Problem $10\mathrm{.}29$ Transfer Pricing with Idle Capacity

Oriole, Inc., owns a number of food service companies. Two divisions are the Coffee Divi$-$

sion and the Donut Shop Division. The Coffee Division purchases and roasts coffee beans

for sale to supermarkets and specialty shops. The Donut Shop Division operates a chain of

donut shops where the donuts are made on the premises. Coffee is an important item for sale

along with the donuts and, to date, has been purchased from the Coffee Division. Company

policy permits each manager the freedom to decide whether or not to buy or sell internally.

Each divisional manager is evaluated on the basis of return on iavestment and residual

iacome.

Recently, an outside supplier has offered to sell coffee beans, roasted and ground, to the

Donut Shop Division for $$4\mathrm{.}30$ per pound. Since the current price paid to the Coffec Divi$-$

sion is $$4\mathrm{.}75$ per pound, Ashleigh Tremont, the manager of the Donut Shop Division, was

interested in the offer. However, before making the decision to switch to the outside sup$-$

plier, she decided to approach Santigui Melendez, manager of the Coffee Division, to see if

be wanted to offer an even better price. If not, then Ashleigh would buy from the outside

supplier.

Upon receiving the information from Ashleigh about the outside offer, Santigui gathered the

following information about the coffee:

Direct materials$=0\mathrm{.}95$

Direct labor$=0\mathrm{.}45$

variable overhead$=0\mathrm{.}72$

fixed overhead$=1\mathrm{.}53$

$($fixed overhead is based on $1,530,000/1,000,000$ pounds$)$

total unit cost$=$ $$3\mathrm{.}65$

Selling price per pound$=$ $$4\mathrm{.}75$

Production capacity$=1,000,000$ POUNDS

Internal $=100,000$ pounds

Required:

$1.$ Suppose that the Coffee Division is producing at capacity and can sell all that it produces to

outside eustomers. How should Santigui respond to Ashleigh's request for a lower transfer price? What will be the effect on firmwide profit? Compute the effect of this response on each division's profits.

$2.$ Now, assume that the coffee divison is currently selling $950,000$ pounds. if no units are sold internally, total coffee sales will drop to $850,000$ pounds. suppose that Santigui refuses to lower the transfer price from $$4\mathrm{.}75$ and the donut division purchases from the external supplier. compute the effect on each division's profits and on the profits of the firm as a whole.

$3.$ refer to requirement $2.$ what are minimum and maximum transfer prices? suppose that thet ransfer price is set at the maximum price less $$1.$ will the two divisions accept this transfer price? compute the effect on the firm's profits and on each division's profits.

$4.$ suppose that the coffee division has operating assets of $$2,000,000.$ assume that the coffee division sells $850,000$ pounds to outsiders and $100,000$ pounds to the donut divison at a price of $$4\mathrm{.}75$ per pound. What is divisional ROI based on the situation? Refer to requirement $3$ what will divisioonal ROI be if the transfer price of the maximum price less $$1$ is implemented? how will the change in ROI affect santigui? what information has he gained as a result of the transfer pricing negotiations?

PLEASE ANSWER THESE FOUR QUESTIONS AND WITH WORK, THANK YOU!!!!!