Exercise 22.9 Transfer Pricing

Delmar Foods has two divisions:

(1) a Processed Meat Division and (2) a Frozen Pizza Division.

Delmars frozen pizzas use processed meat as a topping. The companys Processed Meat

Division supplies the Frozen Pizza Division with all of its meat toppings. Delmar

managers are paid bonuses based on their divisions profitability. The manager of the

Processed Meat Division argues for a transfer price based on a market value approach.

The manager of the Frozen Pizza Division favors a transfer price based on a cost

approach.

Explain how Delmars bonus system may influence each managers opinion regarding

which approach to use in establishing a transfer price.