08 X07 B Responsibility Accounting and TP; Transfer Pricing

Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

B. TRANSFER PRICING

A. B. C. D.

THEORIES: Nature 5. Transfer prices are charges for A. transportation of goods outside units of an organization. B. goods sold by subunits to outside customers. C. goods exchanged among subunits. D. goods stored within a subunit.

maximize the transfer price minimize the transfer price maintain goal congruence between the divisions and the entire firm none of the above

2. The objective(s) of transfer pricing are A. to motivate managers B. to provide an incentive for managers to make decisions consistent with the firm's goals (i.e., goal congruence) C. to provide a basis for fairly rewarding the managers D. all of the above

23. A transfer price is a price charged A. to outside customers B. when one division sells its goods or services to another division C. by the selling division to the buying division when outside market does not exist D. a and b

4. A transfer pricing system should satisfy which of the following objectives? A. accurate performance evaluation C. goal congruence B. preservation of divisional autonomy D. all of the above

24. Transfer prices are A. necessary to calculate costs in a cost, profit, or investment center B. preferred by buying divisions are the lowest possible C. do not make any difference for the company's bottom-line no matter what number is used D. all of the above

34. The market price method satisfy a key objective of transfer pricing, namely: A. objectivity C. consistency B. usability D. reliability Irrelevant costs 29. Which item is usually not relevant to a decision by a divisional manager to reduce a transfer price to meet a price offered to another division by an outside supplier? A. opportunity cost B. variable manufacturing costs C. fixed divisional overhead D. the price offered by the outside supplier

36. Which of the following is a key factor to consider in deciding whether to make internal transfers, and, if so, in setting the transfer price? A. Is there an outside supplier? B. Is the seller's variable cost less than the market price/ C. Is the selling unit operating at full capacity? D. All of the above are key factors.

Minimum & Maximum Transfer Price General rule 9. The general rule in establishing transfer prices consistent with economic decision making is the A. differential cost plus opportunity cost if goods are transferred internally. B. actual cost plus opportunity cost if goods are transferred internally. C. standard cost plus opportunity cost if goods are transferred internally. D. all of the above.

32. From the standpoint of the company, the important question in transfer pricing is A. what is fair to the divisions B. how to determine the profit of the divisions C. whether or not the transfer should take place D. when the transfer should be made Objectives 1. The objective of a transfer pricing system should be to 137

Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

Seller’s standpoint (minimum price) 26. The minimum transfer price should be: A. opportunity cost for selling division B. opportunity cost for buying division C. opportunity cost for the company as a whole D. only variable cost for the selling division

D. all of the above. 27. Transfer prices are set by: A. cost or cost plus B. market prices

C. negotiation D. all of the above

35. Which of the following are transfer pricing models? A. Variable cost method C. Market cost method B. Average price method D. All of the above

14. A selling division produces components for a buying division that is considering accepting a special order for the products it produces. The selling division has excess capacity. The minimum price the selling division would be willing to accept is the A. selling division’s variable costs B. buying division’s outside purchase price C. price that would allow the buying division to cover its incremental cost of the special order D. price that would allow the selling division to maintain its current ROI

Market price 10. If a firm operates at capacity, the transfer price should be the: A. external market price. C. actual cost. B. differential cost. D. standard cost.

25. The minimum transfer price from the seller's standpoint is A. market price when excess capacity exists B. market price when excess capacity does not exist C. incremental costs when excess capacity exists D. b and c

12. To avoid waste and maximize efficiency when transferring products among divisions in a competitive economy, a large diversified corporation should base transfer prices on: A. full cost C. replacement cost B. variable cost D. market price 13. If an intermediate market exists, the optimal transfer price is the: A. outlay cost for producing the goods. B. opportunity cost of not selling to the outside market. C. market price. D. variable costs associated with producing the product.

Buyer’s standpoint (maximum price) 7. Generally, the outside market price would be A. a floor for internal transfer price. B. a ceiling for internal transfer price. C. both a and b D. none of the above.

