Question

Fyodor Corporation has a Parts Division that does work for other Divisions in the company as well as for outside customers. The company's Machine Division has asked the Parts Division to provide it with 6,400 special parts each year. The special parts would require $23 per unit in variable production costs.

The Machine Division has a bid from an outside supplier for the special parts at $33.90 per unit. In order to have time and space to produce the special part, the Parts Division would have to cut back production of another part-the QR4 that it presently is producing. The QR4 sells for $44 per unit, and requires $22 per unit in variable production costs. Packaging and shipping costs of the QR4 are $2 per unit. Packaging and shipping costs for the new special part would be only $0.50 per unit. The Parts Division is now producing and selling 32,000 units of the QR4 each year. Production and sales of the QR4 would drop by 5% if the new special part is produced for the Machine Division.

Required:

a. What is the range of transfer prices within which both the Divisions' profits would increase as a result of agreeing to the transfer of 6,400 special parts per year from the Parts Division to the Machine Division? (Round your final answers to 2 decimal places.)

b. Is it in the best interests of Fyodor Corporation for this transfer to take place?

• Yes

• No

Answer 1

Answer a: Range of transfer prices : $28.50 ≤ Transfer price ≤ $33.90

Explanation :

From the Point view of Part Division (Minimum transfer price) :

Per unit contribution margin for QR4 = Selling price - Variable cost - Packaging and shipping cost

= $44 - $22 - $2 = $20   

Per unit opportunity cost = [Per unit contribution margin for QR4 * (Units sold of OR4 * 5 %)] / 6,400 special parts

= [$20 * (32,000 units * 5 %)] / 6,400 units = $5    

Minimum transfer price :

Per unit variable production costs for special part + Per unit shipping costs for the new special part + Per unit opportunity cost

= $23 + $0.50 + $5 = $28.50   

From the Point view of Machine Division (Maximum transfer price) :

Maximum price that Machine Division is ready to pay to Part Division is the per unit cost of special part that has a bid from an outside supplier.

Maximum transfer price = $33.90

Range of transfer prices = $28.50 ≤ Transfer price ≤ $33.90.

Answer b : Yes

Reason : The overall per unit cost for Fyodor Corporation for transferring units is $28.50 which is less than buying units from outside supplier ie $33.90 by $5.4 ($33.90 - $28.50).