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17 June, 05:55

The CEO of Lexington decides to impose a transfer price since the two divisions cannot agree. She chooses the highest feasible price. Her reasoning is that selling for a high price is better for Lexington's profit. Is the CEO's reasoning sound? Explain why or why not.

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  1. 17 June, 06:07
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    Answer: Not Sound as Company does not benefit as a Whole.

    Explanation:

    This question alludes to the presence of Divisions in a company tasked with producing different segments of a good.

    One Division makes a segment of the good and transfers it for a price to the other division so that they may be able to show Revenue on their books.

    The reasoning of the CEO of Lexington is flawed because if she chooses the highest feasible Transfer Fee for the goods it will be good for the Division doing the Transferring because they make more revenue.

    However, it will increase the cost of those being transferred to by the same amount that it increase the revenue of the Division transferred from.

    As a result, the increase in Cost and the Increase in Revenue in the two divisions will cancel each other out meaning that the company did not benefit.
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