16. If there is no excess capacity, the transfer price is often A. market price B. opportunity cost plus incremental cost C. variable cost or variable cost plus profit D. a or b

Methods of transfer pricing 3. The basic methods used in transfer pricing are A. variable or full costs C. market price or negotiated price B. dual prices D. all of the above

20. Market pricing approach in transfer pricing A. helps to preserve unit autonomy B. provides incentive for the selling unit to be competitive with outside suppliers C. may be the most practical approach when there is significant conflict D. both a and b

8. An example of a transfer price policy is A. market price. B. actual cost plus markup. C. standard cost plus markup. 138

Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

28. The best transfer price is usually A. actual cost plus a percentage markup B. a reliable market price C. budgeted full cost plus a percentage markup D. budgeted variable cost plus a percentage markup

Variable costing 21. Variable costing method of transfer pricing is A. easy to implement B. intuitive and easily understood C. more logical when there is excess capacity D. all of the above

30. Market-based transfer prices are best for the A. company when the selling division is operating below capacity. B. company when the selling division is operating at capacity. C. buying division if it is operating at capacity. D. buying division.

22. A company may consider using variable costs in transfer pricing when there is A. excess capacity because variable costs would stay the same B. no excess capacity because variable costs would not stay the same C. excess capacity because fixed costs would stay the same D. no excess capacity because fixed costs would stay the same

33. Which transfer price is ideal for the company when the selling division is at capacity? A. Market price B. Incremental cost C. Budgeted full cost D. Actual variable cost plus a percentage profit

Full cost 18. If full cost is used in transfer pricing, it is preferable to use A. standard full cost because the buyer does not wish to be stuck with unknowns B. standard full cost because the seller does not wish to pass along the variations in cost C. actual full cost because the buyer is well-advised to deal with the real rather than anticipated costs D. actual full costs because the seller is well-advised to deal with the real rather than anticipated costs

Actual costs 6. Disadvantages of transfer prices based on actual cost include: A. reducing the incentive of managers of supplying divisions to control their costs. B. passing on efficiencies or inefficiencies of supplying divisions to receiving divisions. C. both a and b. D. none of the above.

Negotiated 11. Negotiated transfer prices are appropriate when: A. there are cost savings to the selling division. B. there is no external market price. C. the internal market price reflects a bargain price. D. all of the above.

15. Which of the following types of transfer prices do not encourage the selling division to be efficient? A. transfer prices based upon market prices B. transfer prices based upon actual costs C. transfer prices based upon standard costs D. transfer prices based upon standard costs plus a markup for profit

17. A negotiated transfer pricing system is set up where A. the two sides cannot agree on a price and the difference between the two sides is absorbed by the home office B. a ready market price is not available and the two sides must come up with an agreeable price C. the buyer buys at variable cost and the seller only sells at full cost D. the two sides agree to use a cost basis for transfer pricing

31. The worst transfer-pricing method is to base the prices on A. market prices C. budgeted variable costs B. budgeted total costs D. actual total costs

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Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

Multinational transfer pricing 19. To minimize taxes, some multinational companies set low transfer prices when goods are shipped from A. low tax countries to other low tax countries B. low tax countries to high tax countries C. high tax countries to low tax countries D. c or b

A. P100 B. P45 4

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PROBLEMS: Residual income 1 . Marsh Company that had current operating assets of one million and net income of P200,000 had an opportunity to invest in a project that requires an additional investment of P250,000 and increased net income by P40,000. The company's required rate of return is 12%. After the investment, the company's residual income will amount to A. 80,000 C. 90,000 B. 85,000 D. 95,000

C. P43.75 D. P25

Assume that Division X has a product that can be sold either to outside customers on an intermediate market or to Division Y of the same company for use in its production process. The managers of the division are evaluated based on their divisional profits. Division X: Capacity in units 200,000 Number of units being sold on the intermediate market 160,000 Selling price per unit on the intermediate market P75 Variables costs per unit 60 Fixed costs per unit (based on capacity) 8 Division Y: Number of units needed for production Purchase price per unit now being paid to an outside supplier The minimum transfer price to be charged by the Division X should be: A. P60 C. P68 B. P75 D. P74

With excess capacity Bargaining range 2 . An appropriate transfer price between two divisions of the Reno Corporation can be determined from the following data: Fabrication Division Market price of subassembly P50 Variable cost of subassembly P20 Excess capacity (in units) 1,000 Assembling Division Number of units needed 900 What is the natural bargaining range for the two divisions? A. Between P20 and P50 C. Between P50 and P70 B. Any amount less than P50 D. P50 is the only acceptable price

