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Strategic Cost Management
April 2025 Examination
1. New Era Corp., a mid-sized
manufacturing company, has been struggling with inefficiencies in
its budget allocations.
For years, the
company relied on incremental budgeting, where previous
year’s expenses were carried forward with minor adjustments. Over time, this
led to certain departments hoarding funds they didn’t necessarily need, while
other critical areas remained underfunded.
Facing increasing
competition and pressure
to improve profitability, the management decided to overhaul their
budgeting process. They proposed shifting to a zero-based budgeting (ZBB)
system, where every expense would have to be justified from scratch for each
new budgeting cycle. The finance team welcomed the opportunity to streamline
spending but raised concerns about the time and resources required
to implement ZBB.
Department heads expressed
mixed reactions—some saw it as a chance to highlight their real needs,
while others worried about the effort involved in preparing detailed
justifications for every cost. After a six-month trial run with ZBB, the
company observed some significant changes. Now, the management must decide
whether to fully adopt ZBB across the organization or
return to the
traditional budgeting approach.
What are the advantages and
disadvantages of adopting
a zero-based budgeting
system as observed in this
case? (10 Marks)
Ans 1.
Introduction
Budgeting
plays a crucial role in financial planning and resource allocation for any
organization. New Era Corp., a mid-sized manufacturing company, faced
inefficiencies due to its reliance on incremental budgeting, which led to
misallocation of funds and reduced financial agility. To address this issue,
the company considered implementing Zero-Based Budgeting (ZBB), a process where
each department must justify every expense for each budgeting cycle. The shift
aimed to eliminate wasteful spending and allocate resources more effectively.
However, this change brought mixed reactions from employees—while some saw it
as an opportunity to optimize funds, others found the process cumbersome. After
a six-month trial, the management faced a key decision: whether to fully adopt
ZBB or revert to traditional budgeting. This case
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2. Mindset Ltd., a manufacturing
company producing Product A and Product B, is facing challenges in accurately
allocating overhead costs using the traditional costing system. To address
this, the management has decided to implement an Activity-Based Costing (ABC)
system to ensure a fair allocation of costs and better decision-making. The
following data is available:
Overhead Costs and Activity
Drivers:
|
Activity |
Total Overhead Cost |
Activity Driver |
Total Activity |
|
Machine Setup |
₹50,000 |
Number of setups |
100 setups |
|
Quality Inspection |
₹60,000 |
Number of inspections |
120 inspections |
|
Material Handling |
₹40,000 |
Number of material movements |
80 movements |
Activity Driver Usage by Products:
|
Activity Driver |
Product A |
Product B |
|
Number of setups |
60 setups |
40 setups |
|
Number of inspections |
80 inspections |
40 inspections |
|
Number of material movements |
50 movements |
30 movements |
Allocate overhead costs to Product
A and Product B using activity-based costing. Calculate the overhead cost per
unit for each product if units produced of product A are 1000 and that of
product B are 500. What insights do the results share? (10 Marks)
Ans 2.
Introduction
Accurate allocation
of overhead costs is crucial for manufacturing firms to ensure fair pricing and
effective decision-making. Mindset Ltd., which produces Product A and Product
B, faced inefficiencies using the traditional costing system. This method often
assigns overheads arbitrarily, leading to inaccurate product costing and
potential profitability issues. To improve cost allocation accuracy, the
company decided to adopt Activity-Based Costing (ABC). ABC assigns overhead
costs based on actual resource consumption through activity drivers such as
machine setups, quality inspections, and material handling. By implementing
ABC, Mindset Ltd. aims to achieve more precise cost allocation, leading to
better pricing strategies, resource optimization, and overall
3. Delta Ltd.
is a mid-sized
manufacturing company specializing
in high-quality kitchen
appliances. Their flagship product, the ‘SmartCook Pro’, is gaining popularity,
but the management team is concerned about fluctuating profit margins due to
rising raw material costs and competitive pricing pressures.
To address these challenges, DEF
Ltd. wants to use Cost-Volume-Profit
(CVP) analysis to better understand the relationship between their costs,
production volume, and profit. They need insights into the breakeven point, the
sales volume required to meet a target profit, and how changes in variable
costs or selling prices might impact their financial performance. The company
has set a selling price of ₹2,000 per unit, incurs variable costs of ₹1,200 per
unit, and has total fixed costs of ₹8,00,000.
The management also plans to
introduce a discount strategy, reducing the selling price to ₹1,800 per unit to
boost sales, and they wish to evaluate its impact on profitability. Using
CVP analysis, they
aim to make
informed decisions on production levels and pricing strategies.
a. Based on the current pricing
strategy, calculate the breakeven point in units. What is break-even analysis
and what does these number of units signify? (5 Marks)
Ans 3a.
Introduction
Break-even analysis
is a financial tool used by businesses to determine the level of sales required
to cover total costs, where no profit or loss occurs. Delta Ltd., a
manufacturer of kitchen appliances, seeks to understand its breakeven point for
the ‘SmartCook Pro’ to navigate rising material costs and competitive pricing
pressures. By calculating the breakeven point, the company can establish a
foundation for pricing and production decisions to maintain
b.
If Delta Ltd. reduces the selling price to ₹1,800 per unit to achieve a
target profit of ₹4,00,000, calculate the number of units they need to
sell? (5 Marks)
Ans 3b.
Introduction
Delta Ltd. plans to reduce the selling price of the
‘SmartCook Pro’ to ₹1,800 per unit to attract more customers. However, the
management wants to determine how many units they need to sell to achieve a
target profit of ₹4,00,000. Using Cost-Volume-Profit (CVP) analysis, we can
calculate the required sales volume to ensure profitability under the new
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