Problem:
In each of the cases below, assume that Division X has a product that can be sold either to outside customers or to Division Y of the same company for use in its production process. The manager of the divisions are evaluated based on their divisional profits.
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Case
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A
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B
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Division X:
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Capacity in units
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100,000
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100,000
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Number of units being sold to outside customers
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100,000
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80,000
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Selling price per unit to outside customers
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$50
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$35
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Variable costs per unit
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$30
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$20
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Fixed costs per unit (based on capacity)
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$8
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$6
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Division Y:
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Number of units needed for production
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20,000
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20,000
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Purchase price per unit now being paid to an outside supplier
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$47
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$34
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Refer to the data in case A above. Assume that $2 per unit in variable selling costs can be avoided on intracompany sales. If the managers are free to negotiate and make decisions on their own, will a transfer take place? If so, within what range will the transfer price fall? Explain.
Refer to the data used in case B above. In this case, there will be no reduction in variable selling costs on intracompny sales. If the manager are free to negotiate and make decisions on their own, will a transfer take place? If so, within what range will the transfer price fall? Explain.