Questions on Cost-Volume -Profit Analysis


Mwangaza Metals Ltd fabricates steel products for export to the COMESA region. The products go through three processing departments: forming, machining and finishing.

The following information relates to operations for the year ended 31 October 2002:

  1. Budgeted manufacturing costs for the year ended 31 October 2002:
  Forming Machining Finishing Total
  Sh ‘000’ Sh ‘000’ Sh ‘000’ Sh ‘000’
Direct materials       340,000
Direct labour 80,000 40,000 120,000 240,000
Manufacturing overheads 20,000 80,000 60,000 160,000
  1. The actual manufacturing costs incurred for the year ended 31 October 2002 were as follows:
  Forming Machining Finishing Total
  Sh ‘000’ Sh ‘000’ Sh ‘000’ Sh ‘000’
Direct materials       360,000
Direct labour 88,000 38,000 144,000 270,000
Manufacturing overheads 24,000 72,000 78,000 174,000
  1. While there were no finished goods or work-in progress inventories at the beginning of the year, stocks on 31 October 2002 were made up as follows:
Work-in-progress 39,000,000
Finished goods 121,000,000

The above balances include actual direct materials, direct labour and absorbed overhead costs.

  1. Manufacturing overhead costs are absorbed into products on the basis of direct labour costs, at rates pre-determined at the beginning of the year, using the annual budgeted data.

Two alternatives of absorbing the overheads could be employed:

  • Use a single factory wide manufacturing overhead rate.
  • Use separate departmental manufacturing overhead rates.
  1. The policy of the company is to dispose of over (under) absorbed overheads at the year-end by allocating the amount between ending inventories and cost of goods sold in proportion to their unadjusted cost balances.


  • Using the separate departmental manufacturing overhead rates:
    • Determine the total over (under) absorbed overheads for the year. (6 marks)
    • Allocate the over (under) absorbed overheads to the relevant accounts.(6 marks)
    • Prepare a journal entry to record the disposal of the over (under) absorbed overhead. (4 marks)
  • A particular order code named E20, from a customer was worked on and completed during the year. The following costs were incurred in relation to the other.
    Shs. Shs.
Direct materials     3,000,000
Direct labour: Forming 400,000  
  Machining 380,000  
  Finishing 480,000 1,260,000


Using the factory wide absorption rate, determine total overhead applied to the order (E20).  (4 marks)

(Total: 20 marks)


Nyungu Ltd is a manufacturer of earthenware products produced in two processes. Material is introduced at the beginning of the process in the Moulding department and additional material is added at the end of the process in the Finishing department. Conversion costs are applied uniformly throughout both processes. As the process in the moulding department is competed, goods are immediately transferred to the next department; as goods are completed in the Finishing department, they are transferred to finished goods store.

Data for the month of October 2002 are as follows:

    Moulding Finishing
Work-in-progress, beginning:      
  Units 10,000 units 12,000 units
  Stage of completion 2/5 completed 2/3 completed
  Costs: Material cost (sh) 6,000,000 9,800,000
  Conversion cost (Sh) 1,500,000 11,200,000
  Total (Sh) 7,500,000 21,000,000
Units started during the month   40,000 units ?
Material costs added during the month (Sh)   22,000,000 13,200,000
Conversion costs added during the month (Sh)   18,000,000 63,000,000
Units completed during the month   48,000 units 44,000 units
Work in progress, ending:      
Units 2,000 units   16,000 units
Stage of completion ½ completed   3/8 completed


  1. The cost of goods transferred out of each of the two departments during the month of October 2002. (10 marks)
  2. The ending inventory costs for goods remaining in each of the two departments on 31 October 2002. (10 marks)

(Total: 20 marks)


  1. Name four ways in which a company could finance a cash deficit.
  1. On 1 November 2002, Digital Trading Company was in the process of forecasting cash receipts and disbursements for the two months to 31 December 2002. On this latter date, a six month term loan of Shs. 8 million would mature and be payable with the interest at 15% per annum. The trial balance of the company as at 31 October 2002showed, in part, the following:
  Sh ‘000’ Sh ‘000’
Cash 800  
Debtors 14,400  
Provision for bad debts   1,260
Stock 7,000  
Creditors   7,350

Sales terms call for a 2 per cent discount, if paid within ten days of the month after purchase with the balance due by the end of the month after purchase. Experience has shown that 70 per cent of the invoices are paid within the discount period, 20 per cent by the end of the month after purchase and 8 per cent the following month while the rest are uncollectible. All sales are on credit.

The unit sales price of the company’s product is Sh 20. Actual and projected sales quantities are as follows:

Month Units  
September 2002 520,000 (actual)
October 2002 1,000,000 (actual)
November 2002 1,200,000 (projected)
December 2002 600,000 (projected)
January 2003 480,000 (projected)

Total estimated sales for year ending 20 June 2003 is Sh 120 million.

