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Questions and Answers
Transfer prices are established for the exchange of goods or services between different companies.
False
A pseudo-profit center occurs when one unit inflates its profits by charging artificially high transfer prices to another unit.
True
The maximum transfer price should exceed the lowest market price available externally to the buying segment.
False
Market-based transfer pricing is considered a subjective measure of value.
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A dual pricing arrangement allows both selling and buying divisions to use the same transfer price method.
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Transfer prices are fixed and remain the same regardless of changes in market conditions.
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Negotiated transfer prices are determined through a process of negotiation between the selling and purchasing unit managers.
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The best method for setting a transfer price is universally applicable in all instances.
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Transfer prices should be established primarily to enhance inefficiency within organizations.
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A cost-based transfer price can be based on total unit absorption cost or variable cost.
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A pseudo-profit center can lead to accurate financial reporting as it reflects true market conditions.
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The minimum price for transferring goods or services must exceed the sum of the selling segment's incremental costs.
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Negotiated transfer prices are determined by mutual agreement between the selling and buying unit managers.
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A dual pricing arrangement allows the buying division to record transfers at a price higher than market value.
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Transfer pricing systems must remain static regardless of market changes.
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The method of setting transfer prices is universally consistent and does not vary by situation.
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Study Notes
Transfer Pricing Overview
- Transfer pricing is the internal charge set for exchanging goods or services between organizational units of the same company.
- It can unintentionally result in a 'pseudo-profit center' where a selling unit artificially inflates revenues and profits, while the buying unit faces artificially inflated costs.
- The ideal transfer price should promote optimal resource allocation and operating efficiency, fostering goal congruence, comparable performance evaluations, and potentially transforming a cost center into a profit center.
Transfer Pricing Rules
- The maximum transfer price should not exceed the lowest external market price for the good or service.
- The minimum transfer price should not be less than the selling unit's incremental production costs and the opportunity cost of the used facilities.
Traditional Transfer Pricing Methods
- Cost-based transfer pricing uses total absorption cost, variable cost, or a modified combination of variable and absorption costs.
- A market-based approach is considered an objective valuation and simulates the price between independent companies.
- Negotiated transfer prices are established through discussion between the selling and purchasing units.
Dual Pricing
- A dual pricing system allows the selling unit to record the transfer at a market or negotiated market price, while the buying unit records it at a cost-based figure.
Transfer Pricing System Selection
- The best transfer pricing system depends on the specific circumstances of the organization and its goals.
- Transfer prices are not static and should be regularly adjusted based on factors like changes in costs, supply, demand, and competition.
Transfer Prices
- Transfer prices are internal charges for exchanges between organizational units of the same company.
- Pseudo-profit centers can arise when one unit artificially "sells" to another, creating false revenues and profits.
- Proper transfer prices optimize resource allocation and improve efficiency.
- Transfer prices can promote goal congruence, enhance segment comparisons, and turn cost centers into profit centers.
- Maximum transfer prices should be no higher than the lowest external market price.
- Minimum transfer prices should be at least the selling segment's incremental costs plus opportunity costs.
Transfer Pricing Methods
- Cost-based transfer prices use total absorption cost, variable cost, or modified variable/absorption cost.
- Market-based transfer prices simulate independent company selling prices, seen as objective.
- Negotiated transfer prices involve bargaining between the selling and buying unit managers.
Dual Pricing
- Dual pricing allows the selling unit to record transfers at market/negotiated prices, while the buying unit uses cost-based amounts.
Transfer Pricing System Selection
- Transfer pricing system choice depends on organizational units and corporate goals, with no one method suitable for all situations.
- Transfer prices are dynamic, adjusted for cost, supply, demand, competition, and other factors.
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Description
Explore the key concepts and rules surrounding transfer pricing within organizations. This quiz covers the impact of transfer prices on resource allocation, profit centers, and traditional pricing methods. Test your understanding of the principles that govern internal pricing strategies.
