Transfer Pricing - Parker Corporation
Parker Corporation has two divisions, Ajax and Defco. Both are profit centers. One of the products Ajax manufactures is electrical fitting 1726, which is protected under patent and, thus,is not available from any other source. Its variable costs are $4.25 per unit, and its normal sales price is $7.50.Defco has just been awarded an Air Force contract for the manufacture of a special brake unit.Because Defco was only operating at 50% capacity, it purposefully bid low to increase itschances of winning the contract in what, the manager believed, would be a very competitive process, due to the sagging state of the defense contracting and airline manufacturing industries.The brake's bid sheet shows:Purchased parts from outside vendors $22.50Ajax electrical fitting 1726 5.00Other variable costs 14.00Standard variable manufacturing and delivery costs 41.50Indirect cost markup for fixed factory overhead,administration costs, and profit 8.00Brake bid price $49.50
Required:
a. Recommend whether or not Ajax should supply fitting 1726 to Defco. b. Discuss whether a transfer is in Parker's long-run economic interest.