Divisional performance measurement and transfer pricing for intangible assets

Abstract

This paper examines the effectiveness of three transfer pricing methodologies for an intangible asset that is developed through bilateral, sequential investment. In general, a royalty-based transfer price that can be renegotiated provides better investment incentives than either a non-negotiable royalty-based transfer price or a purely negotiated transfer price, and in some cases induces first-best investment. This result contrasts with previous research that finds that the inability to limit renegotiation of initial contracts reduces investment efficiency. Further, I examine how tax transfer pricing rules inform optimal internal transfer prices when the firm decouples internal and external transfer prices.

Negotiating transfer pricing using the Nash bargaining solution

“…Haake and Martini (2013) analyzed two transfer-pricing schemes and their corresponding bargaining problems (Nash, 1950;Kalai and Smorodinsky, 1975) restricted to two divisions. In general, cooperative and noncooperative game theory solutions focusing on negotiations have been presented in the literature (Baldenius et al, 1999;Chwolka et al, 2010;Johnson, 2006;Wielenberg, 2000).…”

International Transfer Pricing for Goods and Intangible Asset Licenses in a Decentralized Multinational Corporation: Review and Extensions

“…A licensing strategy provides the greatest opportunity for an MNC to shift profits because, when several companies within a controlled group legally own separate intangibles (or separate baskets or blocks of intangibles), "exploitation within the group is by way of a myriad of cross-licenses between operating companies" (Adams and Godshaw 2002, p. 77) The number and total (dollar) value of cross-17 An earlier version, Johnson (2005), appears at http://www0.gsb.columbia.edu/rast/Bastian.pdf. 18 In related work, Kopits (1976) estimates the loss in tax revenues generated by abusive transfer pricing practices with respect to intra-firm royalties and license fees by U.S. firms operating, through direct investment, in several industrialized and less developed host countries using 1968 data.…”

“…With intra-firm goods or service trade, equals the price-per-unit of the intra-firm good or service, Johnson (2006) calls this a "hold-up" problem. We argue, however, that a significant hold-up problem may not exist with intra-firm licensing.…”

“…25 Johnson (2006) assumes the intra-firm intangible transfer reassigns ownership, as indicated by various references to the seller and buyer (rather than to a licensor and licensee) and to the initial and final owner. A "royalty" is paid for the right to use another's intangible asset as part of a license contract, while a purchase price is paid for the sale of an intangible asset.…”

The Value of Negotiating Cost-Based Transfer Prices

“…Only a few other papers have incorporated cooperative --instead of egoistic --investments into transfer-pricing settings. Our investment setting is similar to Johnson (2006) or Chwolka and Simons (2003). In contrast to their approaches, we concentrate on transfer prices instead of sharing rules and incorporate negotiations.…”