Vous êtes sur la page 1sur 101

Pricing Decisions

EMBA 5412 Fall 2010

Pricing in todays theory and practice*


Not too much research on pricing- company and academic Managers have a general tendency to believe that price is an important issue for customers. Research, however,has shown that customers are frequently unaware of prices paid and that price is one of the least important purchase criteria for them. the impact of even small increases in price on profitability by far exceeds the impact of other levers of operational management, as shown in Fig. 1 (based on a sample of Fortune 500 companies). A 5% increase in average selling price increases earnings before interest and taxes (EBIT) by 22% on average, compared with the increase of 12% and 10% for a corresponding increase in turnover and reduction in costs of goods sold, respectively.
2

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

Fig. 1. Pricing and its impact on profitability

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

Fig. 2. High price and large market sharenot as incompatible as commonly believed In conclusion, it seems that managers, as price setters, have a general tendency to overestimate the importance of price for actual and potential customers

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

Pricing and Business


How companies price a product or service ultimately depends on the demand and supply for it Three influences on demand and supply:
1. Customers 2. Competitors 3. Costs
5

Influences on Demand and Supply


Customers influence price through their effect on the demand for a product or service, based on factors such as quality and product features Competitors influence price through their pricing schemes, product features, and production volume Costs influence prices because they affect supply (the lower the cost, the greater the quantity a firm is willing to supply)
6

Time Horizons and Pricing


Short-run pricing decisions have a time horizon of less than one year and include decisions such as:

Long-run pricing decisions have a time horizon of one year or longer and include decisions such as:

Pricing a one-time-only special order with no long-run implications Adjusting product mix and output volume in a competitive market

Pricing a product in a major market where there is some leeway in setting price

Pricing
External sales- outside Target pricing-Competition-based pricing Cost plus pricing Variable cost pricing Customer based pricing-value-based pricing Time and material pricing Internal-within the company among divisions Negotiated transfer prices Cost based transfer prices Market based transfer prices Effect of outsourcing on transfer prices Transfers between divisions in different countries
8

Profit Maximization
Economic Theory
The quantity demanded is a function of the price that is charged Generally, the higher the price, the lower the quantity demanded

Pricing
Management should set the price that provides the greatest amount of profit
9

Determining the ProfitMaximizing Price and Quantity


Dollars per unit Profit is maximized where marginal cost equals marginal revenue, resulting in price p* and quantity q*.

p* Demand

Marginal cost q*

Marginal revenue

Quantity made and sold per month


10

Example 1
The editor of EMBA Magazine is considering three alternative prices for her new monthly periodical. Her estimate of price and quantity demanded are: Price TL 6 TL 5 TL 4 Quantity 22,000 28,000 32,000

Monthly costs of producing and delivering the magazine include TL90,000 of fixed costs and variable costs of TL1.50 per issue. Which price will yield the largest monthly profit?
11

Solution Example 1
Variable Contribution Income Cost per Margin per Total CM Fixed Before unit(TL) unit(TL) (TL) Costs (TL) Tax (TL) 1,5 4,5 99.000 90.000 9.000 1,5 3,5 98.000 90.000 8.000 1,5 2,5 95.000 90.000 5.000

Price(TL) Demand 6 22.000 5 28.000 4 38.000

Choose TL 6 TL based on quantitative factors given.

Need to consider qualitative factors as well.

12

Determining the ProfitMaximizing Price and Quantity


Dollars p* Total cost Total revenue

Total profit at the profit-maximizing quantity and price, q* and p*.


Quantity made and sold per month 13

q*

Price Elasticity
The impact of price changes on sales volume
Demand is elastic if a price increase has a large negative impact on sales volume. Demand is inelastic if a price increase has little or no impact on sales volume.
14

Who determines the price?


Price takers- when there is a competitive market and the company has no influence on price Once competition enters the market, the price of a product becomes squeezed between the cost of the product and the lowest price of a competitor. Price makers- companies that influence the price Organizations that choose to compete by offering innovative products and services have a more difficult pricing decision because there is no existing price for the new product or service.

