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.

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Kristy Pisfil · Accepted Answer

Final Answer : a.From the perspective of Division Y, profits would increase as a result of the transfer if and only if:Transfer price > Variable cost + Opportunity costThe opportunity cost is the contribution margin on the lost sales, divided by the number of units transferred:Opportunity cost = [($34.00 − $25.00 − $2.00) × 3,000*] / 5,000 = $4.20 Variable cost + Opportunity costThe opportunity cost is the contribution margin on the lost sales, divided by the number of units transferred:Opportunity cost = [($34.00 − $25.00 − $2.00) × 3,000*] / 5,000 = $4.20 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. class=answers-bank-image d-block rel=preload > 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.

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