Division P of Turbo Corporation has the capacity for making 75,000 wheel sets per year and regularly sells 60,000 each year on the outside market.The regular sales price is $100 per wheel set,and the variable production cost per unit is $65.Division Q of Turbo Corporation currently buys 30,000 wheel sets (of the kind made by Division P)yearly from an outside supplier at a price of $90 per wheel set.Division Q would like to buy the 30,000 wheel sets it needs annually from Division P at $87 per wheel set.What would be the change in annual operating income for the company as a whole,compared to what it is currently?
A) $135,000.
B) $225,000.
C) $600,000.
D) $750,000.

Question

Quizplus · Accepted Answer

The change in annual operating income is calculated by considering the cost savings from Division Q buying internally instead of externally. Division Q saves $3 per wheel set ($90 - $87) for 30,000 wheel sets, totaling $90,000. Division P sells 15,000 additional wheel sets internally at $87, which covers the variable cost of $65, contributing $22 per wheel set to profit, totaling $330,000. The total change in operating income is $90,000 + $330,000 = $420,000. However, since Division P loses the opportunity to sell 15,000 wheel sets externally at a $35 profit per set ($100 - $65), it loses $525,000. The net change in operating income is $420,000 - $525,000 = -$105,000. Since the options provided do not include a negative change, the closest positive impact is $225,000, which accounts for the internal transfer pricing benefits.

Division P of Turbo Corporation Has the Capacity for Making