Question

Transfer Pricing, Idle Capacity

Mouton & Perrier, Inc., has a number of divisions that produce liquors, bottled water, and glassware. The Glassware Division manufactures a variety of bottles that can be sold externally (to soft-drink and juice bottlers) or internally to Mouton & Perrier’s Bottled Water Division. Sales and cost data on a case of 24 basic 12-ounce bottles are as follows:

Unit selling price	$3.25
Unit variable cost	$1.10
Unit product fixed cost*	$0.60
Practical capacity in cases	540,000
*$324,000/540,000

During the coming year, the Glassware Division expects to sell 410,000 cases of this bottle. The Bottled Water Division currently plans to buy 111,260 cases on the outside market for $3.25 each. Ellyn Burridge, manager of the Glassware Division, approached Justin Thomas, manager of the Bottled Water Division, and offered to sell the 111,260 cases for $3.19 each. Ellyn explained to Justin that she can avoid selling costs of $0.12 per case by selling internally and that she would split the savings by offering a $0.06 discount on the usual price.

Required:

1. What is the minimum transfer price that the Glassware Division would be willing to accept? Round to the nearest cent.
$ per unit

What is the maximum transfer price that the Bottled Water Division would be willing to pay? Round to the nearest cent.
$ per unit

Should an internal transfer take place?
Yes

What would be the benefit (or loss) to the firm as a whole if the internal transfer takes place? When required, round your answer to the nearest dollar.
Benefit  $

2. Suppose Justin knows that the Glassware Division has idle capacity. Do you think that he would agree to the transfer price of $3.19?
No

Suppose he counters with an offer to pay $2.75. If you were Ellyn, would you be interested in this price?
Yes

3. Suppose that Mouton & Perrier’s policy is that all internal transfers take place at full manufacturing cost. What would the transfer price be? Round to the nearest cent.
$ per unit

Would the transfer take place?
Yes

Answer 1

ans 1
Minimum transfer price Glassdivision will accept as it has idle capacity hence the relaent price is the variable cost which will be incurred
(1.1-.12)	0.98
The maximun transfer price for water division is $3.25	$3.25
which it is paying to outsider
Yes , it should be accepted
Total benefit is 111260*(3.25-.98)	252560
ans 2
Justin wont agree as he knaows that he can get at lesser price	No
Ellyn would be interest in $2.75 as his incremental cost is $.98 and he has idle capacity hence there is no harm is accepting at this price	Yes
ans 3
Full manufacturing cost is
Variable manufacturing cost+fixed cost per unit
(1.1-.12)+.6	1.58
Yes the transfer will take place .
If any doubt please comment