QUESTION 2 Minimum transfer price = variable cost + opportunity cost (lost contribution) Maximum transfer price = market price

+ additional costs associated with transfer Only transfer if the minimum transfer price < maximum transfer price

DIVISION A Variable cost Market price Maximum transfer price = $400 Minimum transfer price = $240 + $160 240.00 400.00 Division B will not buy from A at more than $400 $160 is lost contribution from not selling on the open market

a) there is no unused capacity - all frames produced can be sold in the open market so no transfers should be made. b) minimum transfer price = $400 c) excess capacity = 1,000 - 800 = 200 200 units available for sale to Division B Division B requires 500 units Maximum transfer price Mimimum transfer price Variable cost Opportunity cost $ 400.00

$ 240.00 96.00 lost contribution = $160 per unit x 300 units taken f $ 336.00

the open market

fers should be made.

60 per unit x 300 units taken from external market = $48,000 to be spread over 500 units ordered

QUESTION 3 TRADITIONAL MATERIALS 36.00 10.50 10.50 12.50 69.50 Wastage Total cost Using cost-plus approach Selling price 69.50 CHEAPER MATERIALS 31.25 10.50 10.50 14.00 66.25 3.49 69.74

PRODUCT COST Direct materials Direct labour Variable overhead Fixed overhead

104.25

104.61

at these prices demand is going to be less than 15,00

Using the contribution margin approach TRADITIONAL MATERIALS Direct materials Direct labour Variable overhead Variable costs before wastage Wastage Total variable cost 36.00 10.50 10.50 57.00 57.00 CHEAPER MATERIALS 31.25 10.50 10.50 52.25 2.75 55.00

Analysis of traditional material Price Variable cost Contribution per unit 80.00 57.00 23.00 84.00 57.00 27.00 88.00 57.00 31.00 90.00 57.00 33.00 92.00 57.00 35.00

Demand (In units) Total contribution

25,000 575,000

23,000 621,000

21,000 651,000

20,000 660,000

19,000 665,000

Analysis of cheaper material Price Variable cost Contribution per unit Demand (In units) Total contribution Other fixed costs Operating income 80.00 55.00 25.00 25,000 625,000 (30,000) 595,000 84.00 55.00 29.00 23,000 667,000 (30,000) 637,000 88.00 55.00 33.00 21,000 693,000 (30,000) 663,000 90.00 55.00 35.00 20,000 700,000 (30,000) 670,000 92.00 55.00 37.00 19,000 703,000 (30,000) 673,000

oing to be less than 15,000

96.00 57.00 39.00

100.00 57.00 43.00

17,000 663,000

15,000 645,000

96.00 55.00 41.00 17,000 697,000 (30,000) 667,000

100.00 55.00 45.00 15,000 675,000 (30,000) 645,000

THE WHOLE COMPANY Rod no outside competition used market based method to determine price arm's length price sales/prod capacity 450.00 21,000 26,000 excess capacity

5,000

Sales Direct materials Direct labor Variable overhead Contribution Fixed overhead Operating profit 175 75 50

450

(300) 150 (90) 60

Champ

possible long term contract of 10400 max price Q-32 Direct materials Direct labor Variable overhead Contribution Fixed overhead Operating profit 414 100 50 35 650

excess capacity

(599) 51 (50) 1

a)

Champ's maximum transfer price

414 Maximum transfer price = market price + addition

At the market price of $450, Champ will make a loss of $35 on each unit Since both divisions are being run as profit centres, the manager of the Champ division would not have any motivation to produce this special order unless he makes some profit.

At a transfer price of $414, he makes $1 in profit on each unit

b)

Rod's minimum transfer price Variable cost Opportunity cost

300 78 lost contribution = $150 per unit x 5,400 units ta

378 Minimum transfer price = variable cost + opportu

c)

Reduced selling price sales/prod capacity

427.50 26,000 26,000 no excess capacity

At reduced price contribution = Total profit

If transfers made to Champ at original price

external internal 15,600 10,400 x x 150 78 810,000 10,400

Rod's contribution Champ's contribution

2,340,000 87 x

Contribution is maximised if the internal transfers are made and both managers will be rewarded and will contribu

5,000

nsfer price = market price + additional costs associated with transfer

the Champ division would akes some profit.

ion = $150 per unit x 5,400 units taken from external market = $810,000 to be spread over 10,400 units ordered

nsfer price = variable cost + opportunity cost (lost contribution)

128 3,315,000

Total 26,000

3,150,000 906,000 4,056,000 New minimum transfer price if reduction is made 300 128 428

s will be rewarded and will contribute towards overall profitability.