Posted: May 19, 2009 in Other Knowledgement
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In decentralized organization, much of the decision-making power resides in its individual subunits. Management control system often uses transfer prices  to coordinate the action of subunits and to evaluate their performance.
A transfer price is the price one subunits (department or division) charge for a product or service supplied to another subunit of the same organization. The transfer price creates revenues for the selling subunit and purchase costs for the selling subunit, affectingeach subunit’s operating income. These operating income can be used to evaluate subunit’s performances and to motivate their managers. The product or service transferred between subunits of an organization is called an intermediate product. This product may either  be further worked on by the receiving subunits or, if transferred from production to marketing , sold to an eksternal customer.
As in all management control system, transfer price should help achieve a company’s strategies and goal and fit its organization structure. In particular, transfer price should promote goal congruence and a sustained high level of management effort. The transfer price should also help top managemet evaluate the performance of individual subunits and their managers.
There are three methods for determining transfer prices :
1. Market-based transfer price.  Top management may choose to use the price of a similar product or service publicly.
2. Cost-based transfer price.  Top management may choose a transfer price based on the costof producting the product in question. Examples include variable production cost, variable and fixed production cost, and full cost of the product.
3. Negociated transfer price. The subunits of a company are free to negociate the transfer price between themselves and then to decide whether to buy and sell internally or deal with eksternal parties.

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