15

Markets and Pricing


Competitive Markets use the market-based approach Less-Competitive Markets can use either the market-based or costbased approach Noncompetitive Markets use costbased approaches

16

Influences on Price
Customer demand Competitors behavior/prices/actions Costs Regulatory environment legal, political and image related

17

Differences Affecting Pricing: Long Run vs. Short Run


Costs that are often irrelevant for shortrun policy decisions, such as fixed costs that cannot be changed, are generally relevant in the long run because costs can be altered in the long run Profit margins in long-run pricing decisions are often set to earn a reasonable return on investment prices are decreased when demand is weak and increased when demand is strong
18

Alternative Long-Run Pricing Approaches


Market-Based: price charged is based on what customers want and how competitors react Cost-Based: price charged is based on what it cost to produce, coupled with the ability to recoup the costs and still achieve a required rate of return
19

Market-Based Approach
Starts with a target price Target Price estimated price for a product or service that potential customers will pay Estimated on customers perceived value for a product or service and how competitors will price competing products or services
20

Understanding the Market Environment


Understanding customers and competitors is important because:
Competition from lower cost producers has meant that prices cannot be increased Products are on the market for shorter periods of time, leaving less time and opportunity to recover from pricing mistakes Customers have become more knowledgeable and demand quality products at reasonable prices

21

22

Pricing approaches
Cost plus mark-up
Variable contribution margin approach, contribution margin( reflecting mark-up) should cover desired return on investment, all fixed costs Absorption common- mark-up covers all expenses except cost of goods sold plus the desired return on investment

Target costing price is known (competitors), desired return on investment is known, price is known = determine the maximum cost per unit
23

Cost-Plus Pricing
Company estimates cost of production
Adds a markup to cost to arrive at price which allows for a reasonable profit Simple approach

Benefits

Limitations

What % markup to use? Inherently circular for manufacturing firms Requires considerable judgment and experimentation
24

Product Life Cycle

25
http://www.hss.caltech.edu/~mcafee/Classes/BEM106/PDF/ProductLifeCycle.pdf

Life Cycle Costing


Life cycle costs are the total costs estimated to be incurred in the design, development, production, operation, maintenance, support, and final disposition of a product/system over its anticipated useful life span (Barringer and Weber, 1996). Product Life-Cycle spans the time from initial R&D on a product to when customer service and support are no longer offered on that product (orphaned) The best balance among cost elements is achieved when the total LCC is minimized (Barringer and Weber, 1996).

26

27

Life-Cycle Product Budgeting and Costing


Life-Cycle Budgeting involves estimating the revenues and individual value-chain costs attributable to each product from its initial R&D to its final customer service and support Life-Cycle Costing tracks and accumulates individual value-chain costs attributable to each product from its initial R&D to its final customer service and support

28

Important Considerations for Life-Cycle Budgeting


Nonproduction costs are large Development period for R&D and design is long and costly Many costs are locked in at the R&D and design stages, even if R&D and design costs are themselves small

29

Example
Murmur company produces electronic components that typically have about 27-month life cycle. In October 2008, a new component was proposed. Below are the budgeted costs and profits over the life cycle of the product.
6 10 12 15 2008 (200.000) 2009 (240.000) (80.000) (320.000) (80.000) (400.000) 40.000 2010 (360.000) (120.000) (480.000) (120.000) (600.000) 60.000 item total (200.000) (600.000) (200.000) (1.000.000) (200.000) (1.200.000)

Unit production cost unit life cycle cost unit whole life cost budgeted unit selling price Budgeted costs development production logistics annual post purchase costs-born by the customer Annual total Units produced and sold

(200.000) (200.000)

30

Example
Budgeted Product Income Statement Annual Cumulative Year Revenues Costs Income Income 2008 (200.000) (200.000) (200.000) 2009 600.000 (320.000) 280.000 80.000 2010 900.000 (480.000) 420.000 500.000

