Asked by Cardian Williams on May 20, 2024
Verified
Division Y has asked Division X of the same company to supply it with 5,000 units of part L763 this year to use in one of its products. Division Y has received a bid from an outside supplier for the parts at a price of $33.00 per unit. Division X has the capacity to produce 20,000 units of part L763 per year. Division X expects to sell 18,000 units of part L763 to outside customers this year at a price of $34.00 per unit. To fill the order from Division Y, Division X would have to cut back its sales to outside customers. Division X produces part L763 at a variable cost of $25.00 per unit. The cost of packing and shipping the parts for outside customers is $2.00 per unit. These packing and shipping costs would not have to be incurred on sales of the parts to Division Y.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 5,000 parts this year from Division Y to Division X?b. Is it in the best interests of the overall company for this transfer to take place? Explain.
Transfer Prices
Prices charged for the sale of goods or services between departments or subdivisions of the same company.
Variable Cost
Expenses that fluctuate in direct proportion to the production or sales volume, including the costs of raw materials and direct labor.
Outside Supplier
A company or entity that provides goods or services to another company but is not part of that company's corporate structure.
- Analyze the impact of internal transactions on divisional and overall company profitability.
- Understand the concept of transfer pricing and its impact on divisional profitability.
Verified Answer
Therefore, Transfer price > $25.00 + $4.20 = $29.20.From the viewpoint of Division X, the transfer price must be less than the cost of buying the units from the outside supplier. Therefore,Transfer price < $33.00.Combining the two requirements, we get the following range of transfer prices:$29.20 < Transfer price < $33.00.b.Yes, the transfer should take place. From the viewpoint of the entire company, the cost of transferring the units within the company is $29.20, but the cost of purchasing them from the outside supplier is $33.00. Therefore, the company's profits increase on average by $3.80 for each of the special parts that is transferred within the company.
Learning Objectives
- Analyze the impact of internal transactions on divisional and overall company profitability.
- Understand the concept of transfer pricing and its impact on divisional profitability.
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