ACC 2234 Hand-In Assignment 3 v3

QUESTION 1

Transfer Pricing Basics

Gerbig Company's Electrical Division produces a high-quality transformer. Sales and cost data on the transformer follow:

Selling price per unit on the outside market $40

Variable costs per unit $21

Fixed costs per unit (based on capacity) $9

Capacity in units 60,000

Gerbig Company has a Motor Division that would like to begin purchasing this transformer from the Electrical Division. The Motor Division is currently purchasing 10,000 transformers each year from another company at a cost of $38 per transformer.

Gerbig Company evaluates its division managers on the basis of divisional profits.

Required:

Assume that the Electrical Division is now selling only 50,000 transformers each year to outside customers.

From the standpoint of the Electrical Division, what is the lowest acceptable transfer price for transformers sold to the Motor Division?

From the standpoint of the Motor Division, what is the highest acceptable transfer price for transformers acquired from the Electrical Division?

If left free to negotiate without interference, would you expect the division managers to voluntarily agree to the transfer of 10,000 transformers from the Electrical Division to the Motor Division? Why or why not?

From the standpoint of the entire company, should a transfer take place? Why or why not?

Assume that the Electrical Division is now selling to outside customers all of the transformers it can produce.

From the standpoint of the Electrical Division, what is the lowest acceptable transfer price for transformers sold to the Motor Division?

From the standpoint of the Motor Division, what is the highest acceptable transfer price for transformers acquired from the Electrical Division?

If left free to negotiate without interference, would you expect the division managers to voluntarily agree to the transfer of 10,000 transformers from the Electrical Division to the Motor Division? Why or why not?

From the standpoint of the entire company, should a transfer take place? Why or why not?

QUESTION 2

Transfer Pricing from the Viewpoint of the Entire Company

Division A manufactures components for plasma TVs. The components can be sold either to Division B of the same company or to outside customers. Last year, the following activity was recorded in Division A:

Selling price per component........................$525

Variable cost per component ......................$390

Number of components:

Produced during the year ........................20,000

Sold to outside customers .......................16,000

Sold to Division B ......................................4,000

Sales to Division B were at the same price as sales to outside customers. The components purchased by Division B were used in a TV set manufactured by that division. Division B incurred $900 in additional variable cost per TV and then sold the TVs for $1,800 each.

Required:

1. Prepare income statements for last year for Division A, Division B, and the company as a whole.

2. Assume that Division A's manufacturing capacity is 20,000 components per year. Next year Division B wants to purchase 5,000 components from Division A, rather than only 4,000 components as it did last year. (Components of this type are not available from outside sources.) From the standpoint of the company as a whole, should Division A sell the 1,000 additional components to Division B, or should it continue to sell them to outside customers? Explain

QUESTION 3

Compute the Return on Investment (ROl)

Tamarind Services Company, a division of a major oil company, provides various services to operators of an oil field in northern Alberta. Data concerning the most recent year are as follow:

Sales ........................................$12,000,000

Operating income .......................$3,600,000

Average operating assets .........$24,000,000

Required:

1. Compute the margin for Tamarind Services Company.

2. Compute the turnover for Tamarind Services Company.

3. Compute the return on investment (ROI) for Tamarind Services Company.

QUESTION 4

Residual Income

British firm Midlands Design Ltd. specializes in providing design services to residential developers. Last year the company had operating income of 600,000 on sales of 2,400,000. The company's average operating assets for the year were 4,400,000 and its minimum required rate of return was 9%.

Required:

Compute the company's residual income for the year.