+1 862 207 3288 I. Transfer Pricing
Weller Industries is a decentralized organization with six divisions. The company’s Electrical Division produces a variety of electrical items, including an X52 electrical fitting. The Electrical Division (which is operating at capacity) sells this fitting to its regular customers for $7.50 each; the fitting has a variable manufacturing cost of $4.25.
The company’s Brake Division has asked the Electrical Division to supply it with a large quantity of X52 fittings for only $5 each. The Brake Division, which is operating at 50% of capacity, will put the fitting into a brake unit that it will produce and sell to a large commercial airline manufacturer. The cost of the brake unit being built by the Brake Division follows:
Although the $5 price for the X52 fitting represents a substantial discount from the regular $7.50 price, the manager of the Brake Division believes that the price concession is necessary if his division is to get the contract for the airplane brake units. He has heard “through the grapevine” that the airplane manufacturer plans to reject his bid if it is more than $50 per brake unit. Thus, if the Brake Division is forced to pay the regular $7.50 price for the X52 fitting, it will either not get the contract or it will suffer a substantial loss at a time when it is already operating at only 50% of capacity. The manager of the Brake Division argues that the price concession is imperative to the well-being of both his division and the company as a whole.
Weller Industries uses return on investment (ROI) to measure divisional performance.
Required:
1. Assume that you are the manager of the Electrical Division. Would you recommend that your division supply the X52 fitting to the Brake Division for $5 each as requested? Why or why not? Show all computations. [10 Marks]
2. Would it be profitable for the company as a whole for the Electrical Division to supply the fittings to the Brake Division if the airplane brakes can be sold for $50? Show all computations, and explain your answer. [12 Marks]
3. In principle, should it be possible for the two managers to agree to a transfer price in this particular situation? If so, within what range would that transfer price lie? [12 Marks]
4. Question 4 should be answered with 300-400 word “essay” for both parts (a) and (b)… [16 Marks].
a. Discuss the organizational behavior problems, if any, inherent in this situation. For example, what if there is no agreement between the two managers? List at least three reasons why this might come about.
b. What would you advise the company’s president to do in this situation? How does decentralization fit into this scenario?
II. Balanced Scorecard
Haglund Department Store is located in the downtown area of a small city. While the store had been profitable for many years, it is facing increasing competition from large national chains that have set up stores on the outskirts of the city. Recently the downtown area has been undergoing revitalization, and the owners of Haglund Department Store are somewhat optimistic that profitability can be restored.
In an attempt to accelerate the return to profitability, management of Haglund Department Store is in the process of designing a balanced scorecard for the company. Management believes the company should focus on two key problems. First, customers are taking longer and longer to pay the bills they incur using the department store’s charge card, and the company has far more bad debts than are normal for the industry. If this problem were solved, the company would have more cash to make much needed renovations. Investigation has revealed that much of the problem with late payments and unpaid bills results from customers disputing incorrect charges on their bills. These incorrect charges usually occur because salesclerks incorrectly enter data on the charge account slip. Second, the company has been incurring large losses on unsold seasonal apparel. Such items are ordinarily resold at a loss to discount stores that specialize in such distress items.
The meeting in which the balanced scorecard approach was discussed was disorganized and ineffectively led—possibly because no one other than one of the vice presidents had read anything about how to build a balanced scorecard. Nevertheless, a number of potential performance measures were suggested by various managers. These potential performance measures are:
a. Percentage of charge account bills containing errors.
b. Percentage of salesclerks trained to correctly enter data on charge account slips.
c. Average age of accounts receivables.
d. Profit per employee.
e. Customer satisfaction with accuracy of charge account bills from monthly customer survey.
f. Total sales revenue.
g. Sales per employee.
h. Travel expenses for buyers for trips to fashion shows.
i. Unsold inventory at the end of the season as a percentage of total cost of sales.
j. Courtesy shown by junior staff members to senior staff members based on surveys of senior staff.
k. Percentage of suppliers making just-in-time deliveries.
l. Sales per square foot of floor space.
m. Written-off accounts receivable (bad debts) as a percentage of sales.
n. Quality of food in the staff cafeteria based on staff surveys.
o. Percentage of employees who have attended the city’s cultural diversity workshop.
p. Total profit.
Required:
1. As someone with more knowledge of the balanced scorecard than almost anyone else in the company, you have been asked to build an integrated balanced scorecard. In your scorecard, use only performance measures listed previously. You do not have to use all of the performance measures suggested by the managers, but you should build a balanced scorecard that reveals a strategy for dealing with the problems with accounts receivable and with unsold merchandise. Construct the balanced scorecard following the format used in Exhibit 11–5 (see the following page). Do not be concerned with whether a specific performance measure falls within the learning and growth, internal business process, customer, or financial perspective. However, use arrows to show the causal links between performance measures within your balanced scorecard and explain whether the performance measures should show increases or decreases. [14 Marks]
2. Assume that the company adopts your balanced scorecard. After operating for a year, some performance measures show improvements, but not others. What should management do next? [12 Marks]
3. Balanced Scorecard Hypotheses
a. Suppose that customers express greater satisfaction with the accuracy of their charge account bills but the performance measures for the average age of accounts receivable and for bad debts do not improve. Explain why this might happen. [12 Marks]
b. Suppose that the performance measures for the average age of accounts receivable, bad debts, and unsold inventory improve, but total profits do not. Explain why this might happen. Assume in your answer that the explanation lies within the company. [12 Marks]
[Excerpt from Ch 11: p. 493 – 495]
Suppose, for example, that Jaguar’s strategy is to offer distinctive, richly finished luxury automobiles to wealthy individuals who prize handcrafted, individualized products. To deliver this customer intimacy value proposition to its wealthy target customers, Jaguar might create such a large number of options for details, such as leather seats, interior and exterior color combinations, and wooden dashboards, that each car becomes virtually one of a kind.
For example, instead of just offering tan or blue leather seats in standard cowhide, the company may offer customers the choice of an almost infinite palette of colors in any of a number of different exotic leathers. For such a system to work effectively, Jaguar would have to be able to deliver a completely customized car within a reasonable amount of time—and without incurring more cost for this customization than the customer is willing to pay. Exhibit 11–5 suggests how Jaguar might reflect this strategy in its balanced scorecard. [This is similar to slide # 18 from the Ch11 – Balanced Scorecard handout.]
