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Exam 7: Transfer Pricing

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Question 1

Multiple Choice

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In setting a transfer price, which of the following should not be considered?

A) Fixed production costs of the buying division.
B) Production capacity of the selling division.
C) Product demand from outside customers.
D) Costs eliminated by internal transfers.

E) A) and B)
F) B) and C)

Correct Answer

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A

Question 2

Multiple Choice

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Division 1 of Ace Company makes and sells wheels that can either be sold to outside customers or transferred to Division 2. The following data are available from last month: Division 1: Division 2: If Division 1 sells the wheels to Division 2, Division 1 can avoid $2 per unit in sales commissions. -What is the maximum price per wheel that Division 2 should be willing to pay Division 1 if a transfer were to take place?

A) $33 per unit
B) $35 per unit
C) $47 per unit
D) $50 per unit

E) C) and D)
F) All of the above

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Question 3

True/False

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One disadvantage of using the actual cost of a product as the transfer price is that it does not provide a strong incentive for the producing division to control its costs.

When a division is operating at full capacity, the transfer price to other divisions should not include opportunity costs.

Krenski Corporation has a Parts Division that does work for other Divisions in the company as well as for outside customers. The company's Equipment Division has asked the Parts Division to provide it with 10,000 special parts each year. The special parts would require $12.00 per unit in variable production costs. The Equipment Division has a bid from an outside supplier for the special parts at $31.00 per unit. In order to have time and space to produce the special part, the Parts Division would have to cut back production of another part-the TW3 that it presently is producing. The TW3 sells for $35.00 per unit, and requires $13.00 per unit in variable production costs. Packaging and shipping costs of the TW3 are $3.00 per unit. Packaging and shipping costs for the new special part would be only $2.00 per unit. The Parts Division is now producing and selling 50,000 units of the TW3 each year. Production and sales of the TW3 would drop by 10% if the new special part is produced for the Equipment Division. 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 10,000 special parts per year from the Parts Division to the Equipment Division? b. Is it in the best interests of Krenski Corporation for this transfer to take place? Explain.

The DVD Division of Sound Company makes and sells compact DVD players (DVDP) that it presently sells to outside customers. Budgeted costs next month for the DVD Division are as follows: MaxiSound, another division of Sound Company, would like to buy 1,000 of the DVDPs from the DVD Division. An outside supplier has offered to sell similar DVDPs to MaxiSound for $170 each. -Assume that DVD Division's monthly production capacity is 3,200 units. If the DVD Division sells 1,000 DVDPs to MaxiSound for $170 each, the effect on the monthly profits of Sound Company as a whole will be a:

Division 1 of Ace Company makes and sells wheels that can either be sold to outside customers or transferred to Division 2. The following data are available from last month: Division 1: Division 2: If Division 1 sells the wheels to Division 2, Division 1 can avoid $2 per unit in sales commissions. -Suppose that Division 1 sells 11,500 units each month to outside customers. According to the formula in the text, what is the lowest acceptable transfer price from the viewpoint of the selling division?

Division A makes a part with the following characteristics: Division B, another division of the same company, would like to purchase 5,000 units of the part each period from Division A. Division B is now purchasing these parts from an outside supplier at a price of $28 each. -Suppose that Division A is operating at capacity and can sell all of its output to outside customers at its usual selling price. If Division A agrees to sell the parts to Division B at $28 per unit, the company as a whole will be:

Division A makes watzits. The company has sufficient capacity to make 70,000 watzits per year. The company expects to sell 65,000 watzits this year. Division B uses watzits in their production and has total needs of 20,000 watzits this year. Division B is presently buying watzits from an outside supplier for $11.25 each. The cost to Division A to make the watzits are $5.00 for direct materials, $2.00 for direct labor, $2.50 for variable manufacturing overhead, and $1.50 for fixed manufacturing overhead. Direct labor is a variable cost. Division A sells watzits on the outside market for $11.50 each. Required: a. Assuming that Division B buys its entire 20,000 requirement of watzits from Division A, is it possible for Division A and Division B to agree to a mutually acceptable transfer price and if so, within what range would that transfer price be? b. Assuming that Division B buys only 5,000 watzits from Division A, is it possible for Division A and Division B to agree to a mutually acceptable transfer price and if so, within what range would that transfer price be?

