Evaluating Transfer Prices. Newmill Enterprises runs a chain of drive-in hamburger stands in northern Michigan during the summer season. Each stand's manager is told to act as if the stand will be judged on its own profit performance. Newmill has set up a separate business to rent a soft ice cream machine for the sunımer and to supply its burger stands with ice cream for their frappes. Rent for the machine is \(\$ 1,000\). Newmill is not allowed to sell ice cream to other dealers because it cannot obtain appropriate licenses. The manager of the ice cream business charges the stands \(\$ 3\) per gallon. Operating figures for the machine for the summer are as follows:

The manager of Clam Bar, one of the Newmill drive-ins, is seeking permission to sign a contract to buy ice cream from an outside supplier at \(\$ 2.40\) a gallon. The Clam Bar uses 2,000 gallons of soft ice cream during the summer. Frank Redmond, controller of Newmill Enterprises, refers this request to you. You determine that other fixed costs of operating the machine will decrease by \(\$ 500\) if Clam Bar purchases from an outside supplier. Redmond wants an analysis of the request in terms of overall company objectives and an explanation of your conclusion.
\section*{Required:}
Evaluate these transfer prices: \(\$ 3.00, \$ 2.40, \$ 2.10\), and \(\$ 1.60\). Recommend a price Explain.

Transcribed Image Text:

Sales to the stands (10,000 gallons x $3) Variable costs, $1.60 per gallon... Fixed costs: Rental of machine... Other fixed costs.. Operating margin $ 30,000 $16,000 1,000 4,000 21,000 $ 9,000