Chinglish Dirk Company (Hong Kong) exports razor blades to its wholly owned parent company, Torrington Edge (Great Britain). Hong Kong tax rates are 20% and British tax rates are 35%. Chinglish calculates its profit per container as follows (all values in British pounds).
Corporate management of Torrington Edge is considering repositioning profits within the multinational company. What happens to the profits of Chinglish Dirk and Torrington Edge, and the consolidated results of both if the markup at Chinglish was increased to 20% and the markup at Torrington was reduced to 10%? What is the impact of this repositioning on consolidated tax payments?
Baseline Analysis
Assumptions		Hong Kong		Great Britain
Corporate income tax rate		20.0%		35.0%
Desired markup on transfers		15.0%		15.0%
Volume		1,000
Constructing Transfer (Sales)		Chinglish Dirk		Torrington Edge		Consolidated
Price Per Unit		(British pounds)		(British pounds)		(British pounds)
Direct costs		10,000		16,100
Overhead		4,000		1,000
Total costs		14,000		17,100
Desired markup		2,100		2,565
Transfer price (sales price)		16,100		19,665
Income Statement (prices x volume)
Sales price		16,100,000		19,665,000
Less total costs		(14,000,000)		(17,100,000)
Taxable income		2,100,000		2,565,000
Less taxes		(420,000)		(897,750)		1,317,750
Profit, after-tax		1,680,000		1,667,250		3,347,250