Division D has asked Division C of the same company to supply it with 4,000 units of part L763 this year to use in one of products. Division D has received a bid from an outside supplier for the parts at a price of £26.00 per unit. Division C has the capacity to produce 15,000 units of part L763 per year. Division C expects to sell 12,000 units of part L763 to outside customers this year at a price of £29.00 per unit. To fill the order from Division D, Division C would have to cut back its sales to outside customers. Division C produces part L763 at a variable cost of £20.00 per unit. The cost of packing and shipping the parts for outside customers is £1.00 per unit. These packing and shipping costs would not have to be incurred on sales of the parts to Division D.
-The minimum transfer price for Division D is

Question

Quizplus · Accepted Answer

To determine the minimum transfer price for Division D, we need to consider the opportunity cost that Division C will incur by selling to Division D instead of outside customers.

If Division C sells 4,000 units to Division D, it will have 11,000 units (15,000 - 4,000) remaining to sell to outside customers. This means it will lose out on sales revenue of 11,000 * £29 = £319,000.

However, if Division D were to purchase from the outside supplier, it would incur a cost of 4,000 * £26 = £104,000.

Therefore, the minimum transfer price for Division D would be the variable cost of producing the parts, plus any additional costs that Division C incurs to sell to outside customers: 
Minimum transfer price = variable cost + opportunity cost
Minimum transfer price = £20 + (£319,000 / 11,000)
Minimum transfer price = £20 + £29
Minimum transfer price = £49

However, this price is not feasible for Division D, as it is higher than the price it would pay to the outside supplier. Therefore, the best choice is to go with the outside supplier at £26 per unit. This way, Division D gets the required units at a lower cost and Division C can still sell its remaining units to outside customers at a higher price, thus maximizing overall profits for the company.

Division D Has Asked Division C of the Same Company