Question

In: Accounting

Weller Industries is a decentralized organization with six divisions. The company’s Electrical Division produces a variety...

Weller Industries is a decentralized organization with six divisions. The company’s Electrical Division produces a variety of electrical items, including an X52 electrical fitting. The Electrical Division (which is operating at capacity) sells this fitting to its regular customers for $8.30 each; the fitting has a variable manufacturing cost of $4.70.

The company’s Brake Division has asked the Electrical Division to supply it with a large quantity of X52 fittings for only $6.30 each. The Brake Division, which is operating at 50% of capacity, will put the fitting into a brake unit that it will produce and sell to a large commercial airline manufacturer. The cost of the brake unit being built by the Brake Division follows:

Purchased parts (from outside vendors) $ 23.60
Electrical fitting X52 6.30
Other variable costs 14.43
Fixed overhead and administration 8.40
Total cost per brake unit $ 52.73

Although the $6.30 price for the X52 fitting represents a substantial discount from the regular $8.30 price, the manager of the Brake Division believes the price concession is necessary if his division is to get the contract for the airplane brake units. He has heard “through the grapevine” that the airplane manufacturer plans to reject his bid if it is more than $54 per brake unit. Thus, if the Brake Division is forced to pay the regular $8.30 price for the X52 fitting, it will either not get the contract or it will suffer a substantial loss at a time when it is already operating at only 50% of capacity. The manager of the Brake Division argues that the price concession is imperative to the well-being of both his division and the company as a whole.

Weller Industries uses return on investment (ROI) to measure divisional performance.

1A. Lowest acceptable transfer price __________

1b. would you supply the x52 fitting to the brake divison for $6.30 each as requested ? _______ yes or no

2. financial advantage (disadvantage) on per unit basis ___________

3. higest acceptable transfer price ___________

Solutions

Expert Solution

1A. Lowest acceptable transfer price
Since the Electrical Division is operating at capacity, it has no spare capacity. If it has to sell any number of units to the Brake Division, it will have to sacrifice the contribution for those units from sales to external customers.
Hence, the lowest transfer price that the Electrical Division would accept would be the price at which it is already selling the units i.e. $8.30 each.
1B. Would the Electrical Division supply the X52 fitting to the Brake Divison for $6.30 each as requested?
Since the lowest transfer price at which the Electrical Division would sell the units to the Brake Division is $8.30 each, it would not agree to supply the X52 fitting to the Brake Division for $6.30 each.
2. Financial advantage (disadvantage) on per unit basis
Particulars Amount per unit
Electrical Division - Sales revenue lost -$8.30
Brake Division - Sales revenue increase $54.00
Variable cost to be incurred by Brake Division per unit:
Purchased parts (from outside vendors) -$23.60
Other variable costs -$14.43
Financial advantage to the company per unit $7.67
Note: Fixed cost has been ignored because it is in the nature of sunk cost, since it will be incurred whether or not the units are transferred.
3. Highest acceptable transfer price
The highest acceptable transfer price for the Brake Division would be the the difference between the sales price and the variable costs other than the fitting X52 as calculated below:
Highest transfer price = $54 - ($23.60 + $14.43) = $15.97

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