Materials used by Square Yard Products Inc. in producing Division 3's product are currently purchased from outside suppliers at a cost of $5.00 per unit. However, the same materials are available from Division 6. Division 6 has unused capacity and can produce the materials needed by Division 3 at a variable cost of $3.00 per unit. A transfer price of $3.20 per unit is established, and 40,000 units of material are transferred, with no reduction in Division 6's current sales. How much would Division 3's income from operations increase?
a. $150,000
b. $50,000
c. $32,000
d. $72,000

How much would Division 6's income from operations increase?
a. $8,000
b. $15,000
c. $80,000
d. $150,000

How much would Square Yard Products total income from operations increase?
a. $32,000
b. $112,000
c. $80,000
d. $150,000

(1) option (d) $72,000 (2) option (a)$8,000 (3) option (c)$80,000

Explanation:

Solution

Given:

Now,

(1) The total cost to be paid to the supplier outside is given below:

= 40,000 units x $5 per unit

= $200,000

The price of transfer to be paid to Division 6 is given as:

= 40,000 units x $3.20 per = $128,000

Therefore, the increase in income from operations for Division C is  = $200,000 - $128,000  = = $72,000

(2) The income increase from operations is defined below:

Additional Sales x Contribution Per Unit

Thus,

The per unit contribution = Transfer Price – Variable Cost

= $3.20 - $3 = $0.20 per unit

Hence,

The income increase from operations for Division 6  is given as:

= 40,000 units x $0.20 per unit = $8,000  

(3) Now,

The Increase of Income from operations for Division C  and the Increase in income from operations for Division 6  becomes,

= $72,000 + $8000 = $80,000

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