TRANSFER PRICING

Transfer Pricing

• BY, • KARAN WADHERA MBA 4TH SEM RT1803A16

TRANSFER PRICING

Transfer Price is the price one subunit charges for a product or service supplied to another subunitOf the same Organization

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Transfer Pricing

Business Unit

Profit Centre

Input Output

Money Cost Money ProfitEC RC

Production Marketing

Input are related to Output

Selling costVariable costFixed costProfit margin

Buying costVariable costFixed cost

Buying cost Selling cost

TRANSFER PRICING CYCLE

TRANSFER PRICE REGULATIONS

• The Finance Act 2001 introduced the detailed TPR w.e.f. 1st April 2001

• The Income Tax Act• AS-18

FACTORS AFFECTING TRANSFER PRICE

• INTERNAL FACTORS:

PERFORMANCE MEASUREMENT EVALUATION

• EXTERNAL FACTORS:

ACCOUNTING STANDARDS

INCOME TAX AUTHORITY

CUSTOM DUTY CURRENCY

FLUCTUATIONS

METHODS FOR TRANSFER PRICING

MARKET BASE TREANFER PRICING

COST BASE MARKET PRICING

NEGOTIATED TRANSFER PRICING

MARKET BASE TRANSFER PRICING

TRANSFERRING AT MARKET PRICE

IS BEST IF:-

• PERFECTLY COMPETITIVE MARKET• INTERDEPENDENCE OF SUBUNIT IS MINIMAL• NO ADDITIONAL COST-BENEFITS TO COMPANY

ADVANTAGES

–Forces selling division to be competitive with market conditions–Does not penalize buying division by

charging a price greater than it would have to pay on the market

DISADVANTAGES

May lead selling division to ignore negotiation attempts from buying division and sell directly to outside customers• Could cause an internal shortage of materials• Forces buying division to purchase materials from the

outside• Overall company profits may fall even though selling

division makes a profit

DRAWBACKS

• The major drawback to market-based prices is that market prices are not always available for items transferred internally

COST BASE TRANSFER PRICING

• About half of the major companies in the world transfer items at cost.

COST BASE TRANSFER PRICING

• SOMETIMES THE MARKETS ARE UNAVAILABLE ,INAPPROPIATE OR TOO COSTLY TO BE USED AS TRANSFER PRICE.

• IN SUCH CASE WE SHALL FOLLOW THE COST BASE TRANSFER PRICING

COST BASE TRANSFER PRICING

VARIOUS METHODS ARE:- FULL COST COST + MAKE UP MARGENAL COST MARGENAL COST +ROI

PROBLEM

• XYZ CO. HAS TWO SUB UNITS A&B. DIVISION A PURCHASES CERTAIN UNITS FROM B @ RS. 7500/UNIT.

• DIVISION B PLANS TO RASE TO RAISE THE PRICES FROM RS.7,500 TO 10,000.

• VARIABLE COST FOR DIVISION B IS RS. 7000/ UNIT & FIXED COST IS RS.15,00,000 AND ITS OUTPUT IS 1,00,000 UNITS.

• IF DIV. A BUYS FROM OUTSIDE DIV. B WILL RERMAIN IDEAL AND A CAN PURCHASE THESE @ RS. 7500 / UNIT FROM OUTSIDERS

SO FRIENDS SHALL THE CO. ALLOW TO MAKE PURCHASES FROM OUTSIDERS OR NOT??????????????

NEGOTIATED TRANSFER PRICING

• Companies heavily committed to segment autonomy often allow managers to negotiate transfer prices.

NEGOTIATED TRANSFER PRICING

Negotiated transfer prices arise from the outcome of a bargaining process between selling and buying divisions.

• Where subunits of a firm are free to negotiate the transfer price between themselves and then to decide whether to buy and sell internally or deal with external parties

• May or may not bear any resemblance to cost or market data

• Often used when market prices are volatile• Represent the outcome of a bargaining process between

the selling and buying subunits

DYSFUNCTIONAL BEHAVIOR

Virtually any type of transfer pricing policy

can lead to dysfunctional behavior – actions

taken in conflict with organizational goals.

ADVANTAGES

• Decentralisation• Better information about costs and benefits • Most appropriate where there are market

imperfections for the intermediate product and when managers have equal bargaining power.

• To be effective, managers must understand how to use cost and revenue information.

DISADVANTAGES

• Can lead to dysfunctional behavior• Time - consuming• Divisional profitability may be strongly

influenced by the bargaining skills and powers of the divisional managers.

BENEFITS OF TRANSFER PRICING

• COST CONTROL• MAXIMISING PROFITS• HELPS TO MEASURE THE

PERFORMANCE OF RESPONSIBILITY CENTER

• GOAL CONGRUANCE

QUESTIONS

THANKS