Bay Area Scientific, Inc. manufactures electronic products, with two operating divisions, the Performance Materials and Communication Technologies divisions. Condensed divisional income statements, which involve no intracompany transfers and which include a breakdown of expenses into variable and fixed components, are as follows:

*$78 of the $108 per unit represents materials costs, and the remaining $30 per unit represents other variable conversion expenses incurred within the Communication Technologies Division.

The Performance Materials Division is presently producing 8,000 units out of a total capacity of 9,600 units. Materials used in producing the Communication Technologies Division's product are currently purchased from outside suppliers at a price of $78 per unit. The Performance Materials Division is able to produce the materials used by the Communication Technologies Division. Except for the possible transfer of materials between divisions, no changes are expected in sales and expenses.

Instructions

1. Would the market price of $78 per unit be an appropriate transfer price for Bay Area Scientific, Inc.? Explain.

2. If the Communication Technologies Division purchases 1,600 units from the Performance Materials Division, rather than externally, at a negotiated transfer price of $64 per unit, how much would the income from operations of each division and the total company income from operations increase?

3. Prepare condensed divisional income statements for Bay Area Scientific, Inc., based on the data in part (2).

4. If a transfer price of $70 per unit is negotiated, how much would the income from operations of each division and the total company income from operations increase?

5. (a) What is the range of possible negotiated transfer prices that would be acceptable for Bay Area Scientific, Inc.?

(b) Assuming that the managers of the two divisions cannot agree on a transfer price, what price would you suggest as the transfer price?

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Bay Area Scientific, Inc. Divisional Income Statements For the Year Ended December 31, 2010 Performance Communication Materials Technologies Division Division Total Sales: $ 624,000 1,824,000 $2,448,000 8,000 units @ $ 78 per unit 12,000 units @ $152 per unit $624,000 $1,824,000 $1,824,000 $624,000 Expenses: Variable: $ 464,000 8,000 units @ $ 58 per unit 12,000 units @ $108* per unit $464,000 $1,296,000 1,296,000 Fixed 124,000 $588,000 $ 36,000 288,000 $1,584,000 $ 240,000 412,000 $2,172,000 $ 276,000 Total expenses Income from operations