Performance Report Year Cost Item Actual Costs 2008 Development 190.000 2009 Production 300.000 Logistics 75.000 2010 Production 435.000 Logistics 110.000 Budgeted Cost Variance 200.000 10.000 240.000 (60.000) 80.000 5.000 360.000 (75.000) 120.000 10.000

F U F U F
31

110.000 U

Cost-Based (Cost-Plus) Pricing


The general formula adds a markup component to the cost base to determine a prospective selling price Usually only a starting point in the price-setting process Markup is somewhat flexible, based partially on customers and competitors
32

Forms of Cost-Plus Pricing


Setting a Target Rate of Return on Investment: the Target Annual Operating Return that an organization aims to achieve, divided by Invested Capital Selecting different cost bases for the costplus calculation:
Variable Manufacturing Cost Variable Cost Manufacturing Cost Full Cost

33

Common Business Practice


Most firms use full cost for their costbased pricing decisions, because:
Allows for full recovery of all costs of the product Allows for price stability It is a simple approach

34

Cost-plus Pricing
Selling Price= Cost + mark-up% x Cost Mark-up % = Desired profit per unit Unit cost Desired profit = Desired ROI x Investment

35

Which cost?
Variable manufacturing cost
Price= variable manufacturing costs + markup% * variable manufacturing cost
Mark-up should cover the remaining costs and provide for the desired profit, i.e. variable selling and all fixed costs

VSC FC ADM desiredprofit markup% vmcu* n


VSC: variable selling costs FC: fixed costs manufacturing and selling ADM: Administrative Expenses n: number of units to be sold vmcu: variable manufacturing cost per unit
36

Which costs?
Total variable costs
Variable manufacturing and selling costs
Price= variable costs + markup %* variable costs

FC ADM desiredprofit markup% vmcu* n

37

Which costs?
Absorption manufacturing costs Unit manufacturing costs both variable and fixed
Price= unit manuf. cost + markup %* unit manufacturing cost

S & ADM desiredprofit markup% unit cost * n


S&ADM: Selling and administrative costs Unit cost : unit manufacturing cost (variable and fixed)
38

Which costs?
Absorption total costs
Total costs manufacturing and selling and administrative fixed (direct or allocated, variable costs)
Price= unit cost + markup %* unit cost

desiredprofit markup% Totalunit cost * n


39

Example - Pricing
Annual sales 480 units Unit costs:
Variable manufacturing cost Applied fixed manufacturing cost Absorption manufacturing cost Variable selling costs Allocated and direct fixed selling and administrative costs $ 400 $ 250 $ 650 $ 50 $ 100 $ 800

Total cost (Manufacturing and S&ADM) Investment Desired profit 10% of investment Annual Fixed Manufacturing Costs Annual Fixed (allocated and direct) Selling and

$ 600,000 $ 60,000 $ 120,000 Administrative Costs $ 48,000

40

Cost Plus Pricing Versions


variable manufacturing cost-plus-pricing
Variable manufacturing cost Total Variable Selling Costs ($50 x 480 units) Desired profit Fixed Costs mark -up % markup Price = cost + markup $400 $24.000 $60.000 $168.000 131,25% $525 $925

41

Cost Plus Pricing Versions


variable total cost-plus-pricing
Total variable cost per unit $450 $168.000 $60.000 105,56% $475 $925

Fixed Costs
Desired Profit mark -up % markup Price = cost + markup

42

Cost Plus Pricing Versions


manufacturing cost per unit $650 $24.000 $48.000 $60.000 42,31% $275 $925

Total variable selling costs Fixed Selling and Administration Desired Profit
mark -up % markup Price = cost + markup

43

Cost Plus Pricing Versions


total absorption- cost-plus-pricing
Total cost per unit $800 $60.000 15,63% $125 $925

Desired Profit
mark -up % markup Price = cost + markup

44

Cost plus comparison


Cost plus type
Variable manufac turing cost plus mark up 131.25 Variable cost plus mark up Manufac Full cost turing plus costs mark up plus mark up 42.31 15.63

