15-29 International transfer pricing, taxes, goal congruence a division of Gemin
ID: 2547071 • Letter: 1
Question
15-29 International transfer pricing, taxes, goal congruence a division of Gemini Corporation is located in the United States. Its effective income tax rate is 30%. division of Gemini, Pollux is located in Canada, where the income tax rate is 40%, Pollux manufacture other things, an intermediate product for Castor called IP-2013. Pollux operates at capacity and makes units of IP-2013 for Castor each period, at a variable cost of $56 per unit. Assume that there are no customers for IP-2013. Because the IP-2013 must be shipped from Canada to the United States, it costs Prle an additional $8 per unit to ship the IP-2013 to Castor. There are no direct fixed costs for IP-2013. Pollux manufactures other products. costs Polu A product similar to IP-2013 that Castor could use as a substitute is available in the United States fr$77 per unit 1. What is the minimum and maximum transfer price that would be acceptable to Castor and Pollux IP-2013, and why? 2. What transfer price would minimize income taxes for Gemini Corporation as a whole? Would Pollux Castor want to be evaluated on operating income using this transfer price? 3. Suppose Gemini uses the transfer price from requirement 2, and each division is evaluated on its after-tax division operating income. Now suppose Pollux has an opportunity to sell 8,000 units of IP-2013 to an outside customer for $62 each. Pollux will not incur shipping costs because the customer is and offers to pay for shipping.Assume tha if Pollux accepts the special order, Castor will have to buy 8,000 units of the substitute product in the United States at $77 per unit. a. Will accepting the special order maximize after-tax operating income for Gemini Corporation as a whole? b. Wll Castor want Pollux to accept this special order? Why or why not? c. Will Pollux want to accept this special order? Explain. d. Suppose Gemini Corporation wants to operate in a decentralized manner. What transfer price sh ould Gemini set for IP-2013 so that each division acting in its own best interest takes actions for the spe order that are in the best interests of Gemini Corporation as a whole?Explanation / Answer
1. The Pollux minimum transfer price is variable cost and shipping charges but as it is operating at full capacity the oppurtunity cost is to be considered but there is no external demand for IP-2013 so the minimum Transfer price is 64 (56+8)
The castor substitute price is 77 so it cannot go beyond 77. the maximum price is 77
The Minimum and maximum Transfer price is 64 to 77.
2. Trasfer price of 64 is suggestable from Gemini point of view because the tax rate at pollux is 40% and the tax rate at castor is 30%, overall the benefit to the company is if transfer price is 64.
3.a. If the transfer price is 64 the operating income for the company is benefited but if the pollux sells to outside the pollux variable cost is 56 and ends up with the profit of 6 if the price is 62 and the total profit is 28800 after tax (3000*6-19200 = 28800) but when it comes to castor has to purchase from outside at 77 but the internal price is 64 maximum the loss to the company is 72800 after tax.
3.b. Yes because it is benefit from the gemini point of view otherwise the benefit is lost as it covers profit of 6 to outsiders and is 13 if it accepts transfer price internally.
3.c. no beacuse it has to sell to its variable cost and no profit is earned by pollux so some margin has to be transferred to pollux in order to accept this order.
3.d. The gemini should set price above the variable cost of pollux in order both the companies to accept this order the minimum transfer price shall be 70 (62+8)
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