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5 Northland’s major towns and cities are maintained by local government organisations (LGO), which are funded by
central government. The LGOs submit a budget each year which forms the basis of the funds received.
You are provided with the following information as part of the 2010 budget preparation.
Overheads
Overhead costs are budgeted on an incremental basis, taking the previous year’s actual expenditure and adding a set
% to allow for inflation. Adjustments are also made for known changes. The details for these are:
Overhead cost category 2009 cost ($) Known changes Inflation adjustment
between 2009 and 2010
Property cost 120,000 None +5%
Central wages 150,000 Note 1 below +3%
Stationery 25,000 Note 2 below 0%
Note 1: One new staff member will be added to the overhead team; this will cost $12,000 in 2010
Note 2: A move towards the paperless office is expected to reduce stationery costs by 40% on the 2009 spend
Road repairs
In 2010 it is expected that 2,000 metres of road will need repairing but a contingency of an extra 10% has been
agreed.
In 2009 the average cost of a road repair was $15,000 per metre repaired, but this excluded any cost effects of
extreme weather conditions. The following probability estimates have been made in respect of 2010:
Weather type predicted Probability Increase in repair cost
Good 0·7 0
Poor 0·1 +10%
Bad 0·2 +25%
Inflation on road repairing costs is expected to be 5% between 2009 and 2010.
New roads
New roads are budgeted on a zero base basis and will have to compete for funds along with other capital projects
such as hospitals and schools.

Required:
(a) Calculate the overheads budget for 2010. (3 marks)

(b) Calculate the budgets for road repairs for 2010. (6 marks)

(c) Explain the problems associated with using expected values in budgeting by an LGO and explain why a
contingency for road repairs might be needed. (8 marks)

(d) Explain the process involved for zero based budgeting. (3 marks)

(20 marks)

9 [P.T.O.
BUDGETING AND CONTROL
300 STATIC CO (DECEMBER 2016)
Static Co is a multinational consumer goods company. Traditionally, the company has used
a fixed annual budgeting process in which it sets quarterly sales revenue targets for each of
its product lines. Historically, however, if a product line fails to reach its sales revenue
target in any of the first three quarters, the company's sales director (SD) and finance
director (FD) simply go back and reduce the sales revenue targets for the quarter just
ended, to make it look like the target was reached. They then increase the target for the
final quarter to include any shortfall in sales from earlier quarters.
During the last financial year ended 31 August 20X6, this practice meant that managers had
to heavily discount many of their product lines in the final quarter in order to boost sales
volumes and meet the increased targets. Even with the discounts, however, they stilt did
not quite reach the targets. On the basis of the sales targets set at the beginning of that
year, the company had also invested $6m in a new production line in January 20X6.
However, to date, this new production line still has not been used. As a result of both these
factors, Static Co saw a dramatic fall in return on investment from 16% to 8% in the year.
Consequently, the managing director (MD), the FD and the SD have all been dismissed. Two
key members of the accounts department are also on sick leave due to stress and are not
expected to return for some weeks. A new MD, who is inexperienced in this industry, has
been appointed and is in the process of recruiting a new SD and a new FD. He has said:
'These mistakes could have been largely avoided if the company had been using rolling
budgets, instead of manipulating fixed budgets. From now on, we will be using rolling
budgets, updating our budgets on a quarterly basis, with immediate effect.'
The original fixed budget for the year ended 31 August 20X7, for which the first quarter
(Ql) has just ended, is shown below:
Budget Y/E 31 August 20X7 Q1 Q2 Q3 Q4 Total
$000 $000 $000 $000 $000
Revenue 13,425 13,694 13,967 14,247 55,333
Cost of sales (8,055) (8,216) (8,380) (8,548) (33,199)

Gross profit 5,370 5,478 5,587 5,699 22,134

Distribution costs (671) (685) (698) {712) (2,766)
Administration costs ( 2,000) (2,000) ( 2,000) {2,000) (8,000)

Operating profit 2,699 2,793 2,889 2,987 11,368

The budget was based on the following assumptions:

( 1) Sales volumes would grow by a fixed compound percentage each quarter.
(2) Gross profit margin would remain stable each quarter.
(3) Distribution costs would remain a fixed percentage of revenue each quarter.
(4) Administration costs would be fixed each quarter.
The actual results for the first quarter (Ql) have just been produced and are as follows:
Actual results Ql
$000
Revenue 14,096
Cost of sales (8,740)

Gross profit 5,356

Distribution costs (705)
Administration costs (2,020)

Operating profit 2,631

The new MD believes that the difference between the actual and the budgeted sales figures
for Ql is a result of incorrect forecasting of prices, however, he is confident that the four
assumptions the fixed budget was based on were correct and that the rolling budget should
still be prepared using these assumptions.

