ADM 2341 Lecture Notes - Lecture 22: Opportunity Cost, Transfer Pricing, Situation Two
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INTERNATIONAL HOMEWORK PROBLEM: Transfer Pricing with an Outside Market (same basic details as domestic homework problem with additional information)
Galati Products, Inc. is headquartered in the U.S. and has just purchased a small Singapore company that manufactures electronic tuners that used as a component part of TV sets. Galati is decentralized and will treat the newly acquired company as an autonomous division with full profit responsibility. The Singapore Tuner Division has the following revenue and costs associated with each tuner that it manufactures and sells:
Selling price........................ $20
Expenses:
Variable......$11
Fixed .........$6 $17
(based on a capacity of 100,000 tuners per year)
Net Operating Income............$3
| Assume that variable costs of $11 per unit = Cost of goods sold, and fixed costs of $6 per unit at full capacity = Operating expenses. |
Galati Products also has an Assembly Division in the U.S. that assembles TV sets. This division is currently purchasing 40,000 tuners per year from a Korean supplier at a cost of $20 per tuner, less a 5% purchase discount. It adds an additional $180 per unit in variable cost of good sold, and $1,000,000 in operating fixed costs. Assembly sells a total of 40,000 completed TV sets in the market for $XXX per unit.
The president of Galati is anxious to have the Assembly Division begin purchasing its tuners from the Singapore Tuner Division to âkeep the profits within the corporate family.â However, corporate tax rate differences between the U.S. (35%) and Singapore (10%) are causing management to use transfer pricing to achieve tax minimization rather than performance evaluation.
Required:
Assume that the Tuner Division in Singapore can sell all of its output to outside TV manufacturers at the normal $20 price.
a. Are the managers of the Tuner and Assembly Divisions likely to voluntarily agree to a transfer price for 40,000 tuners each year? Why or why not? If yes, at what price should the transfer be made to achieve tax minimization?
b. If the Tuner Division meets the price that the Assembly Division is currently paying to its overseas supplier and sells 40,000 tuners to the Assembly Division each year, what will be the effect on the profits of the Tuner Division, the Assembly Division, and the company as a whole? Should the transfer be made?
2. Assume that the Tuner Division is currently selling only 70,000 tuners each year to outside TV manufacturers at the stated $20 price. Also assume that the Assembly Division is currently buying 30,000 tuners externally and selling 30,000 completed TV sets externally, all else remaining the same.
a. Suppose that the Assembly Division's overseas supplier drops its price (net of the purchase discount) to $16 per tuner. Should the Tuner Division meet this price? If the Tuner Division does not meet this price, what will be the effect on the profits of the company as a whole?
b. Assume that the acceptable armâs length price ranges from $16 to $25 per tuner. At what price should the transfer be made to achieve tax minimization?
