Assignment
Alto Company consists of the Red River Division and the White Mountain Division. Red River produces and sells 100 pound bags of pottery clay which can either be sold to outside customers or to White Mountain. The following data are available from the last year:
Red River:
Product capacity in 100 lb. bags. 18,000 units
Selling price per bag to outside customers $ 20
Variable product cost per bag 10
Variable selling cost per bag 4
White Mountain:
Number of bags needed annually 6,000 units
Price per bag paid to an outside supplier $16
By selling to White Mountain, Red River will avoid $3 per bag in selling costs.
a. If Red River sells 18,000 bags annually to outside customers, what transfer price would be computed using the formula? Show calculations.
b. Assume Red River can sell 18,000 bags to outside customers and that White Mountain's outside supplier has lowered its price to $15. What is the effect on overall company profits if Top Management wants to keep the profits "within the corporate family" and forces Red River to sell to White Mountain at a transfer price of $15? Show calculations.