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Hi
Question a) Briefly it is calculated 37-20 and 17 will be incremental loss but i thought that we have to take contribution and less the fixed costs to get the answer.
Can you help please? I have not understood the requirement of the question as well
A manufacturing company, Man Co, has two divisions: Division L and Division M. Both divisions make a single standardised product. Division L makes component L, which is supplied to both Division M and external customers.
Division M makes product M using one unit of component L and other materials. It then sells the completed product M to external customers. To date, Division M has always bought component L from Division L.
The following information is available:
Component L Product M
$ $
Selling price 40 96
Direct materials:
Component L (40)
Other (12) (17)
Direct labour (6) (9)
Variable overheads (2) (3)
Selling and distribution costs (4) (1)
Contribution per unit before fixed costs
16 26Annual fixed costs $500,000 $200,000
Annual external demand (units) 160,000 120,000
Capacity of plant 300,000 130,000
Division L charges the same price for component L to both Division M and external customers. However, it does not incur the selling and distribution costs when transferring internally.Division M has just been approached by a new supplier who has offered to supply it with component L for $37 per unit. Prior to this offer, the cheapest price which Division M could have bought component L for from outside the group was $42 per unit.
It is head office policy to let the divisions operate autonomously without interference at all.
Required:
(a) Calculate the incremental profit/(loss) per component for the group if Division M accepts the new supplier’s offer and recommend how many components Division L should sell to Division M if group profits are to be maximised. (3 marks)Division M has just been approached by a new supplier who has offered to supply it with component L for $37 per unit.
For Division L, the contribution per unit before fixed costs is $20 (sell and dist cost saved) thus Division L marginal cost of manufacture of 20
The difference is 17 loss on every one bought from the outside supplier
To maximise group profits, Division L should sell as many components to Division M as possible, as long as the contribution per unit from Division M is higher than the contribution per unit from external sales.
therefore incremental profit or loss means that we have to compare the price offered by external suppliers with the actual cost that the supplying division incur when manufacturing component L
I HAVE A DOUBT ABOUT THE SAME QUES ABOVE ‘MANCO’ HOW MANY COMPONENTS SHOULD DIVISION L SELL TO DIVISION M IF GROUP PROFIT IS TO BE MAXIMISED? THE ANSWER IS 120000 UNITS BUT SHOULDN’T WE TAKE THE CAPACITY OF PLANT L IN WHICH L CAN BE PRODUCED MAXIMUM AND CAN BE TRANSFERED INTERNALLY?
As I said above
It’s asking toCalculate the incremental profit/(loss) per component for the group if Division M ACCEPTS the new supplier’s offer and recommend how many components Division L should sell to Division M if group profits are to be maximised. (3 marks)
First of all L has more than enough capacity to deal with M’s demandSo you look at it from this perspective – should Div L sell to or should Div M by from outside?
Division M has just been approached by a new supplier who has offered to supply it with component L for $37 per unit.
For Division L, the contribution per unit before fixed costs is $20 (sell and dist cost saved) thus Division L marginal cost of manufacture is $20
The difference would be a $17 loss on every one bought from the outside supplier
To maximise group profits, Division L should sell as many components to Division M as possible, as long as the contribution per unit from Division M is higher than the contribution per unit from external sales.
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