Fyodor Corporation has a Parts Division that does work for other Divisions in the company as well as for outside customers. The company's Machine Division has asked the Parts Division to provide it with 8,000 special parts each year. The special parts would require £19.00 per unit in variable production costs.
The Machine Division has a bid from an outside supplier for the special parts at £27.00 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 QR4 that it presently is producing. The QR4 sells for £34.00 per unit, and requires £18.00 per unit in variable production costs. Packaging and shipping costs of the QR4 are £2.00 per unit. Packaging and shipping costs for the new special part would be only £0.50 per unit. The Parts Division is now producing and selling 40,000 units of the QR4 each year. Production and sales of the QR4 would drop by 5% if the new special part is produced for the Machine Division.
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The minimum transfer price for the Parts Division is

Question

Quizplus · Accepted Answer

The minimum transfer price should cover the variable cost of the special part (£19) and the contribution margin lost from reducing QR4 production. The QR4 contribution margin is £14 (£34 - £18 - £2). A 5% reduction in QR4 production (2,000 units) results in a lost contribution margin of £28,000. Dividing this by the 8,000 special parts gives £3.50 per part. Thus, the minimum transfer price is £19 + £3.50 = £22.50, rounded to £23.

Fyodor Corporation Has a Parts Division That Does Work for Other