Required:
(a) Prepare Static Co's rolling budget for the next four quarters. l!9 (8 marks)
(b } Discuss the problems which have occurred at Static Co due to the previous
budgeting process and the improvements which might now be seen through the
use of realistic rolling budgets. Q {6 marks)
{c} Discuss the problems which may be encountered when Static Co tries to implement
the new budgeting system. Q (6 marks)
(Total: 20 marks}
09 SHIFTERS HAULAGE (DEC 08 EXAM)
Shifters Haulage (SH) is considering changing some of the vans it uses to transport crates
for customers. The new vans come in three siz!;!s; smau;·medium and large. SH is unsure
about which type to buy. The capacity is 100 crates for the small van, 150 for the medium
van and 200 for the large van.
Demand· for crates varies and can be either 120 or 190-crates per period, with the
probability of the higher demand figure being 0.: 6.
The sale price per crate is $10 and the variable cost $4 per crate for all van sizes subject to
the fact that if the capacin, of the van is gr-ea_ter than the deman� for crates in a per.iod then
the variable cost will be lower'by 10% to ailow for \he fact that tlie vans will be partly
empty when transporting crates.
SH is concerned that if the demand for crates exceeds the capacity of the vans then
customers will have to be turned away. SH estimMes that in this case goodwill of $100
would be charged against profits per period to allow for lost future sales regardless of the
number of customers that are turned away.

Depreciation charged woyld be $200 per P.eri�q for the small, $300 for the medium and
· -· •
$490 for the large van.
with rapid
SH has in the past been very aggressive in Its decision-making, pressing ahead
growth sm;tegies. Howe•,er, Its managers have recently grown more cautious as the
business has become more competitive.
Required:
(a) Explain the principles behind the maximax, maximin and expected val� e criteria
that are sometimes used to make decisions in uncertain situations. (5 marks)
(b) Prepare a profits table showing the SIX possible profit figures per period. (9 marks)
(c) Using your profit table from (b) above discuss which type of van SH should buy
taking Into consideration the possible risk attitudes of the managers. {6 marks)
(Total: 20 marks)
ALL FIVE questions are compulsory and MUST be attempted

1 Cement Co is a company specialising in the manufacture of cement, a product used in the building industry. The
company has found that when weather conditions are good, the demand for cement increases since more building
work is able to take place. Last year, the weather was so good, and the demand for cement was so great, that Cement
Co was unable to meet demand. Cement Co is now trying to work out the level of cement production for the coming
year in order to maximise profits. The company doesn’t want to miss out on the opportunity to earn large profits by
running out of cement again. However, it doesn’t want to be left with large quantities of the product unsold at the end
of the year, since it deteriorates quickly and then has to be disposed of. The company has received the following
estimates about the probable weather conditions and corresponding demand levels for the coming year:
Weather Probability Demand
Good 25% 350,000 bags
Average 45% 280,000 bags
Poor 30% 200,000 bags
Each bag of cement sells for $9 and costs $4 to make. If cement is unsold at the end of the year, it has to be disposed
of at a cost of $0·50 per bag.
Cement Co has decided to produce at one of the three levels of production to match forecast demand. It now has to
decide which level of cement production to select.

Required:
(a) Construct a pay off table to show all the possible profit outcomes. (8 marks)

(b) Decide the level of cement production the company should choose, based on the following decision rules:
(i) Maximin (1 mark)
(ii) Maximax (1 mark)
(iii) Expected value (4 marks)
You must justify your decision under each rule, showing all necessary calculations.

(c) Describe the ‘maximin’ and ‘expected value’ decision rules, explaining when they might be used and the
attitudes of the decision makers who might use them. (6 marks)

(20 marks)

2
 ·: -
:j. :STOW. HEALTH CENTRE
p,: .. . .
J: Stow H ca.llh Centre spccii'llisc!> in the proviidon of sportskxcrcisc.and lilcdical/die1.1.ry advice
• •• •
J ·.. • - • ,

