University of the Witwatersrand, Johannesburg

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Course Code No(s) ACCN 3007 / ACCN3019 / ACCN3023

Course Description name(s)

MANAGEMENT ACCOUNTING AND FINANCE III

Date of Examination
TEST 3

Year of Study
THIRD

Programme Code
(Degree Code) BACCSCI / BCOMM

Faculty/ies presenting
candidates CLM

Internal examiner(s)
and telephone extension
number(s) WITHHELD

External examiner(s) WITHHELD

Open Book Exam NO

Electronic Devices/Computers. Please indicate if any FINANCIAL CALCULATOR

devices will be used during the exam and if so
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Special materials required (graph/music/drawing

paper) maps, diagrams, tables, computer cards, etc. N/A

Time allowance Course ACCN 3007 / 3019 TIME Reading 30 min

Nos. / 3023 Writing 2.5 hour

Instructions to candidates (Examiners may wish to

use this space to indicate, inter alia, the contribution N/A
made by this examination or test towards
the year mark, if appropriate)
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

Question 1 (100 Marks)

Pretty.com Ltd (“Pretty.com”) is an acclaimed interior design and décor company that operates in the
South African interior design market. The company has a 30 June financial year-end. After years of
success, South Africa’s interior design sector has experienced a severe downturn over the last 18
months due to the impact the Covid19 pandemic has had on the economy.

Pretty.com is a divisionalized company with three divisions: PrettyPlan, PrettyPaint and PrettyPrint.
PrettyPlan is a consulting business, while PrettyPaint and PrettyPrint each focus on manufacturing a
unique product.
• PrettyPlan specialises in giving advice regarding interior design and décor, renovations, and
space planning.
• PrettyPrint manufactures a beautiful, printed fabric range called Inspire.
• PrettyPaint manufactures its signature range of universal paint, PP1 (a coat of paint that can be
applied to any surface).

PrettyPlan
PrettyPlan was severely impacted by the COVID19 pandemic. The strict lockdown of nonessential
businesses resulted in many projects being cancelled. Unfortunately, even after lockdown restrictions
were lifted, there was a drastic decline in the interior design industry. The earnings before tax and
interest of R540 000 for the financial year ended 30 June 2020 saw a decline of almost 120% when
compared to the prior year results. The significant decline in earnings has resulted in the company
amending its dividend policy which states that no dividends are payable in the foreseeable future.

With COVID19 still wreaking havoc across all sectors of the economy, management of PrettyPlan
realized that the pandemic created a gap in the interior design industry. Homes were no longer just a
place to rest your head and have transitioned into makeshift offices, gyms, classrooms, restaurants,
cocktail bars, concert venues, movie theaters, and more. With so many activities happening under one
roof every day, small studio apartments and large family homes alike have had to adapt to incorporate
new functionality.

In addition to home improvements, the COVID19 vaccination rollout has also resulted in many
companies requesting employees to return to the workplace on a rotational basis. To facilitate
employees in a safe environment, business owners are opting for more COVID19 friendly office designs.
The designs feature open spaces with a free flow of air with social distancing strategies in place.

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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

There’s no question that the additional home and office improvements assisted PrettyPlan to bounce
back during 2021 with earnings before tax and interest of R616 000 for the period ended 30 June 2021.
These results are still lower than the pre-COVID19 results. Failure to continue to improve profitably
could result in PrettyPlan having to cease operations like many other interior design companies who
were negatively impacted by COVID19. However, PrettyPlan management are confident that the new
industry trends will inevitably allow them to bounce back.

Management of PrettyPlan expects to achieve sales growth of 10% for the next 3 years. The EBIT
margin will remain at the June 2021 level of 7% for the next year and reach the pre-COVID19 margins
of 9% thereafter.

PrettyPlan currently has 75 interior designers employed in the division. Many tasks performed by the
interior designers every day are repetitive. These repetitive tasks can be automated with the introduction
of robotics and artificial intelligence. The interior design industry is expecting to replace interior designers
with robots to improve profitability in the industry. To keep up with industry trends, PrettyPlan expects
to replace 40 interior designers with robots during the financial period ended 30 June 2024. This will
result in an annual wage cost saving of approximately R8 000 000 in 2024. The robots will be leased at
an annual cost of R5 900 000 in 2024. The impact of replacing the interior designers with robots has
not been considered in the 9% EBIT margin and will inevitably increase the EBIT margins to a level
higher than 9%.

