25

What would be a legitimate reason for upper management to insist on an internal transfer even though the product could be sourced outside the company at a price that is lower than the company's variable cost?

Management is concerned that its manufacturing equipment will soon be obsolete, and it wants to get full use out of it before it happens.

Management wants to ensure a secure supply of the product.

The company has excess capacity.

There is never a legitimate reason that justifies an internal transfer if a product can be sourced outside the company at a price that is lower than the company's variable cost.

26

What should be the objective(s) of a firm's transfer pricing policy?

Ensure a secure source of inputs at the best price possible.

Promote goal congruence, while maintaining divisional autonomy so that accurate performance evaluation can be made.

Develop a cooperative relationship between divisions, while maintaining enough competitiveness to ensure the survival of the firm.

Develop a pricing system that facilitates good record keeping that is acceptable under GAAP.

27

Generally, a transfer of products between two divisions should take place if it

allows one division to benefit from technology developed in another division.

results in increased incremental income to the company as a whole.

increases awareness within the company of activity in the various divisions.

assists the management to evaluate performance of the divisions.