Gage Corporation has two operating divisions in a semiautonomous organizational structure. Adams Division, located in the United States, produces a specialized electrical component that is an input to Bute Division, located in the south of England. Adams uses idle capacity to produce the component, which has a domestic market price of $36. Its variable costs are $15 per unit. Gage’s U.S. tax rate is 40 percent of income.
In addition to the transfer price for each component received from Adams, Bute pays a $9 per unit shipping fee. The component becomes a part of its assembled product, which costs an additional $6 to produce and sells for an equivalent of $69. Bute could purchase the component from a Manchester (England) supplier for $30 per unit. Gage’s English tax rate is 70 percent of income.
Assume that English tax laws permit transferring at either variable cost or market price.
Required
a. What transfer price is economically optimal for Gage Corporation? Show computations.
b. Is it ethical to choose a transfer price for tax purposes that is different from the transfer price used to evaluate a business unit’s performance?
c. Suppose Gage had a third operating division, Case, in Singapore, where the tax rate is below that of the United States. Would it be ethical for Gage to use different transfer prices for transactions between Adams and Bute and between Adams and Case?