Question 3

A multinational company has many divisions. Two of these divisions are Mic Division and Mandy Division. The Mic Division produces a component that is used by the Mandy Division. The cost of manufacturing the component is as follows:

Mic Division has been selling its manufactured component for $40 in the external market. The Mic Division is capable of producing 500,000 components per year. However, the division expects to be only able to sell 400,000 components next year. The variable selling expenses are avoidable if the component is transferred internally.

Mandy Division has been buying a very similar component from an external supplier at $34 per unit. The division expects to use 100,000 units of this component next year. The manager of the Mandy Division has offered to buy 100,000 units from the Mic Division at $24 per unit.

(d) Assume that Mandy Division has decided to expand its production volume, and will now require 200,000 units of the component. Advise the CEO of the company on setting corporate policies with respect to internal transfers between Mic and Mandy divisions. Support your answer with relevant computations. (10 marks)