Chapter 11, Problem 11.25P

Basic Transfer Pricing LO 11–3

Alpha and Beta are divisions within the same company. The managers of both divisions are evaluated based on their own division’sreturn on investment (ROI). Assume the following information relative to the two divisions:

Required:

1. Refer to case 1 shown above. Alpha Division can avoid $2 per unit in commissions on any sales to Beta Division.
1. What is Alpha Divisions’s lowest acceptable transfer price?
2. What is Beta Division’s highest acceptable transfer price?
3. What is the range of acceptable transfer prices (if any) between the two divisions? Will the managers probably agree to a transfer? Explain.
2. Refer to case 2 shown above. A study indicates Alpha Division can avoid $5 per unit in shipping costs on any sales to Beta Division.
1. What is Alpha Divisions’s lowest acceptable transfer price?
2. What is Beta Division’s highest acceptable transfer price?
3. What is the range of acceptable transfer prices (if any) between the two divisions? Would you expect any disagreement between the two divisional managers over what the exact transfer price should be? Explain.
4. Assume Alpha Division offers to sell 30,000 units to Beta Division for $88 per unit and that Beta Division refuses this price. What will be the loss in potential profits for the company as a whole?
3. Refer to case 3 shown above. Assume Beta Division is now receiving an 8% price discount from the outside supplier.
1. What is Alpha Divisions’s lowest acceptable transfer price?
2. What is Beta Division’s highest acceptable transfer price?
3. What is the range of acceptable transfer prices (if any) between the two divisions? Will the managers probably agree to a transfer? Explain.
4. Assume Beta Division offers to purchase 20,000 units from Alpha Division at $60 per unit. If Alpha Division accepts this price, would you expect its ROI to increase, decrease, or remain unchanged? Why?
4. Refer to case 4 shown above. Assume Beta Division wants Alpha Division to provide it with 120,000 units of a different product from the one Alpha Division is producing now. The new product would require $21 per unit in variable costs and would require that Alpha Division cut back production of its present product by 45,000 units annually. What is Alpha Division’s lowest acceptable transfer price?