Question

Question: Transfer Pricing

The Battery Division of Parker Company makes a standard 12 -volt battery. The Division has the

following data:

Production capacity (number of batteries) 200,000

Selling price per battery to outsiders       $ 50

Variable costs per battery $20

Fixed costs per battery (based on capacity)   $ 7

Parker Company has a Vehicle Division that could use this battery in its forklift trucks. The Vehicle

Division is now buying 100.000 batteries per year from an outside supplier at $48 per battery.

Required:

For (a) through (d) below, assume the Battery Division can sell all of its output to outside customers at

the $50 Price.

(a). If the Vehicle Division purchases 100,000 batteries per year from the Battery Division. what price

should control the transfers?

(b). If the Battery Division meets the price that the Vehicle Division is currently paying to its outside

suppliers and sells 100.000 batteries to the Vehicle Division each year. what will be the effect on the

profits of the Battery Division. the Vehicle Division. and the company as a whole?

(c). Assume that the Battery Division can avoid $4 in variable costs, such as selling commissions. on

Intra - company sales. What are the lower limit and upper limit for a transfer price? (3 marks]

d. The Vehicle Division wants the Battery Division to supply it with 50,000 special heavy duty

batteries.

• The variable cost for each heavy duty battery would be $27.

• The Battery Division has no idle capacity

• Heavy duty batteries require more processing time than regular batteries: they would displace

75.000 regular batteries from the product line.

What should be the minimum transfer price?

For (e) through (g) below. suppose that the Battery Division has enough idle capacity to supply the

Vehicle Division's needs.

(e) . What are the lower limit and the upper limit for a transfer price?

I. Suppose that the Vehicle Division's outside suppliers drop their price to only $40 per battery. Should

the Battery Division meet this price? If the Battery Division does not meet this price, what will be the

effect on the profits of the company as a whole?

(g). What is the lowest possible transfer price the Battery Division would be willing to match with

outside suppliers? Elaborate the reasons.

Answer 1

Solution:

D)	Minimum Transfer Price
	Variable Cost incurred for the units transferred				$    27.00
	Total Contribution Margin Lost			=(50-20)* 75000/50000	$    45.00
	Minimum Transfer Price				$    72.00

Dear Student, Kindly post the second section of the question as a seperate post. The First section is done for you. Hope this helps. Use the comment box for clarifications.

A) When the supplying unit does not have the excess capacity or is operating at full capacity, the general rule is that the transfer price is equal to the market price of the product Here the price that controls the transfer is the market price/ Selling price of $50

B) If the Battery unit meets the current price of $48 per battery, then it is losing out on $2 per unit Total Amount Lost |=100000*$2 $200000 Battery Division will see a reduction in its revenue to the tune of $200000, So will the company as a whole There will no effect on the Vehicle Division as there is no change in the price its paying for the Input

C) Transfer Price Variable Cost incurred for the units transferred Add: Opportunity Cost (Contribution Margin) Minimum Transfer Price (Lower Limit) Maximum Transfer Price (Higher Limit) - Price paid to outside supplier =20-4 1=50-20 $ 16.00 $ 30.00 $ 46.00 $ 48.00