Question

Fyodor Corporation has a Parts Division that does work for other Divisions in the company as well as for outside customers. The company's Machine Division has asked the Parts Division to provide it with 11,200 special parts each year. The special parts would require $47 per unit in variable production costs. The Machine Division has a bid from an outside supplier for the special parts at $66.30 per unit. In order to have time and space to produce the special part, the Parts Division would have to cut back production of another part-the QR4 that it presently is producing. The QR4 sells for $92 per unit, and requires $46 per unit in variable production costs. Packaging and shipping costs of the QR4 are $2 per unit. Packaging and shipping costs for the new special part would be only $0.50 per unit. The Parts Division is now producing and selling 56,000 units of the QR4 each year. Production and sales of the QR4 would drop by 5% if the new special part is produced for the Machine Division. Required:

a. What is the range of transfer prices within which both the Divisions' profits would increase as a result of agreeing to the transfer of 11,200 special parts per year from the Parts Division to the Machine Division? (Round your final answers to 2 decimal places.)

b. Is it in the best interests of Fyodor Corporation for this transfer to take place?

Answer 1

Existing production-Parts division	56000
Estimated reduction	5%
	2800
Contribution statement of QR4
Sale price	92
Variable cost	46
Packaging	2
Contribution	44
Total contribution lost	2800*46
Total contribution lost	128,800
Special parts
Variable cost	47.00
Packaging	0.50
Contribution lost (128800/11200)	11.50
Relevant cost	59.00
Outside quote received	66.3
So the range of transfer price at which the profit will increase for both is 59.01 to 66.29
Since internal transfer pricing cost if less than outside quote, it is advisable to set the transfer price between
59 to 66.30 and increase the overall firm's profit