Valley Forge Steel: Transfer Pricing Case Study and Analysis

This assignment analyzes the transfer pricing strategies within Valley Forge Steel, examining the optimal methods for setting prices between the rubber and assembly departments. The case study explores the application of various transfer pricing methods, including the internal CUP (Comparable Uncontrolled Price) and profit split methods, and evaluates their impact on departmental and overall group profitability. The analysis considers factors such as external market prices, variable costs, and potential profit margins to determine the most financially advantageous approach for the company. The study also highlights the importance of integrated operations and negotiation in achieving optimal transfer pricing outcomes, with a focus on maximizing overall group profit. The assignment provides detailed answers to questions about the minimum and maximum transfer prices, the best financial interests of the rubber department, and the most appropriate transfer pricing method. The student's analysis provides insights into the decision-making process and recommendations for the company's financial strategy. The case study provides a practical application of transfer pricing principles within a business context.

Answer 1
In the given case study, there are two department rubber and assembly. Rubber is the primary
department and supply raw material to assembly department for further processing. It has also
been provided that rubber department has an option to sell the rubber produced to third party
at $ 2. Given the details, the minimum transfer price for the product shall not be below $ 2, if
the department looks from the profit angle. However, we consider that both department are
integrated and are part of larger unit who actually looks at profit then the transfer price shall
be minimum $ 1.4. Further, the maximum price that can be set shall be the margin earned by
the $ 66 as at that price the profit of Assembly department shall be zero.
Thus, the range shall be $ 2 to $ 66 when we consider each department as separate entity and
$ 1.4 to $ 66 when we consider each department as integrated.
Further, the negotiation can be done based on market price and sharing of profits as the
operations are interdependent. Also, both the department are part of larger group and it is the
group profitability that really matters.
Answer 2
The three examples can include transfer of baked electrode from baking division to
graphitisation division where generally the baking division keeps a mark up of 20% on the
cost of goods transferred.
Second example could be transfer of clinker to the cement unit at a margin of 25% on the
cost;
Third example could be transfer of tyres in the automobile division at cost plus fixed mark up
say 10%.
Under all these departments both direct and indirect cost of production are ascertained and a
fixed margin is loaded to determine transfer price.
Answer 3
The best financial interest of the rubber department shall be to sell the product in the external
market as the price quoted by external party to assembly department is below variable cost.
Yes, from financial standpoint it shall be good as it shall boost the profit of the group as a
whole.
Other factors shall be quality, supply constraints, demand constraints etc.
Answer 4
The general transfer pricing rule can be applied in the given case as there is an internal CUP
available with the company and goods can be transferred by the rubber department to the
assembly department at $ 2. Further, the other method of Profit Split can also be applied as
the operations are integrated. However, since CUP is available, PSM may not be preferred.
Also, a fixed margin may also be decided to transfer the product which shall be generally
around the margin earned by comparable companies in the market.

Answer 5
The most appropriate method shall be internal CUP as the price of sale to third party is
available and can be used for benchmarking the instant transaction. Thus, goods may be
transferred by the rubber department to assembly department at $ 2.