According to the case, please answer the questions in the last photos
This is all case material, the last photo should also be a part of case.
REQUIRED:
1. As Bob Dylan, the manager of Chassis Division, outline the advantages of the present transfer pricing rule of cost plus 40%. Present your calculations of each divisions contribution and WTs total contribution if this TP rule remains in place and chassis and bodies are purchased internally.
2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifers optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each divisions contribution and WTs total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally.
3. As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each divisions contribution and WTs total contribution if TPs are set at current market prices and chassis and bodies are purchased internally.
4. As Tom Petty, the Consultant, outline the advantages of removing the current TP rule and allowing Divisional Managers to negotiate transfer prices. Facilitate negotiations in relation to the current circumstances and, if agreement is reached, present your calculations of each divisions contribution and WTs total contribution based on agreed TPs.
5. As, Jeff Lynne, the Managing Director of Wellington Trailers, pull the discussions to a close. Taking into account the current management bonus system make your recommendations, stating your reasons, for an appropriate transfer pricing system for WT Ltd.
BACKGROUND Wellington Trailers Ltd. (WT) manufactures and sells quality car trailers and is organised in a divisional structure with three divisions named 'Chassis', 'Bodies' and *Assembly'. Each division currently operates as a profit centre, with managers receiving a bonus relating to improvements in divisional profits. The managing director, Jeff Lynne, has called in a consultant, Tom Petty, because he is concerned that the issue of transfer prices between divisions has not been adequately considered, especially in the light of the recessionary environment faced by the business. Jeff explains: I like to give my managers plenty of autonomy and I want them to get job satisfaction and be motivated to make the whole business profitable. I don't see much point in wasting time on lengthy negotiations on internal transfer prices so we have always had a simple transfer pricing rule: all internal transfers at full cost plus 40%. A couple of my managers are now questioning if this rule is appropriate, and they are even suggesting buying from external suppliers. How can that be good for the business as a whole? One of WT's core products is the popular. "Titan' trailer and Jeff has suggested to Tom that he uses this product as an example when he investigates the transfer pricing issue. Wellington Trailers Ltd. DETAIL All three divisions contribute to the Titan trailer and each have the practical capacity to produce 500 units. Chassis makes the chassis and delivers them directly to Assembly. Similarly, Bodies makes the bodies and delivers them directly to Assembly. This leaves Assembly to bolt the body onto the chassis and attach all fittings (purchased from outside WT) to produce a finished trailer ready for sale. Tom first has discussions with the manager of the Assembly Division, Roy Orbison, and establishes that Assembly's fixed overheads are absorbed on the basis of a practical capacity and the full cost per trailer is as shown below: $ Assembly division costing: Direct materials: From Chassis From Bodies Fittings and other variable costs Fixed overheads Total cost Mark-up (40%) Price to external market 1,400 700 300 600 3,000 1,200 4,200 Roy says that he thinks the current transfer prices are set too high for today's fierce competitive environment. He argues Total cost Mark-up (40%) Price to external market 3,000 1,200 4,200 Roy says that he thinks the current transfer prices are set too high for today's fierce competitive environment. He argues: If I can lower my input costs I can cut prices to the external marked and maybe stimulate increased demand. That will surely be good for all divisions. Bob is still charging me $1,400 per chassis even though he has spare capacity. Isn't there some theory that dictates that a supplying division with spare capacity should make transfers at variable cost? Anyway, I have a firm quote for the purchase of equivalent quality chassis from Canterbury Chassis (on the South Island) for $1,200 delivered to the factory. If Bob will not drop his prices I should be allowed to "shop around" and get the best price offered in the market. You establish that the two supplying divisions also absorb their fixed overheads on the basis of a practical capacity and transfers between divisions have always been at full cost plus a mark-up of 40%. Detailed costings for the transfers from the Chassis and Bodies divisions to Assembly are as follows: Bodies Variable Costs Fixed overheads Full cost Mark-up (40%) Transfer price Chassis S 800 200 1,000 400 1,400 400 100 500 200 700 cost plus a mark-up of 40%. Detailed costings for the transfers from the Chassis and Bodies divisions to Assembly are as follows: Bodies Variable Costs Fixed overheads Full cost Mark-up (40%) Transfer price Chassis $ 800 200 1,000 400 1,400 400 100 500 200 700 Due to the depressed demand during the recession, Assembly division is currently only selling 250 finished trailers per period, and hence is only requiring 250 chassis and bodies from the other two divisions. TP Case Study - Wellington Trailers K. Bates 2 Wellington Trailers Ltd. When you meet the manager of the Chassis Division, Bob Dylan, he tells you that he can normally sell an