Confo Transfer Pricing (Draft points)

Theory:
Transfer pricing is the price at which one division in a group sells its
products or service to another division in the same group.

Implications of transfer prices:

1. Determines the profit of the divisions. It may give false
impression of performance if the transfer price is not fair.
2. Impact on willingness of third parties to purchase the goods
from company.
3. May pass high cost to customers.
4. Internal conflicts.
5. Behavioral implications.

Manufacturing Division (Pre-change)

1. Full cost +20%

2. Cost inefficiencies can be passed on to the Retail Div – the
more inefficient they are the more profitable they would be.
3. There was no rationale on 20% margin was decided – done
arbitrarily, and if not done fairly, it will be unfair to Retail.
4. Any over estimates of the Fixed costs, would be passed on to
the Retails division.
5. It would have been difficult to allocate fixed costs to different
products as there were no information on how it was done and
what products were sold.
6. However, what is allocated is based on a budget, and the
budget would have been agreed by all. So, it would be assumed
to be fair.
7. Furthermore, the Franchisees have agreed to the amount,
implying it fairly was at (or below) the market rate.
8. The full cost may be budgeted costs rather than actual so
any underestimation in budgeted costs, would be
incurred by the Manufacturing Division rather than the
Retail Division.
Retailers

1. Is a profit centre but they have no control over the costs hence
the price is also affected by it. Therefore, the loss of $400k is
meaningless.
2. However, the 20% markup is probably the best estimate as the
Franchisees are also accepting it.

Manufacturing Div (After the change)

1. Now a cost centre

2. Performance is measured based on the ability to control costs
and it is showing results, because their fixed costs has dropped
by 5.7% from $8700k to $8200k.
3. The manufacturing division now would have no extra incentive
to sell more to the franchisee except to gain economies of
scale. To help them reduce Fixed costs per unit.

Retail, Commercial and Export divisions

1. Profit Centres
2. Costs are lowered and it would be better than the market costs
as it does not have a markup.
3. They may over order from the manufacturing as it is cheap.
4. And they may underprice the products for the final consumer
since the costs are low.

needs to be considered alongside the transfer price to

determine viability for the franchisees.

).

Alternative methods as recommendation (Please expand)

Transfer at market prices