Provo Consolidated Resources Company (PCRC) has several divisions. However, only two divisions transfer products to other divisions.
Question:
Brian Jones, manager of the Mining Division, is unhappy with having to transfer the entire output of toldine to the Metals Division at 110 percent of cost. In a meeting with the management of Provo, he said, Why should my division be required to sell toldine to the Metals Division at less than market price? For the year just ended in May, Metals contribution margin was over $19 million on sales of 400,000 units, while Minings contribution was just over $5 million on the transfer of the same number of units. My division is subsidizing the profitability of the Metals Division. We should be allowed to charge the market price for toldine when transferring to the Metals Division.
The following table shows the detailed unit cost structure for both the Mining and Metals divisions during the most recent year.
Required:
1. Explain why transfer prices based on total actual costs are not appropriate as the basis for divisional performance measurement.
2. Using the market price as the transfer price, determine the contribution margin for both the Mining Division and the Metals Division.
3. If Provo Consolidated Resources Company were to institute the use of negotiated transfer prices and allow divisions to buy and sell on the open market, determine the price range for toldine that would be acceptable to both the Mining Division and the Metals Division. Explain your answer.
4. Use the general transfer-pricing rule to compute the lowest transfer price that would be accept able to the Mining Division. Is your answer consistent with your conclusion in requirement (3)? Explain.
5. Identify which one of the three types of transfer prices (cost-based, market-based, or negotiated) is most likely to elicit desirable management behavior a PCRC. Explain youranswer.
Contribution margin is an important element of cost volume profit analysis that managers carry out to assess the maximum number of units that are required to be at the breakeven point. Contribution margin is the profit before fixed cost and taxes...
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