Sporto Auto Company manufacturers each of the aluminum engines used in their cars, and there is no outside market for these engines. Suppose the marginal cost of producing the aluminum engines is constant at all quantities. What happens to the optimal transfer price and the quantity of cars produced if the cost of assembly increases?

Question

Quizplus · Accepted Answer

If the cost of assembly increases, the overall cost of producing the cars increases. In order for Sporto Auto to maintain their profit margin, they would need to decrease the transfer price of the aluminum engines to the assembly division. This means the price of the final cars would remain the same, but the quantity of cars produced would decrease since the overall cost of production has increased. Therefore, the optimal transfer price would decrease and the quantity of cars produced would decrease, leading to choice D.

Sporto Auto Company Manufacturers Each of the Aluminum Engines Used