Mark up % Price

105.56

925

925

925

925
45

Retail cost plus mark-up


Mark up on cost of goods sold = (selling and administrative costs + operating income) / COGS

46

Retail Example
Yesim Textiles income statement for 2007 is as follows:

Revenues Cost of goods sold Gross profit Selling and Administrative Exp Operating profit Mark up %

TL1.427.010 (713.500) 713.510 (535.750) TL177.760 100,00%

47

Project Example
EMBA Consultancy Co needs to bid for a project. EMBAs recent income statement appears below:
Revenues Cost of Services Material Personnel Overhead Total Cost of services Gross profit Selling and Administrative Exp Operating profit Mark up % TL1.627.010 (TL45.000) (650.000) (555.000) (1.250.000) 377.010 (235.750) TL141.260 30,16%
48

Man-hour rate TL 65; overhead application 0.85 of personnel costs

Project Example
EMBA Consultancy needs to bid for a new project. Material costs will be TL 5.000; 150 man hours will be used. What would be a guiding bidding price?

Material Man-hour (150 man hourx65) Overhead (0.85*man-hour cost) Total Cost mark up percentage bid price

TL5.000,00 9.750,00 8.287,50 23.037,50 30,16% TL29.985,79


49

Pros and Cons of Cost plus pricing


Easy to compute No consideration to the demand side Sales volume plays an important roleallocation of fixed costs over the products sold If variable cost plus used then fixed costs might not be covered if not calculated correctly
50

Pricing Special Orders


In some cases, it may be beneficial for a company to charge a price lower than its full cost
Only if the order will not affect demand for its other products

51

Special Orders Premier Lens Example


Given the following information, should Premier Lens produce 20,000 lenses to be sold to Blix Camera for $73 per lens?

52

Special Orders Premier Lens Example


The incremental analysis shows that it should. Note that the fixed costs are not incremental and need not be included in the decision making.

53

Target Costing

54

Five Steps in Developing Target Prices and Target Costs


1. Develop a product that satisfies the needs of potential customers 2. Choose a target price
price is the same as the competition set price to increase customer base seek larger market share through price

3. Derive a target cost per unit:


Target Price per unit minus Target Operating Income per unit

4. Perform cost analysis 5. Perform value engineering to achieve target cost


55

Value Engineering
Value Engineering is a systematic evaluation of all aspects of the value chain, with the objective of reducing costs while improving quality and satisfying customer needs Managers must distinguish valueadded activities and costs from nonvalue-added activities and costs
56

Value Engineering Terminology


Value-Added Costs a cost that, if eliminated, would reduce the actual or perceived value or utility (usefulness) customers obtain from using the product or service Non-Value-Added Costs a cost that, if eliminated, would not reduce the actual or perceived value or utility customers obtain from using the product or service. It is a cost the customer is unwilling to pay for
57

Value Engineering Terminology


Cost Incurrence describes when a resource is consumed (or benefit forgone) to meet a specific objective Locked-in Costs (Designed-in Costs) are costs that have not yet been incurred but, based on decisions that have already been made, will be incurred in the future
Are a key to managing costs well
58

Problems with Value Engineering and Target Costing


1. Employees may feel frustrated if they fail to attain targets 2. A cross-functional team may add too many features just to accommodate the wishes of team members 3. A product may be in development for a long time as alternative designs are repeatedly evaluated 4. Organizational conflicts may develop as the burden of cutting costs falls unequally on different business functions in the firms value chain
59

Example Target costing


Nownew company feels that there is a market niche for a mouse with special new features. After surveying the features and prices of available mouses on the market, Marketing department believes that a price of TL 30 would be about right for the new mouse. Marketing department estimates to sell about 40.000 mouses. To design, develop and produce these new mouses and investment of TL 2.000.000 would be required. The company desires 15% ROI on all new projects. What is the highest target cost to manufacture, sell and service the new product?

