Lansing Electronics Inc. manufactures a variety of printers, scanners, and fax machines in itstwo divisions: the PSF Division and the Components Division. The Components Division produces electronic components that can be used by the PSF Division. All the components thisdivision produces can be sold to outside customers. However, from the beginning, nearly allof its output has been used internally. The current policy requires that all internal transfers ofcomponents be transferred at full cost.Recently, Cam DeVonn, the chief executive officer of Lansing Electronics, decided to investigate the transfer pricing policy. He was concerned that the current method of pricing internaltransfers might force decisions by divisional managers that would be suboptimal for the firm. Aspart of his inquiry, he gathered some information concerning Component Y34, which is usedby the PSF Division in its production of a basic scanner, Model SC67.The PSF Division sells 40,000 units of Model SC67 each year at a unit price of $42. Givencurrent market conditions, this is the maximum price that the division can charge for ModelSC67. The cost of manufacturing the scanner follows:Component Y34 $ 6.50Direct materials 12.50Direct labor 3.00Variable overhead 1.00Fixed overhead 15.00Total unit cost $38.00The scanner is produced efficiently, and no further reduction in manufacturing costs ispossible.The manager of the Components Division indicated that she could sell 40,000 units (thedivision’s capacity for this part) of Component Y34 to outside buyers at $12 per unit. The PSFDivision could also buy the part for $12 from external suppliers. She supplied the followingdetails on the manufacturing cost of the component:Direct materials $2.50Direct labor 0.50Variable overhead 1.00Fixed overhead 2.50Total unit cost $6.50Required:1. Compute the firmwide contribution margin associated with Component Y34 and ModelSC67. Also, compute the contribution margin earned by each division.2. Suppose that Cam DeVonn abolishes the current transfer pricing policy and givesdivisions autonomy in setting transfer prices. Can you predict what transfer price themanager of the Components Division will set? What should be the minimum transferprice for this part? The maximum transfer price? 3. CONCEPTUAL CONNECTION Given the new transfer pricing policy, predict how thiswill affect the production decision of the PSF Division manager for Model SC67. Howmany units of Component Y34 will the manager of the PSF Division purchase, eitherinternally or externally?4. Given the new transfer price set by the Components Division and your answer toRequirement 3, how many units of Y34 will be sold externally?5. CONCEPTUAL CONNECTION Given your answers to Requirements 3 and 4, computethe firmwide contribution margin. What has happened? Was Cam’s decision to grantadditional decentralization good or bad?
Lansing Electronics Inc. manufactures a variety of printers, scanners, and fax machines in its
two divisions: the PSF Division and the Components Division. The Components Division produces electronic components that can be used by the PSF Division. All the components this
division produces can be sold to outside customers. However, from the beginning, nearly all
of its output has been used internally. The current policy requires that all internal transfers of
components be transferred at full cost.
Recently, Cam DeVonn, the chief executive officer of Lansing Electronics, decided to investigate the transfer pricing policy. He was concerned that the current method of pricing internal
transfers might force decisions by divisional managers that would be suboptimal for the firm. As
part of his inquiry, he gathered some information concerning Component Y34, which is used
by the PSF Division in its production of a basic scanner, Model SC67.
The PSF Division sells 40,000 units of Model SC67 each year at a unit price of $42. Given
current market conditions, this is the maximum price that the division can charge for Model
SC67. The cost of manufacturing the scanner follows:
Component Y34 $ 6.50
Direct materials 12.50
Direct labor 3.00
Variable
Fixed overhead 15.00
Total unit cost $38.00
The scanner is produced efficiently, and no further reduction in
possible.
The manager of the Components Division indicated that she could sell 40,000 units (the
division’s capacity for this part) of Component Y34 to outside buyers at $12 per unit. The PSF
Division could also buy the part for $12 from external suppliers. She supplied the following
details on the manufacturing cost of the component:
Direct materials $2.50
Direct labor 0.50
Variable overhead 1.00
Fixed overhead 2.50
Total unit cost $6.50
Required:
1. Compute the firmwide contribution margin associated with Component Y34 and Model
SC67. Also, compute the contribution margin earned by each division.
2. Suppose that Cam DeVonn abolishes the current transfer pricing policy and gives
divisions autonomy in setting transfer prices. Can you predict what transfer price the
manager of the Components Division will set? What should be the minimum transfer
price for this part? The maximum transfer price?
3. CONCEPTUAL CONNECTION Given the new transfer pricing policy, predict how this
will affect the production decision of the PSF Division manager for Model SC67. How
many units of Component Y34 will the manager of the PSF Division purchase, either
internally or externally?
4. Given the new transfer price set by the Components Division and your answer to
Requirement 3, how many units of Y34 will be sold externally?
5. CONCEPTUAL CONNECTION Given your answers to Requirements 3 and 4, compute
the firmwide contribution margin. What has happened? Was Cam’s decision to grant
additional decentralization good or bad?
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