Market Based Pricing

Introduction to Market Based Pricing

Within this method, the transfer price will be ascertained as per to the market price prevailing in the market. It works as a good incentive for effective production to the selling division and any incompetence in production and abnormal costs will not be borne through the buying division. The forces of demand and supply will conclude the market price in the long run and profit produced will be a extremely good parameter for measuring efficiency. The logic employed in this method is that if the buying division would comprise purchased the goods/services from the open market, they must have paid the market price and therefore similar price should be paid to the selling division. One of the differences of this technique is that from the market price, selling and distribution overheads should be subtracted and so price arrived should be charged like transfer price. The cause behind this is that no selling efforts are needed to sale the goods/services to the buying division and so these costs should not be charged to the buying division.

The transfer price that is based Market price has the following advantages.

Ø  Actual costs are fluctuating and therefore difficult to determine. Alternatively market prices can be easily determined.

Ø   Profits resultant from market price based transfer prices are good parameters for performance evaluation of selling and buying divisions.

Though, the market price based transfer pricing has the following limitations.

Ø   There might be resistance from the buying division. They may question buying from the selling division if in anyhow they have to pay the market price?

Ø   Such as cost based prices, market prices might also be fluctuating and therefore there may be problems in fixation of these prices.

Ø   Market price is a rather vague term like such type of prices may be ex-factory price, wholesale price, retail price etc.

Ø   Market prices might not be available for intermediate products, like these products may not have any market.

Ø   This method might be hard to operate if the intermediate product is for captive consumption.

Ø   Market price may change often.

Ø   Market prices may not be determined easily.

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