Question

Leather Ltd has been in business for many years making hand-made, high end, leather goods. One of its products is a designer jacket.

There are two divisions involved in the production of jackets, the Cutting Centre and the Stitching Division. Budgeted production for both divisions is 500 jackets per year.

The Cutting Centre specialises in cutting out the unique designs and currently only supplies to the Stitching Division, which expertly hand stitches the product to make a jacket of exceptional quality.

The Stitching Division then sells the product to exclusive clients for £3,500 per jacket.

The Cutting Centre incurs variable costs of £1,800 per jacket and fixed overheads of £100,000. The Stitching Division incurs further variable processing costs of £900 per jacket and fixed overheads of £50,000.

Required:

1. Calculate the budgeted annual profit for each division and the company as a whole if the cut leather is transferred to the Stitching Division at transfer price of £2,000.

(9 marks)

2. Assuming divisional performance is measured based on profit, discuss and explain the likely reaction of the divisional managers to an imposed transfer price of £2,000. (maximum word count 100 words)

(5 marks)

3. It has now come to light that the Cutting Centre could sell 300 units of cut designs to an external customer for £3,000 per unit. Discuss the effect that this will have on Leather Ltd’s profits and the willingness of each divisional manager to accept an imposed transfer price of £2,000 in each of the following scenarios separately:

Scenario 1: The Cutting Centre capacity is sufficient to supply both the external customer and the Stitching Division.

Scenario 2: A restricted supply of skilled labour means that the Cutting Centre has a maximum production capacity of 500 units.

Use calculations to support your answer. (maximum word count 120 words)

(8 marks)

4. If the Cutting Centre’s demand from external customers grows until it reaches a point where it is working at maximum capacity supplying goods to external customers at £3,000 a unit, calculate and explain the minimum transfer price that the Cutting Centre would charge, assuming other costs remain the same. (maximum word count 60 words)

(6 marks)

Answer 1

transferred to stitched Answer: Page 1 As per the data - Leather Ltd has been in business for many years making hand-made , highend, leather goods.--. a) calculation of budgeted poofit if car leather dept dept of 2000 Amount in Pounds (£) Particulars (cut Division stitched Division unit 500 500 sales poice / transfer £2,000.00 £3,500.00 £3,500.00 Price £ 1,800.00 £ 900.00 £ 2,700.00 I transfer cost £2,000.00 (fixed cost £ 1,00,000.00 £50,000.00 £1,50,00.00 £ 2,50,000.00 £2,50,000.00 Budgeted poefit of Division: Lout is stitched £ 2,50,000.00 £2,50,000.00 MnYSNILMAVAUMIVUITTON Leather ltd. 500 cast: variable Budgeted profit Nil company as a whole

.b) Page 2 -> As we see in above given situation whese cal division transfer the unit to stitched department for 2000 per unit by doing this it can de cover its cost only -) If performance is measured on the basis of Profit first thing divisional manager analyse whether there is market for its Product and what is its maoket sate if mooket date is available divisional manager would transfer the unit to another opt on that Price only. if market date is not available then divisional manager insist to transfer the unit on cast+ Margin, the transfer Price in that Case should be reasonable

Page 3 and transfer Price should not be like that it cost more to the stitched dept otherwise conflict will create and receiving dept would purchase it form market itself. > In the given Case overall total profit comes one unit is 3500-900 - 1800 on = 800 » Divisional manager would insist it to divide it equally. it means that transfer price would may be =1800 + 400 2 200 is the transfer price only where both the dept could agree. According this budget profit of cutting dept = 1,00,000

page-te c) If there is a external deman. b) If there is enough capacity to produce in order to satisfy the need of both external dept as well as stitchd dept then cutting division would sell 300 unit @ 3000 external buyer and transfer 500 units to stitched division @ transfer Poice of 2000 to 1200 x 300 A: Enough capacity :-) If this happen then profit of leather its would enhanced by 300 unit x (3000 - 1800) = 3,60, -> If there is a bar on production Capacity then cutting dept would sell 300 unit to external dept and 200 units 000 ge

Page - 5 to stitched dept if stitched could buy it from outside between range of (2000 - 3000). In this case only profit of Leather Itd would also enhance. 08 3000 B: Maximum production capacity 500 -) If stitched department can't purchase from outside price is more than in both the cases cut division should transfer the unit to leather dept that may include 300 unit for 3000 and 200 units for 2000. In this case there would be no change in profit of leather ltd. e) If cutting dept external demand reaches to the maximum point

Page 6 i. e, @ 3000 price then the price that would be charged by cutting dept to stitched dept would be its external cost ie@ 3000 per unit if they tog dess than 3000 pound then profit of would fall and performance division hamper. so transfer price would be Pound 3000 per unit. Х Please give me positive like.