ACC2002 Managerial Accounting (S2, 2012/13)

Tutorial 9

For week beginning 8 April 2013

Discussion Questions

1. Problem 13-24 (p.668) Segment reporting and decision-making 2. Problem 13-27 (p.670) Restructuring a segmented income statement 3. Problem 13A-5 (p.686) Transfer price with an outside market 4. Supplement Question: Interdivisional transfers; pricing the final product (see below) 5. Problem A-7 (p.824) Missing data; markup computations: return on investment (ROI);

pricing 6. Problem A-8 (p.824) Target costing

SUPPLEMENT QUESTION: Interdivisional transfers; pricing the final product Continental Industries is a diversified corporation with separate operating divisions. Each division’s performance is evaluated on the basis of profit and return on investment. The Air Comfort Division manufactures and sells air-conditioner units. The coming year’s budgeted income statement, which follows, is based upon a sales volume of 15,000 units. Air Comfort Division

Budgeted Income Statement (in thousands)

Total Per unitSales revenue $12,000 $800Manufacturing costs: Compressor $2,100 $140Other direct material 1,110 74Direct labor 900 60Variable overhead 1,350 90Fixed overhead 960 64Total manufacturing costs $6,420 $428Gross margin $5,580 $372Operating expenses: Variable selling $540 $36Fixed selling 570 38Fixed administrative 1,140 76Total operating expenses $2,250 $150Net income before taxes $3,330 $222

Air Comfort’s division manager believes sales can be increased if the price of the air-conditioners is reduced. A market research study by an independent firm indicates that a 5 percent reduction in the selling price would increase sales volume 16 percent or 2,400 units. The division has sufficient production capacity to manage this increased volume with no increase in fixed costs. The Air Comfort Division uses a compressor in its units, which it purchases from an outside supplier at a cost of $140 per compressor. The Air Comfort Division manager has asked the manager of the Compressor Division about selling compressor units to Air Comfort. The Compressor Division currently manufactures and sells a unit to outside firms which is similar to the unit used by the Air Comfort Division. The specifications of the Air Comfort Division compressor are slightly different, which would reduce the Compressor Division’s direct materials cost by $3 per unit. In addition, the Compressor Division would not incur any variable selling costs in the units sold to the Air Comfort Division. The manager of the Air Comfort Division wants all of the compressors it uses to come from one supplier and has offered to pay $100 for each compressor unit. The compressor Division has the capacity to produce 75,000 units. Its budgeted income statement for the coming year, which follows, is based on a sales volume of 64,000 units without considering Air Comfort’s proposal.

Compressor Division Budgeted Income Statement

(in thousands) Total Per unitSales revenue $12,800 $200Manufacturing costs: Direct material $1,536 $ 24Direct labor 1,024 16Variable overhead 1,280 20Fixed overhead 1,408 22Total manufacturing costs $5,248 $82Gross margin $7,552 $118Operating expenses: Variable selling $768 $12Fixed selling 512 8Fixed administrative 896 14Total operating expenses $2,176 $34Net income before taxes $5,376 $84

Required:

1. Should the Air Comfort Division institute the 5 percent price reduction on its air-conditioner units even if it cannot acquire the compressors internally for $100 each? Support your conclusion with appropriate calculations.

2. Independently of your answer to requirement (1), assume the Air Comfort Division needs 17,400 units. Should the Compressor Division be willing to supply the compressor units for $100 each? Support your conclusions with appropriate calculations.

3. Independently of your answer to requirement (1), assume Air Comfort needs 17,400 units. Suppose Continental’s top management has specified a transfer price of $100. Would it be in the best interest of Continental Industries for the Compressor Division to supply the compressor units at $100 each to the Air Comfort Division? Support your conclusions with appropriate calculations.

4. Is $100 a goal-congruent transfer price? [Refer to your answers for requirements (2) and (3).]

(CMA, adapted)