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S . Tam er Cavusgil Pricing for GlobalMarkets

Pricing is com plex an d generally su bjective in do-m estic business. It is even m ore d ifficult in international business, with multiple currencies, tradebarriers, additional cost considerations, and longerdistribu tion chann els. Based on a review of corpo-rate best practices, th is art icle proposes a set of d e-cision rules and processes for international pricesetting. Specific topics for discussion include: keyconsiderations in international pricing; the locationof pricing responsibility in the m ult ina tional corporation; approaches to price setting; and transferpricing practices.

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strategy in unforeseen ways whenprice variations among different mar-kets lead to gray-market imports (Ca-vusgil and Sikora 1988). Finally,prices are one of the most flexible ele-ments of the marketing mix, becausethey can usually be changed rela-tively quickly.

Consequently, MNCs take greattime and care in establishing pricingpolicies and setting prices for interna-tional customers. In addition to thebasic factors of production cost, de-mand and competition that must beconsidered, pricing decisions for theglobal market must take into accountvariables such as exchange rate fluc-tuations and duties as well as exter-nal costs, e.g. documentation, freightand insurance.

Within the large constellation offactors that influence pricing for in-ternational markets, the five dis-cussed below stand out as mostimportant.1 Nature of Product or industryA specialized product, or one with atechnological edge, gives a companyprice flexibility. In many marketsthere is no local production of theitem, government-imposed importbarriers are minimal, and importingfirms all face similar price escalationfactors. Under such circumstances,producers are able to remain competi-tive with little adjustment in pricestrategy.

A relatively low level of price com-petition usually leads to administeredprices and a static role for pricing inthe marketing mix. In such instancesa skimming price strategy is oftenused. Eventually, however, as pricecompetition develops and technologi-cal advantages shrink, specializedand highly technical firms must make

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more and more market-based excep-tions to their previousiy uniform pric-ing strategies.

Pricing strategies are also influ-enced by industry-specific factors,such as fluctuations in the price andavailability of raw materials. In orderto reduce uncertainty, a growing prac-tice of companies is to negotiatefixed-price agreements with suppliersbefore making their own bids for ma-jor contracts.

Another problem for corporationsin some industries is predatory pric-ing by particularly aggressive com-petitors. Recently, that strategy hasbeen pursued mainly by market-share-hungry new players, most nota-bly those from just recentlyindustrialized countries (NICs) inAsia.2 Location of Production FacilityDespite the proliferation of foreign-owned manufacturing facilitiesaround the world, many companiesonly participation in the global mar-ket is by exporting products theymake in their home countries. Theusual reason is that the volume oftheir sales abroad is simply not largeenough to justify foreign sourcingand manufacturing.

When production is kept at home,a company is tied to conditions pre-vailing in that market, a circum-stance that reduces its pricingflexibility in its export markets. Eco-nomic and political developments athome-and even natural disasters-can force export prices up at a timewhen local producers in the overseasmarket or exporters from third coun-tries are not similarly affected andcan keep prices low.

One example might be a trade em-bargo observed by only a few govern-

ments. Because of the boycott, thesupply of certain needed raw materals would be reduced, driving up tcost of making some products. Copetitive products made in nonboysotting countries would obviously enja clear price advantage in export mkets.

In contrast, companies that manfacture abroad often enjoy greaterpricing flexibility both in the coun-tries in which they are located and export markets. In addition to beinbetter able to calibrate production local demand and competitive condtions, those MNCs find it easier tospond to foreign exchangefluctuations. Mazda paid a heftyprice for not building production cpacity outside of Japan. As the Japanese yen appreciared significantly the mid-90s against the U.S. dollarand most other currencies, Mazdasexports of vehicles from Japan be-came prohibitively expensive.Mazdas only assembly plant outsidof Japan, the Flat Rock, Michigan, cility never became a big factor. Afregistering big losses for severalyears, Mazdas chief creditor, Sumi-tomo Bank, finally asked Ford totake a controlling interest in Mazdaand appointed a Ford executive as new president (Reitman, 1996).

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3 Distribution SystemThe channels of distribution a com-pany uses dictate much in interna-tional pricing, particularly exportpricing. When a company is able todistribute its products through itsown overseas subsidiaries, it hasgreater control over final prices, in-cluding the ability to adjust pricesrapidly, as well as firsthand knowl-edge of market conditions.

An exporter working with inde-pendent distributors, however, usu-ally finds that it can control only thelanded price (the exporters price tothe distributor). As one might expect,many exporters are concerned aboutthe difficulty of maintaining price lev-els. Some firms report that distribu-tors mark up prices substantially-upto 200 percent in some countries. Useof manufacturers representativesgives a company greater price con-trol, but this method is used less fre-quently by U.S. companies, whichusually require a full-service inter-mediary in the export market.

