Chapter 12: International Transfer Pricing

Question 1

Transfer Pricing Definition

Answer 1

Determination of the price at which transactions between related parties will be carried out

Related parties/Intercompany transactions: subsidiary to parent (upstream), parents to subsidiary to parent (downstream)

Question 2

Types of Intercompany Transactions and Their Associated Price

Answer 2

Sales of tangible property - Sales Price
Use of tangible property - Rental or Lease Payment
Use of intangible property - Royalty, licensing fee
Intercompany loans - Interest rate

Question 3

Two Factors Influence Which Transfer Price is Determined

Answer 3

First factor: management control and performance evaluation, and minimization of cost

Second factor: laws in countries governing the manner intercompany transactions may be priced

Question 4

Transfer Pricing Method

Answer 4

1. Cost-based transfer price
2. Market-based transfer price
3. Negotiated price

Question 5

Cost-based transfer price

Answer 5

Based on actual or budgeted variable and fixed production costs. Includes profit margin for the seller

Problems: which measure of cost to use and inefficiencies in one unit may be transferred to other units.

Question 6

Market-based transfer price

Answer 6

Transfer price is based on price would have been charged to unrelated parties or determined by reference to sales of similar products

Question 7

Negotiated Price

Answer 7

Negotiation between buyer and seller

Needs to have external market for the items being transferred. Disadvantage: time-consuming and the agreed price shows the manager’s negotiation ability instead of ability to control costs and generate profit

Question 8

Decentralization Advantages and Disadvanges

Answer 8

_Allowing local managers to respond quickly to changes
_Dividing large, complex problems into managerial pieces
_Motivating local managers

Disadvantage: managers make decision for self-interest

Question 9

Goal Congruence

Answer 9

Accounting and control system should be designed to provide incentives for local managers to make decisions that consistent with corporate goals

Question 10

Objectives of International Transfer Pricing

Answer 10

1) Performance Evaluation:
. Buyers (goods sold) and seller (more revenue)
. Control subsidiary of the parent
2) Cost Minimization:
. Minimize income tax by recording profits in lower-tax countries
. Avoidance of withholding taxes
. Minimization of import duties (tariffs)
. Circumvent profit repatriation restrictions
. Protect cash flows from currency devaluation
. Improve competitive position of foreign operation
+Conflicting objectives: