Transfer Pricing

1
Transfer Pricing

• Chapter 19

2
Transfer price

• Amount charged by one division selling
  goods/services to another division
• Intra-organization transfer
• Overall organization profit is unaffected
• Transfer price will affect the profit of the
  divisions involved
• Revenue to seller, cost to buyer

3
Transfer price

• If seller/buyer have no other options
• Transfer price is irrelevant to the organization
• What is good for seller is bad for buyer and
  vice-versa
• Sellers revenue will equal buyers cost

4
Transfer price

• If seller/buyer have options
• Seller will sell to outsider if transfer price is
  below market price
• Buyer will buy from outsider if transfer price is
  above market price
• Overall organizations profit will be affected

5
General rule

• Transfer price calculated as
• Additional outlay cost per unit
• Opportunity cost per unit if transferred
• Transfer price

6
General rule

• No excess capacity
• Would the Assembly Division sell to an external
  customer offering 95 per unit?

7
General rule

• Excess capacity
• Would the Assembly Division sell to an external
  customer offering 95 per unit?

8
Transfer based on external market price

• Same result as the general rule if no excess
  capacity exists
• If excess capacity exists
• General rule results in a lower transfer price
• Producing Division can sell to either internal or
  external customers
• Assembly Division should purchase from Producing
  Division

9
Cost-based transfer price

• If based on incremental cost
• Producing Division has no contribution margin
• If based on full-absorption cost
• Assembly Division may buy from external source
  because of higher transfer price
• May be bad decision because the fixed portion of
  the transfer price will be incurred regardless

10
Multinational transfer pricing

• Multinational companies may operate in countries
  with different tax rates, import duties, etc.
• Transfer prices should be set to minimize profits
  in high-tax countries and maximize them in
  low-tax countries
• High transfer price if buyer is in a higher-tax
  country than the seller

11
Multinational transfer pricing