Mason Metal Creations is a medium size company located in Barrie, Ontario. The company specializes in designing and producing metal elements and home decor. The Metal Elements division can transfer the metal elements to the Home Decor division or it can sell these to external customers. Metal Elements currently produces and sells 175,000 elements per year to the external customers at an average price of $19 per element. Variable costs of production average $11.50 and fixed costs of $7.80 per element. Metal Elements incurs $1.75 of variable selling costs on external sales. Fixed costs are based on the practical capacity of the plant which is 210,000 elements per year. The Home Decor division is interested in acquiring up to 35,000 elements per year.

Required:

From the standpoint of Mason Metal Creations, should the elements be transferred? Determine the financial benefit or cost of your recommendation. (3 marks)

Using the general guidelines for transfer pricing, what is the minimum transfer price Metal Elements should accept? (2 marks)

What is the range of acceptable transfer prices? (3 marks)

Now assume that demand in the external market for the components is expected to increase by 6%. Home Decor has negotiated with an external supplier to supply 35,000 elements at a price of $17.00 per element. If Home Decor reduces its volume below the 35,000 elements, it must pay $21 per element. What is the optimum sourcing arrangement for the company? (12 marks)