Question

MVS, Inc. produces cleaning equipment, and operates several divisions. Division A produces a product that it sells to other companies for $25 per unit. It is currently operating at full capacity of 60,000 units per year. Variable manufacturing cost is $13 per unit, and variable marketing cost is $3 per unit.
The company wishes to create a new division, Division B, to produce an innovative new tool that requires the use of Division A's product (or one very similar). Division B will produce 20,000 units. Division B can purchase a product equivalent to Division A's from Company X for $18 per unit. However, MVS, Inc. is considering having Division A supply Division B with the product.
If Division A supplies Division B, the transfer price would be $16 and there would be no marketing costs associated with the units.
Required:
a) From Division A's perspective the net benefit (cost) is ___________.

Answer 1

Answer:

Net cost = $(120,000)

Explanation:

Division A is already operating at full capacity. This implies that it can sell all (60,000 units)l that it can produce. To preserve it current level of profit, any units sold to Division B would profitable provided it generates the same of amount of contribution currently earned.

Contribution earned from external sales = 25 - (13+3)=  $9

Contribution earned from internal sales =  16- 13 = $3

Note that the variable market cost is not included in computing the contribution earned from internal sales because there wont be marketing cost.

Lost in contribution per unit from internal sales = $9- $3 = $6

Total loss = $6× 20,000 =($120,000).

Net cost = $120,000