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Q1: South African Perfomance Mangement Practise Question
Division A produces hard drives which are sold on the local market for $900 per unit. The total variable costs are $750. Division A can only manufacture 200 hard drives a year. The external demand is 170 units and Division B demands 50 units.How I answered:
(Internal + External) – Capacity = Excess
(170 + 50) – 200 = 20 unitsInternal Variable Costs = $750; External Contribution = $900 – $750 = $150
Lost Contribution: 20 units * $150 = $3 000
$3 000/50 units = $60 per unitTransfer Price = Variable Costs + Lost Contribution
Transfer Price = $750 + $60 = $810 (this is marked correct in South Africa)Q2: Paper F5 March/June 2018 (Section C (31) (C))
Internal Variable = 3 + 4 = 7; External Contribution = 15 – 4 – 3 – 1 = 7;
Capacity = 350 000 units; Internal Demand = 180 000 units; External Demand = 200 000 unitsIf I answer in the same approach as the SA Q, I get a way different asnwer.
Excess = 200 000 + 180 000 – 350 000 = 30 000 units
Lost Contribution (LC) = 30 000 units * 7 = $210 000
$210 000/180 000 units = 1.17 per unitTransfer price = VC + LC = 7 + 1.17 = 8.17
But the memo says:
Division A’s internal sales is $7 ($4 + $3) and the contribution per unit for external sales is $7 per unit ($15 – $3 – $4 – $1), the transfer price for the additional 30,000 units would need to be $14.Could you please check I can’t get these two methods to reconcile. Sorry that I am asking so late on a Friday.
Q1
A can transfer 30 units without losing any contribution, and therefore the first 30 units have a minimum transfer price of the marginal cost of $750 per unit.
The remaining 20 units would lose contribution, and therefore the minimum transfer price for those 20 units has to be 750 + 150 = $900 per unit.
Therefore the total minimum transfer price for all 50 units has to be (30 x $750) + (20 x $900) = $40,500 (or a minimum transfer price of 40,500/50 = $810 per unit).
Q2
Division B can supply 150,000 units without losing any external sales and therefore the minimum transfer price for these 150,000 units is the marginal cost of $7. Supplying the extra 30,000 units will lose external sales and therefore lose contribution, so the minimum transfer price for these 30,000 units will be $7 + $7 = $14 per unit.
The question does not ask for a total minimum transfer price for all 180,000 units, but if it had done then the total minimum transfer price would be (150,000 x $7) + (30,000 x $14) = $1,470,000 (or 1,470,000 / 180,000 = $8.17 per unit.
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