Question

In each of the cases below, assume Division X has a product that can be sold either to outside customers or to Division Y of the same company for use in its production process. The managers of the divisions are evaluated based on their divisional profits.

profits.

	Case
		A		B
Division X:
Capacity in units		90,000		106,000
Number of units being sold to outside customers		90,000		81,000
Selling price per unit to outside customers	$	54	$	30
Variable costs per unit	$	28	$	13
Fixed costs per unit (based on capacity)	$	7	$	6
Division Y:
Number of units needed for production		25,000		25,000
Purchase price per unit now being paid to an outside supplier	$	50	$	26

1. Refer to the data in case A above. Assume in this case that $1 per unit in variable selling costs can be avoided on intracompany sales.

a. What is the lowest acceptable transfer price from the perspective of the selling division?

b. What is the highest acceptable transfer price from the perspective of the buying division?

c. What is the range of acceptable transfer prices (if any) between the two divisions? If the managers are free to negotiate and make decisions on their own, will a transfer probably take place?

2. Refer to the data in case B above. In this case, there will be no savings in variable selling costs on intracompany sales.

a. What is the lowest acceptable transfer price from the perspective of the selling division?

b. What is the highest acceptable transfer price from the perspective of the buying division?

c. What is the range of acceptable transfer prices (if any) between the two divisions? If the managers are free to negotiate and make decisions on their own, will a transfer probably take place?

Answer 1

Solution 1:

As division excess is operating at full capacity, therefore lowest acceptable transfer price from the perspective of the selling division = Regular selling price to outside customer - Saving in variable selling cost = $54 - 1 = $53

Highest acceptable transfer price from the perspective of the buying division = Purchase price per unit now being paid
to an outside supplier = $50

Range of acceptable transfer prices could not established as lowest acceptable transfer price of selling division is higher than highest acceptable transfer price of buying division.

This transfer probably will not take place.

Solution 2:

As division X is having spare capacity of 25000 units, therefore lowest acceptable transfer price from the perspective of the selling division = Regular Variable cost per unit - Saving in variable selling cost = $13 - $1 = $12

Highest acceptable transfer price from the perspective of the buying division = Purchase price per unit now being paid
to an outside supplier = $26

Range of acceptable transfer prices (if any) between the two divisions = $12 to $26

If the managers are free to negotiate and make decisions on their own, this transfer will probably take place.