Short Assignment Writing Study Review: Managerial Control and Accounting Calculation
A:: Question? The effect that each proposed price might have on the attitude of Reading’s management toward intracompany business;
A:: Answers Prepare a report is
A) In order to analyse the situation we will look into three situations independently for our process of analysis we will assume a tax rate of 35%.
Out of the three scenarios that we see above scenario 2 would be out rightly rejected by Readings because it leads to loses on its Balance Sheet. Readings should look to other two scenarios that have been suggested .
Scenario 1 looks the best for Readings ,where profits are maximum. Operating under an unutilised capacity this will boost the company’s balance sheet and boost up profits as well .The tax materialising out of it is also maximum out of all the scenario. However it would difficult to convince the other subsidiary to agree to this
Scenario 3 as put forward by the Vice President Corporate is the most suitable. It taken into care both the fixed and the variable manufacturing cost. The margins of 15% decided can be negotiated between the two divisions and an appropriate negotiated margin can be set up. Activity based accounting measures can be used to decided the best possible margin. Scenario 3 implementation as backed by the corporate will have less of acrimonious response from Readings and will generate its positive attitude towards intracompany transactions.The scenario 3 can be made acceptable to readings if sufficient buying volumes is promised by the buying subsidiary. Increase in volumes will reduce fixed cost per unit and will make the deal lucrative for Readings..
B)Looking at the present context we see that there has been no laid down rules by the corporate entity to manage transfer pricing problems. This is generally the case for large organisations in which the central management cannot even fathom to control and manage operating parameters of every submit. Thus necessarily each division becomes an independent operating unit under the control of a division manager or a division CEO. The central management is responsible for controlling the total profit for the organisation and also dispenses centralised funds meant for activities like factory up gradation, marketing spends ,raise in salaries as per the performance of the individual units. The issue with decentralised units is that some basic rule of transaction between divisions have to be set, that is the pr selling price of goods in between subsidiaries. This helps the divisions goals to be co-ordinated to the goal of the corporation and maintains interdivisional harmony.
In the present context ,we find that not specific rule has been set with respect to transfer pricing. Moreover in this method we also find that the process of negotiation between the organisation has failed with no headway if any possible. Thus negotiation may not be the most suitable method in this case to solve the transfer pricing problem. The two other approaches that can be used in this context are:
i)Market Price Method: The market price of the intermediary product is knows to be $13.00.The market price of the product minus the selling expense can be set as the transfer price. The deficit of the buying division can be set by the central division through other benefits and compensations. This looks like a possible method because the selling unit is operating well below capacity and this order at this price will help to boost its revenue
ii)Dual Price Methods: This is a complex method of price setting in which the central corporate is involved. The price is set by the central corporate taking into care the volume of transaction between the two subsidiaries .The price that is decided is generally midway between the prices negotiated by the two intermediaries. The markup that is decided by the corporate is always decided by taking into care the return on investment expected by the corporate from the two entities or subsidiaries.
c)Transfer Pricing necessitates the involvement of the corporate management ,without corporate management’s intervention transfer pricing issue cannot never reach an conclusion. In the present case as there have been no set rules by the corporate before ,there has to be involvement by the corporate to set the transfer pricing rules. The transfer price affects the taxes to be paid and thus also determines the return on investment of the divisions’s.The corporate apprise the divison’s on the profits they generate and on that basis allocated development funds.If the process of determining transfer prices is left solely to the matters of negotiation it will never reach a conclusion .Moreover corporate involvement is imperative as it will set a rule for other transaction that will require the use of transfer pricing.Transfer Pricing is never an exact science and requires significant due diligence to be decided upon.
Every corporate faces pressure to increase profits and reduce tax liabilitisies.This in turn will automatically boost the Earning Per Share. Transactions between companies can be of huge volumes which depending on the price set the variation in tax liabilities can be of the magnitude of millions of dollars involved which if not decided well will seriously affect the profits of the organisation.
The methods as described above can be used by the management to decided transfer price between division. The key in this situation lies in identifying the appropriate mark-up percentage. This is generally done by using activity based costing methods. The activity based accounting method will help decide how the central resources that are shared between entities is apportioned to determine the price between the two subsidiaries. One of the other approaches that can be used to solve the transfer pricing issue is the comparable profits method .The price that is to be decided is to be based on the entire corporate environment looking carefully into tax laws as well. Thus we can conclude that corporate participation is important and must to solve the transfer pricing issue without their active involvement the consensus that is expected will not materialise. In the situation of the present case the opinions of the corporate VP is very important and should be taken seriously into account if at all a conclusion is to be arrived. The VP should assure the divisions involved that any price that has been chosen has been decided taking into care the benefit of the organisation
MD72
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