Question
Automotive Bearing Systems Inc. (ABS), with headquarters in Aurora, ON, manufactures bearing systems that are sold to various car assembler plants. ABS has three divisions,
Automotive Bearing Systems Inc. (ABS), with headquarters in Aurora, ON, manufactures bearing systems that are sold to various car assembler plants. ABS has three divisions, each of which is located in a different country:
a. Argentinean Divisionhas the foundry and produces the different parts.
b. Brazilian Divisionassembles the bearings, using the parts produced in the Argentinean Division.
c. Canadian Divisionpackages and distributes on a just in time schedule to all Canadian car assemblers plants of Honda and Ford.
Each division is run as a profit centre. The costs for the work done in each division that are associated with a box of bearings are as follows:
Argentine Division | Variable costs = 150 Pesos |
| Fixed costs = 270 Pesos |
Brazilian Division | Variable costs = 90 Reales |
| Fixed costs = 150 Reales |
Canadian Division | Variable costs = 25 CAD |
| Fixed costs = 50 CAD |
Argentinean income tax rate on Argentine Divisions operating income 35% | |
Brazilian income tax rate on Brazilian Divisions operating income 25% | |
Canadian income tax rate on Canadian Divisions operating income 30% |
Each box of bearings is sold to car assemblers in Canada for $700. Assume that the current foreign exchange rates are:
1.67 Real = $1 Cdn.
3 Pesos = $1 Cdn.
Both the Argentinean and Brazilian Divisions sell part of their production under a private label. The Argentinean Division sells the bearing parts to an Argentine bearing manufacturer for 600 pesos. The Brazilian division sells the finished bearings to a Brazilian car assembler 585 Reales.
Required
1. Calculate the after-tax operating income per unit earned by each division under each of the following transfer pricing methods: (a) market price, (b) 150% of full costs, and (c) 300% of variable costs. (Income taxes are not included in the computation of the cost-based transfer prices.)
2. Which transfer pricing method(s) will maximize the net income of ABS, Inc.?
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