Question

Memo Assignment #4

Instructions: This will be done in a professional memo format with complete sentences that explain your process and conclude in a recommendation. I would expect the memo to be no less than one full page and no more than four pages. The goal is two-fold: the professional recommendations AND the appropriate presentation.

Heavenly Scents was founded by Riley Williams when she bought Bund Farm in 2015. Heavenly Scents has two departments, a harvesting department and a processing department. Currently, all of the harvesting department’s output goes to the processing department for extraction of the oils, and the oils are then sold to Frutarom (a division of IFF, a major flavor and fragrance supplier).  The processing division averages a yield of 500 milliliter (ml) of oils for each 1000 pounds (lb) of source materials (flowers and other plant materials). Cost and market data for the two divisions are as follows:

Harvesting (led by Jack Brown)		Processing (led by Jill Smith)
Average variable cost per pound (lb) of source material	$0.10	Average variable cost per milliliter (ml) of oil	$0.18
Fixed cost per lb of source material	$0.30	Fixed cost per ml of oil	$0.35
Selling price per lb of unprocessed source material to outside market	$0.68	Selling price per milliliter of oil to Frutarom	$2.45

As the new accountant, you have been tasked with determining several items and with making some suggestions:

1. What is the operating income for the 2020 growing season from the estimated harvest of 480,000 pounds of source materials and processing it for final sale to Frutarom?
2. Heavenly Scents rewards its division managers with a bonus equal to 6% of their division’s operating income. Compute the bonus earned by each division manager for the 2020 growing season for each of two transfer pricing policies, a) 225% of full cost and b) market cost.
3. Which transfer-pricing method will each division manager prefer? Give some suggestions on how Heavenly Scents could resolve or reduce transfer pricing and bonus compensation conflicts?

You need not show every detail of your calculations, keep this at a fairly high level, but still give the requested details. Remember the harvest weight is an estimate, so don’t give figures to the penny because that makes them seem more accurate that they really are - implausibly exact figures give the appearance of certainty.

Answer 1

The Harvesting divison manager will prefer 225 percent of cost as transfer price because the sales revenue from 225 percent of cost will be 0.9$ ($.4*225%) as sales revenue However if he accepts the market price the sales revenue per pound from his divison will be $0.68.

The Processing division will be at max ready to pay the market price of 0.68$ per lb but not The principle of cost plus 225 percent

The ideal transfer price shall be between $.04>TP<$0.68 so that it will be rewarding to both the divisons.