Meaning of transfer pricing The transfer pricing helps to determine the value of goods and services transferred before

calculating the profits of the company. A transfer price is defined as the price that is assumed to have been charged by on part of a company for products and services it provides to another part of the same company, in order to calculate each divisions profit and loss separately. For the profit center selling the goods, the transfer price is the major determinant of its revenue and profits. For the profit center buying the goods, it is the major determinant of expenses incurred. So, the transfer price that we use becomes an important factor for both selling and buying units. The concept of transfer price is fundamentally amid at simulating the external market conditions within the organization so that the managers get motivated and try to perform well. But the transfer price does not have any direct impact on the organizations profit as a whole because its effect on one divisions revenue is exactly offset by another divisions costs. Objective of transfer pricing: The objective of transfer pricing is proper distribution of revenue between profit centers. It two or more profit centers are jointly responsible for product development and marketing, then the resulting profit has to be shared between profit centers. Some of objectives are : i) ii) iii) iv) providing relevant information to the profit centers regarding the trade of between costs and revenue of the company Inducing goal-congruent decisions. i.e. decisions that improve the profits of the company Helping to measure the economic performance of profit centers Minimizing tax liability

Methods of calculating Transfer Prices Methods used for calculating the transfer price differ from company to company. the following point must be considered for calculating the transfer price. i) Goal Congruence:- Transfer prices should balance between goals of enterprise as a whole and its profit center.

ii)

Rationality: - Transfer prices should not interfere with the process by which the buying center manager rationally strives to minimize costs and selling center manager rationally strives to maximize revenues. Autonomy:-Each profit center manager should be free to satisfy his centers needs either internally or externally at the best possible price. Performance evaluation:-Transfer pricing should aid in objective evaluation of the activities of the profit center. It should be used as a tool for making proper decisions. It should also aid in appraisal of managerial performance and of the enterprise as a whole.

iii) iv)

There are three methods commonly used for calculating transfer pricing. Market based pricing Cost based pricing Negotiated pricing