Question

Question:The Watkins Company is decentralized, and divisions are considered investment centers. Watkins specializes in sports equipment, and one division manufactures netting that is used for basketball hoops, soccer goals, and other sports equipment. The Netting Division reports the following information for a heavy-duty basketball hoop net:

Sales Price per Unit \( 18

Variable Cost per Unit 6

Contribution Margin per Unit \) 12

The Basketball Equipment Division can purchase a similar heavy-duty net from an outside vendor for $15.

Requirements

1. Determine the negotiable range for the transfer price.

2. What is the minimum transfer price the Netting Division should consider if operating at capacity? Below capacity?

3. What is the maximum transfer price the Basketball Equipment Division should consider?

Short answer

Answer

Step-by-step solution

Negotiable range for the transfer price

The transaction price is the price of one unit of goods when the transaction takes place between the divisions of the same company.

Thus this transfer price would not be a fixed amount and would be set within a range.

Any division would sell its unit to outsiders at a fixed selling price. So this selling price would be the maximum transfer price.

Similarly, for any product or service, there would be a variable cost per unit. This variable cost is the margin cost below which the product or service would not be sold to anyone. Thus this variable cost per unit is the minimum transfer price.

So, in the given case the negotiable range for the transfer price is $6 - $18.

Transfer price at capacity and below capacity

If the division is operating at capacity, then it is producing and selling all of its capable units and would not be able to expand the facility and be able to add more employees-equipment.

Thus in this situation, the division has the choice to sell either to customers or to any other division. Because the division has the choice, the transfer price should be based on the market price which is the maximum selling price. Below this price, there would be a loss for both –the division and the company, So at capacity, the minimum transfer price for the netting division is $18.

If the division is operating below capacity it has the opportunity to sell any division at any amount equal to or above variable cost. Selling at any price above variable cost would generate more contribution for the division and would increase profit for both - the division and the company. So below capacity, the minimum transfer price for the netting division is $6.

Maximum transfer price to be considered

The maximum transfer price for the basketball equipment division to be considered would be the sales price per unit for the netting division. So, the maximum transfer price for the basketball division equals $18

This is the price at which the netting division sells the net to the customer. Thus basketball division would not accept any amount as a transfer price above this selling price.