Reference no: EM132970429

The EKTA Company, founded in 1992, is a manufacturer and exporter of highend bicycles. Its assembly division buys bicycle frames from the frame division and assembles the bicycles. The frame division, which is operating at capacity, incurs an incremental manufacturing cost of $65 per frame. The frame division can sell all its output to the outside market at a price of $100 per frame, after incurring a variable marketing and distribution cost of $8 per frame. If the assembly division purchases frames from outside suppliers at a price of $100 per frame, it will incur a variable purchasing cost of $7 per frame. EKTA's division managers can act autonomously to maximize their own division's operating income.

Problem 1. Now suppose that frame division can sell only 70% of its output capacity of 20,000 frames per month on the open market. Capacity cannot be reduced in the short run. The assembly division can assemble and sell more than 20,000 bicycles per month.

i. What is the minimum transfer price at which the frame division manager would be willing to sell frames to the assembly division?

ii. From the point of view of EKTA's management, how much of the frame division's output should be transferred to the assembly division?

Problem 2. The EKTA's main competitor does not manufacture their bicycle frames. They purchase the frames from outside suppliers for their Assembly Division. Do you believe that this difference in operations gives either EKTA or their competitor a pricing advantage over the other? Explain your answer.