equivalent chassis in the competitive external market at $1,200 but has recently made only a few external sales and thus has plenty of spare capacity at present. He says: Just because I have spare capacity does not mean that I should become a busy fool. Roy thinks that my transfer price to him is too high, but he forgets that I still have my fixed overheads to cover, and I am presently getting less contribution from external sales. Surely we should not just change a long established transfer pricing system due to a temporary drop in demand. Business people are talking about "green shoots" so I'm expecting to be back up to full capacity quite soon. You talk to the manager of Bodies Division, George Harrison, next. He thinks the transfer price rule should be changed and argues: I run a tight ship. Despite the recession my division is operating at full capacity. I have to transfer bodies internally to Roy at $700, even though I can sell equivalent bodies for $750 in the external market. I'm sure I've read somewhere that the best transfer price is the ruling market price, so Roy should really be paving me $50 extra per body. I shouldn't be forced to sell at a discount to Roy as that will reduce my division's profitability and ultimately affect my bonus. When you relay some of the content of this discussion to Roy he laughs and tells you that George can spin a good line. He says: My demand for internal transfers of chassis fills half of George's capacity on a When you relay some of the content of this discussion to Roy he laughs and tells you that George can spin a good line. He says: My demand for internal transfers of chassis fills half of George's capacity on a consistent basis. His orders from the external market are high at present, but they can come and go. Anyway, I should not have to pay him full market price as he must find it cheaper to sell a large, regular quantity to me instead of dealing with numerous small orders from many different customers. Moreover, I have recently discovered that I can buy equivalent quality bodies from Hutt Bodies, a newly established company in Upper Hutt, for $730. I should be able to take advantage of that keen price and buy from outside. Tom Petty is beginning to understand why Jeff has passed this problem on to him and he wonders whether the consultancy fee he negotiated up front was sufficient. He dismisses those thoughts and summarises his initial findings: George wants TPs to be at market price, but that will encourage Roy to buy bodies from an external supplier. Jeff encourages divisional manager's autonomy but won't want to lose business to outsiders. Roy needs to reduce input costs so that he can reduce prices to the external market and become more competitive. Thus he wants Bob to transfer at variable costs because Bob has spare capacity. Not surprisingly, Bob wants to stick with the current cost plus 40% TP rule but he might accept market based transfer prices. Maybe I should just let them negotiate and see what happens? REQUIRED: 1. As Bob Dylan, the manager of Chassis Division, outline the advantages of the present transfer pricing rule of cost plus 40%. Present your calculations of each division's contribution and WT's total contribution if this TP rule remains in place and chassis and bodies are purchased internally. 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally As. George Harrison, the manager of Bodies Division, outline 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally. 3 As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally. 4. As Tom Petty, the Consultant, outline the advantages of removing the current TP rule and allowing Divisional Managers to negotiate transfer prices. Facilitate negotiations in relation to the current circumstances and, if agreement is reached, present your calculations of each division's contribution and WT's total contribution based on agreed TPs. 5. As Jeff Lynne, the Managing Director of Wellington Trailers, pull the discussions to a close. Taking into account the current management bonus system make your recommendations, stating your reasons, for an appropriate transfer pricing system for WT LID REQUIRED: 1. As Bob Dylan, the manager of Chassis Division, outline the advantages of the present transfer pricing rule of cost plus 40%. Present your calculations of each division's contribution and WT's total contribution if this TP rule remains in place and chassis and bodies are purchased internally. 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally. 3 As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally 3. As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally. 4. As Tom Petty, the Consultant, outline the advantages of removing the current TP rule and allowing Divisional Managers to negotiate transfer prices. Facilitate negotiations in relation to the current circumstances and, if agreement is reached, present your calculations of each division's contribution and WT's total contribution based on agreed TPs. As, Jeff Lynne, the Managing Director of Wellington Trailers, pull the discussions to a close. Taking into account the current management bonus system make your recommendations, stating your reasons, for an appropriate transfer pricing system for WT Ltd. WT has commissioned a marketing consultant to establish the potential demand for the Titan trailer, Inevitably expected sales volumes will depend on the sales price chosen and are predicted as follows: Sales price Unit sales $3,200 420 $3,700 325 $4,200 $4,700 250 190 Using a marginal costing approach, based on the marketing consultant's demand estimates and Assembly's costing using the present