Question

Stavos Company’s screen Division manufactures a standard screen for high-definition televisions (HDTVs). The cost per screen is:

Variable cost per screen	$	122
Fixed cost per screen		27	*
Total cost per screen	$	149

*Based on a capacity of 830,000 screens per year.

Part of the Screen Division’s output is sold to outside manufacturers of HDTVs and part is sold to Stavos Company’s Quark Division, which produces an HDTV under its own name. The Screen Division charges $190 per screen for all sales.

The costs, revenue, and net operating income associated with the Quark Division’s HDTV are given below:

Selling price per unit			$	577
Variable cost per unit:
Cost of the screen	$	190
Variable cost of electronic parts		239
Total variable cost				429
Contribution margin				148
Fixed costs per unit				88	*
Net operating income per unit			$	60

*Based on a capacity of 220,000 units per year.

The Quark Division has an order from an overseas source for 4,500 HDTVs. The overseas source wants to pay only $407 per unit.

Required:

1. Assume the Quark Division has enough idle capacity to fill the 4,500-unit order. Is the division likely to accept the $407 price or to reject it?

2. Assume both the Screen Division and the Quark Division have idle capacity. Under these conditions, what is the financial advantage (disadvantage) for the company as a whole (on a per unit basis) if the Quark Division rejects the $407 price?

3. Assume the Quark Division has idle capacity but that the Screen Division is operating at capacity and could sell all of its screens to outside manufacturers. Under these conditions, what is the financial advantage (disadvantage) for the company as a whole (on a per unit basis) if the Quark Division accepts the $407 unit price.

Answer 1

1. Quark division will reject the offer as its variable cost of production is $429, and the offer price is $407 which will result in a loss of $22 per unit.

2.

The Screen Division can sell the screen at any price between $122 and $149 which will enable it to recover some of the fixed costs as it has spare capacity.

Let us take a transfer price of say $149 per unit.

This will enable screen division to recover $121,500 ($27 x 4,500) of the fixed costs.

With this transfer price of $149 the Quark division's variable cost will be $388 per unit ($149+$239) .

If the offer is accepted Qauark division can recover $85,500($19 x 4,500) of its fixed costs.

Financial advantage from accepting the offer will be $207,000 ($121,500 + $85,500).

3. As the screen division is working at full capacity , the minimum transfer price will be $190, as this will be the price which it will get in the market.

This will not result in any profit on the special order as there is no change in the operations of the Screen division.

With this price Quark division will lose $99,000 9$22 x 4,500) if it acepts the offer.

The total financial disadvantage for the company will be $99,000.