Problem:
Swing is a manufacturer of base ball bats and supplies. The company is comprised of two divisions a Forging Division and an Accessories Division. The Forging Division forges base ball bats. The Accessories Division makes a wide range of base ball accessories including a rubber grip that could be used by the forging division in making baseball bats. Currently the Forging Division is under contract with an outside supplier of the rubber grips. That contract however, is set to expire next month. The terms of the contract allow the forging Division to buy up to 500,000 grips at a price of$ J ,500 per thousand grips. Because of increasing material prices and a strengthening economy the supplier of grips to the forging division has offered to extend the contract for next year at an increased price of $1, 700 per thousand grips.
Recently both divisions have been operating far below capacity and have been under considerable pressure to increase profitability. Bob Anderson, General Manager of the Forging division has approached Jack Paulson, General Manager of the accessories division seeking to purchase grips from his Division. Bob has offered to buy the grips at a price of $1,600 per thousand. Jack, balked at the price of $1,600 per thousand saying that while he currently has plenty of excess capacity to make the grips, $1,600 was below his cost to make the grips and was far less than the $ l,750 per thousand price that he is currently selling grips for in the external market. Bob, indicated that because he had excess capacity and would like to be a "team" player and help Bob out, he would be willing to sell the grips at $1,725 per thousand or $25 below his external selling price.
The Accessories Division's cost to make 1000 grips is as follows:
Direct Material $ 820
Direct Labor 200
Variable manufacturing overhead 150
Allocated fixed manufacturing overhead 450
Full Manufacturing Cost/l 000 grips $1,620
In addition to the manufacturing costs the accessories division pays a 5% commission to independent sales representatives that sell their golf clubs and accessories. The commission would not be paid on any internal transfers.
1. Assuming that the Accessories Division continues to have excess capacity, what is the minimum transfer price per 1,000 grips?
2. Assuming that the supplier sticks to their proposed price increase what is the maximum transfer price per 1,000 grips when the Forging Division's external contract expires next month?
3. What is the impact on company-wide income if the transfer does not take place internally and the Forging Division buys 400,000 grips from the external supplier next year?