Transfer Price Decisions The Consulting Division of IBM Corporation is often inv

Question

Transfer Price Decisions The Consulting Division of IBM Corporation is often involved in assignments for which URM C23-40. computer equipment is sold as part of a systems installation. The Computer Equipment Divison is frequently a vendor of the Consulting Division in cases for which the Consulting Division pur chases the equipment from the Computer Equipment Division. The Consulting Division does not view itself as a sales arm of the Computer Equipment Division but as a strong competitor to the nsulting firms of information systems. The Consulting Division's goal is to maximize its h IBM equipment it can sell.If profit contribution to the company, not necessarily to see how muc the Consulting Division is truly an autonomous investment center, it has the freedom to purchase equipment from competing vendors if the consultants believe that a competitor's products serve the needs of a client better than the comparable IBM product in a particular situation. REQUIRED a. In this situation, should corporate management be concerned about whether the Consulting Division sells IBM products or those of other computer companies? Should the Consulting Division be required to sell only IBM products? b. Discuss the transfer-pricing issues th both the Computer Equipment Division manager and the Consulting Division manager shd consi ler. If top management does not have a policy on pricing transfers between these two divisions, what alternative transfer prices should the division managers consider? c. What is your recommendation regarding how the managers of the Consulting and Computer Equipment Divisions can work together in a way that will benefit each of them individually and the company as a whole?

Explanation / Answer

a). The Corporate management should be concerned about whether the consulting division sells IBM products or those of othe companies because it impacts the profitability of the company. If the In house product is available with same specification as the other companies provide at the same rate then, it should use only the IBM products, but if there is difference in prices then there is a requirement of cost benefit analysis to check which option gives the higher profitability. But at the same time it should be keep in mind that because of shifting from other companies products to IBM products there must be no loss of customers, and if there is loss then it should be analysed that the cost of loss of customers will not exceed the incremental benefit derived from shifting to inhouse products.

b).Managers should consider the transfer price of the product to be supplied because there may be diffrence in price which the consulting division wants to pay and at which the Computer equipment divisions want to sell. Transfer price must be at that rate which will benefit the company as a whole. It should be analysed that what is the incremental benefit which can be achieved by inhouse transfers and is the transfer price is viable and does not impact the strong competitiveness of the consulting division. Transfer prices must be at relevant cost to the computer equipment division which should be less than the price of other companies and benfit the company as a whole.
Or transfer prices can be set at relevant cost + fixed markup which will contribute to the computer division profit also along with the consulting division.

c). Managers of the consulting and computer equipment division must consider the factors involved while deciding the transfer price. There are various methods through which transfer price can be decided, two of which given in above answer. Transfer price must be at that price which will not only benefit the single unit but should benefit both the units and simultaneously benefit the company in its highest possible way, where the company's incremental profit is highest among the alternatives. While deciding transfer price it must be check what are the costs which can be reduced or eliminated due to inhouse transfers which will benefit the competitiveness of the product and of the unit.

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