Question

Hrubec Products, Inc., operates a Pulp Division that manufactures wood pulp for use in the production of various paper goods. Revenue and costs associated with a ton of pulp follow

Selling price $24
Expenses:
Variable $14
Fixed (based on a capacity of
97,000 tons per year) 6 20
Net operating income $4

Hrubec Products has just acquired a small company that manufactures paper cartons. This company will be treated as a division of Hrubec with full profit responsibility. The newly formed Carton Division is currently purchasing 29.000 tons of pulp per year from a supplier at a cost of $24 per ton, less a 10% purchase discount. Hrubec's president is anxious for the Carton Division to begin purchasing its pulp from the Pulp Division if an acceptable transfer price can be worked out.

Required:
For (1) and (2) below, assume that the Pulp Division can sell all of its pulp to outside customers for $24 per ton.

Answer 1

The appropriate transfer price for wood pulp should be between the variable cost of $14 and the market price of $24 per ton. This range allows for internal sales while ensuring profitability for both divisions.

Step-by-step explanation:

The student's question pertains to determining an appropriate transfer price for pulp between Hrubec Products, Inc.'s divisions. The Pulp Division's cost structure for producing a ton of pulp involves a $14 variable expense and a $6 fixed expense (based on a capacity of 97,000 tons per year), leading to a total expense of $20 and a selling price of $24, which yields a net operating income of $4 per ton. The Carton Division purchases pulp externally at $24 per ton with a 10% discount. Since the Pulp Division can sell its product at $24 externally, the minimum transfer price should be its marginal cost, which is the variable cost of $14, while the maximum would be the market price of $24. Any price within this range would benefit both divisions, but negotiations will ultimately determine the final transfer price, considering capacity and economic factors.

The cost of pulp for the Carton Division can be calculated by subtracting the discount from the selling price of the Pulp Division. The selling price is $24 per ton and the discount is 10%, so the cost per ton for the Carton Division would be $24 - ($24 x 0.10) = $21.60. Therefore, the Carton Division can begin purchasing its pulp from the Pulp Division at a cost of $21.60 per ton.