure that the
targets are met. This is a more motivational approach as compared to the
top-down approach.
(iv) Charan has lowered the initial sales estimate (as per the new approach) between 5%
to 10%. Similarly, Ms. Nisha has increased the cost estimates by at least 10% of the
initial estimates. Under the participative approach, the budget targets are determined
by the employees. Hence, they have a greater responsibility of achieving them. The
problem with this approach is that the employees can create budgetary slack and
manipulate the figures to achieve their personal goals.
By lowering the sales estimate, Charan has lowered the sales target that he is
responsible to achieve. Hence, the effort involved in meeting the modified budget
target is lesser. Also, even if the original target (before adjustment) is achieved, it will
seem to look as if Charan has over-achieved the budget sales target since evaluation
will be done by comparing performance with the modified (lower) sales target. This is
done to get personal benefits in terms of bonus or promotion from the company.
By inflating the cost estimate, Ms. Nisha has given some buffer for the goal she
has to achieve. She has projected a higher cost estimate. This targeted cost can be
achieved with lesser effort at cost management by her. Also, even if the original cost
target (before adjustment) is achieved, it will seem to look as if Ms. Nisha has taken
extra effort at controlling cost. This is because evaluation will be done by comparing
her performance with the modified (inflated) cost target. This is done to get personal
benefits in terms of bonus or promotion from the company.
Budgetary slack
Allowing managers to set their own targets will introduce slack targets . Managers
working in an environment where they are expected to meet the budget targets often
try to introduce slack into budget. For example, Charan introduced budget slack by
lowering the achievable sales target. Ms. Nisha introduced budget slack by inflating
the achievable cost target. This slack makes the budget easier to achieve.
However, introducing budget slack can have a detrimental impact on the evaluation
of actual performance of the managers.
Instead, where there is more relaxed attitude, or when other factors are considered
alongside the analysis of variances, managers are general less inclined to introduce slack.

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