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Negotiated versus Cost-Based Transfer Pricing

Author

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  • Tim Baldenius

    (Columbia University)

  • Stefan Reichelstein

    (University of California)

  • Savita A. Sahay

    (Baruch College, CUNY)

Abstract

This paper studies an incomplete contracting model to compare the effectiveness of alternative transfer pricing mechanisms. Transfer pricing serves the dual purpose of guiding intracompany transfers and providing incentives for upfront investments at the divisional level. When transfer prices are determined through negotiation, divisional managers will have insufficient investment incentives due to “hold-up” problems. While cost-based transfer pricing can avoid such “hold-ups”, it does suffer from distortions in intracompany transfers. Our analysis shows that negotiation frequently performs better than a cost-based pricing system, though we identify circumstances under which cost-based transfer pricing emerges as the superior alternative.

Suggested Citation

  • Tim Baldenius & Stefan Reichelstein & Savita A. Sahay, 1999. "Negotiated versus Cost-Based Transfer Pricing," Review of Accounting Studies, Springer, vol. 4(2), pages 67-91, June.
    • Handle: RePEc:spr:reaccs:v:4:y:1999:i:2:d:10.1023_a:1009638001487
    DOI: 10.1023/A:1009638001487
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    References listed on IDEAS

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    1. Tai-Yeong Chung, 1991. "Incomplete Contracts, Specific Investments, and Risk Sharing," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 58(5), pages 1031-1042.
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    Citations

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    Cited by:

    1. Thomas Pfeiffer & Ulf Schiller & Joachim Wagner, 2011. "Cost-based transfer pricing," Review of Accounting Studies, Springer, vol. 16(2), pages 219-246, June.
    2. Stefan Wielenberg, 2000. "Negotiated Transfer Pricing, Specific Investment, and Optimal Capacity Choice," Review of Accounting Studies, Springer, vol. 5(3), pages 197-216, September.
    3. Greil, Stefan & Schwarz, Christian & Stein, Stefan, "undated". "Fairness and the Arm’s Length Principle in a Digital Economy [Fairness und der Fremdvergleichsgrundsatz in der digitalen Ökonomie]," Duesseldorf Working Papers in Applied Management and Economics 42, Duesseldorf University of Applied Sciences.
    4. Sunil Dutta & Stefan Reichelstein, 2010. "Decentralized capacity management and internal pricing," Review of Accounting Studies, Springer, vol. 15(3), pages 442-478, September.
    5. Tim Baldenius, 2006. "Discussion of “Divisional performance measurement and transfer pricing for intangible assets”," Review of Accounting Studies, Springer, vol. 11(2), pages 367-376, September.
    6. Tim Baldenius, 2000. "Intrafirm Trade, Bargaining Power, and Specific Investments," Review of Accounting Studies, Springer, vol. 5(1), pages 27-56, March.
    7. Nicole Bastian Johnson, 2006. "Divisional performance measurement and transfer pricing for intangible assets," Review of Accounting Studies, Springer, vol. 11(2), pages 339-365, September.
    8. Jan Thomas Martini, 2015. "The optimal focus of transfer prices: pre-tax profitability versus tax minimization," Review of Accounting Studies, Springer, vol. 20(2), pages 866-898, June.
    9. Robert F. Göx, 2010. "Discussion of “decentralized capacity management and internal pricing”," Review of Accounting Studies, Springer, vol. 15(3), pages 479-502, September.
    10. Cecchini, Mark & Leitch, Robert & Strobel, Caroline, 2013. "Multinational transfer pricing: A transaction cost and resource based view," Journal of Accounting Literature, Elsevier, vol. 31(1), pages 31-48.

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