Transfer Pricing (1) Flashcards
What is the transfer price?
The price at which goods or services are transferred from one department to another, or from one member of a group to another
What does transfer pricing policy have?
A significant impact on responsibility accounting and performance measurement
What is vital for transfer pricing?
That the transfer price is carefully selected to ensure all parties act in best interest of the company
Goals of a transfer pricing system (congruence)
Goal congruence
Goals of a transfer pricing system (equitable)
Equitable performance measurement
Goals of a transfer pricing system (retained)
Retained divisional autonomy
Goals of a transfer pricing system (motivated)
Motivated divisional managers
Goals of a transfer pricing system (optimum)
Optimum resource allocation
Inputs and outputs for division supply?
Input: Costs incurred by supply
Output: External sale of intermediate product by supply. Division receive
Inputs and outputs for division receive?
Input: Transfer, Alternative suppliers to receive
Input & Output: Revenue earned by receive
Why do problems arise with the use of cost-based transfer prices?
As one party or the other is liable to perceive them as unfair
Cost-based approaches to transfer prices are used in practice because (market)
No external market for product that is being transferred
Cost-based approaches to transfer prices are used in practice because (imperfect)
An imperfect one because market price is affected by factors such as amount the company setting the transfer supplies to it, because there is only a limtied external demand
What is meant by an intermediate product?
One used as component in another product
What are transfer prices based on full cost?
The full cost incurred by supplying division in making “intermediate” product is charged to the receiving division
Disadvantage of transfer prices based on full cost?
Division supplying the product makes no profit on its work so is not motivated to supply internally
If a full-cost approach is used?
A profit margin also included in this transfer price
Supplying division if full-cost approach is used?
Gain some profit at the expense of the buying division
What are transfer prices based at variable cost?
Entails charging the variable cost that has been incurred by the supplying division to the receiving division
Problems with transfer prices based at variable cost?
Supplying division does not conver its fixed costs with a transfer price at marginal cost
Optimum approach to setting transfer prices?
Opportunity cost apporaach. Lower of minimum transfer price and maximum transfer price
What is a minimum transfer price?
Variable cost + Opportunity cost
What is a maximum transfer price?
External market price or divisional new revenue
Where the supplying division has spare capacity?
Opportunity cost of transferring units internally is nil as there is no external market for additional units
Where the supplying division has full capacity?
Opportunity cost will be the lost contribution from the other sales
What should opportunity cost based approach always result in?
Goal congruent behaviour with both buyer and seller when it’s group’s best interest to transfer
