The Value of Negotiating Cost-Based Transfer Prices

27 Pages Posted: 7 Nov 2008

See all articles by Anne Chwolka

Anne Chwolka

Otto-von_Guericke University of Magdeburg

Jan Thomas Martini

Bielefeld University - Department of Business Administration and Economics

Dirk Simons

University of Mannheim - Accounting and Taxation

Multiple version iconThere are 2 versions of this paper

Date Written: July 16, 2008

Abstract

Theory recommends various transfer pricing schemes depending on the purpose they are designed for. In contrast, empirical evidence shows the predominance of a single scheme, namely one-step cost-based prices. Our paper concentrates on cost-based transfer, especially focusing on the coordination of delegated investment and marketing decisions. We consider a team setting in which divisional investments' productivities depend on each other.

The goal of our paper is to analyze how the performance of cost-based transfer prices can be improved by organizational arrangements so that they set proper investment incentives. In detail, we show that transfer prices based on variable costs are able to induce coordination among the divisions but fail to induce investments on the first production stage. Transfer prices based on full costs, however, provide strong investment incentives for the upstream divisions but typically are insufficient to induce coordination. The driving force of this result is the assumption of a convergent production structure, i.e., there are two divisions on the first production stage. We show that interdivisional negotiations prevent coordination failures. A major result is that the firm benefits from a higher degree of decentralization so that total profit increases in the number of parameters being subject to negotiations.

Keywords: Administered Transfer Pricing, Decentralization, Decision Delegation, Investment Incentives, Negotiated Transfer Pricing

JEL Classification: M11, M41, L22, C78

Suggested Citation

Chwolka, Anne and Martini, Jan Thomas and Simons, Dirk, The Value of Negotiating Cost-Based Transfer Prices (July 16, 2008). Available at SSRN: https://ssrn.com/abstract=1197022 or http://dx.doi.org/10.2139/ssrn.1197022

Anne Chwolka

Otto-von_Guericke University of Magdeburg ( email )

Universitätspl. 2
PSF 4120
Magdeburg, D-39106
Germany

Jan Thomas Martini (Contact Author)

Bielefeld University - Department of Business Administration and Economics ( email )

P.O. Box 100131
D-33501 Bielefeld, NRW 33501
Germany

HOME PAGE: http://www.wiwi.uni-bielefeld.de/lehrbereiche/bwl/ctrl/martini

Dirk Simons

University of Mannheim - Accounting and Taxation ( email )

Mannheim, 68131
Germany

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