Question

Question 4: (34 marks total) Big Machines Corp. has two divisions. Division Y manufactures components that can be sold in the external market place or transferred to Division Z for further processing. The following data relate to Division Y's component product. Variable manufacturing costs/unit Fixed costs/unit at capacity Selling price/unit $925 $275 $1,800 The capacity of the plant is 2,500 units per year. Division Z has offered to purchase 350 units from Division Y at a price of $1,600/unit, which is the market price of the component. The manager of Division Y has refused this offer stating that it would only return a rate of 25.00%, when the divisional target return on sales is 28.00%. The Division Y manager also states that additional fixed costs of $195,000 would be required to produce the 350 units. The corporate required rate of return is 18% of assets and the existing asset base in Division Yis $2,500,000 Required a. How many units must Division Y sell in order to achieve its required ROR? What profit margin would be earned at this level of sales? (8 marks) b. Assume Division Y currently sells 2,000 units to the external market and can accept Division Z's offer without affecting its external sales. Evaluate the refusal of Division Z's offer from the standpoint of the corporation as a whole and from Division Y manager's perspective. (18 marks) C. Assume Division Y currently sells 2,000 units to the external market and can accept Division Z's offer without affecting its external sales. Calculate Division Y's residual income with and without the sale to Division Z. (8 marks)

Answer 1

Please find the attached image for detailed answer of a,b and c part of question.

Please comment for any explanation.

Thanks,

target ROR 18% $2509.500 Some reverse abiy Units Required to sale to acheive Targeled Rete of Reluso Asset base Jo order to calculate this, we mult Calculo do Calcellahong Required met freone (2500000 x 18%) (to fixed cost (2500x215) Toogeted total contribution No. of units Required to Targeted total contribution contribution per unit $ 450,000 $ 685,500 1) 37,50 $ 11 84,500 / (1800 - 935) B 1300 units are required to sale term of ROR. to acheire desired Profit in Cost (2800x275) lip Profit at currel Level of sale sale ( 2500 x1800) $ 45.00.650 ( vantable (2580 X 925) 23)2,500 Axed cost $687.500 Profit at current level of eap $1500,000 By Slace the current capacity to spare at Level of Sale of 2000 units. Hence it would be loss for division y 8 as a cooporation as a cohole to not to transfer Product of division Y to division z. cohole Evaluation of loss to corporation & Division y Since fixed cost is fixed. This is sunk Cast as it is not likely to be changed with increase in Production of units. Hence Only (variable Cast) contribution Lost shall be considered Contribution Lost to Drvision Y & Corporation as a twhole (Sole -variable cost) X No of units to be sold to I. (1600 - 925) X 350 $236,250 Hence The division y & company will sudden a los of $236250.

ما حط يا اسيا $ 236,150 Я rence Company as a cohole in Loss of because the division y is at Loss of $236,150 ch Cakulation of Residual Income of division y Offer Accepted offer not } Accepted 3600980 (1800x2000) Sate (external) C To division z) Sale 3600,000 floox2000) 5601000 (1600x350) $4160,000 $2291,250) 975* 2350) variable 3600,000 Cost Total sole 1950.000 (975 x 200 fixed cost (Celulated in fost acis) Residual Income difference of $ 218.750 (68+800) (687500 $ 1181,250 $ 962,500 seen if offer is not O can be Hence accepled