FRIDAY 9 JUNE 2006
Section A – BOTH questions are compulsory and MUST be attempted
1 The Great Western Cake Company (GWCC) is a well-established manufacturer of specialist flour confectionery
products, including cakes. GWCC sells its products to national supermarket chains. The company’s success during
recent years is largely attributable to its ability to develop innovative products which appeal to the food selectors within
national supermarket chains.
The marketing department of Superstores plc, a national supermarket chain has asked GWCC to manufacture a cake
known as the ‘Mighty Ben’. Mighty Ben is a character who has recently appeared in a film which was broadcast
around the world. The cake is expected to have a minimum market life of one year although the marketing department
consider that this might extend to eighteen months.
The management accountant of GWCC has collated the following estimated information in respect of the Mighty Ben
(1) Superstores plc has decided on a launch price of ￡20·25 for the Mighty Ben cake and it is expected that this
price will be maintained for the duration of the product’s life. Superstores plc will apply a 35% mark-up on the
purchase price of each cake from GWCC.
(2) Sales of the Mighty Ben cake are expected to be 100,000 units per month during the first twelve months.
Thereafter sales of the Mighty Ben cake are expected to decrease by 10,000 units in each subsequent month.
(3) Due to the relatively short shelf-life of the Mighty Ben cake, management has decided to manufacture the cakes
on a ‘just-in-time’ basis for delivery in accordance with agreed schedules. The cakes will be manufactured in
batches of 1,000. Direct materials input into the baking process will cost ￡7,000 per batch for each of the first
three months’ production. The material cost of the next three months’ production is expected to be 95% of the
cost of the first three months’ production. All batches manufactured thereafter will cost 90% of the cost of the
second three months’ production.
(4) Packaging costs will amount to ￡0·75 per cake. The original costs of the artwork and design of the packaging
will amount to ￡24,000. Superstores plc will reimburse GWCC ￡8,000 in the event that the product is
withdrawn from sale after twelve months.
(5) The design of the Mighty Ben cake is such that it is required to be hand-finished. A 75% learning curve will
apply to the total labour time requirement until the end of month five. Thereafter a steady state will apply with
labour time required per batch stabilising at that of the final batch in month five. The labour requirement for the
first batch of Mighty Ben cakes to be manufactured is expected to be 6,000 hours at ￡10 per hour.
(6) A royalty of 5% of sales revenue (subject to a maximum royalty of ￡1·1 million) will be payable by GWCC to the
owners of the Mighty Ben copyright.
(7) Variable overheads are estimated at ￡3·50 per direct labour hour.
(8) The manufacture of the Mighty Ben cake will increase fixed overheads by ￡75,000 per month.
(9) In order to provide a production facility dedicated to the Mighty Ben cake, an investment of ￡1,900,000 will be
required and this will be fully depreciated over twelve months.
(10) The directors of GWCC require an average annual return of 35% on their investment over 12 months and
(11) Ignore taxation and the present value of cash flows.
Note: Learning curve formula:
y = axb
where y = average cost per batch
a = the cost of the initial batch
x = the total number of batches
b = learning index (= -0·415 for 75% learning rate)