MANGEMENT CONTROL SYSTEM

GROUP MEMBERS Mukti Artist Kunal Jadhav Pooja Mohite Lazari Chavan

Topics
Transfer pricing with example Divisional goals of multi-divisional company Linear programming model Problem of growth

Transfer Pricing
Transfer price is a price charged by one profit center of an organization for a product supplied to another business unit of the same organization Importance of Transfer pricing system
Companies with high volumes of interdivisional sales Vertically integrated companies

Objectives of Transfer Pricing

Provide each segment with the relevant information Induce goal congruent decisions Help measure the economic performance of the individual profit centers Should be simple to understand and easy to administer

Calculation of Transfer Price

The following details are given for Unit X & Unit Y of a company Expected monthly sales to Bn. Unit Y 5000 units V.C.(per unit) Rs. 5 Monthly F.C. Rs. 20,000 Investment Rs. 1,20,000 ROI 10% p.a.

PARTICULARS Variable cost per unit Fixed cost per unit Profit per unit TRANSFER PRICE

RS. 5 4 2 11

WORKING NOTE 1.Fixed cost per unit = 20000/5000 = Rs. 4 2.Profit per unit = (10% of 120000)/(125000) = Rs. 2

What is a Division? Example:

Hewlett Packard (HP)

Divisions

Subsidiary

Computers

Printers & Imaging

Software & Services

Compaq Accessories & Networking

Goals of Division
Example: Cristal Ltd. 1.Molten Glass Division
Output for external customer 40000 tons Selling price Marginal Cost 120/ton 65/ton Fixed cost

720000 p.a.

OP= 120-65=55/ton TP=65+55=120/ton 2.Bottle Glass Division, Buying Price = 105/ ton (from market)

Goals of Division
Increase the revenue of the division Decrease the cost To get resources at cheaper rate from foreign countries Shifting the profits to reduce overall taxes paid by a multinational group To gain as much possible information and knowledge from other divisions Measurement of performance Increase in ROI Transfer price is established with an aim to optimize the group performance, although it may hurt the selling or the buying company within the group Product development, manufacturing and marketing Divisional goals should be in congruence with strategic and corporate goals

Linear programming model

Based on Opportunity Cost approach Also incorporates capacity constraints Calculates an optimum companywide production pattern, which helps calculate set of values that attributes profit contribution of each of the scarce resources. These values are called Shadow Prices, one process of calculating them is called Obtaining the Dual Solution to the linear program. Transfer Prices = Variable costs of intermediate product + Shadow prices

 If these transfer prices are used, each business unit will optimize its profit by producing in accordance with the pattern developed through linear programming. To make the model manageable following assumptions must be incorporated in it: a) Demand curve is known b) It is static c) Cost function is linear d) Alt uses of production facilities & their profitability can be estimated in advance EXAMPLE

Problems of Growth
Problem of increased efficiency - Decision making rights of management and employees Example: A farmer growing tomatoes - Initial start up - Entrepreneurial spirit - Communicating what's expected - Utilizing a piecemeal rate - Amendment of contract

Contd
Components of Control Systems: 1. Identifying the goal(s) of the organization and conveying it to management and workers 2. Developing systems to encourage compliance with the desired results 3. Evaluating the results and taking actions, if needed, to improve performance

Contd Problem of customer

service - Difficult to measure - Define the immeasurable Making of incentive plan Close the loop
Closing the loop with an evaluation of the results is crucial for the long-term efficacy of management control systems

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