/*! This file is auto-generated */ .wp-block-button__link{color:#fff;background-color:#32373c;border-radius:9999px;box-shadow:none;text-decoration:none;padding:calc(.667em + 2px) calc(1.333em + 2px);font-size:1.125em}.wp-block-file__button{background:#32373c;color:#fff;text-decoration:none} Problem 20 British Columbia Lumber has a ra... [FREE SOLUTION] | 91影视

91影视

Log out

Learning Materials

Features

Discover

Chapter 22: Problem 20

British Columbia Lumber has a raw lumber division and a finished lumber division. The variable costs are as follows: Raw lumber division: \(\$ 100\) per 100 board-feet of raw lumber. Finished lumber division: \(\$ 125\) per 100 board-feet of finished lumber. Assume that there is no board-feet loss in processing raw lumber into finished lumber. Raw lumber can be sold at \(\$ 200\) per 100 board-feet. Finished lumber can be sold at \(\$ 275\) per 100 board-feet. 1\. Should British Columbia Lumber process raw lumber into its finished form? Show your calculations. 2\. Assume that internal transfers are made at \(110 \%\) of variable cost. Will each division maximize its division operating-income contribution by adopting the action that is in the best interest of British Columbia Lumber as a whole? Explain. 3\. Assume that internal transfers are made at market prices. Will each division maximize its division operating-income contribution by adopting the action that is in the best interest of British Columbia Lumber as a whole? Explain.

Short Answer

Expert verified
Process raw lumber to finished form. Use variable cost transfers, not market or 110% of variable cost.

Step by step solution

01

Calculate Contribution Margin of Raw Lumber

The contribution margin is the selling price minus the variable cost. For raw lumber, the selling price per 100 board-feet is \( \\( 200 \) and the variable cost is \( \\) 100 \). Contribution margin for raw lumber is: \[\\( 200 - \\) 100 = \$ 100\]
02

Calculate Contribution Margin of Finished Lumber

The contribution margin for finished lumber is calculated similarly. The selling price for finished lumber is \( \\( 275 \) and the variable cost is \( \\) 125 \).Contribution margin for finished lumber is:\[\\( 275 - \\) 125 = \$ 150\]
03

Decision on Processing Raw Lumber to Finished Lumber

Since there is no board-feet loss, we compare the contribution margins calculated. If processing increases the contribution margin, it should be done. Here, the contribution margin for finished lumber is higher than that for raw lumber (\( \\( 150 \) vs \( \\) 100 \)). Thus, British Columbia Lumber should process raw lumber into finished lumber.
04

Examine Internal Transfers at 110% of Variable Cost

The internal transfer price from raw to finished division is 110% of the raw lumber variable cost: \[1.10 \times \\( 100 = \\) 110\]The finished division will have its variable cost plus the transfer price: \[\\( 125 + \\) 110 = \\( 235\]Selling price of finished lumber is \( \\) 275 \), so the new contribution margin is \( \\( 40 \). Both divisions maximize their contribution except the finished division now reports a lower margin (\( \\) 40 \)). Thus, internally transferring at 110% is not optimal for finished division.
05

Examine Internal Transfers at Market Prices

If market prices are used, the transfer price will be \( \\( 200 \) (selling price of raw lumber). Finished division total cost becomes:\[\\) 125 + \\( 200 = \\) 325\]The contribution margin becomes negative (\( \\( 275 - \\) 325 = -\$ 50 \)), making it undesirable for the finished division. Thus, internal transfers at market prices decrease company-wide efficiency.

Unlock Step-by-Step Solutions & Ace Your Exams!

  • Full Textbook Solutions

    Get detailed explanations and key concepts

  • Unlimited Al creation

    Al flashcards, explanations, exams and more...

  • Ads-free access

    To over 500 millions flashcards

  • Money-back guarantee

    We refund you if you fail your exam.

Over 30 million students worldwide already upgrade their learning with 91影视!

Key Concepts

These are the key concepts you need to understand to accurately answer the question.

Contribution Margin
The contribution margin is a crucial metric in evaluating the profitability of a company's products. It highlights how much revenue from sales surpasses the variable costs of production and indicates the money available to contribute to fixed costs and profitability.

To calculate the contribution margin, subtract the variable costs from the selling price. For instance, in the raw lumber division, the selling price is set at \(200 for every 100 board-feet, whereas the variable costs are \)100. Therefore, the contribution margin is \( 200 - 100 = \\( 100 \) for raw lumber.

