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Transfer Pricing Analysis for Divisions

The Electrical Division of SLOWCAR Company has excess production capacity and can produce batteries for $72 per unit, well below their normal cost of $114 per unit. The Assembly Division has offered to purchase 90,000 batteries for $104 each. It would benefit the overall company to have the Electrical Division accept this internal transfer, saving $5.22 million per year compared to the Assembly Division purchasing batteries externally for $130 each. The minimum transfer price should be $72 per battery and the maximum should be $130 per battery.

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Wasik Abdullah Momit
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146 views3 pages

Transfer Pricing Analysis for Divisions

The Electrical Division of SLOWCAR Company has excess production capacity and can produce batteries for $72 per unit, well below their normal cost of $114 per unit. The Assembly Division has offered to purchase 90,000 batteries for $104 each. It would benefit the overall company to have the Electrical Division accept this internal transfer, saving $5.22 million per year compared to the Assembly Division purchasing batteries externally for $130 each. The minimum transfer price should be $72 per battery and the maximum should be $130 per battery.

Uploaded by

Wasik Abdullah Momit
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOC, PDF, TXT or read online on Scribd

Transfer Price (in-class problem)

The Assembly Division of SLOWCAR Company has offered to


purchase 90,000 batteries from the Electrical Division (ED) for $104 per
unit. At a normal volume of 250,000 batteries per year, production costs
per battery are:
Direct materials
$40
Direct labor
20
Variable factory overhead
12
Fixed factory overhead
42
Total
$114
The Electrical Division has been selling 250,000 batteries per year to
outside buyers for $136 each. Capacity is 350,000 batteries/year. The
Assembly Division has been buying batteries from outside suppliers for
$130 each.
Should the Electrical Division manager accept the offer? Will an
internal transfer be of any benefit to the company?
***************************************************
ED manager should accept. There is surplus capacity. So the relevant
costs to the ED is the VC = $72 / battery.
The increased CM to the ED would be 90,000*($104 72) = $2.88 M
The company would be better off with an internal transfer. Currently
paying $130 for batteries that could be made internally for incremental
cost of $72. The company would save 90,000 * (130 72) = $5.22 M
per year!
The TP range = max. of $130 to low of $72
What if there is no excess capacity?? (max. = $130, but min.= $136)

Transferprice:example2

[Link]=incremental(outlay)costs/unittopointoftransfer+
opportunitycost/unittothesupplydivision.
[Link],theSupplyDivisionandtheBUY
[Link],theBUYDivisionbuysapart(3,000units)fromSupplyfor$12.00
[Link]$[Link]
claimsthatshecannotaffordtogothathigh,asitwilldecreasethedivisionsprofitto
[Link]$[Link]
figuresforSupplyare:
DirectMaterials$3.25
DirectLabor4.75
VariableOverhead0.60
FixedOverhead1.20
[Link],itwillbeabletoavoidonethirdofthe
[Link]
theunitsfromSupplyorstarttopurchasetheunitsfromtheoutsidesupplier?(Fromthe
standpointofSFasawhole).
(Whatisthemin.&[Link]?)
[Link]=$14.00/unit(mostBUYiswillingtopay,marketprice)
[Link]=$8.60+(1/3*1.20)=$9.00
MAX>MINsotransferinternallywouldhappenandbeinthebestinterestsofSF!

Now,assumethatSupplycouldusethefacilitiescurrentlyusedtoproducethe3,000
unitsforBUYtomake5,[Link]
$16.00andhasthefollowingcosts:
DirectMaterials$3.00
DirectLabor4.30
VariableOverhead5.40
[Link].&[Link]?
SupplyVC=$8.60+lostCM
LostCM=$1612.70=$3.30/unitofnewproduct=$16,500totallostCM
OR$16,500/3,000unitstransferredtoBUY=$5.50/unitmadeforBUY
[Link]=$14.00
[Link]=$8.60+$5.50=$14.10

[Link]?Why?

SFisbetteroffforSUPPLYtomakenewproductandBUYtogetpartfrom
outside.

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