Question

Riverbed Inc. has two divisions. Division A makes and sells student desks. Division B manufactures and sells reading lamps. Each desk has a reading lamp as one of its components. Division A can purchase reading lamps at a cost of $10 from an outside vendor. Division A needs 10,600 lamps for the coming year. Division B has the capacity to manufacture 53,000 lamps annually. Sales to outside customers are estimated at 42,400 lamps for the next year. Reading lamps are sold at $12 each. Variable costs are $7 per lamp and include $1 of variable sales costs that are not. incurred if lamps are sold internally to Division A. The total amount of fixed costs for Division B is $84,800. Consider the following independent situations. Your answer is correct. What should be the minimum transfer price accepted by Division B for the 10,600 lamps and the maximum transfer price paid by Division A?

Answer 1

Division B should accept a minimum transfer price of $63,600, while Division A should be willing to pay a maximum transfer price of $106,000 for the reading lamps. These prices ensure that both divisions are economically efficient and consider their respective costs and market prices.

Step-by-step explanation:

To determine the minimum transfer price accepted by Division B for the 10,600 lamps and the maximum transfer price paid by Division A, we can use the concept of opportunity cost and market-based pricing. The minimum transfer price for Division B should be based on the cost they would incur if they sold the lamps to external customers, while the maximum transfer price for Division A should be based on the cost of purchasing lamps from an outside vendor.

Minimum Transfer Price (Division B):

Division B should consider the opportunity cost of selling the lamps internally to Division A rather than selling them to external customers. The opportunity cost is the profit they could have earned by selling the lamps externally.

Total variable cost per lamp for Division B = $7

Variable sales cost per lamp (not incurred when selling internally) = $1

Therefore, the variable cost incurred when selling internally is $7 - $1 = $6 per lamp.

Since Division A needs 10,600 lamps, the minimum transfer price for Division B should cover their variable cost for these lamps:

Minimum Transfer Price = Variable Cost per Lamp × Quantity Needed by Division A

Minimum Transfer Price = $6 per lamp × 10,600 lamps = $63,600

So, Division B should accept a minimum transfer price of $63,600 for the 10,600 lamps.

Maximum Transfer Price (Division A):

Division A should consider the cost of purchasing lamps from an outside vendor. The outside vendor sells lamps for $10 each.

Since Division A needs 10,600 lamps, the maximum transfer price they should be willing to pay for these lamps is based on the outside vendor's price:

Maximum Transfer Price = Cost from Outside Vendor per Lamp × Quantity Needed by Division A

Maximum Transfer Price = $10 per lamp × 10,600 lamps = $106,000

So, Division A should be willing to pay a maximum transfer price of $106,000 for the 10,600 lamps.