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Case 13-52

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Manufactures dashboard instruments for heavyequipment.

Operates several divisions in Americas, Asia and Europe.

Vietnam Division manufactures two types of electrical

panels: the high-density panel (HPD) and low densitypanels (LPD).

HPD is used in the most sophisticated instrumentswhereas LPD is used for less-complicated instruments.

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Lpd Hpd

Unskilled Labor $5 $5

Skilled Labor:

Lpd (.25 hour @ $20) 5

hpd (1.5 hour @ $20) 3 30

Raw Materials 4 8

Purchased components 5 12

Variable overhead 5 15

Total variable cost $22 $70

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The annual fixed overhead in the Vietnam Division is$1,000,000.

Skilled labor is limited in the area and the division mustconstrain its production to 40,000 hours of skilled laboreach year.

This became a problem for Thuy Anh Tran, the division

manager. Tran increased the demand for the LPD where it became

unlimited.

LPD sells for $28.

Hpd sells anywhere up to 6,000 units per year for $115. General Instrumentation operates its Volkmar

Tachometer Division and its main product is asophisticated tachometer known as TCH-320.

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Unskilled labor (.5 hour @ $9) $ 4.50

Skilled labor (.3 hour @ $17) 51.00

Raw material 11.50

Purchased component 150.00

Variable Overhear 11.00

Total Variable Cost $228.00

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The cost of purchased components includes a $14control pack currently imported from turkey.

Fixed overhead in the Volkmar Tachometer Division runsabout $800,000 per year.

THC-320 sells for $270.

Bertram Muelller, the Division manager of the Volkmar

Tachometer Dicision and Thuy Anh Tran had aconversation that Vietnams Divisions THC-320 might bea viable substitute for their control pack.

Mueller asked his chief engineer to look upon that matter

and had the following conversation.

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Schmidt: Theres no question that Vietnam Divisions HDP unit will workin our TCH-320. In fact it could save us money.

Mueller: Thats good news but if we can buy components within thecompany, well help General Instrumentations bottom line

without hurting ours. Also, it will look good to corporate management ifthey see us working hard to integrate our division into General

Instrumentations overall production program.

Schmidt: Ive also been worried about reliability of supply of the controlpack. I dont like being dependent on such a critical supplier that way.

Mueller: I agree. Lets look at your figures on the HDP replacement.

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Schmidt: If we replace the control pack with the HDP from Vietnam,well avoid the $145 control pack cost were now incurring. Also,well save $5.50 on the basic raw materials. There is one catch,though. The HDP will require some adjustments in order to use it inthe TCG-320. We can make adjustments here in Berlin. Im guessingit will require an additional 2 hours of skilled labor to make thenecessary modifications. I dont think that variable overheadwould be any different. Then there is a transporting cost to Berlin of

$4.50 per unit.Mueller: Sounds good. Ill give Thuy Anh Tran a call and talk this over.We can use up to the 10,000 of the HDp units per year giventhe demand for the TCH-320. I wonder what kind of transfer priceVietnam Division will want.

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1. Draw a simple diagram depicting the two divisions and theirproducts. Also show the two alternatives that the Volkmar Tachometer

Division has in the production of its TCH-320.

General Instrumentation Company

Vietnam Division Volkmar Construction Division

LDP TCH - 320 Control pack (from Turkey)

Alternatives: Vietnam Division is to produce HDP to be a component of TCH 320. HDP will

be transferred to Volkmar Construction Division and will be a substitute of thecontrol pack acquired from Turkey.

Purchase control packs from Turkey.

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2. From the perspective of General Instrumentations top management,should any of the TCH-320 units be produced using the high-densitypanel? If so, how many?

Products (alternatives)TCH 320 (with

HDP)HDP (sell) LDP (sell)

Selling Price $270 $115 $28Less: Variable Costs: 4.50 5 5

Unskilled labor

85 30

5

Skilled labor 6 8 3Raw Materials 5 12 4

Purchased components 11 15 5Variable Overhead 70Variable cost transfer of HDP 4.50Contribution Margin of purchasing

control pack 42*Contribution Margin ($270-228) $42 $45 $6# of hours per unit 1.5 1.5 .25CM/hr $28 $30 $24Ranking: (priority) 2nd 1st 3rd

Maximum # of units produced 10 000 units 6 000 units No limit

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Alternatives:

40 000 hours1

st: HDP (sell )

6 000 units x 1.5 hrs= 9 000 hours

Remaining 31 000 hrs.

2nd

:TCH 320 (with HDP) or transfer HDP

10 000 units x 1.5 hrs= 15 000 hrs.

Remaining 16 000 hrs.

3rd

: LDP (sell)

No limit (16 000hrs/.25hrs)= 64 000 units= 16 000 hrs.

Remaining 0

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3. Suppose Vietnam Division transfers 10,000 HDp units per year toVolkmar. From the perspective of General Instrumentations topmanagement, what effect will the transfers price have on the companys

income?

Answer:

The transfer price will be an income to Vietnam Division (the selling

division) and will be a cost for Volkmar construction Instruments (thebuying division). It will affect both divisions profit and the evaluationof performance. As for General Instrumentation Company, there is noeffect because both divisions are under it.

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4. What is the minimum transfer price that the Vietnam Division would findacceptable for the HDP?

5. What is the minimum transfer price that the Volkmar Tachometer Divisionwould find acceptable for the HDP?

Vietnam Divisions minimum transfer price would be:Outlay cost $70

Opportunity cost: [CM of LDP x( 1.5 hrs to produce an HDP/ .25 hrs to produce an LDP)] + 36

($6 x 6 units)

Transfer price $106

Savings:

Purchase Price of control pack $ 145

Reduction in Raw Materials cost 5.50

Total savings: $150.50Less: costs

Transportation cost 4.50

Skilled Labor (2 hours x $17) 34

38.50

Savings for transferring HDP $112

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6. As the corporate controller for the General Instrumentation,recommend a transfer price.

Answer:

The transfer price of $106 is already a goal congruent transfer

price for the whole General Instrumentation Company. It is theminimum transfer price the Vietnam Division could offer to VolkmarConstruction Instruments Division.