Similarly, for finished lumber, which sells for \)275 per 100 board-feet with variable costs of \(125, the contribution margin is \( 275 - 125 = \\) 150 \). The higher contribution margin of finished lumber indicates that processing raw lumber into its finished form is beneficial, as it provides an additional \( 150 - 100 = \$ 50 \) of contribution margin per 100 board-feet.
Internal Transfers
Internal transfers occur when goods are moved from one division to another within the same company. The pricing of these transfers can greatly impact each division's reported profitability and, subsequently, the organization as a whole.

Consider internal transfers priced at 110% of the raw lumber's variable cost. In this scenario, the transfer price would be \( 1.10 \times 100 = \\( 110 \). For the finished division, this means that its cost structure now includes this transfer price, along with its inherent variable costs, totaling \( 125 + 110 = \\) 235 \). With a sale price of \(275, this leaves a contribution margin of \( 275 - 235 = \\) 40 \), less profit compared to when the internal transfer isn鈥檛 considered.

Therefore, setting transfer prices at 110% of variable costs isn't effective for finalizing decisions that benefit both the raw and finished lumber divisions equally. Adjustments are needed to align internal prices with strategies that optimize division-contribution-aligned decisions.
Variable Cost Analysis
Variable cost analysis involves examining costs that change with the level of production. In our example, the variable costs for raw lumber and finished lumber are \(100 and \)125 per 100 board-feet, respectively. Variable costs significantly influence decisions related to production, pricing, and internal transfers.

When internal transfers are set at market prices, rather than a percentage of variable cost, we assume the transfer price for raw lumber will be \(200, equating to its potential selling price. This hefty burden raises the finished division's costs to \( 125 + 200 = \\) 325 \), resulting in a negative profit margin of \( 275 - 325 = -\$ 50 \).

This scenario underlines the importance of diligent variable cost analysis and appropriate transfer pricing, since a mismatch can lead to inefficiencies and reduced profitability across different divisions. Recognizing these cost patterns helps in setting corrective strategies for optimal financial outcomes.

One App. One Place for Learning.

All the tools & learning materials you need for study success - in one app.

Get started for free

Most popular questions from this chapter

"Under the general guideline for transfer pricing, the minimum transfer price will vary depending on whether the supplying division has unused capacity or not." Do you agree? Explain.

The Allison-Chambers Corporation, manufacturer of tractors and other heavy farm equipment, is organized along decentralized product lines, with each manufacturing division operating as a separate profit center. Each division manager has been delegated full authority on all decisions involving the sale of that division's output both to outsiders and to other divisions of Allison- Chambers. Division \(C\) has in the past always purchased its requirement of a particular tractor-engine component from division A. However, when informed that division \(A\) is increasing its selling price to \(\$ 150,\) division C's manager decides to purchase the engine component from external suppliers. 1\. Assume that there are no alternative uses for internal facilities of division A. Determine whether the com pany as a whole will benefit if divisision C purchases the component from external suppliers for \(\$ 135\) per unit What should the transfer price for the component be set at so that division managers acting in their own divisisions' best interests take actions that are also in the bestinterest of the company as a whole? 2\. Assume that internal facilities of division A would not otherwise be idle. By not producing the 1,000 units for division C, divisision A's equipment and other facilities would be used for other production operations that would result in annual cash-operating savings of \(\$ 18,000\). Should division C purchase from external suppliers? Show your computations. 3\. Assume that there are no alternative uses for division A's internal facilitites and that the price from out siders drops \(\$ 20 .\) Should division C purchase from external suppliers? What should the transfer price for the component be set at so that division managers acting in their own divisisions' best interests take actions that are also in the best interest of the company as a whole?

(J. Patell, adapted) The California Instrument Company (CIC) consists of the semiconductor division and the process-control division, each of which operates as an independent profit center. The semiconductor division employs craftsmen who produce two different electronic components: the new high- performance Super-chip and an older product called Okay-chip. These two products have the following cost characteristics: $$\begin{array}{lcc} & \text { Super-chip } & \text { Okay-chip } \\ \hline \text { Direct materials } & \$ 5 & \$ 2 \\ \text { Direct manufacturing labor, 3 hours } \times \$ 20 ; 1 \text { hour } \times \$ 20 & 60 & 20 \end{array}$$ Due to the high skill level necessary for the craftsmen, the semiconductor division's capacity is set at 45,000 hours per year. Maximum demand for the Super-chip is 15,000 units annually, at a price of \(\$ 80\) per chip. There is unlimited demand for the Okay-chip at \(\$ 26\) per chip. The process-control division produces only one product, a process-control unit, with the following cost structure: The current market price for the control unit is \(\$ 132\) per unit. A joint research project has just revealed that a single Super-chip could be substituted for the circuit board currently used to make the process-control unit. Direct labor cost of the process-control unit would be unchanged. The improved process-control unit could be sold for \(\$ 145\) 1\. Calculate the contribution margin per direct-labor hour of selling Super- chip and Okay-chip. If no transfers of Super-chip are made to the process- control division, how many Super-chips and Okay-chips should the semiconductor division manufacture and sell? What would be the division's's annual contribution margin? Show your computations. 2\. The process-control division expects to sell 5,000 process-control units this year. From the viewpoint of California Instruments as a whole, should 5,000 Super-chips be transferred to the process-control division to replace circuit boards? Show your computations 3\. What transfer price, or range of prices, would ensure goal congruence among the division managers? Show your calculations. 4\. If labor capacity in the semiconductor division were 60,000 hours instead of \(45,000,\) would your answer to requirement 3 differ? Show your calculations

