Question

Exercise 11-3 (Static) Transfer Pricing Basics [LO11-3]

Sako Company’s Audio Division produces a speaker that is used by manufacturers of various audio products. Sales and cost data on the speaker follow:

Selling price per unit on the intermediate market $ 60

Variable costs per unit $ 42

Fixed costs per unit (based on capacity) $ 8

Capacity in units 25,000

Sako Company has a Hi-Fi Division that could use this speaker in one of its products. The Hi-Fi Division will need 5,000 speakers per year. It has received a quote of $57 per speaker from another manufacturer. Sako Company evaluates division managers on the basis of divisional profits.

Required:

1. Assume the Audio Division sells only 20,000 speakers per year to outside customers.

a. From the standpoint of the Audio Division, what is the lowest acceptable transfer price for speakers sold to the Hi-Fi Division?

b. From the standpoint of the Hi-Fi Division, what is the highest acceptable transfer price for speakers acquired from the Audio Division?

c. What is the range of acceptable transfer prices (if any) between the two divisions? If left free to negotiate without interference, would you expect the division managers to voluntarily agree to the transfer of 5,000 speakers from the Audio Division to the Hi-Fi Division?

d. From the standpoint of the entire company, should the transfer take place?

2. Assume the Audio Division is selling 22,500 speakers per year to outside customers.

a. From the standpoint of the Audio Division, what is the lowest acceptable transfer price for speakers sold to the Hi-Fi Division?

b. From the standpoint of the Hi-Fi Division, what is the highest acceptable transfer price for speakers acquired from the Audio Division?

c. What is the range of acceptable transfer prices (if any) between the two divisions? If left free to negotiate without interference, would you expect the division managers to voluntarily agree to the transfer of 5,000 speakers from the Audio Division to the Hi-Fi Division?

d. From the standpoint of the entire company, should the transfer take place?

3. Assume the Audio Division is selling 25,000 speakers per year to outside customers.

a. From the standpoint of the Audio Division, what is the lowest acceptable transfer price for speakers sold to the Hi-Fi Division?

b. From the standpoint of the Hi-Fi Division, what is the highest acceptable transfer price for speakers acquired from the Audio Division?

c. What is the range of acceptable transfer prices (if any) between the two divisions? If left free to negotiate without interference, would you expect the division managers to voluntarily agree to the transfer of 5,000 speakers from the Audio Division to the Hi-Fi Division?

d. From the standpoint of the entire company, should the transfer take

Answer 1

1.Spare capacity = 5,000 units

a.Lowest acceptable transfer price for Audio division= Variable cost per unit

= $42

b.Highest acceptable transfer price is equal to the price paid to outside manufacturer = $57 per unit

c.Acceptable range = $42-$57

Yes, they will agree

d.Yes

2.a.Spare capacity: 2500 units

a.Lowest acceptable transfer price is equal to the market price i.e. $60 per unit for lost sales and $42 for spare capacity i.e. average price of $51 per unit

b.Highest acceptable transfer price is equal to the price paid to outside manufacturer = $57 per unit

c.Acceptable range $51-$57

Yes, they will agree

d.Yes

3.a.Spare capacity: 0 units

a.Lowest acceptable transfer price is equal to the market price i.e. $60 per unit

b.Highest acceptable transfer price is equal to the price paid to outside manufacturer = $57 per unit

c.No Acceptable range

No, they will not agree

d.No