Question

1.    TAA, a multidivisional telecommunications corporation, has two completely independent profit centers considering a transfer, TAA will not dictate transfers or impose a transfer pricing policy on the divisions. Reward system is based on the total divisional profits reported by the profit centers.

One of TAA's divisions; Southwestern Ringer, produces telephone sets that it sells for $30 each. The standard absorptive manufacturing cost is $24, which includes $6 per unit in fixed overhead. Fixed overhead is allocated over its annual sales forecast of 50,000 telephone sets. Maximum production capacity is 75,000, sets annually.

Another division, Northeastern Tell, can use the telephone sets in an answering machine telephone-radio product it markets. As an alternative to buying telephone sets from Southwestern, Northeastern can enter into a contract for the 20,000 sets needed from a Mexican company, OLA, Inc. OLA has quoted a price of $25 per set for the same quality telephone. To produce the phone set Southern will incur additional cost of $2.5 per unit.

Required:

1. Determine whether a transfer should take place between Southwestern Ringer and Northeastern Tell at current levels. What range of prices for a transfer if it is to occur?
2. Should a transfer occur if Southwestern can increase sales and production volumes to 60,000 sets annually by dropping the sales price to $27.50? What is the range of prices if a transfer should occur?

Answer 1

	Southwestern Ringer
	Selling price of telephone to outside parties	$30
	Manufacturing cost	$18
	Maximum capacity =	75,000
	Current sale forecast =	50,000
	Transfer price till 25,000 telephone sets =	$18
	Northeastern Tell
	Requirement of telephones	20,000	Telephones
	Cost of telephone from outside party	$25
(a)	There is an excess capacity in Southwestern Ringer to the extend of 25,000 telephones, hence, Transfer can take place.
	Transfer price range
	Minimum transfer price	$18
	Maximum transfer price	$25
(b)	Maximum capacity =	75,000
	Current production =	60,000
	Excess capacity =	15,000
	Transfer price till 15,000 telephones	$18
	Transfer price from 15,000 telephones to 20,000 telephones	$27.50	(contribution lost)
	Hence, Average Minimum transfer price
	15000 unit transfer cost	$270,000	(15000*18)
	5000 unit transfer cost	$137,500	(5000*27.5)
	20,000 unit transfer cost	$407,500
	Average Transfer price	$20.38	(407,500/20,000)
	Hence, Range of transfer price
	Minimum transfer price	$20.38
	Maximum transfer price	$27.50