George Burn’s Poultry Farm

Class Announcements  Service Learning Assignment:  Schedule a meeting with Danika Leblanc ( prior to contacting your organization  Ensure that you have met or scheduled a meeting with the client organization before you leave for reading week and ensure that that meeting includes me.  Midterm February 19th (Wednesday)  Business Banquet - April 2nd – 5:45-8pm, Catering - Gabrieau's Bistro; Keynote Speaker - Annette Verschuren, Past President of Home Depot for Canada and Asia

 Friday, Wednesday February19th(in-class)  Worth: 30%  Coverage: Chpts. 6, 7, 8, 22 (p ), 23 (p )  Format:  Short answer questions with multiple parts  No – multiple choice, journal entries, ethics  Answer for only THREE of the four questions; each question is worth 25 points.  Preparation:  Problems On-line  Lecture Notes On-line  Additional Office Hours:  Tuesday 18 th – 9:000am – 2:00pm (normally none)  Wednesday 19 th – 9:00am – 12:30pm (normally 11:00am – 2:00pm) Midterm

Class Objectives 1. Assessing the impact of transfer price on behaviour 2. Transfer pricing and management control systems

George Burns Poultry: Context  An integrated poultry farm and processing plant of roaster size chickens  Divided into three divisions or profit centres (Farm, Packaging, Sales)  Burns Poultry purchased by ADM and Burns continues at Farm Division  Plant Capacity - 6,000 processed per day  Farm Capacity - 1,030 per day  Spoilage - 30 out of 1,030 chickens don’t pass inspection and have to be destroyed

George Burns Poultry: Pricing – External and Internal (Transfer)

George Burns Poultry Case: Issues  1) Calculate Divisional Profit  Farm Division Profit Recalculate cost of goods sold Direct variable costing Abnormal spoilage  2)Assess Impact on Profitability  Contribution margin of packaged chicken  Farm Division Decisions Sale of 3,000 chickens from inventory Increased hatching from 1030 to Contract to supply 200 chickens externally $3.10 sale/purchase price of unprocessed chickens

George Burns Poultry Case: Issues (cont’d)  3) Evaluate Expansion of Farm Capital (not required for class)  4) Evaluation System Assessment  goal congruence  responsibility centres  performance measurement

George Burns Poultry Case: Farm Division  Note:The budgeted divisional profit for the farm division was $15,059.  Favourable variance from budget of $1,515F.

George Burns Poultry Case: Plant Division  Note: The budgeted divisional profit for the plant was $20,190. All actual costs other than the purchase of chickens from a broker equalled the budgeted costs.

George Burns Poultry Case: Sales Division  Note:The budgeted divisional profit for the sales division was $45,500.  Variance from budget was $0.

1.George Burns Poultry: Divisional Profit  Note: ( ) = $1,344

1.George Burns Poultry: Farm Division Profit (Reported)

 Company Policy 1. Direct costing not absorption costing 2. Normal spoilage is part of cost of goods sold 3. Abnormal spoilage is a separate expense; not part of cost of goods sold

1.George Burns Poultry: Farm Division Profit (Revised)

2.George Burns Poultry: Contribution Margin

2.George Burns Poultry: Farm Division Decisions  a.Sale of 3,000 chickens from inventory  b.Increased hatching from 1030 to  c.Contract to supply 200 chickens externally  d.$3.10 sale/purchase price of unprocessed chickens

2a.George Burns Farm Division: Eliminate 3,000 Inventory  Farm Division Profit  $1.352 = $4,056  Sales Division Profit - Chicken  $1.452 = $4,356 ($300 opp cost)  Sales Division Profit – Packaged Chicken  $2.872 = $8,616 ($4,560 opp cost)

2b.George Burns Farm Division: Increase Hatching 1,030 to 1,130  Farm Division Profit  91 days = $12,303  Sales Division Profit - Chicken  91 days = $13,213 ($910 opp cost)  Sales Division Profit – Packaged Chicken  91 days = $26,135 ($13,832 opp cost)

2c.George Burns Farm Division: Sell 200 Chickens/day Externally  Farm Division Profit  91 days = $24,606  Sales Division Profit - Chicken  91 days = $26,426 ($1,820 opp cost)  Sales Division Profit – Packaged Chicken  91 days = $52,270 ($27,664 opp cost)  Plant Division Cost  91 days = $910 (extra cost)

George Burns Poultry: Farm Division vs Company Overall

George Burns Poultry: Evaluation  Responsibility Centre  Decentralized but central decision making  Controllability over sales centralized (except for sales department)  Transfer prices are imposed  Decentralized organizations drill decision making autonomy into the divisions or subunits  Sales centralization is not decentralization  Imposition of transfer pricing removes decision autonomy with adversevconsequences

George Burns Poultry: Evaluation  Responsibility Centre (cont’d)  All three divisions are designated as Profit Centre  Evaluation based on meeting target division profit  Revise responsibilities centre designation Farm & plant divisions – cost centres Sales division – revenue centre  Measure for Evaluation should be consistent with responsibility

George Burns Poultry: Evaluation  Compensation  Bonuses were paid at 5% of division profit in excess of target  Divisional Profit impacted by Transfer Price Transfer prices set at $2.90 per chicken transferred and $4.25 per packaged chicken Transfer prices set at 12% profit margin before admin costs  Non financial measures (spoilage, customer satisfaction, etc.) should be considered  Transfer price range ($2.13 to $3.00)  Transfer prices set at cost plus may cause inefficiencies to become another’s responsibility

Remedying Motivational Problems of Transfer Pricing Policies  1) Change responsibility centre classification  Consider treating the selling division as a cost centre.  Consider treating the selling division as a profit centre for external sales and a cost centre for internal transfers.  Use these criteria when evaluating division performance.  2) Dual transfer pricing  A dual transfer-pricing system charges the buying division for the cost of the transferred product (however the cost might be determined) and credits the selling division with the cost plus some profit allowance.  3) Average between minimum and maximum

Class Objectives- Revisited 1. Assessing the impact of transfer price on behaviour 2. Transfer pricing and management control systems