Question

Mountain Industries operates a Manufacturing Division and an Assembly Division. Both divisions are evaluated as profit centers. Assembly buys components from Manufacturing and assembles them for sale. Manufacturing sells many components to third parties in addition to Assembly. Selected data from the two operations follow:

	Manufacturing	Assembly
Capacity (units)	215000	115000
Sales price *	$ 108	$ 375
Variable costs†	$ 48	$ 150
Fixed costs	$ 10150000	$ 6150000

* For Manufacturing, this is the price to third parties.

† For Assembly, this does not include the transfer price paid to Manufacturing.

  

Required: 1. Current production levels in Manufacturing are 115000 units. Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend? Enter your answer as whole dollars. Do not enter $ or commas.

2. Suppose Manufacturing is operating at full capacity when Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend?

3. Suppose Manufacturing is operating at 205000 units when Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend?

Answer 1

1	Current production levels in Manufacturing are 115000 units. Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend?
	a.The Manufacturing Division has 215000-115000 = 100,000 units of spare capacity. So the lowest transfer price for 21500 units would be as follows:-
	Transfer price	=	Variable cost
	Variable Cost per unit		$                                                                                       48
	Transfer price for 21500 units recommended		$                                                                                       48
2	Suppose Manufacturing is operating at full capacity when Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend?
	The Manufacturing Division has no spare capacity. So in order to transfer 21500 units to Assembly Division, Manufacturing Division has to sacrifice its outside sale. So the lowest transfer price for 21500 units would be as follows:-
	Transfer price	=	Variable cost + Contribution Margin to be lost
	Selling Price per unit		$                                                                                                        108.00
	Less: Variable cost per unit		$                                                                                                          48.00
	Contribution Margin to be lost		$                                                                                                          60.00
	Variable Cost per unit to be incurred on 21500 units		$                                                                                                          48.00
	Contribution Margin to be lost		$                                                                                                          60.00
	Transfer price for 21500 units recommended		$                                                                               108.00
3	Suppose Manufacturing is operating at 205000 units when Assembly requests an additional 21500 units to produce a special order. What transfer price would you recommend?
	a.The Manufacturing Division has 215000-205000 = 10,000 units of spare capacity. So the lowest transfer price for 10000 units would be as follows:-
	Transfer price	=	Variable cost
	Variable Cost per unit		$                                                                                       48
	Transfer price for 10000 units recommended		$                                                                                       48
	b. For balance 11500 units, Manufacturing Division has to sacrifice its outside sale. So the lowest transfer price for 11500 units would be as follows:-
	Transfer price	=	Variable cost + Contribution Margin to be lost
	Selling Price per unit		$                                                                                                        108.00
	Less: Variable cost per unit		$ 48.00
	Contribution Margin to be lost		$ 60.00
	Variable Cost per unit to be incurred on 11500 units		$ 48.00
	Contribution Margin to be lost		$ 60.00
	Transfer price for balance 11500 units recommended		$                                                                               108.00

Feel free to ask any clarification, if required. Please provide feedback by thumbs up, if satisfied. It will be highly appreciated. Thank you.