Question

A food manufacturer reports the following for two of its divisions for a recent year. ($ millions) Beverage Division Cheese Division Invested assets, beginning $ 2,688 $ 4,481 Invested assets, ending 2,606 4,413 Sales 2,694 3,938 Operating income 362 647 Assume that each of the company’s divisions has a required rate of return of 7%. Compute residual income for each division. (Enter your answers in millions.)

The Trailer division of Baxter Bicycles makes bike trailers that attach to bicycles and can carry children or cargo. The trailers have a retail price of $95 each. Each trailer incurs $33 of variable manufacturing costs. The Trailer division has capacity for 24,000 trailers per year and incurs fixed costs of $590,000 per year.

Required:
1. Assume the Assembly division of Baxter Bicycles wants to buy 4,400 trailers per year from the Trailer division. If the Trailer division can sell all of the trailers it manufactures to outside customers, what price should be used on transfers between Baxter Bicycles's divisions?
2. Assume the Trailer division currently only sells 10,600 Trailers to outside customers, and the Assembly division wants to buy 4,400 trailers per year from the Trailer division. What is the range of acceptable prices that could be used on transfers between Baxter Bicycles's divisions?

Answer 1

		Beverage Division	Cheese Division
	Beginning Invested Assets	$                      2,68,80,00,000	$                           4,48,10,00,000
	Ending Invested Assets	$                      2,60,60,00,000	$                           4,41,30,00,000
	Average Invested Assets	$                      2,64,70,00,000	$                           4,44,70,00,000
	Sales	$                      2,69,40,00,000	$                           3,93,90,00,000
	Operating Income	$                         36,20,00,000	$                              64,70,00,000
	Residual Income[Net Income-(Average Invested assets*7%)]	$                         17,67,10,000	$                              33,57,10,000
1	Since the Trailer Division can sell the entire production to outside customers hence it for the 4400 trailers demanded by the assembly division the trailer division
	would quote the Market price of $95.00.
2	Now Trailer division has idle capacity and hence it for the order of 4400 units the Trailer division will quote a minimum transfer price equal to its variable cost which is $33
	The range will be $33 - $95.