Question 1

Tout de Suite plc (TdS plc) is a manufacturer of electric bikes and scooters in a burgeoning market. It is composed of three divisions: X, Y and Z. Currently each division produces and markets only its own specific product range, and a coherent corporate policy is applied throughout the company:

• All three of the divisional general managers (DGMs) are held accountable for the profit and return on investment of his/her division.

• Although decision-making is largely de-centralised, matters relating to overall corporate strategy are controlled centrally by head office.

  Division X plans to launch a new product but, in a change of policy, is considering outsourcing the product rather than manufacturing it within the division. The DGM of X has shortlisted three possible sources of supply. Although these sources of supply provide an almost identical level of product and service quality, there are differences in terms of the product price they have quoted to Division X:

Source Price per unit

Acme plc 2,700 Bravo plc 2,730 Division Z of TdS plc 2,850

The DGM of Division X intends to nominate Acme plc as his source of supply as it will charge the lowest price. However the DGM of Division Z has attended a Board Meeting of TdS plc and has pointed out that a potentially significant amount of business is involved with the new product and she is keen that its manufacture should be kept within TdS plc. On investigation, the Financial Controller of TdS plc has found:

• If Division Z were selected as Division Xs source of supply, it would buy its basic materials from Division Y.

• 80% of Division Zs total variable cost of 2,250 per unit represented the cost to Division Z of basic materials to be bought from Division Y.

• Division Ys variable costs are 50% of transfer price/market price.

• If Bravo plc were selected as Division Xs source of supply, then for each unit sold to

  Division X, Bravo plc would purchase a component from Division Y at a market price

  of 600 per component.

• Divisions Y and Z are each operating at less than full capacity.

Required:

As Financial Controller of Tout de Suite plc, you are required prepare a report for your Board of Directors. Your report should consist of three parts, addressing the issues raised in (a), (b) and (c) below:

(a) State which source of supply is the best alternative from a financial perspective when judged from the viewpoint of

(i) Division X (ii) TdS plc

Appropriate financial analysis must be included (40 marks)

(b) Comment on a) above, given that transfers between all three divisions are likely to become significant in future. (10 marks)