Problem
Suppose Adidas, has affiliate firms in China and Thailand. The Chinese firm creates canvas at a cost of $2 per unit. The Thai firm purchases the canvas and combines it with labor, which costs an additional $4, to produce a pair of shoes. The Thai firm sells the shoes globally for $60 each. The corporate tax rate is 25% in China and 20% in Thailand.
i. Determine the before-tax profit if the transfer price is $5
ii. Determine the after-tax profit if the transfer price is $5
iii. Determine the before-tax profit if the transfer price is $10
iv. Determine the after-tax profit if the transfer price is $10
v. What is the optimal transfer price, i.e., the transfer that maximizes Adidas's profit margin?