� to cli ents. 77,c s �rvicc is provided on a r_es.idcntial b:\sis :\lld slicnt.s st:ty for wh:\lC\'Cr _number
t,ord.lyssu1tsthc1rncc.ds. : � , - .
.
f
·1I Buagctcd estimates for thc-ycnr ending 30 June 200 I arc as follows.:.
TI1e m:1.x.imum cnpacity of the centre. is 50 clients per d�y for 35:6 d:t.ys in lhUEf...
1 (i)
Clients will be invoicea :1t a fee per d:iy. Jl1e budgclccl 9ccup::u,cy k.vcl will v;:uy ,,•ilh.
-�� (: [)
the client fee level per day ;incl is estimated ill different percentages of-rnax.irtillm
·cc11)idty ilS followi.:
Client fac per day Occ11pa11cy level Occ11pm1cy ns perccnt(1gc of
111a.i:im11111 capacity�
£1 so High . ·--9tJ� .
. °..}
£200 l\·fost likely '..7•5%
£220 Low �. ..
_,;

Variable c9sts nre also qstimatcd :it o:1c of Lhn::c levels per cli:;nt day. TI,c high, most
I ikcly .1.ncl low levels pc� clicnf d�y :-ire L95, .f.85. and f.70 rcspccti\'cl{. ·
111c range of cosl levels-rt:: Occts only the possible effect of the purch:isc pricc:c; or
goods �net scrvic�s.

r.
3
·Ro�.uircd:
(=i) Pr�p:1n.: a sum111.:1ry which slmw::: the _bud�ctcd contr'·il·,111ion C:\mcd by S:ow tk:-dth
Cl!ntr\.! for tlti; yi::11:·l!mkd- 30 fonc.; 200 i for c:1c;I� o ( 1.1i11..: ·possi �-�c- �111co��'::..:. ( G _lll::i rk s)
·•J .
(b) St:icc the client fc.;c str:1rc,�v r\.,r lhc ,�:-ir to 30 June 200l which will rcs11lt from th�� use
�, of c:f�li of lhc r9iic,�i�igd�c-isi�1·, n�l�s: (i}'m:txim:1:-:; (ii) maxi},,in; (iii) mi;1i,i1:-.x
\l

. rcgrnt.
1•

)r. .... . , •.. ..

Your answer should c:-=pl:iin th{b;.sis o[ opcr.1lio11 of each rule. Use lhc i11 ro,:111:11io11
from ym�r an!i\\'t:r t_o (a) as relevan�.an!ffill _ .��-��������a! worki11g calculations as
. �
necessary. . -. . ... . (9 111:lrks)·
The,prob:tbilitics orv::iri_:1hk rn�I lc\'cl� C'lCC\ll'l'i11g :,, !lie lti r.h. llH>Sl likdy :\11<.! :.I\\'
.....(s)/7 lcvds provickcl in llic uc_
q stiou :ire esli11�tcd c1s ·o. l, 0.6 :-incl O.:i rcsp.�ctivcly ..
. -·----
L:s,·11:; tfh.: in��m11:,;i1..111 �., �11\:,bk, determine iii..: cli�nl_ ,�·...: str.11��y ,, i1i(h \'.'ill c-: cit�,.:,:n
\\'hen; m:1xi111i::;:1tion_or ��pl:clctl ,·:ilu� 0r co11tributio11 i::; ti:.cd ;,s !lie <.kc:i:,iclll h:,'lis.
(:i 111:1rl\s)
f;)/'A comp�litcir th:1l offers;\ brc:ikd�\\'ll ser ice h:tS co.mpilcd
v :m �l�·sis of its r:;1c.mbc1?'·
�
�11

(' l1cy nnlicip;itc. lh:il the v:ui�hlc co�l per member could be S..70, £65 or .!:60-:ind tlt:it n
J 1cxil>lc pri� '\\'ill r.;�11ll i11 lht.: ·lollowing 011lco_111cst (
. · -------...: '- · N1w1hcr nf.wh.r r:rihL'r.\:
I
-Sub.rcriu1irm 6',· (.{)
J JD '15,0CJO
n�-o·
-�)()
--�s�.ooo
:�o;ooo
P.cquirqd:
(d) Prcp:m.: :1. s11mm:11y which shows the l�udgctcd
· contriuution for c;-1:::h of the nine
··
(i)
possible outcomes. (� 111:1rl:s)
(ii) St,alc the mcmbcrslTiQ.[cc.: !>lr.tlcgy whicli �\·i-11 n:!;u]t from c:1ch of the follo\\'itll'-
.
ck:Ci!;i(lil ,:ulcs: lllc1.\.'i11;n.\'; IJIO.l'i111i11; Jlliflillln,r l'l..'_r;rc:I.
-
Ex'pbiu tltc·,\.la:;bn�f opcri11-io1-1 or e:ich .ch:cisio11 rule. u:�c �-Olli flll�wcr ln (i)
\\'lien; n.;k,·ar1l :rncl �ho\\' any :1dclitio11:1I worki11c c:ik11btio;1� as H!:ccs!i-;1i·y ., \
(7 111arl,5"'JJ
( To l: ti : ,HJ ll 1 :1 r 1-: s)
 1-o-·,... ·- - . ·� . ..
c5.3 Example: a decision irr;e
, Beethoven h3s a new wonder product, -the. vylin. ol whirn ii exµec1s great I hi nos. Al the moment the
company has two courses of action open lo it, to test market the prpjucl or aban_d9.!1.ll.:..
I( the company.test markets ii, the costwlU be $100,000 and the �rkel response. could tie µosilive or
negative with probabilities ol 0.60 and�.w.

