Reference no: EM133006438

Decentralization and Transfer Pricing Performance

Clear Windows manufactures windows for the home and building industry. It has two divisions: the frame division and the glass division. The Frame division manufactures Frame A42 and sells it to the Glass division, and also sells the same part to the outside market for $45 per unit. The Frame division has a capacity to make 400,000 units of A42 per year.

The division's fixed costs are $8,000,000 per year and its variable costs per unit are as follows:

Direct material per unit $20
Direct labour per unit 12
Variable overhead 8
Variable selling cost if sold outside market 6

Frame A42 is an essential component of the glass division's products, which is windows. It requires one frame A42 to produce a window. The division sells 200,000 units per year at a price of $120 per unit.

The glass division's fixed costs are $5,000,000 per year and its variable costs per unit, excluding the cost of A42, are as follows:

Direct material per unit $10
Direct labour per unit 25
Variable overhead 10

Frame division's demand for Frame A42 from the outside market is currently 150,000 units per year.

Required:

Problem 1: Should the Frame division and Clear Window incur any opportunity costs if the transfer takes place? Justify your answer.

Problem 2: What transfer price range would you suggest to induce both divisions to want the glass division to purchase from the frame division instead of the market? Explain your response.

Problem 3: Refer to the original information. Provide one example of a cost over which Frame division manager may have no control. Discuss why is it important to distinguish between controllable and uncontrollable costs in the context of performance evaluation?