Transfer Pricing



Transfer Pricing

Introduction

The organizations are the sum of different departments and almost all departments are interlinked with each other. It has been seen that the organizations have a supplying division within the organization which used to produce those products which are required by other production department as input. The price at which the supplying department transfers its products to other departments is known as transfer pricing. There are different types of motives behind creation of supplying department such as low cost advantage and keeping the supply of required product away from disruptions. This report will focus on transfer pricing issue of coffee marker's incorporation. The report will provide analysis of three divisions and company in term of changes in profit due to change in transfer price. The report will also provide suggestions on the basis of analysis. There are different types of transfer pricing police which used to be followed by different organization; the report will also elaborate the implication of each policy.

Coffee Maker's Incorporated

Calculation of increase / decrease in profit for division A (Amount in $)

Particulars

Division A

Purchases (from division C)

3,000,000

Purchases (from external sources)

900,000

Total Expenses

3,900,000

Impact of New Proposal

Purchases (from division C)

2,000,000

Purchases (from external sources)

1,800,000

Total Expenses

3,800,000

Increase / (decrease) in profit

100,000

Coffee Maker's Incorporated

Calculation of increase / decrease in profit for division B (Amount in $)

Particulars

Division B

Purchases (from division C)

2,000,000

Purchases (from external sources)

1,900,000

Total Expenses

3,900,000

Impact of New Proposal

Purchases (from division C)

1,000,000

Purchases (from external sources)

2,850,000

Total Expenses

3,850,000

Increase / (decrease) in profit

50,000

Coffee Maker's Incorporated

Calculation of increase / decrease in profit for division C (Amount in $)

Particulars

Division A

Division B

Sales (units * transfer price)

3,000,000

2,000,000

Cost of goods sold

Direct materials

200

300

Direct labor

200

300

Variable overhead

300

600

Total Cost of Goods Sold

700

1,200

Gross profit

2,999,300

1,998,800

Impact of New Proposal

Particulars

Division A

Division B

Sales (units * transfer price)

2,000,000

1,000,000

Cost of goods sold

Direct materials

200

300

Direct labor

200

300

Variable overhead

300

600

Total Cost of Goods Sold

700

1200

Gross profit

1,999,300

998,800

Increase / (decrease) in profit

(1,000,000)

(1,000,000)

Net Increase / (decrease) in profit

(2,000,000)

Coffee Maker's Incorporated

Calculation of increase / decrease in profit for Entire Company

Particulars

Amount in $

Increase in profit from division A

100,000

Increase in profit from division B

50,000

Decrease in profit from division C

(2,000,000)

Net Increase / (decrease) in profit

(1,850,000)

Suggestions

The analysis showed that the production divisions A and B are expected to witness increase in profit by the implementation of new transfer pricing proposal. However, the division C which is a supplying division is expected to witness decline in profits if new transfer pricing proposal is implemented. The primary reason is that the proposal is declining transfer price. The impact of this proposal on entire company is ...