Transfer pricing within an organizational context: An expansion of the theory and an experiment in bilateral negotiation

This study develops a comprehensive organizational theory of transfer pricing by expanding the existing theories of transfer pricing to include additional aspects of the environmental, organizational, and behavioral factors from the markets and hierarchies theory and other organizational theories. The impact of three of these factors is then studied within the context of a bilateral negotiated transfer pricing experiment with students as surrogates for divisional managers.;The three independent variables studied in this experiment are: (1) the degree of market uncertainty, (2) the performance evaluation basis, and (3) the previous negotiation history. The outcomes of the transfer pricing process include: (1) the decision to buy the product externally or make the product internally, (2) the negotiated transfer price for an internal transfer and the resulting profit allocation between the divisions, and (3) the post-negotiation attitudes of the negotiators. Since no participants chose an external transaction, the make-or-buy decision could not be tested. The profit allocation was tested with an ANOVA model and the attitudes were tested with both MANOVA and ANOVA.;Consistent with theory and prior research, the results of this study indicate a greater divergence in the profit allocation between the divisions and more negative attitudes between the negotiators with high market uncertainty than with low market uncertainty. In conditions of low market uncertainty, greater divergence was found in the profit allocation between the divisions with a divisional performance evaluation basis than with a mixed scheme based on both divisional and corporate results. Contrary to the hypotheses, divisional performance evaluation resulted in more positive post-negotiation attitudes. Gender was a significant covariate in the analysis of the negotiators' attitudes toward opportunity for success. Female participants reported more positive responses (i.e., more equal opportunity for success in the negotiation) than male participants. The previous negotiation history was not a significant variable in the analysis of the profit allocation or the post-negotiation attitudes, except for conflict. As hypothesized, more conflict was reported with a negative negotiation history.;An increased understanding of the transfer pricing negotiation may enhance managerial decision-making, performance evaluation, job satisfaction, cooperation between divisions, and corporate profit.