The Bosh Corporation makes and sells 20,000 multisystem music players each year. Its assembly division purchases components from other divisions of Bosh or from external suppliers and assembles the multisystem music players. In particular, the assembly division can purchase the CD player from the compact disc division of Bosh or from Hawei Corporation. Hawei agrees to meet all of Bosh's quality requirements and is currently negotiating with the assembly division to supply 20,000 CD players at a price between \(\$ 44\) and \(\$ 52\) per CD player. A critical component of the CD player is the head mechanism that reads the disc. To ensure the quality of its multisystem music players, Bosh requires that if Hawei wins the contract to supply CD players, it must purchase the head mechanism from Bosh's compact disc division for \(\$ 24\) each. The compact disc division can manufacture at most 22,000 CD players annually. It also manufactures as many additional head mechanisms as can be sold. The incremental cost of manufacturing the head mechanism is \(\$ 18\) per unit. The incremental cost of manufacturing a CD player (including the cost of the head mechanism) is \(\$ 30\) per unit, and any number of CD players can be sold for \(\$ 45\) each in the external market. 1\. What are the incremental costs minus revenues from sale to external buyers for the company as a whole if the compact disc division transfers 20,000 CD players to the assembly division and sells the remaining 2,000 CD players on the external market? 2\. What are the incremental costs minus revenues from sales to external buyers for the company as a whole if the compact disc division sells 22,000 CD players on the external market and the assembly division accepts Hawei's offer at (a) \(\$ 44\) per \(\mathrm{CD}\) player or (b) \(\$ 52\) per \(\mathrm{CD}\) player? 3\. What is the minimum transfer price per CD player at which the compact disc division would be willing to transfer 20,000 CD players to the assembly division? 4\. Suppose that the transfer price is set to the minimum computed in requirement 3 plus \(\$ 2\), and the division managers at Bosh are free to make their own profit-maximizing sourcing and selling decisions. Now, Hawei offers 20,000 CD players for \(\$ 52\) each. a. What decisions will the managers of the compact disc division and assembly division make? b. Are these decisions optimal for Bosh as a whole? c. Based on this exercise, at what price would you recommend the transfer price be set?

The Slate Company manufactures and sells television sets. Its assembly division (AD) buys television screens from the screen division (SD) and assembles the TV sets. The SD, which is operating at capacity, incurs an incremental manufacturing cost of \(\$ 65\) per screen. The SD can sell all its output to the outside market at a price of \(\$ 100\) per screen, after incurring a variable marketing and distribution cost of \(\$ 8\) per screen. If the \(A D\) purchases screens from outside suppliers at a price of \(\$ 100\) per screen, it will incur a variable purchasing cost of \(\$ 7\) per screen. Slate's division managers can act autonomously to maximize their own division's operating income. 1\. What is the minimum transfer price at which the SD manager would be willing to sell screens to the AD? 2\. What is the maximum transfer price at which the AD manager would be willing to purchase screens from the SD? 3\. Now suppose that the SD can sell only \(70 \%\) of its output capacity of 20,000 screens per month on the open market. Capacity cannot be reduced in the short run. The AD can assemble and sell more than \(20,000 \mathrm{TV}\) sets per month. a. What is the minimum transfer price at which the SD manager would be willing to sell screens to the AD? b. From the point of view of Slate's management, how much of the SD output should be transferred to the AD? c. If Slate mandates the SD and AD managers to "split the difference" on the minimum and maximum transfer prices they would be willing to negotiate over, what would be the resulting transfer price? Does this price achieve the outcome desired in requirement 3 b?
See all solutions

Recommended explanations on Math Textbooks

Theoretical and Mathematical Physics

Read Explanation

Calculus

Read Explanation

Logic and Functions

Read Explanation

Pure Maths

Read Explanation

Decision Maths

Read Explanation

Geometry

Read Explanation
View all explanations

What do you think about this solution?

We value your feedback to improve our textbook solutions.

Study anywhere. Anytime. Across all devices.