The Black Water Group comprises two companies, Fork Co, and Comp Co.
Fork Co has a design division, which designs batteries for the motor vehicle industry, and a Battery division, which manufactures batteries for the motor vehicle industry.
Comp Co manufactures components globally and also supplies Fork Co. The financial results for the two companies for the year ended December 30, 2023, are as follows:
Fork Co
Design division Battery division
$000
$000
$000
External sales
Sales to Battery division
14,300
25,535
8,010
7,550
(4,900)
(3,400)
15,560
Cost of sales
Administrative costs
Distribution costs
Net Operating Income
Average Operating Assets
* Includes the cost of components purchased from Comp Co
6,000
23,540
(16,200)
(4,200)
(1,260)
3,875
32,320
*
(5,280)
(2,600)
(670)
7,010
82,975
Comp Co has always charged the same price to the Battery division as it does to its external customers.
However, after being offered a 5% lower price for similar components from an external supplier, the manager of the Battery division feels strongly that the transfer price is too high and should be reduced.
Comp Co currently satisfies 60% of the external demand for its components. Its variable costs represent
Required:
a. Discuss the performance of Comp Co and each division of Fork Co, calculating and using the following performance measures:
Return on Investment (ROI)
Note: There are 4.5 marks available for calculations and 5.5 marks available for discussion. (10 marks)
Compute the maximum transfer price that Battery Division would be willing to pay and briefly state the rationale behind this price. (2 marks)
Compute the minimum transfer price that Comp Co would be willing to agree on. Discuss the rationale behind this price.
Note: 3 marks are available for calculation and 2 marks are available for discussion. (5 marks)
Assuming Comp Co has constant output which cannot be adjusted, provide an overall conclusion on whether the manager of Comp Co should consider negotiating a lower transfer price with the Battery division manager.