MCS – 2007
Two Divisions A and B of Satyam Enterprises operate as Profit centers. Division A normally purchases annually 10,000 nos. of required components from Div. B; which has recently informed Div. A that it will increase selling price per unit to Rs.1,100. Div. A decided to purchase the components from open market available at Rs. 1000 per unit. Naturally, Div. B is not happy and justified its decision to increase price due to inflation and added that overall company profitability will reduce and the decision will lead to excess capacity in Div. B, whose variable and fixed costs per unit are respectively Rs. 950 and Rs. 1,100.a)Assuming that no alternate use exists for excess capacity in Div. B, will company as a whole benefit if div A buys from the market. b)If the market price reduces by Rs. 80 per unit. What would be the effect on the company(assuming Div. B still has excess capacity) if A buys from the market c)If excess capacity of Div. B could be used for alternative sales at yearly cost savings of Rs.14.5 lacs, should Div. A purchase from outside? Justify your answers with figures.
Solution:a)Option A ( Div A buys from outside)
Total Purchase Cost = 10,000 Units * Rs. 1000 = Rs. 1,00,00,000
Total outlay if transferred inside = 10,000 Units * Rs. 950 = Rs. 95,00,000
Since total outlay if transferred inside is lesser than total purchase cost if bought from outside,relevant cost is the lesser one i.e. Rs. 95,00,000 and overall benefit for the company would be Rs.5,00,000
b)Option B ( if the market price is reduced by Rs. 80 per unit and A buys from the market)
Total Purchase Cost = 10,000 Units * Rs. 920 = Rs. 92,00,000
Total outlay if transferred inside = 10,000 Units * Rs. 950 = Rs. 95,00,000
Since total purchase cost is lesser than the total outlay if transferred inside, relevant cost is thelesser one i.e. 92,00,000 and overall benefit for the company would be Rs. 3,00,000
c)Option C ( if excess capacity of Div B could be used for alternative sales at yearly cost savings of Rs 14.5 lacs, should Div A purchase from outside)
Total Purchase Cost = 10,000 Units * Rs. 1,000 = Rs. 1,00,00,000
Total outlay if transferred inside = 10,000 Units * Rs. 950 = Rs. 95,00,000
Total opportunity cost if transferred inside = Rs. 14,50,000
Total relevant cost becomes Rs. 1,00,00,000
If Div A purchase from outside, overall benefit for the company would be Rs. 9,50,000.
Therefore, Div A should purchase from outside.