![]() The characteristics of a good transfer priceĪlthough not easy to attain simultaneously, a good transfer price should: Further impacts of transfer prices will be considered in Advanced Performance Management (APM), but these points are sufficient for the level of understanding needed for the PM exam. In a PM question it is important to be able to discuss how transfer prices can affect performance assessment of divisions, motivation and decision making. As well as being seen not to do well because of the impact of high transfer prices on ROI and RI, the division really will perform less well. This could seriously damage their morale and could lead to a lack of motivation to do the job well which could have a knock-on effect on the real performance of the division. If divisional performance is poor because of something that the manager and staff cannot control, such as being forced to trade internally or to use head office set transfer prices, and as a result they are consequently paid a smaller bonus for example, they are going to become unhappy and frustrated. If there is a system of performance-related pay, the remuneration of employees in each division will be linked to the performance of the division and this will be affected as profits change. The management of the company could interpret these measures as indicating that a division’s performance was unsatisfactory and could decide to reduce investment in that division, or even close it down. This may lead to poor decisions being made by the company. ![]() A lower transfer price on the other hand will favour the buying division. The selling division, on the other hand, will appear to be performing better. This will certainly be the case if return on investment (ROI) or residual income (RI) is used to measure performance.Ī higher transfer price will lead to lower profits in the buying division and make its performance look poorer than it would otherwise be. In turn, the profit is often a key figure used when assessing the performance of a division. The transfer price affects the profit that a division makes. Transfer prices can seriously affect the reported divisional performance, the motivation of divisional managers and subsequent decisions made. It is important to understand that there is no one right transfer price in a given scenario, but there will be alternative legitimate views with some values being more appropriate or more acceptable than others. In a Performance Management (PM) question, a requirement could be to calculate and discuss the impact of a head office imposed transfer price, or to suggest transfer prices which would be acceptable to each division. The transfer price set should encourage divisions to trade in a way that maximises profits for the company as a whole.Ī transfer price can be negotiated between the divisions or imposed by head office. Mathematically, the company will make the same profit, but these changing profits can result in each division making different decisions, and as a result of those decisions, company profits might be affected. It is important to see that for every $1 increase in the transfer price, Division A will make $1 more profit, and Division B will make $1 less. This can be calculated either by simply adding the two divisional profits together ($20 + $20 = $40) or subtracting both own costs from final revenue ($90 – $30 – $20 = $40). An introduction to professional insightsĪs things stand, each division makes a profit of $20/unit, and the company will make a profit of $40/unit.Virtual classroom support for learning partners.Becoming an ACCA Approved Learning Partner.
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