Walker Incorporated Has a Division Based in Prince Edward Island

question 39

Essay

Walker Incorporated has a division based in Prince Edward Island (PEI) that produces electronic components with a very strong domestic market for Circuit No. 222. The variable production cost is $140 per unit, and the division can sell its entire output for $190 per unit. Walker is subject to a 30% income tax rate.
Alternatively, the PEI Division can ship the circuit to a division that is located in Nova Scotia, to be used in the manufacture of a global positioning system (GPS). Information about the global positioning system and Nova Scotia's costs follow.
Selling price: $380 per unit
Circuit shipping and handling fees to Mississippi: $10 per unit
Labor, overhead, and additional material costs of GPS: $120 per unit
Required:
A. Assume that the transfer price for the circuit was $160. How would PEI's divisional manager likely react to a corporate decision to transfer the circuits to Nova Scotia? Why?
B. Calculate the income for the PEI Division, the Nova Scotia Division, and the income for the company as a whole if the transfer took place at $160 per circuit.
C. Assuming that transfers took place at a price higher than $160, would the revised price increase, decrease, or have no effect on Walker's income? Briefly explain.
D. Assume that Walker moved its GPS production facility to a division located in Germany, which is subject to a 45% tax rate. The transfer took place at $180. Shipping fees (absorbed by the overseas division) doubled to $20; the German division paid an import duty equal to 10% of the transfer price; and labour, overhead, and additional material costs were $150 per GPS. If the German selling price of the GPS amounted to $450, calculate the income for the PEI Division, the Nova Scotia Division, and the income for Walker as a whole.
E. Suppose that Canadian and German tax authorities allowed some discretion in how transfer prices were set. Given the difference in tax rates, should Walker attempt to generate the majority of its income in PEI or Germany? Why?

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Definitions:

Double-Entry Accounting

A system of bookkeeping where every entry to an account requires a corresponding and opposite entry to a different account.

Debits

Accounting entries that represent an increase in assets or expenses or a decrease in liabilities, equity, or revenue.

Credits

Recognition or acknowledgment for something received or accomplished, often used in finance to denote money received or a decrease in liabilities.

Liabilities

Liabilities are financial obligations or debts that a company owes to others, which need to be settled over time through the transfer of economic benefits including money, goods, or services.