The net working capital balance as of 30 June 2021 is R1 200000 and is forecasted to be 15% of sales
in future years. Capital expenditure amounted to R260 000 for the year ended 30 June 2021. The
financial statements reflected a depreciation charge of R170 500 for the financial year ended 30 June
2021. Depreciation approximates the depreciation tax allowance, and this will remain so in the
foreseeable future. The capital expenditure and depreciation are expected to grow at the same rates as
sales.

After performing research within the interior design market, a beta of 1.3 was consider appropriate for
PrettyPlan. The market premium is expected to be 6.5%. The current yield on long term RSA bonds is
10% whilst the 90-day treasury bill rate is 7%. The current debt-equity ratio is 50:50. However, in the
long run, PrettyPlan expects its target debt: equity ratio to be 33.33% and expects its capital structure
to remain in this target range as such in the foreseeable future. A once-off dividend R50 000 for the
financial year ended 30 June 2021 was issued to shareholders to boost investors morale.

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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

The impact of COVID19 combined with poor working capital management resulted in PrettyPlan being
unable to pay its creditors on time during the financial year ended 30 June 2020. PrettyPlan took out a
working capital loan of R2 million in July 2020, repayable in 24 months. Market interest rates on similar
loans is 12% per annum. PrettyPlan management believes that it will not be necessary to replace this
loan once it matures as cashflow concerns are predicted to improve as the financial performance
improves. PrettyPlan also has debentures in issue. The current market value of the debentures is
R1 300 000. Interest payments of R300 000 are made annually in arrears. The debentures will be
redeemed at par value in 7 years’ time.

The historic financial highlights are presented in the table below:

Rands Notes 30 June 2020 30 June 2021
Revenue 7 800 000 ?
Cost of sales 6 630 000 10 472 000
Trade receivables 1 1 250 000 2 900 000
Trade payables 2 1 160 000 1 970 000
Debentures (par value) 1 000 000 1 000 000
Short term loan 3 - 1 964 000
Bank overdraft 1 100 000 2 300 000

NOTES DETAILS
Note 1 Trade receivables

All PrettyPlan’s sales transactions are on 30 days’ credit from date of invoice and subject
to terms and conditions. PrettyPlan currently does not perform reconciliations on any of
their customer accounts but does send monthly statements to all customers via email.
Payments received from a specific customer are allocated to that customer’s longest
outstanding invoice first. No settlement discounts are offered to credit customers.

Note 2 Trade payables

Trade payables are settled within 30 days from date of invoice.

Note 3 Short term loan

The value of the short-term loan per the financial highlights is representative of its market
value.

Other information:
• The tax rate is 28%.
• Free cash flows to the firm are expected to grow at 5% after 2024.
• Assume 365 days in a year.
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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

PrettyPrint: Inspire
The Inspire Range of fabric is made from a high-quality cotton that is weaved together to form a luxurious
and soft fabric. Raw cotton is sourced from a local supplier, but before the manufacturing process
begins, the cotton seeds 1 need to be removed. PrettyPrint operates a process costing system, since the
manufacturing of the fabric takes place in two processes and inventory is valued on a first-in-first-out
(FIFO) basis.

Process 1: Spinning - Raw Cotton to Yarn

The raw cotton fibres are passed through a carding machine to clean the fibres
from all impurities, while producing a continuous web of fibre. The fibres are then
blended and spun into yarn. At the end of the process, the cotton is inspected, and
a 5% loss normally occurs due to the product still having some impurities. The yarn
is finally placed onto large rolling pins for transport to the weaving process.

Process 2: Weaving - Yarn to Fabric

During the weaving process two sets of yarn are interlaced to from the fabric. When the process is 50%
complete the fabric is dyed the specific colours of the Inspire Range. During the final part of the process,
when the process is 80% complete, the fabric is cut into strips, inspected, and rolled into 50-kilogram
rolls. Any pieces of fabric that is cut off while producing the finished rolls can be sold at R56 per kilogram.
On average it is expected that the off cuts will make up 2% of all input.

Results for September 2021: Process 1

During September, a total of 2 000 kilograms (kg’s) of raw cotton at a cost of R49.55 per kg was
processed in Process 1. Direct labour costs of R7 300 were paid for 72 labour hours and actual output
was 1 800kg’s. There was no opening work-in-progress at the beginning of the month, nor closing work-
in-progress at the end of the month.

