Impacts of Revenue Sharing, Profit Sharing, and Transfer Pricing on Quality-Improving Investments

Posted: 3 Mar 2003  

Anne Chwolka

Bielefeld University - Department of Business Administration and Economics

Dirk Simons

University of Mannheim - Accounting and Taxation

Abstract

We compare revenue sharing with different profit-sharing rules and constant transfer prices in a buyer-seller setting, in which the incompleteness of contracts causes decentralization costs. Our focus is on a situation where a manufacturing department or a supplier of an intermediate product can invest in a quality improvement of the final product and thereby increase customer demand. We analyze the willingness of the supplier to invest under a revenue-sharing rule, three profit-sharing rules, and a transfer-pricing scheme. Our analysis shows that the performance of sharing rules is likely to decrease when the sharing basis consists of less cost components. Remarkably, this is not true for the revenue-sharing rule. To the contrary, this less prominent scheme can be shown to maximize total profit under a variety of cost combinations.

Keywords: underinvestment-problem, transfer pricing, surplus-sharing rules, incentive-compatible profit allocation, revenue sharing

JEL Classification: M40, M46, L29

Suggested Citation

Chwolka, Anne and Simons, Dirk, Impacts of Revenue Sharing, Profit Sharing, and Transfer Pricing on Quality-Improving Investments. European Accounting Review, Vol. 12, No. 1, 2003. Available at SSRN: https://ssrn.com/abstract=369304

Anne Chwolka (Contact Author)

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

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

Dirk Simons

University of Mannheim - Accounting and Taxation ( email )

Mannheim, 68131
Germany

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