A.R. Oma, Inc. manufactures a line of men's perfumes and after-shaving lotions. The manufacturing process is basically a series of mixing operations with the addition of certain aromatic and coloring ingredients; the finished product is packaged in a company produced glass bottle and packed in cases containing 6 bottles.

A.R. Oma feels that the sale of its product is heavily influenced by the appearance and appeal of the bottle and has, therefore, devoted considerable managerial effort to the bottle production process. This has resulted in the development of certain unique bottle production processes in which management takes considerable pride. The two areas (i.e., perfume production and bottle manufacture) have evolved over the years in an almost independent manner, in fact, a rivalry has developed between management personnel as to "which division is the more important" to A.R. Oma. This attitude is probably intensified because the bottle manufacturing plant has purchased intact 10 years ago and no real interchange of management personnel or ideas (except at the top corporate level) has taken place.

Since the acquisition, all bottle production has been absorbed by the perfume manufacturing plant. Each area is considered a separate profit center and evaluated as such. As the new corporate controller you are responsible for the definition of a proper transfer price to use in crediting the bottle production profit center and in debiting the packaging profit center.
At your request, the Bottle Division General Manager has asked certain other bottle manufacturers to quote a price for the quantity and sizes demanded by the perfume division. These competitive prices are:

An "equivalent case" represents 6 bottles each.
A cost analysis of the internal bottle plant indicates that they can produce bottles at these costs.These figures have given rise to considerable corporate discussion as to the proper value to use in the transfer of bottles to the perfume division. This interest is heightened because a significant portion of a division manager's income is an incentive bonus based on profit center results.
The perfume production division has the following costs in addition to the bottle costs:

(a) The A.R. Oma Company has used market price transfer prices in the past. Using the current market prices and costs, and assuming a volume of \(6,000,000\) cases, calculate the income for (1) the bottle division.
(2) the perfume division.
(3) the corporation.

(b) Is this production and sales level the most profitable volume for (1) the bottle division?
(2) the perfume division?
(3) the corporation?
Explain your answer.

(c) The A.R. Oma Company uses the profit center concept for divisional operation.
(1) Define a "profit center."
(2) What conditions should exist for a profit center to be established?
(3) Should the two divisions of the A.R. Oma Company be organized as profit centers?

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Volume 2,000,000 eq. cases* 4,000,000 6,000,000 Total Price $4,000,000 Price per Case $2.00 $7,000,000 $1.75 $10,000,000 $1.67