Aulman Inc. has a number of divisions, including a Furniture Division and a Motel Division. The Motel Division owns and operates a line of budget motels located along major highways. Each year, the Motel Division purchases furniture for the motel rooms. Currently, it purchases a basic dresser from an outside supplier for $40. The manager of the Furniture Division has approached the manager of the Motel Division about selling dressers to the Motel Division. The full product cost of a dresser is $29. The Furniture Division can sell all of the dressers it makes to outside companies for $40. The Motel Division needs 10,000 dressers per year; the Furniture Division can make up to 50,000 dressers per year. Also, assume that the company policy is that all transfer prices are negotiated by the divisions involved.

Required:

a. What is the maximum transfer price?
b. What is the minimum transfer price?
c. Suppose that the two divisions agree on a transfer price of $35. What is the benefit for the Furniture Division? For the Motel Division? For Aulman Inc. as a whole?

a. $40

b. $29

c.

benefit for the Furniture Division is $6

benefit for the Motel Division is $5

benefit for the Aulman Inc. as a whole is $1

Explanation:

a. What is the maximum transfer price?

Maximum Transfer price is the point where the Receiving department break even.

Selling Price - Variable Costs - Max TP = 0

Therefore

Max TP = Selling Price - Variable Costs

             = -$40 (data incomplete)

Consider Market Price

b. What is the minimum transfer price?

Minimum transfer price = Variable Costs - Internal Savings + Opportunity Cost

                                        = $29

What is the benefit for the Furniture Division?

benefit = Min TP - Negotiated TP

           =$29-$35

           =$6

Selling at higher price

What is the benefit for the Motel Division?

benefit = Max TP - Negotiated TP

           =$40-$35

           =($5)

Enjoys reduction of costs

What is the benefit for Aulman Inc. as a whole?

benefit for Aulman Inc = benefit for the Furniture Division + benefit for the Motel Division

                                     = $6 + ($5)

                                     = $1

answer; capital structure decision;