Phoenix Inc., a cellular communication company, has multiple divisions. Each divisions management is compensated based on the divisions operating income. Division A currently purchases cellular

Phoenix Inc., a cellular communication company, has multiple divisions. Each division’s management is compensated based on the division’s operating income. Division A currently purchases cellular equipment from outside markets and uses it to produce communication systems. Division B produces similar cellular equipment that it sells to outside customers but not to division A at this time. Division A’s manager approaches division B’s manager with a proposal to buy the equipment from division B. If it produces the cellular equipment that division A desires, division B would incur variable manufacturing costs of $60 per unit.

Relevant Information about Division B

Sells 50,000 units of equipment to outside customers at $130 per unit.

Operating capacity is currently 80 percent; the division can operate at 100 percent.

Variable manufacturing costs are $70 per unit.

Variable marketing costs are $8 per unit.

Fixed manufacturing costs are $580,000.

Income per Unit for Division A (assuming parts purchased outside, not from division B)

Relevant Information about Division B
Sells units of equipment to outside customers	50,000
Selling price per unit	$130
Operating capacity is currently	80%	percent
The division can operate at	100%	percent
Variable manufacturing costs are	$70	per unit.
Variable marketing costs are	$8	per unit.
Fixed manufacturing costs are	$580,000
Variable manufacturing costs if manufacured for Div A	$60
Income per Unit for Division A (assuming parts purchased outside, not from division B)
Sales revenue	$320
Manufacturing costs
Cellular equipment	80
Other materials	10
Fixed costs	40
Total manufacturing costs	130
Gross margin	$190
Marketing costs
Variable	35
Fixed	15
Total marketing costs	50
Operating income per unit	$140

Required
1. Division A wants to buy all 25,000 units from division B at $75 per unit. Should division B accept or reject the proposal? How would your answer differ if (a) Division A requires all 25,000 units in the order to be shipped by the same supplier, or (b) Division A would accept partial shipment from Division B?
2. What is the range of transfer prices over which the divisional managers might negotiate a final transfer price? Provide a rationale for the range youprovide.

2. Assuming that Division B limits its sales to Division A to the excess capacity of 12,500 units, the best transfer price should fall in the range of $60 (Division B's variable cost) and $80 (the outside purchase cost to Division A). The two divisions should negotiate to determine the desired price this range. A price of S60 would allocate all the profit on the manufacture of the equipment to Division A, while a price of S80 would allocate all th profit to Division B. Any price less than $60 would be unacceptable to Division B, and any price greater than $80 would be unacceptable to Divisio A It appears that a fair price of approximately e of approximately $70 should be determined for these internal sales. The m or ant p tom the m s iev s tha these 12,500 parts should be purchased internally, since the internal cost of $60 is less than the external cost of $80. It is up to the two divisions to determine the right price, but to fail to transfer the units would not be acceptable from the overall firm's view.