# transfer prices for Nexta's Divisions

Nexta's division A produces a product that can be sold for $200 or transferred to Division B as a component for its product. Division B can buy the part from another suppler at $180. In the current period, Division B purchased 1,000 units from Division B. Data on a per-unit basis follows:

Division A Division B

Selling Price $200 $600

Variable Cost $100 $200

Allocated fixed costs 90 159

The variable cost in Division B does not include the cost of the component provided by Division A or the outside supplier.

Required.

a) What is the minimum transfer price if Division A is operating at capacity?

What is the minimum transfer price if Division A is operating below capacity?

b) Calculate the effect on the company's contribution margin if Division A has excess capacity and Division B buys 1,000 units from the outside supplier.

c) What is the contribution margin for the company for 1,000 units if Division A is required to sell to Division B when there is no excess capacity? What is the contribution margin for the company if Division A is at capacity and sells 1,000 units to the external market and Division B purchases 1,000 unit from an outside supplier?

d) I t is more profitable for the company to require Division A to transfer units to Division B. Explain.

e) If there are no outside suppliers and Division A is at capacity, is the company better off to have Division A sell externally or internally? Show your calculation.

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#### Solution Preview

Nexta's division A produces a product that can be sold for $200 or transferred to Division B as a component for its product. Division B can buy the part from another suppler at $180. In the current period, Division B purchased 1,000 units from Division B. Data on a per-unit basis follows:

Division A Division B

Selling Price $200 $600

Variable Cost $100 $200

Allocated fixed costs 90 159

The variable cost in Division B does not include the cost of the component provided by Division A or the outside supplier.

Required.

As per ustransferpricing, "The "arm's-length principle" of transfer pricing states that the amount charged by one related party to another for a given product must be the same as if the parties were not related. An arm's-length price for a transaction is therefore what the price of that transaction would be on the open market."

Hence one has to consider the relevant cost of the manufacturing and also compare with the market price for setting up the price.

a) What is the minimum transfer price if Division A is operating at capacity?

The minimum transfer price if ...

#### Solution Summary

Response helps in computation of transfer prices for Nexta's Divisions