m
 m
 

  m


m

 m
 


 Transfer Pricing
Transfer Prices are the prices charged for goods produced
by one division and transferred to another. The Price
charged affects the revenues of the transferring division
and the costs of the receiving division. As a result, the
profitability, return on investment, and managerial
performance evaluation of both Divisions are affected.
m PACT OF TRANSFER PRmCmNG ON mNCO E


r
 

Produces component and transfer price of Rs30 per unit.

Transfer Price = Rs30 Per unit
Revenue to A
mncreases net mncome
mncreases ROm

r
 
Purchases component from A at transfer price of Rs30 per
unit and
uses it in production of final product.
Transfer Price = Rs30 Per unit
Cost to C
Decreases net mncome
Decreases ROm
 
  




SETTmNG TRANSFER PRmCES

A transfer pricing system should satisfy three

objectives: accurate performance evaluation, goal
congruence and preservation of divisional autonomy.
Accurate performance evaluation means that no one
divisional manager should benefit at the expense of
another.

The transfer pricing problem concerns finding a

system that simultaneously satisfies all three
objectives.
SETTmNG TRANSFER PRmCES«CONTD

We can evaluate the degree to which a transfer price

satisfies the objectives of a transfer pricing system
by considering the opportunity cost of the goods
transferred. The opportunity cost approach can be
used to describe a wide variety of transfer pricing
practices. The opportunity cost approach identifies
the minimum price that a selling division would be
willing to accept and the maximum price that the
buying division would be willing to pay. These
minimum and maximum prices correspond to the
opportunity costs transferring internally.
SETTmNG TRANSFER PRmCES«CONTD

They are defined for each division as follows:

_     
The minimum transfer price or floor price, is the
transfer price that would leave the selling
division worse off if the good is sold to an internal
division.

    

The maximum Transfer price, or ceiling, is the
transfer price that would leave the buying
division worse off if any input is purchased from
an internal division.
 ARKET PRmCE
mf there is an outside market for the intermediate
product and that outside market is perfectly
competitive , the correct transfer price is the market
price. mn such a case, divisional managers action will
simultaneously optimize divisional profits and firm
wise profits. Further more, no division can benefit at
the expense of another division. mn this setting central
management will not be tempted to intervene.
The opportunity cost approach also signals that the
correct transfer price is the market price.
 
 
 
 r  m