=+19-25 K Transfer-pricing dispute OBJECTIVES 7, 8 Mammoth Ltd, a manufacturer of tractors and other heavy farm equipment, is a decentralised organisation, with each manufacturing division operating as a separate profit centre. Each division manager has been delegated full authority on all decisions involving the sale of that division’s output both to outsiders and to other divisions of Mammoth. Division C has always purchased its requirement of a particular tractor engine component from Division A. However, when informed that Division A is increasing its selling price to

$150, Division C’s manager decides to purchase the engine component from external suppliers.

Division C can purchase the component for $135 per unit in the open market. Division A insists that, because of the recent installation of some highly specialised equipment and the resulting high depreciation charges, it will not be able to earn an adequate return on its investment unless it raises its price. Division A’s manager appeals to top management of Mammoth Ltd for support in the dispute with Division C and supplies the following operating data:

Division C’s annual purchases of the tractor engine component 1000 units Division A’s variable cost per unit of the tractor engine component $120 Division A’s fixed cost per unit of the tractor engine component $20 Required 1 Assume that there are no alternative uses for internal facilities of Division A. Determine whether the company as a whole will benefit if Division C purchases the component from external suppliers for $135 per unit. What should the transfer price for the component be set at so that division managers acting in their own division’s best interests take actions that are in the best interests of the company as a whole?