3) Crush Company makes internal transfers at 160% of full cost. The Soda Refining Division purchases
40,000 containers of carbonated water per day, on average, from a local supplier, who delivers the water
for $40 per container via an external shipper. To reduce costs, the company located an independent
supplier in Illinois who is willing to sell 40,000 containers at $30 each, delivered to Crush Company’s
Shipping Division in Missouri. The company’s Shipping Division in Missouri has excess capacity and can
ship the 40,000 containers at a variable cost of $4.50 per container. What is the total cost of purchasing the
water from the Illinois supplier and shipping it to the Soda Division?
A) $1,200,000
B) $1,380,000
C) $1,600,000
D) $180,000
4) An advantage of using budgeted costs for transfer pricing among divisions is that ________.
A) overall corporate profitability is usually higher
B) it usually provides a basis for optimal decision making
C) the divisions know the transfer price in advance
D) it promotes subunit autonomy
5) A company should use cost-based transfer prices ________.
A) when a company’s product is specialized
B) the market for the intermediate product is perfectly competitive
C) the interdependencies of subunits are minimal
D) there is no benefit from market-based transfer price
6) A transfer price based on the full cost plus a markup may lead to suboptimal decisions because
________.
A) it leads the buying division to regard the fixed costs and the markup of the selling division as a
variable cost
B) it leads the buying division to regard the variable costs and the markup of the selling division as a
fixed cost
C) it leads the buying division to regard the fixed costs and the markup of the selling division as total
costs
D) it leads the buying division to regard the variable costs and the markup of the selling division as total
costs
7) Cost based transfer prices are the only price that a firm should use when transferring goods from one
subunit to another subunit.
8) A major advantage of using actual costs for transfer prices is that often inefficiencies are NOT passed
along to the receiving division.
9) The full cost plus a markup transfer-pricing method can sometimes lead to goal incongruence.
10) Cost-based transfer prices are helpful when markets are not perfectly competitive.
11) A firm using a cost-based transfer price will never help have the selling division be able to achieve
goal congruence.
12) Super Shoes Company manufactures sneakers. The Athletic Division sells its socks for $18 a pair to
outsiders. Sneakers have manufacturing costs of $6.00 each for variable and $6.00 for fixed. The division‘s
total fixed manufacturing costs are $315,000 at the normal volume of 70,000 units.
The European Division has offered to buy 15,000 Sneakers at the full cost of $12. The Athletic Division has
excess capacity and the 15,000 units can be produced without interfering with the current outside sales of
70,000. The 85,000 volume is within the division’s relevant operating range.
Explain whether the Athletic Division should accept the offer.
13) Nig Car Company manufactures automobiles. The Fastback Car Division sells its cars for $50,000 each
to the general public. The fastback cars have manufacturing costs of $30,000 each for variable and $15,000
each for fixed costs. The division’s total fixed manufacturing costs are $75,000,000 at the normal volume
of 5,000 units.
The Coupe Car Division has been unable to meet the demand for its cars this year. It has offered to buy
1,000 cars from the Fastback Car Division at the full cost of $40,000. The Fastback Car Division has excess
capacity and the 1,000 units can be produced without interfering with the current outside sales of 5,000.
The 6,000 volume is within the division’s relevant operating range.
Explain whether the Fastback Car Division should accept the offer.
14) Cornerstone Company has two divisions. The Bottle Division produces products that have variable
costs of $3 per unit. Its 20X5 sales were 140,000 to outsiders at $5 per unit and 40,000 units to the Mixing
Division at 140% of variable costs. Under a dual transfer-pricing system, the Mixing Division pays only
the variable cost per unit. The fixed costs of the Bottle Division are $125,000 per year.
Mixing sells its finished products to outside customers for $11.50 per unit. Mixing has variable costs of
$2.50 per unit in addition to the costs from the Bottle Division. The annual fixed costs of Mixing were
$85,000. There were no beginning or ending inventories during the year.
Required:
What are the operating incomes of the two divisions and the company as a whole for the year? Explain
why the company’s operating income is less than the sum of the two divisions’ total income.
15) When cost-based transfer pricing is used between subunits of a large organization, describe how to
avoid making suboptimal decisions.
Objective 22.7
1) An advantage of a negotiated transfer price is the ________.
A) close relationship between the negotiated price and the market price
B) negotiated transfer price preserves divisional autonomy
C) negotiations usually do not require much time and energy
D) simplicity of its computations and close approximation to market price
2) The range over which two divisions will negotiate a transfer price is ________.
A) between the supplying division’s variable cost and the market price of the product
B) between the supplying division’s variable cost and its full cost of the product
C) it could be anywhere above the supplying division’s full cost of the product
D) between the supplying division’s full cost and 180% above its full cost
3) The transfer-pricing method that reduces the goal-congruence problems associated with a pure cost-
plus-based transfer-pricing method is the ________.
A) dual pricing
B) market pricing
C) single pricing
D) distress pricing
4) Which of the following is a disadvantage of using negotiated transfer price?
A) It requires each division manager to put forth effort to increase division operating income.
B) Negotiated transfer prices take away the divisional autonomy as prices depend on bargaining
strength.