60

Example target costing

Projected Sales Less Desired profit Target Cost for Target Cost per mouse

40000 mouse 30 15% 2.000.000 40000 mouse

1.200.000 300.000 900.000 TL22,50

61

Customer-based pricing
Value based pricing-the price is based on the customer demand or need for the product

use price to support product image set price to increase product sales design a price range to attract many consumer groups set price to increase volume sales price a bundle of products to reduce inventory or to excite customers

Unique product value based pricing might be helpful to create demand

62

concept of economic (or customer) value


Two interpretations: the difference between the consumers willingness to pay and the actual price paid, which is equal to the consumer surplus, the excess value retained by the consumer. the maximum amount a customer would pay to obtain a given product, that is, the price that would leave the customer indifferent between the purchase and foregoing the purchase. Customer value in this sense is equal to the microeconomic concept of a customers reservation price and the use value of goods. products economic value is the price of the customers best alternativereference valueplus the value of whatever differentiates the offering from the alternative differentiation value (Nagle & Holden, 1999).
63

To quantify economic value


Step 1: Identify the cost of the competitive product and process that consumer views as best alternative
put oneself in the eyes and in the shoes of customers and ask what they view as best alternative to the purchase of the product being analyzed
e.g. Microsoft, for example, is known for

Step 2: Segment the market

handing out beta-versions of its latest enterprise software products to particularly knowledgeable companies and customer segments
64

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

To quantify economic value


Step 3: Identify all factors that differentiate the product from the competitive product and process. Step 4: Determine the value to the customer of these differentiating factors.

Conjoint analysis is a simple tool which aims to capture trade-offs in product features in a systematic way and to assign monetary values to specific attributes (Auty, 1995). Customers are presented with a set of two similar products differing in price and other qualitative features and are forced to indicate which set of attributes they prefer
65

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

To quantify economic value


Step 5: Sum the reference value and the differentiation value to determine the total economic value.

Step 6: Use the value pool to estimate future sales at specific price points.

The products economic value is simply the sum of the price of the reference product plus its differentiation value.

For each price point, sales can be expected to comprise a significant share of all market segments, which value the product higher than the specific price examined
66

Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778

Example of value based pricing


Japanese industrial equipment manufacturer. In its home market, its standard model was priced at the equivalent of US$80,000 compared with US$50,000 for a similar model by its main competitor from the United States. In Japan, the company sold about 80% more units than its U.S. competitor, while in the United States, where the company had a weaker distribution system, both companies had roughly the same unit sales, although historical growth rates of the Japanese company had by far exceeded the growth rates of its U.S. rival. What is the reason that the Japanese company was able to achieve both a high relative market share and a significant price premium?
Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778 67

WHY?
For each industry segment,the Japanese company had developed detailed financial models of different cost and benefit components of its own equipment versus its main competitor For a customer in the printing ink industry, the positive and negative differentiation value was quantified in the following way:
Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778 68

69

Analysis
Under this angle, the price premium of the Japanese company is modest. If an interest rate of 8% is applied to the net benefits gained over the average life cycle of this equipment of 4 years, the positive differentiation value amounts to well over US$300,000. Customers are expected to pay only a small fraction less than 10% and US $30,000of the products economic value.
Hinterhuber,A, Towards value-based pricingAn integrative framework for decision making, Industrial Marketing Management 33 (2004) 765 778 70

Analyzing Customer Profitability


Customer Profitability Measurement System (CPM)
Indirect costs of servicing customers are assigned to cost pools
For example the cost of processing orders and handling returns

Costs are allocated to specific customers using cost drivers to determine customer profitability
71

Customer Profitability Measurement System

72

Example Customer profitability


Delta Products has determined the following costs:
Order processing/order Additional handling cost per rush order Customer service calls/call Relationship management costs/customer $5.00 $8.50 $10.00 $2,000.00

In addition to these costs, product costs amount to 90% of sales. In the prior year, Delta had the following experience with Johnson Brands:
Sales Number of orders Percent of orders marked rush Calls to customer service $53,800 200 60 140

Calculate the profitability of the Johnson Brands account.

