Reference no: EM13875488
Transfer Pricing; Decision Making Phoenix Inc., a cellular communication company, has multiple divisions. Each division's management is compensated based on the division's operating income. Division A currently purchases cellular equipment from outside markets and uses it to produce communication systems. Division B produces similar cellular equipment that it sells to outside customers but not to division A at this time. Division A's manager approaches division B's manager with a proposal to buy the equipment from division B. If it produces the cellular equipment that division A desires, division B would incur variable manufacturing costs of $60 per unit.
Relevant Information about Division B
Sells 50,000 units of equipment to outside customers at $130 per unit.
Operating capacity is currently 80 percent; the division can operate at 100 percent. Variable manufacturing costs are $70 per unit.
Variable marketing costs are $8 per unit. Fixed manufacturing costs are $580,000.
Income per Unit for Division A (assuming parts purchased outside, not from division B)
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Sales revenue Manufacturing costs:
Cellular equipment
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80
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$320
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Other materials
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10
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Fixed costs
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40
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Total manufacturing costs
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130
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Gross margin Marketing costs: Variable
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35
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190
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Fixed
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15
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Total marketing costs
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50
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Operating income per unit
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$140
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Required
1. Division A wants to buy all 25,000 units from division B at $75 per unit. Should division B accept or reject the proposal? How would your answer differ if (a) Division A requires all 25,000 units in the order to be shipped by the same supplier, or (b) Division A would accept partial shipment from Division B?
2. What is the range of transfer prices over which the divisional managers might negotiate a final transfer price? Provide a rationale for the range you provide.
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