Question

The Bathtub Division of Kirk Plumbing Corporation has recently approached the Faucet Division with a proposal. The Bathtub Division would like to make a special "ivory" tub with gold-plated fixtures for the company's 50-year anniversary. It would make only 5,000 of these units. It would like the Faucet Division to make the fixtures and provide them to the Bathtub Division at a transfer price of $160. If sold externally, the estimated variable cost per unit would be $140. However, by selling internally, the Faucet Division would save $6 per unit on variable selling expenses. The Faucet Division is currently operating at full capacity. Its standard unit sells for $50 per unit and has variable costs of $29.

a) Compute the minimum transfer price that the Faucet Division should be willing to accept, if it is currently operating at full capacity and if it has to forgo the sales of 10,000 units of standard tub.

b) Compute the minimum transfer price that the Faucet Division should be willing to accept, If the Faucet division has excess capacity

Answer 1

a.

Variable cost for Faucet division = 140 - 6(savings in variable selling expenses) = 134

Faucet division standard contribution margin per unit = Selling price per unit - Variable cost per unit

= 50 - 29

= 21

Contribution margin lost per unit = 21

Minimum transfer price = Variable costs + Contribution margin lost

= 134 + 21

= 155

b.

Variable cost for Faucet division = 140 - 6(savings in variable selling expenses) = 134

Minimum transfer price = Variable cost = 134