Birch Paper Company

Group 2

Which bid should Mr. Kenton accept?

Mr. Kenton Should try to maximize divisional profits Transfer policy gives him right to deal with insiders and outsiders. In case of unsatisfactory deal from insider (Thompson), he is free to buy outside of company Since Thompsons bid is highest, it would lead to higher cost and lower profits Wests bid of $430 is lowest, leading to lowest cost and highest profits Hence Mr. Kenton should accept Wests bid.

Which bid is in the best interest of Birch Paper Company in this particular situation?
Thompsons bid is in the best interest of the company Calculations for Thompson
The Thompson Division gets its linerboard and corrugating medium from the Southern Division. Since 70 % of Thompson Divisions costs are due to the linerboard and corrugating board, i.e. $400x70% = $280. Thus, the Southern Division charges the Thompson Division with the market price of $280

Continued
Since Southern Divisions out of pocket costs value 60% of the market price, the effective costs for the Thompson division are: $280x60% = $168 Thompson Divisions out of pocket costs is represented as $400 - $280 = $120. Total Cost: $168 + $120 = $ 288 The Thompson Division charges Eire Papers with the market price of $30 per thousand boxes for printing. Out of pocket costs for the Thompson Division are $25. Total Cost: $ 432- (30-25) - (90-54) = $ 391

Thompson has the lowest costs and the highest profits

Should the Commercial V.P. take any action on the current situation? If so, please elaborate

Pros and cons on both sides.

Looses an opportunity cost of $430 - $288 = $142 of not in-sourcing with Thompson Intervention only in case if negative financial consequences are significant Since volume of transaction was less than 5% than of any other division involved, thus VPs intervention is not necessary Problem might rise in future regarding the financial so the V.P should take a precautionary action, not against the divisions but against the free pricing policy The top management should have power of acceptance or to veto against the bid

In the controversy described, how, if at all is the transfer pricing system dysfunctional? Does this problem call for some change, or changes, in the transfer pricing policy of the overall firm? If so, what

specific changes do you suggest?

Solution