transfer prices (at cost plus 40%), the price-volume combination that maximises profits for the Assembly division is determined as follows: Price Variable cost/unit Contribution/unit Unit sales Total contribution S $ 3,200 3,700 2,400 2,400 800 1,300 420 325 336,000 422,500 $ 4,200 2,400 1,800 250 450,000 $ 4,700 2,400 2,300 190 437,000 Does this new information affect the debate about choosing a suitable transfer pricing system for WT? BACKGROUND Wellington Trailers Ltd. (WT) manufactures and sells quality car trailers and is organised in a divisional structure with three divisions named 'Chassis', 'Bodies' and *Assembly'. Each division currently operates as a profit centre, with managers receiving a bonus relating to improvements in divisional profits. The managing director, Jeff Lynne, has called in a consultant, Tom Petty, because he is concerned that the issue of transfer prices between divisions has not been adequately considered, especially in the light of the recessionary environment faced by the business. Jeff explains: I like to give my managers plenty of autonomy and I want them to get job satisfaction and be motivated to make the whole business profitable. I don't see much point in wasting time on lengthy negotiations on internal transfer prices so we have always had a simple transfer pricing rule: all internal transfers at full cost plus 40%. A couple of my managers are now questioning if this rule is appropriate, and they are even suggesting buying from external suppliers. How can that be good for the business as a whole? One of WT's core products is the popular. "Titan' trailer and Jeff has suggested to Tom that he uses this product as an example when he investigates the transfer pricing issue. Wellington Trailers Ltd. DETAIL All three divisions contribute to the Titan trailer and each have the practical capacity to produce 500 units. Chassis makes the chassis and delivers them directly to Assembly. Similarly, Bodies makes the bodies and delivers them directly to Assembly. This leaves Assembly to bolt the body onto the chassis and attach all fittings (purchased from outside WT) to produce a finished trailer ready for sale. Tom first has discussions with the manager of the Assembly Division, Roy Orbison, and establishes that Assembly's fixed overheads are absorbed on the basis of a practical capacity and the full cost per trailer is as shown below: $ Assembly division costing: Direct materials: From Chassis From Bodies Fittings and other variable costs Fixed overheads Total cost Mark-up (40%) Price to external market 1,400 700 300 600 3,000 1,200 4,200 Roy says that he thinks the current transfer prices are set too high for today's fierce competitive environment. He argues Total cost Mark-up (40%) Price to external market 3,000 1,200 4,200 Roy says that he thinks the current transfer prices are set too high for today's fierce competitive environment. He argues: If I can lower my input costs I can cut prices to the external marked and maybe stimulate increased demand. That will surely be good for all divisions. Bob is still charging me $1,400 per chassis even though he has spare capacity. Isn't there some theory that dictates that a supplying division with spare capacity should make transfers at variable cost? Anyway, I have a firm quote for the purchase of equivalent quality chassis from Canterbury Chassis (on the South Island) for $1,200 delivered to the factory. If Bob will not drop his prices I should be allowed to "shop around" and get the best price offered in the market. You establish that the two supplying divisions also absorb their fixed overheads on the basis of a practical capacity and transfers between divisions have always been at full cost plus a mark-up of 40%. Detailed costings for the transfers from the Chassis and Bodies divisions to Assembly are as follows: Bodies Variable Costs Fixed overheads Full cost Mark-up (40%) Transfer price Chassis S 800 200 1,000 400 1,400 400 100 500 200 700 cost plus a mark-up of 40%. Detailed costings for the transfers from the Chassis and Bodies divisions to Assembly are as follows: Bodies Variable Costs Fixed overheads Full cost Mark-up (40%) Transfer price Chassis $ 800 200 1,000 400 1,400 400 100 500 200 700 Due to the depressed demand during the recession, Assembly division is currently only selling 250 finished trailers per period, and hence is only requiring 250 chassis and bodies from the other two divisions. TP Case Study - Wellington Trailers K. Bates 2 Wellington Trailers Ltd. When you meet the manager of the Chassis Division, Bob Dylan, he tells you that he can normally sell an equivalent chassis in the competitive external market at $1,200 but has recently made only a few external sales and thus has plenty of spare capacity at present. He says: Just because I have spare capacity does not mean that I should become a busy fool. Roy thinks that my transfer price to him is too high, but he forgets that I still have my fixed overheads to cover, and I am presently getting less contribution from external sales. Surely we should not just change a long established transfer pricing system due to a temporary drop in demand. Business people are talking about "green shoots" so I'm expecting to be back up to full capacity quite soon. You talk to the manager of Bodies Division, George Harrison, next. He thinks the transfer price rule should be changed and argues: I run a tight ship. Despite the recession my division is operating at full capacity. I have to transfer bodies internally to Roy at $700, even though I can sell equivalent bodies for $750 in the external market. I'm sure I've read somewhere that the