Birch Paper Company

Issues in Transfer Pricing

Birch Company
Is a partly integrated company with four producing divisions and a timberland division. Three division in the focus:
Northern Division Thompson Division Southern Division

Divisions operate as profit centres/Investment Centres Each divisional manager was normally free to buy from inside or outside.

Northern Divisions Problem

Received three bids as follows:
TD: 480 WPC: 430 EPL: 432

Which one to be accepted? Why TD division is not quoting 430.

Northern Division

Northern Division 480

Northern Division 432

430 280 West Paper

Thompson 30

Eire Papers 90
Thompson

Southern

Southern

Division Vs Company
Find the relevant cost for the company in all the three situations. Find the contribution for the company in all the three situations.

Relevant Cost for the Company

IF bought from Thomson If Bought from Eire If Bought form West North Pays 480 North pays 432 North pays 430 Thomsom Out of Pocket cost 400 Eire Pays to VC consists of LB 280 Thomson 30 Other Cost 120 Thom Exp -25 5 Profit Southern Out of Pocket cost Profit Total Cost incurrent by the BP 80 Eire pays to Southern 280 Southern Exp 168 112 288

90 -54

36

391

430

Retain the Order

Since corporate cost is lower Birch Paper should retain the order. However, Should TD sell at 480 or 430?

Thompsons loss Vs. Birchs Los

If Thompson rejects the price of 430, its loss is the opportunity cost: Rs. 30 (430 400) If Thompson rejects the lowest price. B. Companys loss: 142 ? (430 288) Loss for the company is much higher than the loss for the division

Transfer Price of Thompson

Is price of TD high due to the inefficiencies of SD? Can SD reduce its price? Will SD reduce its price

Thompsons Options
Thompsons manager is not recognising the profits made by Southern. Capacity operation (430 400) Expecting new order from the market (risk) Respecting the new pricing policy Accepting the order at 430 may affect overall profit.

Alternatives
a) 430 for the boxes and 280 for the paper b) Divide the savings: 142 equally between TD and SD c) Let TD sell at 480 and ND buy at 430 and make necessary accounting adjustment d) Let them negotiate