All purchases are due for payment within fifteen days. Thus approximately 50 per cent of the purchases in a month are due and payable in the next month. Unit cost is Sh 14.

Target ending stocks at the end of each month are 200,000 units plus 25 per cent of the following month’s sales.

Budgeted selling and administrative expenses for the year are Sh 32 million of which Sh 12 million is considered fixed and includes depreciation expenses of Sh 2,400,000. The remainder of selling and administrative expenses varies with sales. Fixed selling and administrative expenses are incurred evenly on a time basis. Both fixed and variable selling and administrative expenses are paid as incurred.


A statement of budgeted cash receipts, disbursements and balances for each of the months of November and December 2002. (16 marks)


On 1 November 2001, Jiwe Construction Company Ltd was awarded a contract to construct an office block for the Association of Women Accountants of Kenya (AWAK). The office block is scheduled for completion by 31 March 2003.

The following information extracted from the books of Jiwe Construction Company Ltd relates to the contract for the year ended 31 October 2002:

Material issues – From central stores 5,500,000
- By suppliers, direct to site 14,200,000
Labour charges 10,100,000
Amounts paid to subcontractors 4,501,000
Plant and machinery bought on 1 November 2001 6,000,000
Loose tools and consumables 126,000
Head office expenses - apportioned 1,184,000

On 31October 2002, the stock of materials at site amounted to Sh 2,100,300. On the same date thee were amounts outstanding with respect to wages, Sh 350,000 and for subcontract work, Sh 25,000.

Jiwe construction Company Ltd received Sh 36 million from AWAK which represents the amount of certificate issued by their architect s in respect of work completed to 31 October 2002 after deducting 15% retention money. It is estimated that work costing Sh 360,000 is not covered by this certificate.

You are also informed that:

  1. The plant and machinery specifically purchased for the project is to be depreciated at 20% straight-line with no residual value.
  2. That Jiwe Construction Company Ltd only takes 2/3 of the profit on work certified to its revenue account.


  1. Contract account for the period ended 31 March 2002. (8 marks)
  2. Profit to be taken to the credit of the company’s revenue account. (4 marks)
  3. Calculate the work-in-progress. (4 marks)
  4. Illustrate how the balances on the contract account would appear in the balance sheet of the company. (4 marks)    (Total: 20 marks)


  1. “In practice there is no cost that can be described as, entirely and always variable or fixed.” Comment on the above statement. (4 marks)
  1. Kenya Auto Assemblers Ltd assembles cars from imported knocked-down-kits. The company has been operating at 60% capacity, assembling 3,000 cars per year.

The following information relates to the company’s operations at two different levels of capacity.

  Level of activity
  60% 80%
Costs Sh ‘000’ Sh ‘000’
Direct materials 600,000 800,000
Direct labour 150,000 200,000
Indirect labour 200,000 240,000
Factory fuel and power 10,000 130,000
Factory repairs 130,000 155,000
Total cost 1,180,00 1,525,000


(i) Using the high-low method, establish the cost equations of the for y = a +bx for each of the following costs for the company.

    1. Direct materials (2 marks)
    2. Direct labour. (2 marks)
    3. Indirect labour. (2 marks)
    4. Factory fuel and power. (2 marks)
    5. Factory repairs. (2 marks)

(ii) Using the results obtained in (i) above, estimate the total costs at 120% level of operation showing clearly the variable and fixed components of mixed costs. (6 marks)(Total: 20 marks)


  1. Distinguish between cost accounting and financial accounting. (6 marks)
  2. In a multi-department production situation, explain the following:
    • The role of service departments. (3 marks)
    • The reasons why it is important to distribute service department costs to production departments. (3 marks)
    • Four methods of distributing service department costs in the case where service departments also provide services to each other. (8 marks)   (Total: 20 marks)


  1. State and explain five assumptions that underlie the cost-volume-profit analysis.   (10 marks)
  2. Explain the meaning and significance of the following terms in the context of the cost-volume –profit analysis:
    1. Relevant range. (2 marks)
    2. Margin of safety. (2 marks)
    3. Sensitivity analysis. (2 marks)
    4. Contribution margin per unit. (2 marks)
    5. Contribution sales ratio. (2 marks)             (Total: 20 marks)

  1. Explain the meaning and significance of the following terms in the context of the cost-volume –profit analysis:

    1. Relevant range. (2 marks)

    2. Margin of safety. (2 marks)

    3. Sensitivity analysis. (2 marks)

    4. Contribution margin per unit. (2 marks)

    5. Contribution sales ratio. (2 marks)

(Total: 20 marks)