best transfer price is the ruling market price, so Roy should really be paving me $50 extra per body. I shouldn't be forced to sell at a discount to Roy as that will reduce my division's profitability and ultimately affect my bonus. When you relay some of the content of this discussion to Roy he laughs and tells you that George can spin a good line. He says: My demand for internal transfers of chassis fills half of George's capacity on a When you relay some of the content of this discussion to Roy he laughs and tells you that George can spin a good line. He says: My demand for internal transfers of chassis fills half of George's capacity on a consistent basis. His orders from the external market are high at present, but they can come and go. Anyway, I should not have to pay him full market price as he must find it cheaper to sell a large, regular quantity to me instead of dealing with numerous small orders from many different customers. Moreover, I have recently discovered that I can buy equivalent quality bodies from Hutt Bodies, a newly established company in Upper Hutt, for $730. I should be able to take advantage of that keen price and buy from outside. Tom Petty is beginning to understand why Jeff has passed this problem on to him and he wonders whether the consultancy fee he negotiated up front was sufficient. He dismisses those thoughts and summarises his initial findings: George wants TPs to be at market price, but that will encourage Roy to buy bodies from an external supplier. Jeff encourages divisional manager's autonomy but won't want to lose business to outsiders. Roy needs to reduce input costs so that he can reduce prices to the external market and become more competitive. Thus he wants Bob to transfer at variable costs because Bob has spare capacity. Not surprisingly, Bob wants to stick with the current cost plus 40% TP rule but he might accept market based transfer prices. Maybe I should just let them negotiate and see what happens? REQUIRED: 1. As Bob Dylan, the manager of Chassis Division, outline the advantages of the present transfer pricing rule of cost plus 40%. Present your calculations of each division's contribution and WT's total contribution if this TP rule remains in place and chassis and bodies are purchased internally. 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally As. George Harrison, the manager of Bodies Division, outline 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally. 3 As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally. 4. As Tom Petty, the Consultant, outline the advantages of removing the current TP rule and allowing Divisional Managers to negotiate transfer prices. Facilitate negotiations in relation to the current circumstances and, if agreement is reached, present your calculations of each division's contribution and WT's total contribution based on agreed TPs. 5. As Jeff Lynne, the Managing Director of Wellington Trailers, pull the discussions to a close. Taking into account the current management bonus system make your recommendations, stating your reasons, for an appropriate transfer pricing system for WT LID REQUIRED: 1. As Bob Dylan, the manager of Chassis Division, outline the advantages of the present transfer pricing rule of cost plus 40%. Present your calculations of each division's contribution and WT's total contribution if this TP rule remains in place and chassis and bodies are purchased internally. 2. As, Roy Orbison, the manager of Assembly Division, explain Hischleifer's optimum TP theory and outline the advantages of utilising this approach in these recessionary times. Present your calculations of each division's contribution and WT's total contribution if these theoretically optimum TPs are used and chassis and bodies are purchased internally. 3 As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally 3. As, George Harrison, the manager of Bodies Division, outline the advantages replacing the current cost plus 40% TP rule with a rule that requires TPs to be set at current market prices. Present your calculations of each division's contribution and WT's total contribution if TPs are set at current market prices and chassis and bodies are purchased internally. 4. As Tom Petty, the Consultant, outline the advantages of removing the current TP rule and allowing Divisional Managers to negotiate transfer prices. Facilitate negotiations in relation to the current circumstances and, if agreement is reached, present your calculations of each division's contribution and WT's total contribution based on agreed TPs. As, Jeff Lynne, the Managing Director of Wellington Trailers, pull the discussions to a close. Taking into account the current management bonus system make your recommendations, stating your reasons, for an appropriate transfer pricing system for WT Ltd. WT has commissioned a marketing consultant to establish the potential demand for the Titan trailer, Inevitably expected sales volumes will depend on the sales price chosen and are predicted as follows: Sales price Unit sales $3,200 420 $3,700 325 $4,200 $4,700 250 190 Using a marginal costing approach, based on the marketing consultant's demand estimates and Assembly's costing using the present transfer prices (at cost plus 40%), the price-volume combination that maximises profits for the Assembly division is determined as follows: Price Variable cost/unit Contribution/unit Unit sales Total contribution S $ 3,200 3,700 2,400 2,400 800 1,300 420 325 336,000 422,500 $ 4,200 2,400 1,800 250 450,000 $ 4,700 2,400 2,300 190 437,000 Does this new information affect the debate about choosing a suitable transfer pricing system for WT
