Selling price Expenses: $13 Variable Fixed (based on a capacity of 96,000 tons p

Question

Selling price Expenses: $13 Variable Fixed (based on a capacity of 96,000 tons per year) 6 19 Net operating income 4 Hrubec Products has Just acqulred a small company that manufactures paper cartons. This company will be treated as a divislon of Hrubec wlth full profit responsiblity. The newly formed Carton Divislon is currently purchasing 32,000 tons of pulp per year from a supplier at a cost of $23 per ton, less a 10% purchase discount. Hrubec's president ls anxious for the Carton Division to begin purchasing its pulp from the Pulp DIvIslon if an acceptable transfer price can be worked out. Required: For (1) and (2) below, assume the Pulp DiMslon can sell all of lts pulp to outslde customers for $23 per ton. 1. What is the lowest acceptable transfer price from the perspective of the Pulp DIvisIon? What is the highest acceptable transfer price from the perspective of the Carton Divislon? What is the range of acceptable transfer prices (If any) between the two divislons? Are the managers of the Carton and Pulp Divislons likely to voluntarlly agree to a transfer price for 32,000 tons of pulp next year? 2. If the Pulp Division meets the price that the Carton Divislon Is currently paylng to its supplier and sells 32,000 tons of pulp to the Carton DIvislon each year, what will be the effect on the profits of the Pulp DIvMslon, the Carton DIvIslon, and the company as a whole? For (3)-(6) below, assume that the Pulp DivIsion is currently selling only 54,000 tons of pulp each year to outside customers at the stated $23 price. 3. What is the lowest acceptable transfer price from the perspective of the Pulp Divislon? What Is the highest acceptable transfer price from the perspective of the Carton Divislon? What is the range of acceptable transfer prices (If any) between the two divislons? Are the managers of the Carton and Pulp Divislons likely to voluntarlly agree to a transfer price for 32,000 tons of pulp next year? 4-a. Suppose the Carton DivisIon's outside supplier drops lts price (net of the purchase discount) to only $18 per ton. Should the Pulp DIvislon meet this price? 4-b. If the Pulp Divislon does not meet the $18 price, what will be the effect on the profits of the company as a whole? 5. Refer to (4) above. If the Pulp DIvMslon refuses to meet the $18 price, should the Carton DIvIslon be required to purchase from the Pulp DIvislon at a higher price for the good of the company as a whole? 6. Refer to (4) above. Assume that due to Inflexible management policies, the Carton Division is requlred to purchase 32,000 tons of pulp each year from the Pulp DIVIsion at $23 per ton. What will be the effect on the profits of the company as a whole?

Explanation / Answer

1). Lowest acceptable price for pulp division is $ 23, at which it is able to sell at outside market, so it is relevant.
Highest acceptable transfer price for carton division is $23-10% = $20.7
There is no range of transfer price.
Manager of the division won't agree to trasnfer 32000 tons of pulp.

2).If pulp division agrees to the price of carton division then there is decrease in profit of pulp division and also the company by $73600 = (32000*2.3)

3).If Pulp Division currently selling only 54000 tons to outside market, then there is vacant capacity of 42000tons.
lowest acceptable transfer price for pulp division = $13 i.e variable cost which is only relevant.
Highest acceptable transfer price for carton division = $20.7
Range of transfser prices = 13 - 20.7
Yes, the manager of both divisions are likely to agree to transfer the 32000 tons next year.

4).a). If outside maket price reduced to $18, it is still possible to meet the transfer price.

4)b).If pulp division does not meet $18 price then it will loose the profit of $160000(32000*5) and also reduces the profit of company.

5). Yes it is still beneficial for the company if carton division purchases at higher price form pulp division because the profit factor of pulp division is still higher than the loss factor of carton division in comparion to outside price.
For eg if price is 20 then profit to pulp division is = 32000*(20-13) = 224000
Loss to carton division = 32000 * 2 = 64000
Net profit to company = 224000-64000 = 160000

6).If carton division purchases from pulp division the profit factor at $23 is same to the company, There is no effect on profit of the company.
$10 profit to pulp division while $5 loss to carton division, net profit $5 for 32000 tons i.,e $160000

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