Alpha and Beta are divisions within the same company. The managers of both divis
ID: 2591021 • Letter: A
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Alpha and Beta are divisions within the same company. The managers of both divisions are evaluated based on their own division's return on investment (ROI). Assume the following information relative to the two divisions: Case Alpha Division: Capacity in units Number of units now being sold to 52,000 303,000 110,000 192,000 86,000 192,000 47 52,000 303,000 outside customers Selling price per unit to outside customers Variable costs per unit Fixed costs per unit (based on 98 S 62 S 41 $ 19 $ 69 $ 46 $ 32 capacity) $ 22 28 $ Beta Division 10,700 72,000 17,000 62,000 Number of units needed annually Purchase price now being paid to an outside supplier 89 $ 38 $ 69 Before any purchase discount. Managers are free to decide if they will participate in any internal transfers. All transfer prices are negotiated.Explanation / Answer
Answer 1. Transfer Price to maximize company profits: TP = Out of pocket costs / unit + (Total contribution margin given up on lost sales) / units transferred TP = ($62 - $4) + ($36 X 10,700)/10,700 = $58 + $36 = $94 Alpha Division Contribution margin per unit generated under the current situation $36 $98 - 62 Contribution margin per unit generated if a transfer takes place at $94/unit 36 $94 - ($62 - $4) Division Alpha manager is indifferent to selling outside or transferring to Division Beta $0 Beta Division Cost per unit if purchased outside $89 Cost per unit if transferred at $94/unit 94 Division B manager would reject internal transfer because of $3 per unit increase in cost ($5) The managers will not agree to a transfer. Division Alpha will not accept less than $94 and Division Beta will not pay more than $89, the outside price. There is no possible range of negotiation within which a transfer could take place. Answer 2. Transfer Price to maximize company profits: TP = Out of pocket costs / unit + (Total contribution margin given up on lost sales) / units transferred TP = ($19 - $5) + ($22 X 72,000)/72,000 = $14 + $22 = $36 Division Alpha: Contribution margin per unit generated under the current situation $22 $41 - $19 Contribution margin per unit generated if a transfer takes place at $36/unit 27 $41 - ($19 - $5) Division Alpha manager is indifferent to selling outside or transferring to Division Beta ($5) Division Beta: Cost per unit if purchased outside $38 Cost per unit if transferred at $36/unit 36 Division Beta manager would accept an internal transfer because of a $3 decrease in cost $2 The managers should agree to a transfer. Division Alpha will be willing to accept a price of $36 or higher Division Beta will be willing to pay no more $38, the outside price. The range of negotiation within which a transfer should take place is $38 to $36. Even though the company would be better off with any transfer price within this range, each manager will negotiate for the transfer price that benefits their division the most. Division Alpha's manager will try to hold out for a transfer price of $38, while Division Beta's manager will try to hold out for a transfer price of $36 per unit transferred. Answer 2-d. 72,000 X $2 = $144,000 Loss in potential profits Proof: Division Alpha: TP per unit to Division Beta $37 Variable cost per unit associated with transfer 14 Benefit per unit to Division Alpha $23 Less CM given up to make transfer possible 22 Net per unit benefit to Division Alpha $1 Number of units transferred 72,000 Total increase in CM to Division Alpha as a result of transfer $72,000 Division Beta: Cost per unit if purchased outside $38 Cost per unit if transferred at agreed upon TP 37 Benefit per unit to Division Beta $1 Number of units transferred 72,000 Total increase in CM to Division Alpha as a result of transfer $72,000 Total benefit to the company resulting from the transfer $144,000 Note: Transfer price allocates profit between Division Alpha and Division Beta. Answer 3. Transfer Price to maximize company profits: TP = Out of pocket costs / unit + (Total contribution margin given up on lost sales) / units transferred TP = $46 + ($0 X 17,000)/17000 = $46 + $0 = $46 Division Alpha: Contribution margin per unit generated under the current situation (excess capacity) $0 Excess Capacity Contribution margin generated if a transfer takes place at $46/unit 0 $46 - $46 Division Alpha manager is indifferent to selling outside or transferring to Division Beta $0 Division Beta: Cost per unit if purchased outside 64.86 $69 - ($69 X 6%) Cost per unit if transferred at $35/unit 46.00 Division Beta manager would accept an internal transfer because of a $19 per unit decrease in cost 18.86 $320,620 The managers should agree to a transfer. Division Alpha will be willing to accept a price of $46 or higher Division Beta will be willing to pay no more $65, the outside price. The range of negotiation within which a transfer should take place is $46 to $65. Even though the company would be better off with any transfer price within this range, each manager will negotiate for the transfer price that benefits their division the most. Division Alpha's manager will try to hold out for a transfer price of $65, while Division Beta's manager will try to hold out for a transfer price of $46 per unit transferred. Answer 3-d. Benefit to company as a whole resulting from transfers 17,000 X $18.86 = $320,620 Division Alpha: TP per unit to Division Beta 59.86 Variable cost per unit associated with transfer 46.00 Benefit per unit to Division Alpha 13.86 Less CM given up to make transfer possible (excess capacity) - Net per unit benefit to Division Alpha 13.86 Number of units transferred 17,000 Total increase in CM to Division Alpha as a result of transfer $235,620 Effect on ROI: Divisional income will increase by $235,620 with no change in investment (excess capacity). Thus, Division Alpha's ROI will increase. Division Beta: Cost per unit if purchased outside 64.86 Cost per unit if transferred at agreed upon TP 59.86 Benefit per unit to Division Beta 5.00 Number of units transferred 17,000 Total increase in CM to Division Alpha as a result of transfer $85,000 Total benefit to the company resulting from the transfer $320,620 Note: Transfer price allocates profit between Division Alpha and Division Beta. Answer 4. Transfer Price to maximize company profits: TP = Out of pocket costs / unit + (Total contribution margin given up on lost sales) / units transferred TP = $28 + ($15 X 31,000) / 62,000 = $28 + $7.50 = $35.50 Proof: Division Alpha: Contribution margin generated under the current situation $465,000 Contribution margin generated if a transfer takes place at $35.50 per unit $465,000 Division Alpha manager is indifferent to selling outside or transferring to Division Beta at a TP of $35.50.
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