Transfer Price Evaluation
Under the proposed plan, Division A would have a cost reduction of $100,000, Division B. would have a cost reduction of $50,000, Division C. would have a profit reduction of $700,000, and the company would have an increase in profits of $80,000. If Division C. would drop their prices to meet market prices and the other divisions agree to them doing all the production, they would still loose the $700,000 in profits, but the company would have an increase in profits of $400,000. By doing this, Division C. would have a higher production, not have to lay off employees, and would still come out with $1,700,000 in profits. Under the proposed plan the production would be cut drastically, as well as the profits.
They could put more dollars in research and development and potentially improve existing products and have a flexible procurement that could supply variants as opportunity for change (Sahay, 2003). By spending more dollars for research and development, existing products could be improved for higher profits and new products could be implemented with a possible market to sell them. This way Division C. could have a chance of selling products in the market and not just in the company to be able to increase the price of existing products with the improvements. This would bring room for expansion.
Managers should concentrate on production efficiency and work to increase productivity per labor hour in order to maximize profits. Often times, it is not the profits that is the issue; it is the efficiency in making them. By working to get...
Looking for other costs that could be cut could also maximize profits and efficiency in the production process.
There are considerations that need to be made when selecting a transfer pricing policy (Feinschreiber). If the divisions are in different states, counties, or countries, taxes would bring consequences. Market position could create issues with transfer pricing of products. Inflation and deflation would cause market conditions to change and could cause problems with managers trying to reach targets. There are also administrative aspects that would affect the pricing, such as corporate goals and strategies, divisional control, corporate culture, frequency of transfer pricing change, technology and innovation of the products, market characteristics, general business conditions, and accounting systems.
Transfer pricing without regard to the costs of the selling division leads to unfair measurement (Sahay, 2003). Discretionary investments are needed to generate profits for efficiency in the production process. The selling division, Division C. In this case, needs profits for efficiency and research and development to improve products and implement new ones. Without the chance to implement improvements in existing products and implement new products the division would have no chance to be a profit center and maximize profits for the company.
Cost based approaches are used for products with no external market, or the…
