Question

Affordable art company has a print division that is currently producing 100,000 prints per year but has capacity of 150,000 prints. The variable costs of each print are $28, and the annual fixed costs are $120,000. The prints sell for $40 in the open market. The company's Retail Division wants to buy 50,000 prints at $22 each. The Print Division manager refuses the order because the prices is below variable cost. The Retail Division manager argues that the order should be accepted because it will lower the fixed cost per print from $12 to $8. a. Should the retail division order be accepted? Why or Why not? From the viewpoints of the print division and the company, should the order be accepted if the manager of the retail division intends to sell each print in the outside market for $37 after incurring additional costs of $8 per print? c. What action should the company take, assuming it believes in divisional autonomy? PLEASE BE AS DETAILED AS POSSIBLE

Answer 1

A. Retail division order should not be accepted. Because printing division must recover atleast the marginal cost (i.e variable cost of $28) by transferring it's prints. Retail division is offering just $22 , which is below the marginal cost and hence printing division will incurr loss of $6 per unit. So the offer should not be accepted.

To accept the offer minimum price offered should be it's marginal cost i.e $28 per unit.

B. If further selling price=$37 per unit

Additional cost= $8 per unit

Cost to retail division=$ 22 per unit

Benefit to retail division= $7 per unit

Whereas

Transfer price of printing division=$22 per unit

Marginal cost of printing division=$ 28 per unit

Loss to printing division= $ 6 per unit

Decision from viewpoint of:

Print division: offer should not be accepted as it results in to division loss of $6 per unit

Company: offer should be accepted as it results in overall benefit of the company.

Loss of printing division= $ 6 per unit

Profit of retail division=$ 7 per unit

Net benefit= $1 per unit to the company

Total benefit= $1*50000 units=$50000

C. Since the company believes in divisional autonomy , offer should not be accepted as it results in loss to print division and would affect the income statement of that division.

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