Walton Industries Has Two Divisions: Machining and Assembly

question 31

Essay

Walton Industries has two divisions: Machining and Assembly.The Assembly Division is looking to source 20,000 units annually of specialized component product from Machining Division.The special components have variable costs of $260 per unit in variable production costs.The Machine Products Division has a bid from an outside supplier of $445 per unit.However, to meet the requirements of the Assembly Division, Machining would have to cut back production of an existing product.This product sells for $565 per unit, and requires $369 per unit in variable production costs.Packaging and shipping costs of the existing product are $12 per unit, but these would be slashed by 75% for the specialized component for Assembly.Machining currently sells 120,000 units of the existing product and this volume would have to be reduced by 25% to meet the Assembly Division's demand.Required:
Should the transfer take place, and if so, what would be the range of acceptable transfer prices?

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Definitions:

AAA Credit Rating

The highest credit rating assigned to a borrower's debt instruments by credit rating agencies, indicating an extremely low risk of default.

A Credit Rating

This is an evaluation of the credit risk of a prospective debtor, predicting their ability to pay back the debt and an implicit forecast of the likelihood of the debtor defaulting.

Note

Unsecured debt, usually with a maturity under 10 years.

Protective Covenant

A clause in a financial contract that restricts certain actions of the borrower to protect the lender's interests.