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Please I have a multiple choice question.
A division of a company is capable of making two products- X and Y.
They can sell both products externally as follows:
X Y
external selling price 80 100
variable cost 60 70
contribution per unit 20 30
Labour hours per unit 5hours 10 hours
the company has limited labour hours, and another division requires product Y.What is the minimum transfer price that should be charged by the division in order to achieve goal congruence?
.$100 .$110 .$70 .$80Please do not just set questions for me.
You presumably have printed answers and you have presumably watched the free lectures on here?
Say which part of the answer is causing you a problem and then I will try and explain.
No Sir, I didn’t set this question actually I was doing F5 Revision mock exam and this question was given. I chose $70 as the minimum transfer price, since minimum transfer price is the price at which there is neither a profit nor a lost, but answer to the question is $ 110 which I cannot figure out how it arrive at? please help
If they were to sell externally, they could either sell X, which would give them a contribution of $20 for 5 hours work – i.e. $4 per hour. Or they could sell Y, which would give them a contribution of $30 for 10 hours work – i.e. $3 per hour.
Because the hours are limited, they would prefer to sell X and earn $4 per hour. (this bit is standard key factor analysis).The other division wishes to have product Y, and you will know from the lectures that the minimum transfer price will be the marginal (variable) cost plus any lost contribution.
The marginal cost of Y is $70.
However making Y will use some of the limited labour and so take labour away from external sales. We already know that each hour of labour could earn $4 externally. Making Y uses 10 hours of the limited labour and so loses us 10 x $4 externally.So the transfer price is 70 + 40 = $110.
(If you watch the lectures you will see that I actually go through this example)
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