Nicole Bastian Johnson

An Evaluation of Alternative Market-Based Transfer Prices: Alternative Market-Based Transfer Prices

We investigate a transfer pricing problem between two divisions within a decentralized firm. An upstream division produces an intermediate good that is transferred to another division within the firm and is also sold in an external market, where the firm competes with a rival who sells a differentiated substitute product. Assuming that headquarters has imperfect information about the upstream divisions marginal production costs, we identify conditions under which a market-based transfer price based on the rivals external market price is a viable alternative to a market-based transfer price based on the upstream divisions external market price. The two transfer prices differ in their ability to convey private-cost information and in their effect on the upstream divisions competitive behavior in the intermediate market. We find that the relative performance of the two transfer pricing regimes depends on the relative levels of internal and external demand for the intermediate product, on the intensity of competition with the rival in the intermediate market, and on the degree of uncertainty about the upstream divisions costs. We also extend our main analysis by relaxing our assumptions about information and intermediate market competition and by allowing specific investments. Overall, our analysis provides new insight into how alternative market-based transfer prices can be used to coordinate decentralized decision-making in the absence of a perfectly competitive intermediate market.

Two-Stage Capital Budgeting, Capital Charge Rates, and Resource Constraints

This paper investigates a class of two-stage, multi-division capital budgeting mechanisms that coordinate the allocation of scarce resources among divisions using capital charge rates. The optimal capital charge rates that arise in our two-stage setting can be quite different than those that arise in a single-stage setting. If the firm faces a resource constraint at only the second stage, the second-stage capital charge rate can be higher when the constraint is less severe because it can be optimal to initiate more projects at the first stage when more second-stage resources are available. The first-stage capital charge rate, however, is always equal to the firms cost of capital. If resources are constrained at both stages, a decrease in the severity of the constraint at just one stage will decrease the capital charge rate at that stage but will increase the capital charge rate at the other stage because each constraint affects the intensity of competition at both stages. This result holds whether the scarce resources are different in nature or identical and fungible across the two investment stages. Finally, we study the influence of divisional agency conflicts on investment decisions when the firm faces a second-stage resource constraint. We show that standard resource rationing results do not necessarily apply in a two-stage setting because more severe divisional agency conflicts can increase the number of projects initiated at the first stage above the first-best level. The first-stage capital charge rate, however, remains equal to the firms cost of capital even though agency conflicts influence the first-stage project decisions.We study two-stage, multi-division budgeting mechanisms that allocate scarce resources among divisions using capital charge rates. Each divisional manager observes private sequential project information and competes for scarce resources over two stages. The optimal capital charge rates in our two-stage setting can be quite different from those that arise in a single-stage setting. If the firm faces a resource constraint at only the second stage, a less severe constraint can imply more first-stage project initiation, which can lead to higher second-stage capital charge rates. If resources are constrained at both stages, a decrease in the severity of the constraint at just one stage decreases the capital charge rate at that stage but increases the capital charge rate at the other stage because each constraint affects the intensity of competition at both stages. This result holds regardless of whether the scarce resources are fungible or non-fungible across stages.

An Evaluation of Alternative Market-Based Transfer Prices

We investigate a transfer pricing problem between two divisions within a decentralized firm. An upstream division produces an intermediate good that is used by another division within the firm and is also sold in an external market, where the firm competes with a rival selling a differentiated substitute product. Assuming that headquarters has imperfect information about the upstream divisions private information and that communication is restricted, we identify conditions under which the firm will prefer a market-based transfer price based on the market price set by the firms rival rather than on the market price set by the upstream division. The two transfer prices affect the price-setting incentives of the upstream division and its rival differently, and convey different levels of private-cost information to the downstream division, which impacts internal trade efficiency. The relative performance of the two transfer pricing regimes depends on the relative size of internal versus external demand for the upstream divisions good and on the degree of uncertainty about the upstream divisions costs. Overall, our analysis provides new insights about how alternative market-based transfer prices can coordinate decentralized decision-making in the absence of a perfectly competitive intermediate market.

Discussion of 'Specific Investment and Negotiated Transfer Pricing in an International Transfer Pricing Model'

Discussion of the paper “Specific Investment and Negotiated Transfer Pricing in an International Transfer Pricing Model” by Oliver M. Durr and Robert F. Gox. (see also: http://ssrn.com/abstract=2340435). In this paper Durr and Gox study a multinational firm with manufacturing and retail divisions in different tax jurisdictions. The authors’ goal is to understand how trade and investment decisions are affected when the firm restricts itself to using the same transferpricing system for internal performance evaluation and external taxation. This topic is both important and timely, because transfer pricing is one of the most important tax issues faced by multinational firms.

Native Village of Kivalina v. ExxonMobil Corp: Say Goodbye to Federal Public Nuisance Claims for Greenhouse Gas Emissions

The Native Village of Kivalina is located in a remote part of Alaska.1 Through sea level rise and the increase of coastal erosion, this area has been greatly affected by global climate change.2 The sea ice that once protected the village’s land has been worn down, and storms that once hit the ice now devastate the area.3 Seeking monetary damages for the destruction caused by flooding, the Kivalina tribe brought a public nuisance claim against a total of twenty-two utilities, energy producers, and oil companies, together and individually (“Energy Producers”).4 Kivalina argued that the greenhouse gas (GHG) emissions from the Energy Producers were contributing to climate change and therefore constituted “a substantial and unreasonable interference with public rights, including the rights to use and enjoy public and private property in Kivalina.”5 The Ninth Circuit, however, did not reach the merits of the claim, as it concluded that the Clean Air Act (CAA) displaced the federal common law of public nuisance.6 The CAA, enforced by the Environmental Protection Agency (EPA), regulates air emissions from point source pollutants and covers the scope of this issue. Therefore, because Congress delegated the duty to regulate air emissions to the EPA, the EPA has the power to decide cases regarding emissions. Federal common law claims of public nuisance regarding the effects of airborne pollution emissions are no longer viable, a ruling that leaves plaintiffs such as Kivalina with what seems like no judicial avenue to seek relief.