Division T of Clocker Company makes a timer which it sells for $30 to outside customers. The division has supplied the following data concerning the timer: Division S of Clocker Company is currently buying 5,000 similar timers each month from an overseas supplier at $27 each. Division S would like to acquire its timers from Division T if the price is right. -Suppose Division T is operating at capacity and can sell all of the timers it produces to outside customers at its usual selling price. If Division T meets the price of the overseas supplier and sells 5,000 timers to Division S each month, the effect on the monthly net operating income of the company as a whole will be:

Division T of Clocker Company makes a timer which it sells for $30 to outside customers. The division has supplied the following data concerning the timer: Division S of Clocker Company is currently buying 5,000 similar timers each month from an overseas supplier at $27 each. Division S would like to acquire its timers from Division T if the price is right. -Suppose that Division T can sell only 10,000 timers to outside customers. According to the formula in the text, what is the lowest acceptable transfer price from the viewpoint of the selling division?

Division A makes a part with the following characteristics: Division B, another division of the same company, would like to purchase 5,000 units of the part each period from Division A. Division B is now purchasing these parts from an outside supplier at a price of $28 each. -Suppose that Division A has ample idle capacity to handle all of Division B's needs without any increase in fixed costs and without cutting into sales to outside customers. If Division A refuses to accept the $28 price internally and Division B continues to buy from the outside supplier, the company as a whole will be:

The DVD Division of Sound Company makes and sells compact DVD players (DVDP) that it presently sells to outside customers. Budgeted costs next month for the DVD Division are as follows: MaxiSound, another division of Sound Company, would like to buy 1,000 of the DVDPs from the DVD Division. An outside supplier has offered to sell similar DVDPs to MaxiSound for $170 each. -Assume the DVD Division's monthly production capacity is 4,000 units. If the DVD Division sells 1,000 DVDPs to MaxiSound for $170 each, the monthly effect on the profits of DVD Division will be a:

The Red River Division of Alto Company produces and sells bags of pottery clay which can either be sold to outside customers or transferred to the White Mountain Division of Alto Company. The following data are available for the last year: By selling to the White Mountain Division, the Red River Division will avoid $3 per bag in selling costs. -What is the maximum transfer price the White Mountain Division should be willing to pay?

Division 1 of Ace Company makes and sells wheels that can either be sold to outside customers or transferred to Division 2. The following data are available from last month: Division 1: Division 2: If Division 1 sells the wheels to Division 2, Division 1 can avoid $2 per unit in sales commissions. -Suppose that Division 1 sells 7,500 units per month to outside customers. According to the formula in the text, what is the lowest acceptable transfer price from the viewpoint of the selling division if Division 2 requires 5,000 units per month from Division 1?

Setting transfer prices at full cost can lead to good decisions because, among other reasons, full cost takes into account opportunity costs.

Division B has asked Division A of the same company to supply it with 4,000 units of part K932 this year to use in one of its products. Division B has received a bid from an outside supplier for the parts at a price of $31.00 per unit. Division A has the capacity to produce 10,000 units of part K932 per year. Division A expects to sell 8,000 units of part K932 to outside customers this year at a price of $36.00 per unit. To fill the order from Division B, Division A would have to cut back its sales to outside customers. Division A produces part K932 at a variable cost of $18.00 per unit. The cost of packing and shipping the parts for outside customers is $3.00 per unit. These packing and shipping costs would not have to be incurred on sales of the parts to Division B.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 4,000 parts this year from Division B to Division A? b.Is it in the best interests of the overall company for this transfer to take place? Explain.

A transfer price is the price charged when a company provides goods or services to an outside company.

The selling division in a transfer pricing situation should want the transfer price to cover at least the variable cost per unit plus the lost contribution margin per unit on outside sales.

Division T of Clocker Company makes a timer which it sells for $30 to outside customers. The division has supplied the following data concerning the timer: Division S of Clocker Company is currently buying 5,000 similar timers each month from an overseas supplier at $27 each. Division S would like to acquire its timers from Division T if the price is right. -Suppose Division T is operating at capacity and can sell all of the timers it produces to outside customers at its usual selling price. According to the formula in the text, what is the lowest acceptable transfer price from the viewpoint of the selling division?