Financial & Managerial Accounting
Financial & Managerial Accounting
17th Edition
ISBN: 9780078025778
Author: Jan Williams, Susan Haka, Mark S Bettner, Joseph V Carcello
Publisher: McGraw-Hill Education
Question
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Chapter 22, Problem 8BP

a.

To determine

Ascertain the operating profit before tax for each division using the market transfer price of $135.

a.

Expert Solution
Check Mark

Explanation of Solution

Ascertain the operating profit before tax for each division using the market transfer price of $135 as follows:

Entire

Company

Frame

Division

Works

Division

Sales $1,162,500 $742,500 $825,000
Variable Costs651,000396,000660,000
Contribution Margin $511,500 $346,500 $165,000
Fixed Costs384,000280,000104,000
Operating Profit $127,500 $66,500 $61,000

Table (1)

Calculate the sales of Frame Division.

Sales=Number of units×Market price=5,500units×$135=$742,500

Calculate the sales of Works Division.

Sales=Number of units×Market price=3,000units×$275=$825,000

Calculate the sales of Entire Company.

Sales=[(Number of Frame division unitsNumber of Works division units)×(Market price of framedivision)+(Number of units of Works division×Market price of Works division)]=(5,5003,000)×(135)+(3,000×$275)=$1,162,500

Calculate the variable cost of Frame Division.

Variable cost=Number of units×Variable cost per unit=5,500units×$72=$396,000

Calculate the variable cost of Works Division.

Variable cost=Number of units×(Transfer price+Variable cost)=3,000units×($135+$85)=$660,000

Calculate the variable cost of Entire Company.

Variable cost=[(Number of Frame division units×Variable cost of Frame division)+(Number of Works division units×Variable cost of Works division)]=(5,500×$72)+(3,000×$85)=$651,000

b.

To determine

Ascertain the operating profit before tax for each division using the transfer price of $130, as suggested by the manager of the Works Division.

b.

Expert Solution
Check Mark

Explanation of Solution

Ascertain the operating profit before tax for each division using the transfer price of $130, as suggested by the manager of the Works Division as follows:

Entire

Company

Frame

Division

Works

Division

Sales $1,162,500 $727,500 $825,000
Variable Costs651,000396,000645,000
Contribution Margin $511,500 $331,500 $180,000
Fixed Costs384,000280,000104,000
Operating Profit $127,500 $51,500 $76,000

Table (2)

Calculate the sales of Frame Division.

Sales cost=[(Number of Frame division units transferred×Transfer price)+(Number of units sold to market×Market price)]=(2,500×$135)+(3,000×$130)=$727,500

Calculate the sales of Works Division.

Sales=Number of units×Market price=3,000units×$275=$825,000

Calculate the sales of Entire Company.

Sales=Sales of Frame division+Sales of Works division=$727,500+$825,000=$1,162,500

Calculate the variable cost of Frame Division.

Variable cost=Number of units×Variable cost per unit=5,500units×$72=$396,000

Calculate the variable cost of Works Division.

Variable cost=Number of units×(Negotiated transfer price+Variable cost)=3,000units×($130+$85)=$645,000

c.

To determine

Discuss the manner in which the company’s net income affected under the two transfer pricing scenarios.

c.

Expert Solution
Check Mark

Explanation of Solution

Discuss the manner in which the company’s net income affected under the two transfer pricing scenarios as follows:

Accounting entries that show the flow of goods between the departments are generated by the transfer prices. One department records the transfer price as revenue while on the other hand; the same is treated as an expense by the other department. These entries of revenue and expense are cancelled out for the entire company and hence, internal transfer prices do not have a direct effect on the net income of the company.

d.

To determine

Discuss whether it would be more beneficial to the company if the Frame Division sold casings externally and the Works Division purchased casings from an outside supplier.

d.

Expert Solution
Check Mark

Explanation of Solution

Calculate the pre-tax operating profit, using the external sale price and purchase price for the casings as follows:

Entire

Company

Frame

Division

Works

Division

Sales $1,567,500 $742,500 $825,000
Variable Costs1,071,000396,000675,000
Contribution Margin $496,500 $346,500 $150,000
Fixed Costs384,000280,000104,000
Operating Profit $112,500 $66,500 $46,000

Table (3)

Calculate the sales of Frame Division.

Sales=Number of units×Market price=5,500units×$135=$742,500

Calculate the sales of Works Division.

Sales=Number of units×Market price=3,000units×$275=$825,000

Calculate the sales of Entire Company.

Sales=Sales of Frame division+Salesof Works division=$742,500+$825,000=$1,567,500

Calculate the variable cost of Frame Division.

Variable cost=Number of units×Variable cost per unit=5,500units×$72=$396,000

Calculate the variable cost of Works Division.

Variable cost=Number of units×(Transfer price+Variable cost)=3,000units×($140+$85)=$675,000

Calculate the variable cost of Entire Company.

Variable cost=(Variable cost of Frame division+Variable cost of Works division)=$396,000+$675,000=$1,071,000

The company earns $15,000 more in operating profit if the Works Division purchases the casings from the Frame Division and hence, as a whole it is more beneficial to the company.

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