Athena Company has two divisions. Spartan Division, which has operating assets of $80,000,000 produces and sells 900,000 units of a product at a market price of $140 per unit. Variable costs total $40 per unit. The division also assigns $70 of fixed costs to each unit based on total capacity of 1,000,000 units.
Trojan Division wants to purchase 200,000 units from Spartan. However, it is only willing to pay $80 per unit because it has an opportunity to accept a special order at a reduced price. The order is economically justifiable only if Trojan Division can acquire Spartan Division’s output at a reduced price.
Athena Company’s cost of capital is 15%.
Required:
1) What is the sales revenue at this transfer price?
2) If Spartan Division had no capacity constraints, what is the minimum transfer price it could accept on the order from Trojan Division? Explain your answer.
3) If Spartan Division could sell all units produced to the outside market, what transfer price would you recommend? Why?
1) What is the sales revenue at this transfer price?
| External Units |
Internal Transfer |
|
| Sales | 800000 | 200000 |
| Sales price | 140 | 80 |
| Sales Revenue 140*800000 80*200000 |
112000000 | 16000000 |
| Total Sales Revenue | 128000000 |
2) If Spartan Division had no capacity constraints, what is the minimum transfer price it could accept on the order from Trojan Division? Explain your answer.
| Particular | Amount in$ |
| External Revenue (800000*140) |
112000000 |
| Internal Revenue | ? |
| variable Cost 1000,000*40 |
40000000 |
| Fixed Cost 1,000,000*70 |
70000000 |
| 2000000 |
Operating Income = (External Revenue + Internal Revenue) – (Variable Cost + Fixed Cost)
$20,000,000 = ($112000,000 + IR) – ($40,000,000 + $70,000,000)
$20,000,000 = ($11,200,000 + IR) – $110,000,000
$130,000,000 = 112,000,000 + IR
IR =$ 18,000,000
TP =
| Step 2:Find Price per Unit | |
| Units Purchased | 200000 |
| Total Revenue | 18,000,000 |
| Price per Unit | 90 |
| Opearting income without transfer | |
| Sales | |
| Units sold | 900000 |
| Price per Unit | 140 |
| Total Sales | 126000000 |
| Investment Base | 80000000 |
| Variable Cost (per unit) | 40 |
| Fixed Cost (per unit) | 70 |
| Capacity | 1000000 |
| Operating Income (140-40*900000-70*1000000) |
20,000,000 |
3) If Spartan Division could sell all units produced to the outside market, what transfer price would you recommend? Why
If it could sell all the product to the outside it can expect to transfer at 140 otherwise it could sell in the market