---··�-. ········--··· • ·� • I -·
it. the respon�e is .positive t�e c'ompcny could either abandon the produ<;l or market it full scale.
11 lt markets 'the vylin run
scale, the oulcom� might be low, medium or high cfeman·,raod the respective
· net oains/{losses) would be (200), 200 or 1,000 In units of $1,000 (the result could range from a net loss
ol $200,000 lo n gain of$ t ,000,000).'Thcse oulcomes have probabilities of 0.20, 0.50 an� 0.30
respectively.
. u�
II the result of the.-test.ma.r��!}.9.iUl(g4fN.�·- t�e compan�go ah c_a� a�i:narkets·.thc product
_ cLt uJ ki�
, _
��ti�ated lo£ses-would be $600. 000 o y l\�·o " i b.o...ba.
11.�I any poifli the �Qmpany a bar.dons the producl. there would be a net gnln al $50,000 f ro·m the sale ol
( - �- All th� financial. values �ave been discoll\tm. to the prl!se:H.
Required
(a) Draw a decisillO tree.
: !� lnclud� figures for cost, loss or PfO��on the approp�ia le Qranchts of the tree.""\
_ _

actbn available:
�--· Combo ok oas th.-ee courses of..
�..,_,_ ·
(i) s�utdown office & ra��;r.oc�LS...?-�
·
(ii) · Have an expensive ren. ovation
(iii} Have a cheap renovation. ·
.� nths,
or �fter one year. If d_one aft� 6.m
r
. . er 6 mo nth s
is expensive renovatto.n, .it Cilfl
. be don e aft
.If there ' OO, OOO• with probabilities of
0 .6 & 0.4""
·
be. , , 000 or G:S
cost ':"'ill be .$. 4!..000�000 & pro .
�13
either $10, 000 ,0oo or $
fit cai, 500

one yea r\;litencos t .

wil l b e � 5 000 000 & profit can be
respectiveiy. If d<?h� a1t1 :t. � _ , res, pectively.
8,QQQ,QQQ Qr s�oq,o oo With probatJilitieS Of 0.7, 0.2 &' Q.1 •• '
. .. I j • .
fit of· ..
ren ova
.
tion cos t I
w,1� �. S 2m & result can be goo d, mo �er ate or poo r with pro
s of O.S, 0.3, and 0.2
If there is a che ap respectively.
00, ()00 & . 0 00 & with probabilitie
$8,500, 000 I • '6',0 $20 0,

Required:
t)...,o......., a
(i) ,, Decislpn tree
(ii) What� do
 DECISION TREE:

A �ompany is deciding whether to-launch new product or consolidate existing products.

If the company decides to launch new product, then it can be- developed thoroughly at a cost of
$150000 or developed rapidly at a cost of $80000.

If the company decides to consolidate existing products, then existing products can be
strengthened at a cost of $30000 or reaped at no cost.

If the company develops the product thoroughly, the market re13ctrun could be good{profit of
$1000000) o r moderate(profit of $50000) or poor(profit of $20Q.O}. The probabilities of
good,moderate and poor outcomes are 0.4;0.4 and 0.2 respectively.

If the product is developed rapidly, the market reaction could be good or moderate or poor
with the same profits as above for each outcome but with probabilities of 0.1,0.2 and 0.7
resp ectively. _,

If the company strengthens its existing products, the market reaction could be good(profit of
$400Elfl0) or moderate(profit of $200QQ) or poor(profit of $6000). The probabilities of
good,moderate and poor outcomes are 0.3,0.4 and O 3 r�sp@rtively.
If the company decides to reap pr�ducts, market reaction �ould.be good( p rofft of $20COQ)or -····
poor (profit of $2000;. The probabilities of good and poor outcomes are 0.6 and 0.4
respectively.

(i) Decision tree

{ii} Decide whether company should laun ch new produ�-� or consolidate exfsting onq_
1