C) Negotiations usually require much time and energy thereby consuming precious managerial time.
D) It may lead to divisional enmity because negotiation process may cause frictions among departments.
5) When there is unused capacity, ________.
A) the transfer-price range lies between the its variable cost per unit and the higher of its contribution or
price at which the product is available from external suppliers
B) the transfer-price range lies between the maximum price at which the selling division is willing to sell
and the minimum price the buying division is willing to pay
C) the transfer-price range lies between the minimum price at which the selling division is willing to sell
and the maximum price the buying division is willing to pay
D) the transfer-price range lies between the its fixed cost per unit and the higher of its contribution or
price at which the product is available from external suppliers
6) Which of the following is a disadvantage of dual pricing?
A) It strongly preserves the autonomy of divisions, and the division managers are motivated to put forth
effort to increase the operating income of their respective divisions, causing inefficiencies.
B) The price arrived by using dual pricing has no specific relationship to either costs or the market price.
C) It leads to disputes about which price should be used when computing the taxable income of subunits
located in different tax jurisdictions.
D) It assumes that the minimum transfer price equals the incremental cost per unit incurred up to the
point of transfer minus the opportunity cost per unit to the selling division.
7) A disadvantage of using negotiated prices is that the time and energy spent by managers haggling over
transfer prices make the method too costly.
8) Dual pricing uses two separate transfer-pricing methods to price each transfer from one subunit to
another.
9) One concern with dual pricing is that it leads to disputes about which price should be used when
computing the taxable income of subunits located in different tax jurisdictions.
10) Dual pricing insulates managers from the realities of the marketplace because costs, not market prices,
affect the revenues of the supplying division.
11) TrueValue Company makes all types of office desks. The General Desk Division is currently
producing 10,000 desks per year with a capacity of 15,000. The variable costs assigned to each desk are
$300 and annual fixed costs of the division are $900,000. The General desk sells for $400.
The Executive Division wants to buy 5,000 desks at $270 for its custom office design business. The
General Desk manager refused the order because the price is below variable cost. The executive manager
argues that the order should be accepted because it will lower the fixed cost per desk from $90 to $60 and
will take the division to its capacity, thereby causing operations to be at their most efficient level.
Required:
a. Should the order from the Executive Division be accepted by the General Desk Division? Why?
b. From the perspective of the General Desk Division and the company, should the order be accepted if
the Executive Division plans on selling the desks in the outside market for $420 after incurring additional
costs of $100 per desk?
c. What action should the company president take?
12) The Microchip Division of Silicon Computers produces computer chips that are sold to the Personal
Computer Division and to outsiders. Operating data for the Microchip Division for 20X5 are as follows:
Internal Sales
External Sales
Sales:
300,000 chips at $10
$3,000,000
200,000 chips at $12
$2,400,000
Variable expenses at $4
1,200,000
800,000
Contribution margin
$1,800,000
$1,600,000
Fixed cost (allocated in units)
1,500,000
1,000,000
Operating income
$ 300,000
$ 600,000
The Personal Computer Division has just received an offer from an outside supplier to furnish chips at
$8.90 each. The manager of Microchip Division is not willing to meet the $8.90 price. She argues that it
costs her $9.00 to produce and sell each chip. Sales to outside customers are at a maximum of 200,000
chips.
Required:
a. Verify the Microchip Division’s $9.00 unit cost figure.
b. Should the Microchip Division meet the outside price of $8.90? Explain.
c. Could the $8.60 price be met and still show a profit for the Microchip Division sales to the Personal
Computer Division? Show computations.
Variable costs
[($1,500,000 + $1,000,000)/500,000 units]
Total unit costs
Sales (300,000 × $8.90)
$2,670,000
Variable costs (300,000 × $4)
1,200,000
Contribution margin
$1,470,000
Fixed costs (300,000 × $5.00)
1,500,000
Operating income
13) Dual pricing is not widely used. Explain its disadvantages.
Objective 22.8
1) Which of the following transfer-pricing methods always achieves goal congruence?
A) a market-based transfer price
B) a cost-based transfer price
C) a negotiated transfer price
D) full-cost plus a standard profit margin
2) In the context of transfer pricing, which of the following represents the maximum contribution margin
forgone by the selling subunit if the product or service is transferred internally?
A) sub-optimal transfer price
B) notional loss
C) compromise sale
D) opportunity cost
3) Which of the following denotes minimum transfer price?
A) Minimum transfer price = Incremental cost per unit incurred up to the point of transfer + Opportunity
cost per unit to the selling subunit
B) Minimum transfer price = Total cost per unit incurred up to the point of transfer + Sunk cost per unit to
the selling subunit
C) Minimum transfer price = Current cost per unit incurred up to the point of transfer + Historical cost
per unit to the selling subunit
D) Minimum transfer price = Variable cost per unit incurred up to the point of transfer + Fixed cost per
unit to the selling subunit
4) The minimum transfer price equals ________.
A) opportunity costs less the additional outlay costs
B) opportunity costs times 125% plus the additional outlay costs
C) opportunity costs divided by the additional outlay costs
D) incremental costs plus opportunity costs
5) The seller of Product A has no idle capacity and can sell all it can produce at $50 per unit. Outlay cost is
$12. What is the opportunity cost, assuming the seller sells internally?
