Case: Transfer Pricing and Variances
Greta Company produces cars. Two of the profit centers, Tires center and Assembly center, were in conflict over the price of tires. External suppliers of tires offered Carla, the manager of the Assembly center, the same type and quality of tire for $100. Carla used to buy these tires internally for $130 each.
Kamal the CEO of the company called for a meeting with the managers of both centers in order to solve the issue. Dani the manager of the Tires Centre explained that the tires produced by his departmenthave been a market leader for the past 30 years and are distributed by the company worldwide."
Tires Center: Cost per tire
|
|
$
|
|
Direct materials
|
38
|
|
Direct labor
|
25
|
|
Variable overheads
|
8
|
|
Fixed overheads
|
16
|
|
Total cost
|
87
|
Carla answered that the external suppliers offered the same specifications and quality for a $30 less, and that she should be able to buy them internally at least at the same price.
Required:
Kamal wishes to assess the situation prior to finalizing his recommendations as he plans to present his findings during next week board meeting. As a consultant, he asked you to:
1. Discussthe transfer pricing and elaborate on whether the Assembly Centre should buy tires from inside or outside the firm. Show your workings .
2. Based on your answer and analysis in the previous requirement, provide a proper transfer price.Justify your answer.
3. The Tires Centre had a capacity of 80,000 tires per year, and the Assembly Centre use around 180,000 tires per year. The Tires center could sell all of its production externally for $130, based on these circumstances provide a recommendation for Greta Company whether these two centers should buy/sell internally or externally. Justify your answer. .
4. Explain why setting transfer prices by Greta can be controversial when a product is being transferred between two profit centers.
5. The Accountant of Greta Company provided youthe following information concerning another department, that produces milk and yogurt:
| |
Profit Plan |
Actual
|
| |
Volume
|
American Dollars
|
Volume |
American Dollars |
| |
('000) |
('000) |
('000) |
('000) |
|
Sales Data
|
|
|
|
|
|
Sales Milk (volume in litres)
|
10,250
|
111,110
|
10,720
|
112,560
|
|
Sales 'yogurt' (litres)
|
1,300
|
27,040
|
1,036
|
26,418
|
|
Total sales
|
11,550
|
138,150
|
11,756
|
138,978
|
|
Cost of Goods Sold
|
|
| Cost of Milk |
|
|
Dairy ingredients (litres)
|
8,200
|
55,596
|
9,648
|
53,064
|
|
Other ingredients (100gr.)
|
4,100
|
14,760
|
4,824
|
16,898
|
|
Labor (hours)
|
41
|
984
|
54
|
1,072
|
|
Cost of yogurt
|
|
|
Dairy ingredients (litres)
|
1,170
|
7,020
|
724
|
3,622
|
|
Other ingredients (100gr.)
|
260
|
4,160
|
259
|
3,626
|
|
Labor (hours)
|
104
|
1,956
|
83
|
2,072
|
|
Contribution margin
|
|
53,674
|
|
58,624
|
|
Other costs
|
|
|
|
|
|
Supervision, energy, maintenance
|
|
15,720
|
|
15,880
|
|
Depreciation
|
|
3,360
|
|
3,500
|
|
Operating margin
|
|
34,594
|
|
39,244
|
|
|
|
Selling and Administrative Expenses
|
|
|
Delivery expenses
|
|
5,528
|
|
5,830
|
|
Depreciation of trucks
|
|
3,262
|
|
3,286
|
|
Selling expenses
|
|
6,922
|
|
7,312
|
|
Advertising
|
|
7,324
|
|
6,888
|
|
Administrative salaries and expenses
|
|
5,060
|
|
5,202
|
|
Rent
|
|
798
|
|
798
|
|
Allocates central office expenses
|
|
1,034
|
|
1,234
|
|
Profit before interest and taxes
|
|
4,666
|
|
8,694
|
Required:
Discuss the performance of the company for the past year. Show your workings.
In your answer, you should explain each point or inquiry separately.
All answers should be supported by examples from the case study.