Transfer pricing OBJ. 5 Garcon Inc. manufactures electronic products, with two operating divisions, the Consumer and Commercial divisions. Condensed divisional income statements, which involve no intracompany transfers and which include a breakdown of expenses into variable and fixed components, are as follows:

Garcon Inc.

Divisional Income Statements For the Year Ended December 31, 2016 Consumer Division Commercial Division Total Sales:

14,400 units @ $144 per unit $2,073,600 $2,073,600 21,600 units @ $275 per unit $5,940,000 5,940,000

$2,073,600 $5,940,000 $8,013,600 Expenses:

Variable:

14,400 units @ $104 per unit $1,497,600 $1,497,600 21,600 units @ $193* per unit $4,168,800 4,168,800 Fixed 200,000 520,000 720,000 Total expenses $1,697,600 $4,688,800 $6,386,400 Income from operations $ 376,000 $1,251,200 $1,627,200

*$150 of the $193 per unit represents materials costs, and the remaining $43 per unit represents other variable conversion expenses incurred within the Commercial Division.

The Consumer Division is presently producing 14,400 units out of a total capacity of 17,280 units. Materials used in producing the Commercial Division’s product are currently purchased from outside suppliers at a price of $150 per unit. The Consumer Division is able to produce the materials used by the Commercial Division. Except for the possible transfer of materials between divisions, no changes are expected in sales and expenses.

Instructions 1. Would the market price of $150 per unit be an appropriate transfer price for Garcon Inc.? Explain.

2. If the Commercial Division purchases 2,880 units from the Consumer Division, rather than externally, at a negotiated transfer price of $115 per unit, how much would the income from operations of each division and the total company income from operations increase?

3. Prepare condensed divisional income statements for Garcon Inc. based on the data in part (2).

4. If a transfer price of $126 per unit is negotiated, how much would the income from operations of each division and the total company income from operations increase?

5.

a. What is the range of possible negotiated transfer prices that would be acceptable for Garcon Inc.?

b. Assuming that the managers of the two divisions cannot agree on a transfer price, what price would you suggest as the transfer price?

3. Total income from operations,

$1,759,680 Problems: Series B