The downstream division pays the upstream division a

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Unformatted text preview: er division, then firms will often set up an internal system that, in some ways, mimics a market mechanism. The firm will put in a place a transfer price to mediate the divisions’ exchange. The downstream division pays the upstream division a fixed price for each unit of the intermediate good that it purchases. • What is transfer pricing? M&S 452 — Strat and Org c 2008 Scott Schaefer • Will the Beer division’s price be too high or too low? Upstream Division ' Transfer price payments Intermediate good E Downstream Division Final good E 28 – Illustration: ∗ Suppose upstream incurs a fixed cost of production of $100,000 and marginal costs of $5 per unit. ∗ Suppose downstream purchases 50,000 units of the intermediate good. – The one that people within firms tend to focus on is the redistributive effect of transfer prices. That is, transfer prices allocate profit among divisions — if the divisions are profit centers, then people in those divisions will care about what the transfer price is. • What are the effects of transfer prices? M&S 452 — Strat and Org c 2008 Scott Schaefer • Picture: What to Take Away 30 – Put decision making authority with people who have, or can get, the necessary information – Structure affects the set of feasible performance measurement and reward systems – External Costs and Benefits – Transfer pricing facilitates decentralization • Big Picture M&S 452 — Strat and Org c 2008 Scott Schaefer • But splitting profits among divisions is not the reason that transfer pricing is relevant for strategy. · Upstream’s profits are · Downstream pays ∗ If the transfer price is set at $8 per unit, then · Upstream’s profits are · Downstream pays ∗ If the transfer price is set at $12 per unit, then – General Motors and the multidivisional form. – Pricing externalities: Camaros and Firebirds. – Selling memory chips. • Specific Applications...
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This document was uploaded on 02/20/2014.

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