Question

Cran Benefit Products is a cranberry cooperative that operates two​ divisions: a harvesting division and a processing division.​ Currently, all of​ harvesting's output is converted into cranberry juice by the processing​ division, and the juice is sold to large beverage companies that produce cranberry juice blends. The processing division has a yield of  1,900 litres of juice per​ 1,000 kilograms of cranberries. Cost and market price data for the two divisions are as​ follows:

Harvesting Division

Variable cost per kilogram of cranberries

$0.1400

Fixed cost per kilogram of cranberries

$0.20

Selling price per kilogram of cranberries

$0.72

Processing Division

Variable processing cost per litre of juice produced

$0.32

per litre

Fixed cost per litre of juice produced

$0.35

per litre

Selling price per litre of juice produced

$1.85

per litre

Required:

1.	Compute Cran Benefit​'s operating income from harvesting 460,000 kilograms of cranberries during June2015 and processing them into juice.
2.	Cran Benefit rewards its division managers with a bonus equal to 66​% of operating income. Compute the bonus earned by each division manager in June 2015 for each of the following​ transfer-pricing methods:
	a.	200​% of full cost
	b.	Market price
3.	Which​ transfer-pricing method will each division manager​ prefer? How might Cran Benefit resolve any conflicts that may arise on the issue of transfer​ pricing?

Answer 1

1.

Kilograms of cranberries harvested	460,000
Litres of juice processed	874000	[460,000*1900/1000]
Revenues		1616900	[874000*1.85]
Costs:
Harvesting Division
Variable costs	64400		[460,000*0.14]
Fixed costs	92000		[460,000*0.2]
Total Harvesting Division costs		156400
Processing division
Variable costs	279680		[874,000*0.32]
Fixed costs	305900		[874,000*0.35]
Total Processing Division costs		585580
Total costs		741980
Operating income		874920

2.

	200% of full costs	Market Price
Transfer price per kilogram	0.68	0.72
1. Harvesting Division
Revenues	312800	331200
Costs
Division variable costs	64400	64400
Division fixed costs	92000	92000
Total division costs	156400	156400
Division operating income	156400	174800
Harvesting Division manager's bonus (6% of operating income)	9384	10488
2. Processing Division
Revenues	1616900	1616900
Costs
Transferred-in costs	312800	331200
Division variable costs	279680	279680
Division fixed costs	305900	305900
Total division costs	898380	916780
Division operating income	718520	700120
Processing Division manager’s bonus (6% of operating income)	43111.20	42007.20

3. Harvesting division manager will prefer Market price

Processing division manager will prefer 200% of full costs method

Cran resolve any conflicts that may arise on the issue of transfer​ pricing:

1. Allocation of bonus based on overall profits in addition to divisional profits.

2. Let the division managers negotiate the transfer price between themselves.

3. Use of dual transfer price.