40,000 P74

Effect on profit of make decision 5 . Bearing Division of Phantom Corp. sells 80,000 units of Part X to the outside market. Part X sells for P10.00 and has a variable cost of P5.50 and a fixed cost per unit of P2.50. Bearing has a capacity to produce 100,000 units per period. Motor Division currently purchases 10,000 units of Part X from Bearing for P10.00. Motor has been approached by an outside supplier willing to supply the parts for P9.00. What is the effect on XYZ’s overall profit if Bearing refuses the outside price and Motor decides to buy outside? A. no change B. P20,000 decrease in Phantom profits C. P35,000 decrease in Phantom profits D. P10,000 increase in Phantom profits

Minimum transfer price 3 . Family Enterprises has two divisions: Davy and Johnny. Davy Division has a capacity to produce 2,000 units and is expecting to sell 1,500 units. Johnny Division wants to purchase 100 units of a product Davy produces. Davy sells the product at a selling price of P100 per unit, the variable cost per unit is P25 and the fixed costs total P30,000. The minimum transfer price that Davy will accept is?

6

.

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Bearing Division of XYZ Corp. sells 80,000 units of Part X to the outside market. Part X sells for P10.00 and has a variable cost of P5.50 and a fixed cost per unit of P2.50. Bearing has a capacity to produce 100,000 units per period. Motor Division currently purchases 10,000 units of Part X from Bearing for P10.00. Motor has been approached by an outside supplier willing to supply the parts for P9.00. What is the effect on XYZ’s overall profit if Bearing refuses the

Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

outside price and Motor decides to buy inside? A. no change C. P35,000 decrease in XYZ profits B. P20,000 decrease in XYZ profits D. P10,000 increase in XYZ profits

Average units sold Variable mfg cost per unit

At capacity Minimum transfer price 7 . Company Y is highly decentralized. Division X, which is operating at capacity, produces a component that it currently sells in a perfectly competitive market for P13 per unit. At the current level of production, the fixed cost of producing this component is P4 per unit and the variable cost is P7 per unit. Division Z would like to purchase this component from Division X. What would be the price that Division X should charge Division Z? A. P 7 C. P 11 B. P 13 D. P 9 8

9

.

.

P5

Fixed divisional costs P75,000 P125,000 The Mining Division can sell all of its output outside the company for P4 per unit. The Builders Division can buy the black steel from other firms for P4. The Builders Division sells its product for P12. What is the optimal transfer price in this case? A. P2 per unit C. P7 per unit B. P4 per unit D. P9 per unit 10

. Assume that Steel Division has a product that can be sold either to outside customers on an intermediate market or to Fabrication Division of the same company for use in its production process. The managers of the division are evaluated based on their divisional profits. Steel Division: Capacity in units 200,000 Number of units being sold on the intermediate market 200,000 Selling price per unit on the intermediate market P90 Variables costs per unit (including P3 of avoidable selling expense) 70 Fixed costs per unit (based on capacity) 13 Fabrication Division: Number of units needed for production Purchase price per unit now being paid to an outside supplier The appropriate transfer price should be: A. P90 C. P70 B. P87 D. P86

Harem Corporation consists of two divisions, Mining and Builders. The Mining makes black steel, a product that can be used in the product that the Builders division makes. Both divisions are considered profit centers. The following data are available concerning black steel and the two divisions:

Average units produced

P2

Variable finishing cost per unit

The Black Division of Pluma Company produces a high quality marker. Unit production costs (based on capacity production of 100,000 units per year) follow: Direct materials P 60 Direct labor 25 Overhead (20% variable) 15 Other information Sales price 120 The Black Division is producing and selling at capacity. What is the minimum selling price that the division would consider as a “transfer price” to the Red Division on which no variable period costs would be incurred? A. P120 C. P 88 B. P 91 D. P117 (?)

Mining

150,000

Builders

40,000 P86

Partial excess capacity Decision 11 . Chips Division manufacturers electronic circuit boards. The boards can be sold either to Compo Division of the same company or to outside customers. Last year, the following

150,000

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Responsibility Accounting and Transfer Pricing (B. Transfer Pricing)

activity occurred in division A: Selling price per circuit board Production cost per circuit board Numbers of circuit boards: Produced during the year Sold to outside customers Sold to Compo Division

boards purchased by Compo Division were used in an electronic instrument manufactured by that division (one board per instrument). Compo Division incurred P100 in additional cost per instrument and then sold the instrument for P300 each.

P125 90

Assume that Chips Division’s manufacturing capacity is 20,000 circuit boards. Next year Compo Division wants to purchase 5,000 circuits board from Chips Division rather than 4,000. (Circuit boards of this type are not available from outside sources.)

