Robert Products Inc. consists of three decentralized divisions, Bayside Division, Cole Division, and Diamond Division. The president of Robert Products has given the managers of the three divisions the authority to decide whether or not to sell outside the company, or among themselves at a transfer price determined by the division managers. Market conditions are such that sales made internally or externally do not affect market or transfer prices. Intermediate markets are available for Bayside, Cole, and Diamond to purchase all their manufacturing inputs and sell all their products. Each division manager attempts to maximize his or her contribution margin at the current level of operating assets for the division.
The manager of the Cole Division is currently considering the two alternative orders that follow.
(a) The Diamond Division is in need of 3,000 units of a motor that can be supplied by the Cole Division. To manufacture these motors, Cole must purchase components from the Bayside Division at a transfer price of $600 per unit; Bayside's variable cost for these components is $300 per units. Cole Division will further process these components at a variable cost of $500 per unit. If the Diamond Division cannot obtain the motors from Cole Division, it will purchase the motors from London Company, which has offered to supply the same motors to Diamond Division at a price of $1,500 per unit. London Company would also purchase 3,000 components from Bayside Division at a price of $400 for each of these motors; Bayside's variable cost for these components is $200 per unit.
(b) The Wales Company wants to place an order with the Cole Division for 3,500 similar motors at a price of $ 1,250 per unit. Cole Division would again purchase components from the Bayside Division at a transfer price of $500 per unit; Bayside's variable cost for these components is $250 per unit. Cole Division would further process these com¬ponents at a variable cost of $400 per unit.
The Cole Division's plant capacity is limited, and the company can accept the Wales contract or the Diamond Division order, but not both. The president of Robert Products and the manager of the Cole Division agree that it would not be beneficial in the short or long run to increase capacity.
Required:
(1) Assuming that the manager of the Cole Division wants to maximize the short-run contribution margin, determine whether the Cole Division should sell motors to the Diamond Division at the prevailing market price, or accept the Wales Company contract. Support your answer with appropriate calculations.
(2) Disregard your answer to requirement 1 and assume that the Cole Division decides to accept the Wales Company contract. Determine if this decision is in the best interest of Robert Products Inc. Support your answer with appropriate calculations.