1. Transfer Pricing Managerial Accounting David Fender Midterm 1
Next week – instructions online for cases
Changed some homework problems – correct assignment is on connect
Today we will learn about ABC
Do the Bozo exercise
What are criteria
High correlation between resource usage and cost allocation (usefulness)
Traded off with cost and timeliness
Managerial Accounting
David Fender

2. Possible pricing strategies
Cost plus …
Willingness to pay…

3. Objectives for pricing policy
Identifying and adhering to both short-run and long-run pricing strategies
Maximizing profits
Maintaining or gaining market share
Setting socially responsible prices
Maintaining a minimum rate of return on investment
Being customer focused
Keep in mind that maximizing profit is not always the only objective

4. Economic Pricing Concepts
Economic approach to pricing
Based on microeconomic theory
Marginal Cost = Marginal Return
Profit will be maximized when the difference between total revenue and total costs is the greatest
Why profit maximal when MC = MR?

5. Example of economic pricing concept
Show that when MC and MR equal each other that profit is largest

6. Organization and flow of goods within a company
One consequence of having different organizational units of a large company is the need to have transfer prices for goods

7. Transfer Pricing
Transfer Price – the price one subunit (department or division) charges for a product or service supplied to another subunit of the same organization
Transfer prices are used to coordinate the actions of subunits and to evaluate their performance
© 2009 Pearson Prentice Hall. All rights reserved.

8. Why are transfer prices a hot issue?
They effect profits of divisions
EARNINGS!!!
Power
Compensation
Pride – prestige
Quality of employees
They effect the decision what a company manufactures PROFITABILITY!!!
TAXES!!!

9. The optimal transfer price allows each division manager to make decisions that maximize the company’s profit, while attempting to maximize his/her own division’s profit.

10. What rule should a company apply?

11. Drum roll …
© 2009 Pearson Prentice Hall. All rights reserved.

12. Scenario I: No Excess Capacity
General Rule When the selling division is operating at capacity, the transfer price should be set at the market price. 17

13. Scenario II: Excess Capacity
General Rule
When the selling division is operating below capacity, the minimum transfer price is the variable cost per unit.
So, the transfer price will be no lower
than variable cost, and no higher than (outside) market price. 14

14. Example

15. Scenario I: No Excess Capacity
The Battery Division makes a standard 12-volt battery.
Production capacity 300,000 units
Selling price per battery $40 (to outsiders)
Variable costs per battery $18
Fixed costs per battery $7 (at 300,000 units)
The Battery division is currently selling 300, batteries to outsiders at $40. The Auto Division can use 100,000 of these batteries in its X-7 model.
What is the appropriate transfer price? 9

16. Scenario I: No Excess Capacity
Additional outlay cost per unit incurred because goods are transferred
Opportunity cost per unit to the
organization because of the transfer
Transfer
price = +
$22 Contribution lost if outside sales given up
Transfer
price
$18 variable cost per battery = +
Transfer
price =
$40 per battery

17. Scenario I: No Excess Capacity
Auto division can purchase 100,000 batteries from an outside supplier for less than $40.
Auto division can purchase 100,000 batteries from an outside supplier for more than $40.
Transfer will not occur.
Transfer will
occur.
$40 transfer price 10

18. Scenario II: Excess Capacity
The Battery Division makes a standard 12-volt battery.
Production capacity 300,000 units
Selling price per battery $40 (to outsiders)
Variable costs per battery $18
Fixed costs per battery $7 (at 300,000 units)
The Battery division is currently selling 150, batteries to outsiders at $40. The Auto Division can use 100,000 of these batteries in its X-7 model. It can purchase them for $38 from an outside supplier.
What is the appropriate transfer price? 9

19. Scenario II: Excess Capacity
Additional outlay cost per unit incurred because goods are transferred
Opportunity cost per unit to the
organization because of the transfer
Transfer
price = +
Transfer
price
$18 variable cost per battery = + $0
Transfer
price =
$18 per battery

20. Scenario II: Excess Capacity
General Rule
When the selling division is operating below capacity, the minimum transfer price is the variable cost per unit.
So, the transfer price will be no lower
than $18, and no higher than $38. 14

21. Scenario II: Excess Capacity
Transfer will not
occur.
Transfer will occur.
Transfer will not
occur.
$18 transfer price
$38 transfer price 10