LTD is a diversified manufacturing company with a decentralized management structure. Each major division is treated as a profit center. One of the divisions is Taif, a chemical plant that produces a single product, XY. In recent years, the entire annual output of 400,000 tons of XY has been sold to another division, LA Ind, which uses it as an ingredient in a variety of products. The transfer price is currently $2,100/ton. Variable cost to produce XY is $600/ton. Taif's fixed costs are $540 million per year, resulting in a total cost of $1,950/ton. Of the fixed cost, 30% is depreciation on plant and equipment, and 25% is allocated corporate-level costs. LA Ind has found an outside supplier for XY at a price of $1,550/ton. The president of LA Ind refuses to meet this price, as it is below cost. The president of LA Ind says she will purchase externally if Taif refuses to meet the market price. As CEO of LTD, discuss the factors that should be considered in resolving this dispute.
The fundamental principal is that the transfer price should be similar to the price that would be charged if the product were sold to the outside customers or purchased from the outside vendors. The price range that would be acceptable will be:
The upper limit will be: Market price = $1550
The lower limit ...
This discusses the transfer Price issues between the Taif and LA Ind divisions.