Direct selling to end users is neces-sary in many industries, especiallythose involving large systems or tech-nical equipment. In the case of salesto government agencies, a protractedbidding process and negotiations pre-clude the use of list or other standardprices. Firms often attempt to estab-lish more direct channels of distribu-tion for reaching their customers inoverseas markets. Indeed, that issometimes a motivation for estab-lishing a company-owned subsidiary.By reducing the number of intermedi-aries between the manufacturer andthe customer, the adverse effects ofsuccessive markups can be avoided.

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4 Location and Environment of theForeign MarketPricing is affected by factors not al-ways immediately perceived as pricerelated. For instance, climatic condi-tions in foreign markets may necessi-tate costly product or distributionmodifications, and prices must be ad-justed to cover those extra or specialexpenses. A maker of soft drinkequipment must treat its machines in-tended for tropical markets to pre-vent rust corrosion, while anagribusiness must take into accountclimate, soil conditions, and the coun-

trys infrastructure before makingany bid.5 foreign Currency DifferentialsEconomic factors, such as inflation,exchange rate fluctuations and pricecontrols, may hinder market entryand effectiveness. These factors, especially the value of the U.S. dollar inforeign markets, are a major concernto most firms. The dollars unusualstrength in the first half of the 198Osin fact, led a number of companies introduce compensating adjustmentsas part of their pricing strategies. Incontrast, during the first half of the

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199Os,U.S. exporters enjoyed amuch weaker currency, boostingtheir sales in international markets.

Since currency fluctuations are cy-clical, exporting companies that findthemselves blessed with a price ad-vantage when their currency is under-valued must carry an extra burdenwhen their currency is overvalued.Companies committed to serving in-ternational markets must be creative,pursuing different pricing strategiesduring different periods. Appropriatestrategies practiced by a broad cross-section of MNCs are presented in Ex-hibit I.The Locus of Pr ic ing Decis ions inMNCSCentralized PricingInternational pricing decisions arecentralized in most global compa-nies. There are several reasons forthat:

1 Increasing globalization of mar-kets requires greater uniformity ofprices across markets. The existenceof differing prices from country tocountry often leads to gray-marketimports, i.e. the sourcing of a prod-uct from low-price countries by un-authorized intermediaries for sale inhigh-price countries. This results inthe creation of a distribution channelparallel to authorized channels butnot under the control of the manufac-turer in any way.

2 Global companies encounterthe same competitors in many mar-kets, requiring globally coordinatedcompetitive strategies. A fragmentedstrategy often leads to suboptimal re-sults.

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3 At some companies, pricing isclosely related to production-volumeplanning. Since volume planning isusually done at the corporate level, itrequires centrally directed prices.

4 Typically, the parent companywants to forecast its annual revenuesworldwide. Therefore, it must beable to estimate the sales of all its op-erations, including its overseas sub-sidiaries. This often dictates settingprices centrally or, at least, imposingsome guidelines for the prices to beset by subsidiaries.

5 Many corporations seek tightcontrol over pricing of their globalbrands, that is, those aimed at a ho-mogeneous market segment in manycountries and positioned similarlyfrom one market to another. To cre-ate a uniform image across nationalboundaries, not only the product,but the price, must be consistent. Theprice is normally set by corporateheadquarters relative to the prices ofcompeting local products in eachmarket. The policy might state, forexample, that the brand must alwaysbe premium priced relative to localproducts and that premium is de-fined as, say, 20% above the price ofthe most expensive locally produceditem. Such a policy limits local auton-omy in setting prices. An example ofa global brand priced in this manneris Grand Metropolitans Smirnoffvodka. Gillette is another companythat seeks a global brand image forits products.

Also important to a companyspricing policies and practices is theproximity of its overseas markets toone another. When markets are closegeographically, a country subsidiarycannot set prices for its own market

in isolation. No subsidiary can marup the price to the point at which ctomers will seek to import the prod-uct rather than buy locally.Centralized pricing management bythe parent company or a regional ofice is often the only way to preventsubsidiaries from undermining oneanothers pricing programs.

Decentralized Pricing

Although global companies generallymaintain centralized control over lcal prices, they do allow subsidiariesto alter prices when warranted by cal conditions. In some situations,subsidiaries may, in fact, receive coplete pricing autonomy because ofcompetitive considerations.

Headquarters executives cite thefollowing reasons for giving subsidi-aries or distributors leeway to set lcal prices:. Timing. There may be a need foa quick response to price changesmade by competitors.. Relative market share. if thebrand is one of many in a local market, the subsidiary will be forced tofollow the prices set by the marketleaders. Conversely, market leader-ship allows greater pricing freedom.l End-user characteristics. If rhe lcal market is relatively poor, withmost consumers at lower income leels, the local subsidiary may have tdeviate from centrally determinedpricing guidelines.l Specific local cost factors. Value-added taxes and the cost of adaptinga product to a particular market mdemand greater price flexibility insome countries.

