Question

Collyer Products Inc. has a Valve Division that manufactures and sells a standard valve as follows:

Capacity in units		300,000
Selling price to outside customers on the intermediate market		$ 25
Variable costs per unit		$ 15
Fixed costs per unit (based on capacity)		$   12

  

The company has a Pump Division that could use this valve in the manufacture of one of its pumps. The Pump Division is currently purchasing 14,000 valves per year from an overseas supplier at a cost of $24 per valve.

Required:

1.	Assume that the Valve Division has ample idle capacity to handle all of the Pump Division's needs. What is the acceptable range, if any, for the transfer price between the two divisions?

    

2.	Assume that the Valve Division is selling all that it can produce to outside customers on the intermediate market. What is the acceptable range, if any, for the transfer price between the two divisions?

  

3.	Assume again that the Valve Division is selling all that it can produce to outside customers on the intermediate market. Also assume that $3 in variable expenses can be avoided on transfers within the company, due to reduced selling costs. What is the acceptable range, if any, for the transfer price between the two divisions?

  

4.

Assume the Pump Division needs 40,000 special high-pressure valves per year. The Valve Division's variable costs to manufacture and ship the special valve would be $14 per unit. To produce these special valves, the Valve Division would have to reduce its production and sales of regular valves from 300,000 units per year to 240,000 units per year. As far as the Valve Division is concerned, what is the lowest acceptable transfer price? (Round your answer to 2 decimal places.)

Answer 1

1.

Since the Valve Division has idle capacity, it does not have to give up any outside sales to take on the Pump Division’s business. Applying the formula for the lowest acceptable transfer price from the viewpoint of the selling division, we get:

Transfer price >= $15 + $0/14000 = $ 15.

The Pump Division would be unwilling to pay more than $24, the price it is currently paying an outside supplier for its valves. Therefore, the transfer price must fall within the range:

$15 ≤ Transfer price ≤ $24

2.

Since the Valve Division is selling all that it can produce on the intermediate market, it would have to give up some of these outside sales to take on the Pump Division’s business. Thus, the Valve Division has an opportunity cost that is the total contribution margin on lost sales:

Transfer price >= $15 + ($25–$15)14,000/14,000

= $15 + $10 = $25.

Since the Pump Division can purchase valves from an outside supplier at only $24 per unit, no transfers will be made between the two divisions.

3.

Applying the formula for the lowest acceptable price from the viewpoint of the selling division, we get:

Transfer price >= ($15-$3) + ($25-$15)14,000/14,000

= $12 + $10 = $22.

In this case, the transfer price must fall within the range:

$22 ≤ Transfer price ≤ $24

4.

To produce the 40,000 special valves, the Valve Division will have to give up sales to outside customers of 54,000 regular valves. Applying the formula for the lowest acceptable price from the viewpoint of the selling division, we get

Transfer price >= $14 + ($25–$15)54000/40000

= $14 + $13.5 = $27.5