Liapis Products, Inc., has a Valve Division that manufactures and sells a number of products, including a standard valve that could be used by another division, the Pump Division, in one of its products. Data concerning that valve appear below:?Capacity in units66,000?Selling price to outside customers$66?Variable cost per unit$38?Fixed cost per unit (based on capacity)$22The Pump Division is currently purchasing 12,000 of these valves per year from an overseas supplier at a cost of $62 per valve.Required:a. Assume that the Valve Division has enough idle capacity to handle all of the Pump Division's needs. What is the acceptable range, if any, for the transfer price between the two divisions?b. Assume that the Valve Division is selling all of the valves it can produce to outside
customers. What is the acceptable range, if any, for the transfer price between the two divisions?c. Assume again that the Valve Division is selling all of the valves it can produce to outside customers. Also assume that $7 in variable expenses can be avoided on transfers within the company due to reduced shipping and selling costs. What is the acceptable range, if any, for the transfer price between the two divisions?
What will be an ideal response?
a. From the perspective of the selling division, profits would increase as a result of the transfer if and only if:
Transfer price > Variable cost per unit + (Total contribution margin on lost sales ÷ Number of units transferred)
Transfer price > $38 per unit + ($0 ÷ 12,000 units) = $38 per unit + $0 per unit = $38 per unit
From the perspective of the purchasing division, the transfer is financially attractive if and only if:
Transfer price < Cost of buying from outside supplier
Transfer price < $62 per unit
Combining the two requirements, the range of acceptable transfer prices is:
$38 per unit < Transfer price < $62 per unit
b. The total contribution margin on lost sales is computed as follows:
| ? | Selling price to outside customers | $66 |
| ? | Variable cost per unit | $38 |
| ? | Unit contribution margin | $28 |
| ? | Reduction in outside unit sales | 12,000 |
| ? | Total contribution margin on lost sales | $336,000 |
From the perspective of the selling division, profits would increase as a result of the transfer if and only if:
Transfer price > Variable cost per unit + (Total contribution margin on lost sales ÷ Number of units transferred)
Transfer price > $38 per unit + ($336,000 ÷ 12,000 units) = $38 per unit + $28 per unit = $66 per unit
From the perspective of the purchasing division, the transfer is financially attractive if and only if:
Transfer price < Cost of buying from outside supplier
Transfer price < $62 per unit
No transfer will be made between the two divisions because the minimum price that the selling division is willing to accept is greater than the maximum price that the buying division is willing to pay.
c. The total contribution margin on lost sales is computed as follows:
| ? | Selling price to outside customers | $66 |
| ? | Variable cost per unit | $38 |
| ? | Unit contribution margin | $28 |
| ? | Reduction in outside unit sales | 12,000 |
| ? | Total contribution margin on lost sales | $336,000 |
From the perspective of the selling division, profits would increase as a result of the transfer if and only if:
Transfer price > Variable cost per unit + (Total contribution margin on lost sales ÷ Number of units transferred)
Transfer price > $31 per unit + ($336,000 ÷ 12,000 units) = $31 per unit + $28 per unit = $59 per unit
From the perspective of the purchasing division, the transfer is financially attractive if and only if:
Transfer price < Cost of buying from outside supplier
Transfer price < $62 per unit
Combining the two requirements, the range of acceptable transfer prices is: $59 per unit < Transfer price < $62 per unit
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