Bài giảng Fundamentals of cost accounting - Chapter 15: Transfer Pricing

© 2014 by McGraw-Hill Education.  This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any manner.  This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.  Transfer PricingChapter 15Learning ObjectivesLO 15-1 Explain the basic issues associated with transfer pricing.LO 15-2 Explain the general transfer pricing rules and understand the underlying basis for them.LO 15-3 Identify the behavioral issues and incentive effects of negotiated transfer prices, cost-based transfer prices, and market-based transfer.LO 15-4 Explain the economic consequences of multinational transfer prices.LO 15-5 Describe the role of transfer prices in segment reporting.Transfer PricingLO 15-1 Explain the basic issues associated with transfer pricing.Transfer Price The value or amount recorded in a firm’s accounting records when one business unit sells (transfers) a good or service to another business unit. The accounting records in the two units (responsibility centers) treat this transaction in exactly the same way as a sale to an outside customer.Because the exchange takes place within the organization, however, the firm has considerable discretion in setting this transfer price.LO 15-1Transfer PricingLO 15-1Because the managers of both the selling division and the buying division are evaluated on division profit, not company profit, they consider the effect of all sales, both internal and external, on their division, not company, profit.The optimal transfer price is the price that leads both division managers, each acting in his or her own self-interest, to make decisions that are in the firm’s best interest.The SettingLO 15-2 Explain the general transfer pricing rules and understand the underlying basis for them.LO 15-2The SettingPadre PapersCost and Production DataLO 15-2Determination ofOptimal Transfer Price Given the market prices and the costs in the firm, does firm profit increase? Given the transfer price, the intermediate market prices, and the divisional costs, does the selling division profit increase? Given the transfer price, the final market prices, and the divisional costs, does the buying division profit increase?LO 15-2Padre Papers ExampleAssume the following data for the wood division:Capacity in unitsSelling price to outsideVariable price per unitFixed price per unit (based on capacity) 100,000$ 60$ 20$ 20LO 15-2Padre Papers ExampleLO 15-2The Paper Division is currently purchasing 100,000 units from an outside supplier for $50, but would like to purchase units from the Wood Division.The optimal transfer price in this case is clear: It is the only viable price, the intermediate market price. At any price lower than the intermediate market price, Wood Division will supply no output to Paper Division, and at any higher price, Paper will not purchase any wood from Wood.Optimal Transfer PriceLO 15-2Using the intermediate market price as the transfer price, the transfer price is set at $50. At these market prices, does Padre Papers (as a firm) want to sell paper? The company receives $120 for every unit sold. The total variable cost is $50 (= $20 Wood cost + $30 Paper cost). The firm wants to make the sale. Wood Division is indifferent between selling wood internally or on the intermediate market. Paper Division is indifferent between buying wood from Wood Division or the intermediate market. Therefore, the sale will be made and the source of wood to Paper Division does not affect firm profits.Padre Papers ExampleTransferpriceVariablecost (VC)Lost contributionmargin (CM)=+If the Wood Divisionhas idle capacity:Transferprice$20$0=+If the Wood Divisionis working at capacity:Transferprice$20$40=+LO 15-2Optimal Transfer PriceTransferpriceOutlaycostOpportunity cost of theresource at the point of transfer=+LO 15-2Optimal Transfer PriceTo restate the goal of each manager: Each division manager wants to maximize his contribution margin. Each manager is indifferent about the transfer price if it has no impact on their contribution margin. LO 15-2Optimal Transfer Price:No Intermediate Market In this case, the only outlet for the Wood Division is the Paper Division and the only source of supply for the Paper Division is the Wood Division. The optimal transfer price is the outlay cost for producing the goods (generally the variable costs).LO 15-2Suppose that no intermediate market for wood exists or that, for whatever reason, the company has decided that it will not allow the divisions to buy or sell wood on the outside market.Perfect IntermediateMarked-Quality DifferencesVariable manufacturing cost (Wood Division) per unitVariable finishing cost (Paper Division) per unitOther data: Final market (paper) price Intermediate market (grade A wood) price Intermediate market (grade B wood) price$ 20$ 30$120$ 60$ 50LO 15-2Quality Difference ExampleSales:$ 50 × 100,000 (transfer)$120 × 100,000 (transfer)Variable costs:$ 20 × 100,000$ 50 × 100,000 (transfer)$ 30 × 100,000 (processing)Fixed costsOperating profitTotal company operating profit$5,000,000$2,000,000$2,000,000$1,000,000$12,000,000$ 5,000,000 3,000,000 4,000,000$ -0-WoodPaper$1,000,000Grade B wood: $50 internal transfer priceLO 15-2Quality Difference ExampleSales:$ 60 × 100,000 (transfer)$120 × 100,000 (transfer)Variable costs:$ 20 × 100,000$ 60 × 100,000 (transfer)$ 30 × 100,000 (processing)Fixed costsOperating profitTotal company operating profit$6,000,000$2,000,000$2,000,000$2,000,000$12,000,000$ 6,000,000 3,000,000 4,000,000$ (1,000,000)WoodPaper$1,000,000Grade A wood: $60 internal transfer priceLO 15-2Managers’ Goals versus Firms’ GoalsLO 15-3 Identify the behavioral issues and incentive effects of negotiated transfer prices, cost-based transfer prices, and market-based transfer prices. Transfer price higher than market: Buying division will not buy Transfer price lower than market: Selling division will not sellLO 15-3Centrally EstablishedTransfer Price PoliciesMarket Price-Based Sets the transfer price at the market price or at a small discount from the market priceCost-Based Outlay cost to selling division plus forgone contribution to company projectsNegotiated Transfer Managers of the buying and selling divisions agree on a priceLO 15-3Centrally EstablishedTransfer Price Policies Establishing a market price policy Establishing a cost-basis policyLO 15-3Alternative Cost MeasuresLO 15-3Full Absorption Cost-Based TransfersAlthough the transfer pricing rule—differential outlay cost to the selling division plus the opportunity cost of making the internal transfer to the company—assumes that the company has a reliable estimate of differential or variable cost, this is not always the case. Consequently, manufacturing firms sometimes use full absorption cost as the transfer price.Cost-Plus TransfersWe also find companies using cost-plus transfer pricing based on either variable costs or full absorption costs. These methods generally apply a normal markup to costs as a surrogate for market prices when intermediate market prices are not available.Standard Costs or Actual CostsIf actual costs are used as the basis for the transfer, any variances or inefficiencies in the selling division are passed to the buying division. The problem of isolating the variances that have been transferred to the subsequent buying divisions becomes extremely complex. To promote responsibility in the selling division and to isolate variances within divisions, standard costs are generally used as a basis for transfer pricing in cost-based systems.Motivational Problems of Transfer PricingLO 15-3A supplier whose transfers are almost all internal is usually organized as a cost center. The center manager is normally held responsible for costs, not revenues. Hence, the transfer price does not affect the manager’s performance measures.In companies in which such a supplier is a profit center, the artificial nature of the transfer price should be considered when evaluating the results of that center’s operations.Dual Transfer PricesLO 15-3A dual transfer pricing system could be installed to provide the selling division with a profit but to charge the buying division only for costs. That is, the buyer could be charged the cost of the unit, however cost is determined, and the selling division could be credited for cost plus some profit allowance. The difference could be accounted for in a specialized centralized account.Multinational Transfer PricingLO 15-4 Explain the economic consequences of multinational transfer prices.In international (or interstate) transactions, transfer prices can affect tax liabilities, royalties, and other payments because of different laws in different countries (or states or provinces). Because tax rates vary among countries, companies have incentives to set transfer prices that will increase revenues (and profits) in low-tax countries and increase costs (thereby reducing profits) in high-tax countries.LO 15-4Multinational Transfer PricingDiego PharmaceuticalsAssume a $20,000,000 transfer price.LO 15-4Multinational Transfer PricingDiego PharmaceuticalsAssume a $45,000,000 transfer price.LO 15-4Segment ReportingLO 15-5 Describe the role of transfer prices in segment reporting.The Financial Accounting Standards Board (FASB) requires companies engaged in different lines of business to report certain information about segments that meet the FASB’s technical requirements. This reporting requirement is intended to provide a measure of performance for those segments that are significant to the company as a whole.LO 15-5Segment ReportingLO 15-5The following are the principal items that must be disclosed about each segment:• Segment revenue, from both internal and external customers.• Interest revenue and expense.• Segment operating profit or loss.• Identifiable segment assets.• Depreciation and amortization.• Capital expenditures.• Certain specialized items.End of Chapter 15