Transfer Pricing VI Agreed market price = Rs. 8.50 – existing marginal cost Rs. 4.00 = Rs. 4.50 profit per unit. Total profit = 50,000 units X Rs. 4.50 = Rs. 2,25,000. 7.
A company is organized into two divisions namely A and B. A produces three products, K, L and M. The relevant data per unit is given below.
Particulars Market price Variable costs Direct labor hours Maximum sales potential - units
K Rs. 120 84 4 1600
L Rs. 115 60 5 1000
M Rs. 100 70 3 600
Division B has a demand for 600 units of product L for its use. If division A cannot supply the requirements, division B can buy a similar product from market at Rs.112 per unit. What should be the transfer price of 600 units of L for division B, if the total direct labor hours available in division A are restricted to 15,000 Solution Statement showing contribution per direct labor hour Particulars Market price Variable costs Contribution Direct labor hours Contribution per direct labor hours Ranking
K Rs. 120 84 36 4 9 III
L Rs. 115 60 55 5 11 I
M Rs. 100 70 30 3 10 II
Statement showing utilization of labor hours Product
Hours per unit
L M K
5 3 4
Max. sales/ production 1000 600 1600
Hours used Balance hours 5000 1800 6400
100000 8200 1800
Transfer price of 600 units of L for division B Balance hours available = 1,800 hours [15,000 – 13,200] Hour per unit of product L = 5 hours Number of units of L = 1,800 /5 = 360 units 360 units of L can be produced by utilizing balance hours and this means that balance 240 units of product L will have to be transferred to B from existing production. Thus there will be foregoing of contribution. As per the statement number one, contribution per hour for K is the lowest. Thus 240 units of L can be produced by foregoing contribution on K. 426