A) $12
B) $38
C) $50
D) $62
6) The seller of a product has no idle capacity and can sell all it can produce at $39 per unit. Outlay cost is
$9. What is the opportunity cost, assuming the seller sells internally?
A) $9
B) $30
C) $39
D) $48
7) In markets that are not perfectly competitive, ________.
A) the selling division will not have any unused capacity
B) companies can increase their capacity utilization only by decreasing their prices
C) minimum transfer price will equal the incremental cost per unit incurred up to the point of transfer
D) the opportunity cost will equal the minimum contribution margin
8) In analyzing transfer prices, the ________.
A) buyer will not willingly purchase a product for less than the incremental costs incurred to
manufacture the product internally
B) seller will not willingly sell a product for less than the incremental costs incurred to make the product
C) buyer will willingly pay more than the ceiling transfer price
D) buyer will not pay less than the ceiling transfer price
9) Minimum transfer price can be arrived at by adding incremental cost per unit incurred up to the point
of transfer with the markup required.
10) In markets that are not perfectly competitive, companies can increase their capacity utilization only by
decreasing their prices.
11) The additional cost of producing and transferring the product or service is called variable
manufacturing cost.
12) If the selling subunit is operating at capacity, the opportunity cost of transferring a unit internally
rather than selling it externally is equal to the market price minus the variable cost.
13) The Fabrication Division of American Car Company has offered to purchase 90,000 batteries from the
Electrical Division for $104 per unit. At a normal volume of 250,000 batteries per year, production costs
per battery are as follows:
Direct materials
$ 40
Direct manufacturing labor
30
Variable factory overhead
12
Fixed factory overhead
40
Total
$112
The Electrical Division has been selling 250,000 batteries per year to outside buyers at $136 each; capacity
is 350,000 batteries per year. The Fabrication Division has been buying batteries from outside sources for
$130 each.
Required:
a. Should the Electrical Division manager accept the offer? Explain.
b. From the company’s perspective, will the internal sales be of any benefit? Explain.
Sales to Assembly
$104
Variable costs
82
Contribution margin
Objective 22.9
1) Soft Cushion Company is highly decentralized. Each division is empowered to make its own sales
decisions. The Assembly Division can purchase stuffing, a key component, from the Production Division
or from external suppliers. The Production Division has been the major supplier of stuffing in recent
years. The Assembly Division has announced that two external suppliers will be used to purchase the
stuffing at $20 per pound for the next year. The Production Division recently increased its unit price to
$40. The manager of the Production Division presented the following information — variable cost $32
and fixed cost $8 —to top management in order to attempt to force the Assembly Division to purchase the
stuffing internally. The Assembly Division purchases 20,000 pounds of stuffing per month.
What would be the monthly operating advantage (disadvantage) of purchasing the goods internally,
assuming the external supplier increased its price to $50 per pound and the Production Division is able to
utilize the facilities for other operations, resulting in a monthly cash-operating savings of $30 per pound?
A) $1,000,000
B) $360,000
C) $(240,000)
D) $(400,000)
2) One of the problems in using one set of accounting records for tax reporting and another set of records
for internal management reporting is that ________.
A) it is illegal as well as unethical to do so
B) the tax authorities may suspect manipulation of records
C) it is almost impossible to keep the records straight and hard to reconcile the books
D) the shareholders do not approve of such methods and the market prices will decline
3) Which of the following helps in avoiding costly transfer-pricing disputes between taxpayers and tax
authorities?
A) transfer price redressal panel
B) grievance redressal forum
C) transfer price agreements
D) advanced pricing agreements
4) Which of the following taxes does transfer pricing affect?
A) customs duties
B) dividend taxes
C) corporate taxes
D) property taxes
5) Which of the following sections of U.S. Internal Revenue Code govern how multinationals can set
transfer prices for tax purposes?
A) Section 328
B) Section 382
C) Section 428
D) Section 482
6) Global Giant, a multinational corporation, has a producing subsidiary in a low tax rate country and a
marketing subsidiary in a high tax country. If Global Giant wants to minimize its worldwide tax liability,
we would expect Global Giant to ________.
A) stop producing in the low tax rate country
B) stop marketing in the high tax rate country
C) establish a low transfer price when the producing unit sells to the marketing unit
D) establish a high transfer price when the producing unit sells to the marketing unit
7) The tariffs and customs duties governments levy on imports of products into a country also affect the
transfer pricing practices of multinationals.
8) A company may choose to keep one set of accounting records for tax reporting and a second set for
internal management reporting.
9) Companies have an incentive to lower the transfer prices of products they are exporting into a country
to reduce the tariffs and customs duties charged on those products.
10) A company has a plant in a high tax jurisdiction that produces products for a facility in a low tax
jurisdiction. Suggest a strategy, including transfer prices, which will result in the lowest tax for the
overall corporation.
11) What is the role of unused capacity within the selling division in the determination of a negotiated
transfer price to another division?
12) What does Section 482 of the U.S. Internal Revenue Code govern?