73

Example Solution
Profitability of Johnson Brand account
Sales Less: Cost of good sold (.9 $53,800) Order processing (200 $5.00) Rush handling (.6 200 $8.50) Customer service (140 $10.00) Relationship management costs Profitability of Johnson Brands account $53,800

$48,420 $1,000 $1,020 $1,400 $2,000 $53,840 $(40)

74

Time and Material Pricing


Determine a charge for labor that includes overhead Determine a charge for materials that includes handling and storage costs Include a profit Sum = price Used in service companies mainly; appropriate for construction companies as well
75

Example
Investment Desired profit 10% of investment Annual labor hours Hourly charge to cover profit margin Labor rate per hour Annual overhead costs: Material handling and storage Other overhead costs(supervision,utilities, insurance,and depreciation) Annual cost of materials used in repair department

4% x 1.000.000

$700,000.00 $70,000.00 10,000 $7.00 $18.00 $40,000.00

$200,000.00 $1,000,000.00
76

Time and Material Charges

Time Charge per hour =


hourly labor cost + (annual overhead [excluding material overhead] / annual labor hours) + hourly charge to cover profit margin

= $18 + ($200,000 / 10,000 hours) + $7 = $ 45 per labor hour


77

Time and Material Charges

Material Charge formula


Material cost incurred on job +[material cost incurred on job * (material handling and storage costs / annual cost
of materials used in Repair Department)]

= material costs incurred on job +[material costs incurred on job * ($40,000/$1,000,000)] =1.04 x material costs incurred on job
4% of material costs
78

Example cont
JOB NO 101 Labor hours cost of materials total price of job 101 material cost handling and storage total material cost Labor rate labor hours TOTAL COST OF JOB 101 200 $8.000

$8.000 $320 $8.320,00 $45,00 200 $9.000,00 $17.320,00


79

Activity-Based Pricing
Customers are presented with separate prices for services they request in addition to the cost of goods purchased
Customers will carefully consider the services they request

Example

80

Other Important Considerations in Pricing Decisions


Price Discrimination the practice of charging different customers different prices for the same product or service
Legal implications

Peak-Load Pricing the practice of charging a higher price for the same product or service when the demand for it approaches the physical limit of the capacity to produce that product or service
81

The Legal Dimension of Price Setting


Price Discrimination is illegal if the intent is to lessen or prevent competition for customers Predatory Pricing deliberately lowering prices below costs in an effort to drive competitors out of the market and restrict supply, and then raising prices
82

The Legal Dimension of Price Setting


Dumping a non-US firm sells a product in the US at a price below the market value in the country where it is produced, and this lower price materially injures or threatens to materially injure an industry in the US Collusive Pricing occurs when companies in an industry conspire in their pricing and production decisions to achieve a price above the competitive price and so restrain trade
83

Transfer pricing
Transfer Price is:
the internal price charged by one segment of a firm for a product or service supplied to another segment of the same firm
Such as:

Internal charge paid by final assembly division for components produced by other divisions Service fees to operating departments for telecommunications, maintenance, and services by support services departments
84

Transfer Pricing
The transfer price creates revenues for the selling subunit and purchase costs for the buying subunit, affecting each subunits operating income Intermediate Product the product or service transferred between subunits of an organization

85

Effects of Transfer Prices


Performance measurement: Reallocate total company profits among business segments Influence decision making by purchasing, production, marketing, and investment managers Rewards and punishments: Compensation for divisional managers Partitioning decision rights: Disputes over determining transfer prices
86

Three Transfer Pricing Methods


1. Market-based Transfer Prices 2. Cost-based Transfer Prices 3. Negotiated Transfer Prices

87

Market-Based Transfer Prices


Top management chooses to use the price of a similar product or service that is publicly available. Sources of prices include trade associations, competitors, etc.

