The Bathtub Division of Kirk Plumbing Corporation has recently approached the Fa

Question

The Bathtub Division of Kirk Plumbing Corporation has recently approached the Faucet Division with a proposal. The Bathtub Division would like to make a special "ivory" tub with gold-plated fixtures for the company's 50-year anniversary. It would make only 4,800 of these units. It would like the Faucet Division to make the fixtures and provide them to the Bathtub Division at a transfer price of $170. If sold externally, the estimated variable cost per unit would be $140. However, by selling internally, the Faucet Division would save $9 per unit on variable selling expenses. The Faucet Division is currently operating at full capacity. Its standard unit sells for $49 per unit and has variable costs of $33. Compute the minimum transfer price that the faucet division should be willing to accept

Explanation / Answer

The minimium transfer price is equal to divisions variable cost + its opportunity cost .

Opportunity cost is equal to the contribution margin on external sales.

Opportunity cost = selling price - variable costs

i.e $49 - $ 33 = $16

Minimum transfer price = variable cost + opportunity cost

= ($140- $9) + $ 16 = $147

THus the minimum transfer price that the faucet division should be willing to accept is $147.

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