Transfer Price Mechanism
Every business organisation main aim is to earn a profit. It's very important for the survival of the organisation. It's the only factor to know the efficiency of the business.
In the banking sector to know the efficiency of the branch one concept is used Transfer Price Mechanism.
The basic function of a bank branch is to accept deposits for lending. In this context, every branch is expected to serve as a profit centre. But practically it may not be possible as certain Branches, being resource centres can only mobilize deposits and their share of the business concentrates on deposits.
Each branch can not be a profit centre on its own. Depending upon the segment and location some branches can mobilise more deposits than advances.
In such cases, the cost of deposits will be more than the Yield on advances. The branch working results will show a loss. As the resources mobilised, will be utilised by some other branches for lending, CO compensates the branch for the resources mobilised, treating it as money borrowed from that branch.
Such resource-oriented branches might be paying Interest on Deposits and their balance sheet will show a loss. As this may not reflect a true picture and to compensate for the loss these branches are paid in the form of CO interest receivable. These Branches will show a profit after adding CO Interest.
Likewise, for the advances given, branches have to pay CO interest treating it as money borrowed from CO.
Such having concentration in Advances will have to pay CO for the funds deployed from the interest earned by them. Their Profit after CO interest will come down. This is called the Transfer Price Mechanism. The concept is to help the branches to arrive at the working results in a more realistic way
For Deposits oriented branch the net effect will be CO interest received, whereas for advances oriented branch the net effect will be CO interest paid.
In nutshell, the Transfer Price Mechanism (TPM) refers to the process in which branches are allowed to:
Earn interest on their lending to Central Office viz. the balances held in Deposit accounts in their books Pay interest on their borrowings from Central Office viz. Balances held in Advances accounts in their books.
The primary objective of this exercise is to arrive at the working-results of the branches on "realistic-basis".
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