International Financial Management 6th Edition by Sanjiv Eun, Cheol Resnick, Bruce Sabherwal

Exercise 7

Affiliate A sells 5,000 units to Affiliate B per year. The marginal income tax rate for Affiliate A is 25 percent and the marginal income tax rate for Affiliate B is 40 percent. The transfer price per unit is currently $2,000, but it can be set at any level between $2,000 and $2,400. Derive a formula to determine how much annual after-tax profits can be increased by selecting the optimal transfer price.
Note To Instructor: The solution to this problem is consistent with the example presented in the text as Exhibit 21.6.