Question:
Management is trying to decide what transfer price to use for sales from the acquired company to the cooking division. The manager of the olive oil division argues that $4.60, the market price, is appropriate. The manager of the cooking division argues that the cost of $2.75 could be used, or perhaps a lower price, since fixed overhead cost could be recomputed with the larger volume. Any output of the olive oil division not sold to the cooking division will be sold to outsiders for $4.60 per liter.
Question 1: Evaluate the operating income for the olive oil division using a transfer price of $4.60.
Question 2: Determine the operating income for the olive oil division using a transfer price of $2.75.
Question 3: Determine the operating income for the olive oil division using your recommendation.