AB Company has two divisions, Division A and Division B. Division A manufactures brake lining sheeting at a variable cost of $100 per m2 . Division B can use this sheeting to make car brake linings, for an additional variable cost of $140 per m2 . Division A can sell the sheeting externally for $200 per m2 . Sufficient car brake linings can be manufactured from each m2 to wholesale at $300.

Required:

(a) Should AB Company process the brake lining sheeting into finished brake linings? Explain with calculations. 

(b) If internal transfers were made at 120% of variable cost, would each division be motivated to adopt the action which is optimal for AB Company? Show the computations. 

(c) If internal transfers were made at market prices, would each division be motivated to adopt the action which is optimal for AB Company? Justify with calculations. 

(d) The transfer pricing method used for the transfer of an intermediate product between two divisions in a group has been agreed at standard cost plus 30 percent profit markup. The transfer price may be altered after taking into consideration the planning and operational variance analysis at the transferor division. Discuss the acceptability of this transfer pricing method to the transferor and transferee divisions. 

Answer rating: 100% (QA)

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