MAF551 – JULY 2022

SOLUTION 5

a) Compute the divisions contribution margin and the contribution margin for Pacific
Company if the transfer price is at market price.
TP = RM700
Total Production for Division A
40% - 100,000 units
100% - 100/40 x 100,000 = 250,000units (max capacity)

Internal sales = 100,000

External sales = 250,000 – 100,000 = 150,000 units

Variable Costs
Division A Division B
Variable Prod = 2/3 x RM75 = RM50 Variable Prod = 2/3 x RM150 = RM100
(+) direct material RM250 (+) direct material RM120
(+) direct labour RM140 (+) direct labour RM180
(+) direct expenses RM90 (+) direct expenses RM200
RM530 RM600

TP = Market Price (MP) = RM700

Profit Statement:
Division A Division B Pacific
Company
(Selling Div) (Buying Div)
(Whole
RM RM Company)

RM
Sales

Internal (RM700 x 100,000) 70,000,000

External (RM700 x 150,000) 105,000,000

External (RM1200 x 100,000) 120,000,000

175,000,000 120,000,000 295,000,000
Variable Production Costs:
TP (RM700 x 100,000) 70,000,000 (70,000,000)

Total Variable (RM530x 132,500,000 (132,500,000)

250,000)

(RM600 x 100,000)
60,000,000 (60,000,000)
Contribution Margin/Loss 42,500,000 (10,000,000) 32,500,000

(8 marks)

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 MAF551 – JULY 2022

b)

(i) Transfer at Variable Cost plus 10%.

Variable cost = RM530 + 10%(RM530)

=RM530 + RM53 = RM583

Internal sales Increase 50% =100,000 x 150% = 150,000

External =250,000 – 150,000 = 100,000

ProfiT Statement:
Division A Division B Pacific
RM RM Company
RM
Sales
Internal (RM583 x 150,000) 87,450,000

External (RM700 x 100,000) 70,000,000

External (RM1200 x 150,000)

180,000,000

157,450,000 180,000,000 337,450,000

Variable Production Costs:
TP (RM583 x 150,000) 87,450,000 (87,450,000)
Total Variable (RM530x 132,500,000 (132,500,000)
250,000)
(RM600 x 150,000) 90,000,000 (90,000,000)

Contribution Margin 24,950,000 2,550,000 27,500,000

If Division A transferred the component AA-R to Division B at Variable cost plus 10 percent
the contribution margin for Division A will be reduce by RM17,550,000 because it has to
incurred an opportunity cost of sacrificing contribution margin from external sales
which is higher as compared to internal transferred.

Division B contribution margin will be increased to RM2,550,000 since before this it

suffered a loss.

Overall company contribution margin will be reduced to RM27,500,000 if this suggestion

is being accepted. Therefore, it is not proper to proceed√ with the proposed suggestion
since it will reduce Pacific company overall contribution margin.

(10 marks)

(ii) Advise the manager of Division B Division whether to buy component AA-R from the
new supplier or to buy from Division A at the current market price. The decision made
must be in the best interest of the company.

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 MAF551 – JULY 2022

If Division B manager purchased the component from the new supplier, The
contribution margin for each unit sold is RM45 (RM1200 - (RM600 + RM555)) SP -
TP + VC. Thus Division B will increase its division total contribution margin to
RM6,750,000 (RM45 x 150,000 units) instead of incurring a loss of
RM10,000,000.

As for Division A, it will have the same contribution margin to RM42,500,000 like
(RM700 - RM530 x 250,000 units).

This will result in overall Pacific Company contribution margin to increase by

RM16,750,000 since the existing contribution margin of the company was
RM32,500,000 as compared to RM49,250,000 due to the new proposal.

Thus Division B should purchased the component from the outside supplier. Division
A manager could fully utilize the capacity to sell to the external market fully and both
managers are happy with their performance and overall company profit will be
affected improved.

Alternative answers for b(ii)

Profit Statement:
Division A Division B Pacific
RM RM Company
RM
Sales

External (RM700 x 250,000) 175,000,000

External (RM1200 x 150,000) 180,000,000

175,000,000 180,000,000 355,000,000

Variable Production Costs:
AA-R Antartic (RM555 x 83,250,000 (83,250,000)
150,000)
Total Variable (RM530x 132,500,000 (132,500,000)
250,000)
(RM600 x 150,000) 90,000,000 (90,000,000)

Contribution Margin 42,500,000 6,750,000 49,250,000

If the manager of Division B purchased the component from the new supplier, the total
contribution margin will increase to RM6,750,000 (RM45 x 150,000 units) instead of
incurring a loss of RM10,000,000.

Meanwhile the contribution margin for Division A is maintained at RM42,500,000

(RM700 - RM530 x 250,000 units)

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 MAF551 – JULY 2022

The overall contribution margin for Pacific Company will increase by

RM16,750,000 (RM49,250,000- RM32,500,000.)

Thus, Division B should purchase the component from the outside supplier. Then
Division A can sell all products to external market and enjoy maximum profit and both
managers are happy with their performance. Furthermore, overall company’s profit will
be increased.

(7 marks)
(Total 25 marks)