Case 11A-7 Transfer Pricing; Divisional Performance [LO11-5]Weller Industries is a decentralized organization with sixdivisions. The company’s Electrical Division produces a variety ofelectrical items, including an X52 electrical fitting. TheElectrical Division (which is operating at capacity) sells thisfitting to its regular customers for $8.10 each; the fitting has avariable manufacturing cost of $4.58. The company’s Brake Divisionhas asked the Electrical Division to supply it with a largequantity of X52 fittings for only $6.10 each. The Brake Division,which is operating at 50% of capacity, will put the fitting into abrake unit that it will produce and sell to a large commercialairline manufacturer. The cost of the brake unit being built by theBrake Division follows: Purchased parts (from outside vendors) $23.20 Electrical fitting X52 6.10 Other variable costs 14.32 Fixedoverhead and administration 8.30 Total cost per brake unit $ 51.92Although the $6.10 price for the X52 fitting represents asubstantial discount from the regular $8.10 price, the manager ofthe Brake Division believes the price concession is necessary ifhis division is to get the contract for the airplane brake units.He has heard “through the grapevine” that the airplane manufacturerplans to reject his bid if it is more than $53 per brake unit.Thus, if the Brake Division is forced to pay the regular $8.10price for the X52 fitting, it will either not get the contract orit will suffer a substantial loss at a time when it is alreadyoperating at only 50% of capacity. The manager of the BrakeDivision argues that the price concession is imperative to thewell-being of both his division and the company as a whole. WellerIndustries uses return on investment (ROI) to measure divisionalperformance. Required: 1. Assume that you are the manager of theElectrical Division. a. What is the lowest acceptable transferprice for the Electrical Division? b. Would you supply the X52fitting to the Brake Division for $6.10 each as requested? 2.Calculate the net positive effect on the company's profit per brakeunit the Electrical Division to supply the fittings to the BrakeDivision and if the airplane brakes can be sold for $53? 3. Inprinciple, within what range would that transfer price lie?
