Transfer Pricing
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Control w it h fairness in transfer pricing
A transfer price is useless unless unit managers feel they are being treated fairly while top management retains control
Robert G. Eccles
It seems straightforward on the face of it: when a unit in a company sells a product to another unit, it ought to charge a fair price. That price may be based on what it cost to make the product, or on the market price of the product, or on some combination of these two. But as most managers involved in setting the transfer price know, it is hard to define a price that both buyer and seller see as fair.
After studying numbers of companies and their transfer pricing policies, the author of this article concluded that what makes a transfer pricing policy work is an effective management process whereby top management monitors the interaction between the units and alters the transfer pricing policy to reflect changes in strategy. This holds true in vertically integrated companies where cooperation and mutuality are emphasized as well as in diversified companies, where each manager is out to increase his or her ovm profits.
Mr. Ecclesis an assistant professor of hoth business policy and organizational behavior at the Harvard Business School. This article is based on four years of research, the results of which will be published in a forthcoming book.
Imagine the following conversation in a company president 's office. He is talking with the general manager of a division selling products internally
(seller), the general manager of a division buying these products (buyer), and a professor who has read everything that has ever been written about transfer pricing. President: I wish somebody could tell me once and for all how we should do our transfer pricing. All the methods we 've tried have problems, and often both the buyer and the seller claim they 're being treated unfairly.
Professor: The answer is really very simple. When the
Control w it h fairness in transfer pricing
A transfer price is useless unless unit managers feel they are being treated fairly while top management retains control
Robert G. Eccles
It seems straightforward on the face of it: when a unit in a company sells a product to another unit, it ought to charge a fair price. That price may be based on what it cost to make the product, or on the market price of the product, or on some combination of these two. But as most managers involved in setting the transfer price know, it is hard to define a price that both buyer and seller see as fair.
After studying numbers of companies and their transfer pricing policies, the author of this article concluded that what makes a transfer pricing policy work is an effective management process whereby top management monitors the interaction between the units and alters the transfer pricing policy to reflect changes in strategy. This holds true in vertically integrated companies where cooperation and mutuality are emphasized as well as in diversified companies, where each manager is out to increase his or her ovm profits.
Mr. Ecclesis an assistant professor of hoth business policy and organizational behavior at the Harvard Business School. This article is based on four years of research, the results of which will be published in a forthcoming book.
Imagine the following conversation in a company president 's office. He is talking with the general manager of a division selling products internally
(seller), the general manager of a division buying these products (buyer), and a professor who has read everything that has ever been written about transfer pricing. President: I wish somebody could tell me once and for all how we should do our transfer pricing. All the methods we 've tried have problems, and often both the buyer and the seller claim they 're being treated unfairly.
Professor: The answer is really very simple. When the
References: (Homewood. 111.: Dow lones-lrwm, 19791; (New York: I 'raeRer, 19791; and Financial Execntives Research Foundation, 1968|. Richard D,lrwin, 1980). Harvard Business School, 1974|, 5 Although in theory (New York; McGraw-Hill, 1965}. Harvard Business School, 1970], 8 For further discussion of