20,000 16,000 4,000

Chips Division proposed that a transfer for additional 1,000 units be produced by requiring its workers to work overtime. Chips Division indicated that the transfer price may be unreasonably high because of the overtime premium.

Sales to Compo Division were at the same price as sales to outside customers. The circuit boards purchased by Compo Division were used in an electronic instrument manufactured by that division (one board per instrument). Compo Division incurred P100 in additional cost per instrument and then sold the instrument for P300 each.

What is the maximum transfer that Compo Division will accept for the additional 1,000 units? A. P 90 C. P200 B. P125 D. P300

Assume that Chips Division’s manufacturing capacity is 20,000 circuit boards. Next year Compo Division wants to purchase 5,000 circuits board from Chips Division rather than 4,000. (Circuit boards of this type are not available from outside sources.)

Use the following data to answer questions 11 through 13. N & R Company transfers a product from division N to division R. Variable cost of this product is anticipated to be P40 a unit and total fixed costs amount to P8,000. A total of 100 units are anticipated to be produced. Actual cost, however, amounts to P50 for variable costs. Fixed costs were same as budget. However, actual output was twice as many.

Should Chips Division sell 1,000 additional circuit boards to Compo Division or continue to sell them outside customers? A. No, because the overall profit will decrease by P35,000. B. Yes, because the overall profit will decrease by P35,000. C. No, because there is no change in the overall profit. D. Yes, because the overall profit will increase by P75,000.

13

. Actual cost per unit amounts to A. P90 B. P92

Maximum transfer price 12 . Chips Division manufacturers electronic circuit boards. The boards can be sold either to Compo Division of the same company or to outside customers. Last year, the following activity occurred in division A: Selling price per circuit board P125 Production cost per circuit board 90 Numbers of circuit boards: Produced during the year 20,000 Sold to outside customers 16,000 Sold to Compo Division 4,000

C. P115 D. P120

14

. The transfer price based on actual variable costs plus 130% markup amounts to A. P90 C. P115 B. P92 D. P120

15

. The transfer price based on budgeted full cost plus 30% markup amounts to A. P117 C. P150 B. P140 D. P156

Sales to Compo Division were at the same price as sales to outside customers. The circuit 142

1

.

Answer: C New Operating Profit Less Required Returns New Residual Income

(P200,000 + P40,000) (P1,250,000 x 0.12)

P240,000 150,000 P 90,000

2

. Answer: D The Fabrication division has excess capacity, therefore the division can transfer the units at a minimum transfer price of P50

3

. Answer: D The minimum Davy would accept is the opportunity cost to make the product, which would be the variable cost of P25.

4

. Answer: A The minimum transfer price is P60 because the Division X has excess capacity

5

. Answer: C The profit of the company will decrease by P35,000 which is the difference between the variable (relevant) cost and the purchase price. (P9.00 – P5.5) x 10,000 units = P35,000

6

. Answer: A There is no change in the profit because the Motor Division did not buy from the outside supplier

7

. Answer: B The division is operating at capacity (zero excess capacity). Any quantity of production to be transferred to the Division Z must be at P13; Any price below P13, as transfer price, would decrease its profit.

8

. Answer: D Selling price (market price) Less avoidable selling expense 15 x 20% Minimum transfer price

P120 3 P117

9

. Answer: B The optimal transfer price is P4 per unit, which represents the value of using the black steel in the Builders Division because the black steel will cost P2 to manufacture and each unit used internally is a unit that cannot be sold to external buyers. If an intermediate market exists, the optimal transfer price is the market price.

10

. Answer: B The division is operating at capacity, therefore, the minimum transfer price must be the amount of selling price, less avoidable selling expense. Selling price P90 Avoidable selling expense 3 Net Price 87

11

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Answer: D Selling price charged by Compo Division Selling price charge by Chips Division Additional selling price Less additional processing cost by Compo Additional profit per unit Additional profit: 1,000 x P75

P300 125 P175 100 P 75 P75,000

12

. Answer: C Final selling price by Compo P300 Less additional processing cost 100 Maximum material cost (transfer price) P200 At a transfer price of P200, Compo will not realize any profit on the additional 1,000 units

13

. Answer: A The actual cost is the sum of unit variable cost plus fixed cost divided by actual units produced. 50 + (8000 ÷ 200) = P90

14

. Answer: C Variable cost Markup (P50 x 1.3) Transfer price

15

. Answer: D Budgeted full cost Markup Transfer price

P 50 65 P115 P40 + (P8,000 ÷ 100) (P120 x 0.3)

P120 36 P156