Question

Negotiating a Transfer Price with Excess Capacity
The Foundry Division of Findlay Pumps Inc. produces metal parts that are sold to the company's Assembly Division and to outside customers. Operating data for the Foundry Division for 2017 are as follows:

	To the Assembly Division	To Outside Customers	Total
*Allocated on the basis of unit sales.
Sales
400,000 parts x $8.25	$3,300,000
300,000 parts x $8.60		$2,580,000	$5,880,000
Variables expenses at $5.00	(2,000,000)	(1,500,000)	(3,500,000)
Contribution margin	1,300,000	1,080,000	2,380,000
Fixed expenses*	(700,000)	(525,000)	(1,225,000)
Net income	$ 600,000	$ 555,000	$1,155,000

The Assembly Division has just received an offer from an outside supplier to supply parts at $6.53 each. The Foundry Division manager is not willing to meet the $6.53 price. She argues that it costs her $6.75 per part to produce and sell to the Assembly Division, so she would show no profits on the Assembly Division sales. Sales to outside customers are at a maximum, 300,000 parts.

a. Verify the Foundry Division's $6.75 unit cost figure.

Enter answers using two decimal places.

Variable costs	$Answer
Fixed costs	Answer
Total unit cost	$Answer

c. Could the Foundry Division meet the $6.53 price and still show a net profit for sales to the Assembly Division? Show computations.

Use a negative sign only to indicate a net loss. Otherwise do not use negative signs with your answers.

Sales to Assembly Division at $6.53 price
Sales	$Answer
Variable costs	Answer
Contribution margin	Answer
Fixed costs	Answer
Net profit (loss)	$Answer

Answer 1

SOLUTION

A. Calculation of unit cost of Foundry division-

Particulars	Amount ($)
Variable cost	5
Fixed costs ($1,225,000 / 700,000)	1.75
Total unit cost	6.75

Thus, the total unit cost of Foundry division is $6.75

Note- Number of parts sold = To assembly division + To outside supplier

= 400,000 + 300,000 = 700,000 parts

B.

Particulars	Amount ($)
Sales (400,000 * $6.53)	2,612,000
Less: Variable costs (400,000 * $5)	2,000,000
Contribution margin	612,000
Less: Fixed expenses (400,000 * $1.75)	700,000
Net profit / (Loss)	(88,000)

Thus, the net loss for sales to assembly division at $6.53 price is $88,000