The following account was prepared by the previous management accountant who was unfortunately
let go after it came to light that he lied about his tertiary education and academic qualifications.

Cost per unit:

Input cost / Output = R106 400/1 800 = R59.11

1
Seed of the cotton plant is commercially used for its oil. PrettyPrint is not aware of the fact that they can sell the
cotton seeds for R8 per kilogram.
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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

Process 1
kg R R kg R R
Direct material 2 000 R49.55 R99 100 Normal loss 100 R59.11 R5 911
Direct labour R7 300 Process B 33 R59.11 R1 951
Abnormal Loss Balancing figure R98 538
R106 400 R106 400

Results for September 2021: Process 2

At the beginning of September, the was opening WIP of 200 kg’s (40% complete) valued at R12 000.
1 800 kilograms of yarn was transferred from the spinning process to the weaving process during the
month. Colouring dye to the value of R23 520 was added. Labour costing R84 778, was used evenly
during the process and closing WIP of 250 kg’s (90% complete) remained in the process at the end of
the month. During the month of September PrettyPrint manufactured 33 rolls of material.

PrettyPaint: Universal Paint Coat (PP1)

Previously, PP1 was only manufactured for use by renovation projects worked
on by PrettyPlan but based on very positive feedback received from satisfied
customers, PrettyPaint launched this product to the retail market at the start of
July 2021. PrettyPaint knows that this segment of the retail market is extremely
competitive, and the estimated market share is therefore uncertain. This division
operates a standard absorption costing system.

Pricing policy for PP1

The management accountant has prepared the cost schedule below to assist the management of
PrettyPaint to establish the selling price for a litre of PP1. The prices included in the schedule is the
prices obtained for financial year ending June 2021:

Cost schedule
Notes R per litre of PP1
Pigment 35.25
Binder 130.00
Solvent 22.00
Packaging 5.00
Variable manufacturing overheads 9.00
Fixed manufacturing overheads 1 25.00
Less: Government subsidy 2 (105.00)
Total cost per liter 121.25

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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

Notes:
1. The fixed manufacturing overheads are allocated to products on the basis of machine hours.
These costs are not expected to change as a result of sales to external customers.

2. PrettyPaint would like to benefit from the government subsidies that are paid to incentivise
sustainable manufacturing through the Environmental and Natural Resource Management Fund
offered by the South African Government. To qualify for the subsidy, the project is new and
unique in the green economy space. Although PrettyPaint does not meet these criteria, the board
of the company has close ties with the subsidy office and is confident that this requirement will
not be imposed.

Based on the above schedule, a selling price of R200 per liter was set for a liter of PP1.

Standard costing details for financial year ending June 2021

The management accountant of PrettyPaint gathered the following information to assist with the
preparation of the annual variance report.

1. Raw material:
• The pigment provides the texture and colour of the paint. PrettyPaint imports pigment in
a liquid form from a supplier in the United States at a price of R35 250 per 1 000 litres.
• The binder used by PrettyPaint is poly vinyl acetate (white glue). This is bought from a
South African supplier at R0.13 per millilitre.
• Since PP1 is an oil-based paint, the solvent is petrochemical distillate (thinners) which is
purchased at R110 for five litres.
• These ingredients are mixed in a ratio 2:1:2 per litre of output and a loss of 10% is
expected on input. Standard input was 12 000 litres, while actual output was 10 800.
2. PrettyPaint had no opening or closing finished goods or work-in-progress for the financial year.
3. At the beginning of the year (July 2020), PrettyPaint switched to a new, local supplier of binder
whose price was 9% cheaper than the previous supplier. A total of 3 000 litres were purchased
from the new supplier and used in production.
4. There were no price changes for any of the other direct materials.
5. During the year, 6 125 litres of solvent and 3 125 litres of pigment was purchased and used in
the production process.
6. PrettyPaint regards all variances as material.
7. Apart from those arising from the information gathered by the management accountant, no other
variances arose during financial year.
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© School of Accountancy, University of the Witwatersrand
 Management Accounting and Finance III: ACCN 3007/3019/3023
Test 3 (2021)

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© School of Accountancy, University of the Witwatersrand