(Interna! versus externai Providence Products Inc. consists of three de¬ centralized divisions: Park, Quayside, and Ricigetop. The president of Provi¬ dence Products has given the managers of the three divisions the authority to decide whether to sell externally or internally at a transfer price the divi¬ sion managers determine. Market conditions are such that internal or exter¬ nal sales will not affect market or transfer prices. Intermediate markets will always be available for Park, Quayside, and Ricigetop to purchase their man¬ ufacturing needs or sell their product. Division managers attempt to maxi¬ mize their contribution margin at the current level of operating assets for their divisions.

The Quayside Division manager is considering the following two alterna¬ tive orders.

• Ridgetop Division needs 3,000 units of a motor that Quayside Division can supply. To manufacture these motors, Quayside would purchase components from Park Division at a transfer price of $600 per unit;

Park’s variable cost for these components is $300 per unit. Quayside Di¬ vision would further process these components at a variable cost of $500 per unit.

If Ridgetop cannot obtain the motors from Quayside, it will pur¬ chase the motors from Essex Company for $1,500 per unit. Essex Com¬ pany would also purchase 3,000 components from Park at a price of $400 for each motor; Park’s variable cost for these components is $200 per unit.

• Saxon Company wants to buy 3,500 similar motors from the Quayside Division for $1,250 per unit. Quayside would again purchase compo¬ nents from Park Division, in this case at a transfer price of $500 per unit; Park’s variable cost for these components is $250 per unit. Quay¬ side Division would further process these components at a variable cost of $400 per unit.

Quayside Division's plant capacity is limited, and therefore the company can accept either the Saxon contract or the Ridgetop order but not both.

The president of Providence Products and the manager of Quayside Division agree that it would not be beneficial in the short or long ran to increase ca¬ pacity.

a. If the Quayside Division manager wants to maximize short-run contribu¬ tion margin, determine whether Quayside Division should (1) sell mo¬ tors to Ridgetop Division at the prevailing market price or (2) accept Saxon Company’s contract. Support your answer with appropriate calcu¬ lations.

b. Without prejudice to your answer to part (a), assume that Quayside Di¬ vision decides to accept the Saxon contract. Determine whether this de¬ cision is in the best interest of Providence Products Inc. Support your answer with appropriate calculations.

(CMA adapted)

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