88

Market-Based Transfer Prices


Lead to optimal decision making when three conditions are satisfied:
1. The market for the intermediate product is perfectly competitive 2. Interdependencies of subunits are minimal 3. There are no additional costs or benefits to the company as a whole from buying or selling in the external market instead of transacting internally
89

Market-Based Transfer Prices


A perfectly competitive market exists when there is a homogeneous product with buying prices equal to selling prices and no individual buyer or seller can affect those prices by their own actions Allows a firm to achieve goal congruence, motivating management effort, subunit performance evaluations, and subunit autonomy Perhaps should not be used if the market is currently in a state of distress pricing
90

Cost-Based Transfer Prices


Top management chooses a transfer price based on the costs of producing the intermediate product. Examples include:
Variable Production Costs Variable and Fixed Production Costs Full Costs (including life-cycle costs) One of the above, plus some markup

Useful when market prices are unavailable, inappropriate, or too costly to obtain
91

Cost-Based Transfer Pricing Alternatives


Prorating the difference between the maximum and minimum cost-based transfer prices Dual-Pricing using two separate transfer-pricing methods to price each transfer from one subunit to another. Example: selling division receives full cost pricing, and the buying division pays market pricing
92

Negotiated Transfer Prices


Occasionally, subunits of a firm are free to negotiate the transfer price between themselves and then to decide whether to buy and sell internally or deal with external parties May or may not bear any resemblance to cost or market data Often used when market prices are volatile Represent the outcome of a bargaining process between the selling and buying subunits
93

Comparison of Transfer-Pricing Methods


Criteria
Achieves Goal Congruence

MarketBased
Yes, when markets are competitive

CostBased
Often, but not always

Negotiated
Yes

Useful for Evaluating Subunit Performance

Yes, when markets are competitive

Difficult unless transfer price exceeds full cost and even then is somewhat arbitrary

Yes, but transfer prices are affected by bargaining strengths of the buying and selling divisions

94

Comparison of Transfer-Pricing Methods


Criteria
Motivates Management Effort

MarketBased
Yes

CostBased
Yes, when based on budgeted costs; less incentive to control costs if transfers are based on actual costs

Negotiated
Yes

Preserves Subunit Autonomy

Yes, when markets are competitive

No, because it is rule-based

Yes, because it is based on negotiations between subunits

95

Comparison of Transfer-Pricing Methods


Criteria
Other Factors

MarketBased

CostBased

Negotiated

No market may Useful for Bargaining and exist or determining negotiations markets may full cost of take time and be imperfect or products; easy may need to be in distress to implement reviewed repeatedly as conditions change

96

Ideal Transfer Pricing


Ideal transfer price would be
Opportunity cost, or the value forgone by not using the transferred product in its next best alternative use Opportunity cost is the greater of variable production cost or revenue available if the product is sold outside of the firm

97

Minimum Transfer Price


The minimum transfer price in many situations should be:
Minimum Transfer Price

Incremental cost per unit incurred up to the point of transfer

Opportunity Cost per unit to the selling subunit

Incremental cost is the additional cost of producing and transferring the product or service Opportunity cost is the maximum contribution margin forgone by the selling subunit if the product or service is transferred internally
98

Transfer Pricing Methods


External market price

If external markets are comparable


Variable cost of production

Exclude fixed costs which are unavoidable


Full-cost of production

Average fixed and variable cost


Negotiated prices

Depends on bargaining power of divisions

99

Transfer Pricing Implementation


Disputes over transfer pricing occur frequently because transfer prices influence performance evaluation of managers Internal accounting data are often used to set transfer prices, even when external market prices are available Classifying costs as fixed or variable can influence transfer prices determined by internal accounting data To reduce transfer pricing disputes, firms may reorganize by combining interdependent segments or spinning off some segments as separate firms

100

Transfer Pricing for International Taxation


When products or services of a multinational firm are transferred between segments located in countries with different tax rates, the firm attempts to set a transfer price that minimizes total income tax liability. Segment in higher tax country: Reduce taxable income in that country by charging high prices on imports and low prices on exports. Segment in lower tax country: Increase taxable income in that country by charging low prices on imports and high prices on exports. Government tax regulators try to reduce transfer pricing manipulation.

101

Vous aimerez peut-être aussi