Transfer Pricing in Barracks Ltd's Divisions A and B

Barracks Ltd is a well-established company which produces wooden garden furniture sets in its two divisions A and B.

Division A produces the items of furniture and then transfers them to Division B, who varnish them and sell them to a well-known national retailer for £625 per set of a table and 4 chairs. For the last number of years, the managers of the 2 divisions have communicated well and have been happy with the transfer pricing arrangements, which was set at £275 per set of furniture. However, the manager of Division A has recently left Barracks Ltd., for a competitor, and the newly appointed manager of Division A is not happy with the transfer price of £275 and believes it should be £395 per unit.

He is arguing that the overall profit for the company will also be increased by doing this however, Shelley, the manager of Division B disputes this and is arguing that the transfer price should remain the same. Shelley is also arguing that the profits of the 2 divisions are not the only measurement of the managers’ performance.

As the management accountant you have been asked to prepare the information for the next divisional meeting.

Required:

1. Prepare profit statements for each of the divisions and also for the company as a whole, if the transfer price from Division A to B is:

(i) £275 per unit

(ii) £395 per unit.

1. Discuss the types of transfer pricing policy available to a company and explain why a company needs to consider the motivational impact on the managers of its divisions when setting the transfer price.
2. Discuss the problems that arise specifically when determining transfer prices where divisions are located in different countries
3. If the divisions have investments of £1.25 million each and Barracks Ltd. requires a cost of capital of 15%, calculate the Return on Investment (ROI) and Residual Income (RI) for each of the divisions.
4. Non-financial performance indicators (NFPI’s) are becoming more popular when measuring performance. Discuss the reasons why and give 5 examples of a NFPI that could be used by Barracks Ltd.

Section B - Answer 1 question from 3. All questions carry equal marks

Question 2

1. Identify and explain 5 purposes of budgets.
2. Explain the differences between participation and non-participation as styles of budgeting and discuss the advantages of each.
3. Clipper Ltd produces a racing yacht, the Wind, which has been in production for a number of years, and to date 771 units of the Wind have been produced. The budget for the next quarter is showing the production of 15 units of the Wind. If the 1st ever unit took 280 hours and an 80% learning curve applies:
4. Calculate the total labour hours needed for the production of 15 units of the Wind
5. Calculate the average labour time per unit

 iii. Explain the learning curve theory

1. Explain where this information may be used by Clipper Ltd

Question 3

1. Discuss the problems a company may have by looking at short-term profit as a measure of performance. (15 marks. Word limit: 300)
2. Describe the advantages and disadvantages that an organisation might experience if it adopts a decentralised structure. (15 marks. Word limit: 300)
3. Bliss Ltd has an investment centre which has reported a profit of £11 million.

This is after charging £2.5 million for the full cost of launching a new product that is expected to last for five years and increasing the provision for doubtful debts from £75,000 to £200,000.

Taxation is assumed to be 30% of the net operating profit before tax.

The company has a risk-adjusted cost of capital of 12%

The net book value of the investment centre's assets is £50million and the replacement cost has been estimated at £60 million.

A company needs to control its operations in order to achieve the profit it has budgeted for. One possibility to do this could be to use standard costing.

1. Identify and explain the 4 types of standards that a company can choose and the effects that choice would have on the variance reported.
2. Explain the controllability principle and exception by reporting.
3. Identify and explain the 4 ways a company can choose to decide whether to investigate a variance.
4. A company planned to produce 6,000 units of its product, Flipeeze, during the month of April. The actual production was 6,500 units. The standard cost card for a unit of Flipeeze included fixed overheads of 5 hours @ £25 per hour. The actual hours worked for the month was 33,500.

Calculate and explain the following variances:

1. The fixed overhead volume variance
2. The fixed overhead volume efficiency variance and

iii. The fixed overhead volume capacity variance