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*Transportation costs. These varywidely from country to country ow-ing to the nature of the distributioninfrastructure, the extent of unioniza-tion in the transport industries andthe stipulations in local distributionlaws.l Economic and financial condi-

tions. Interest rates and inflationoften cause local divisions to swayfrom corporate pricing guidelines. Lo-cal prices must reflect currency reali-ties if earnings are to be eventuallytransferred to the home country.l Capacity utilization. A subsidiary

with excess capacity in a local mar-ket may choose to lower prices toboost demand, while tight capacitymay suggest an advantage in charg-ing higher prices.

A medium-sized MNC that hasadopted a decentralized price policyis the Taiwan-based personal com-puter firm, Acer. The home office, inLungtan, consults closely with its re-gional and country offices to deter-mine market conditions andformulate general market strategyand objectives, such as targets for netrevenue, market share and thegrowth rate for gross sales. Local dis-tributors are also encouraged andgiven autonomy to devise their ownvalue-added solutions, which allowthem in some cases to sell the sameproduct for different prices, depend-ing on the nature of the total pack-age. Acers marketing and salesheadquarters in Taiwan providestechnical, logistical, promotional andfinance services. However, on the ba-sis of the above objectives as well ascost information provided by Lung-tan, local subsidiaries receive virtu-ally total autonomy in setting theirretail prices.

A Delicate Balancing ActHow do global corporations resolvethe conflicting needs for centraliza-tion and decentralization of pricingdecisions? Typically, the corporate of-fice sets policy and issues generalguidelines to which the overseas sub-sidiaries and distributors must ad-here. The guidelines are usuallywritten at the beginning of each fiscalyear-or more often, if necessary.Pricing policies reflect both the gen-eral direction prices should take dur-ing the course of the year and thecompanys underlying global strategy.For instance, an American manufac-turing companys 1996 policy is thatprices are not to rise more than onepercent over 1995 prices. The com-pany adopted this policy in an at-tempt to fend off its chief rival.

Once a broad pricing strategy isset by a companys home office, sub-sidiaries and distributors are allowedto make adjustments locally becauseof the considerations listed above. Insome companies, the degree of pric-ing flexibility given to the subsidiaryis defined precisely. For example,headquarters may allow local pricesto deviate S-15% from the centrallyestablished prices.

In practice, pricing freedom istransferred to local subsidiaries fromheadquarters through three mainmechanisms:l A system of discounts on sales to in-termediate customers;l Credit arrangements and terms ofsale; andl Transfer prices charged to subsidiar-ies.

Exhibit 2 outlines the process ofprice determination in Kodaks inter-

national distribution channels. Theprocess includes the setting of keyprices at various levels in the channeland the factors which must be takeninto account at each level. Mostglobal companies start out by settinga single worldwide price, sometimesreferred to as the manufacturers listprice or manufacturers transferprice. However, the effective price orthe price charged to intermediate customers (e.g., overseas distributors, osubsidiary) is determined by a dis-count system. The discount rate var-ies for different customers andterritories on the basis of competitiveconsiderations, exchange rates, land-ing costs etc. The discount structure,which is reviewed frequently, thus becomes a vehicle for transferringgreater pricing autonomy to subsidi-aries and intermediate customers.The company as a whole benefits asa result of a pricing system that is responsive to local needs. Similarly,credit terms and other variable condi-tions of sale have a direct impact onthe final cost to subsidiaries and intemediate customers.

Finally, transfer prices charged tosubsidiaries can also be adjusted toincrease the subsidiaries pricing flexi-bility. Transfer pricing practices arediscussed later in this article.Approaches to Pr ice Set t ingClearly, there is no single approachto international pricing that is bestfor every company and every situ-ation. Exhibit 3 presents one ap-proach to setting prices forinternational customers. A sequenceof key tasks are identified. What isimportant for the manufacturer to remember is that suitability of theprices must be examined at severallevels in the international distribu-

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tion channel-the importer, wholesal- product to market plus a corporateers, retailers, and so on. At most com- markup. Costs typically includepanies a products price starts with a R&D, raw materials, processing,floor price, which is the lowest transportation, distribution, market-possible price at which the product ing and administrative overhead.may be retailed or wholesaled (de- Arriving at the correct floor pricepending on rhe nature of the com- is not as easy as it seems. As the fol-pany). The floor price is derived lowing examples suggest, the processfrom the total cost of bringing the is complicated because of differences

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in cost accounting practices, com-parry policies (such as whether or nto factor in domestic overhead),global manufacturing and sourcingfactors, and so on.l Seiko Epson, the Japanese com-puter peripherals manufacturer, setsfloor prices at headquarters after cosidering costs, recommendations

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Options in Expor t Pr ic ingCompanies have three basic optionsin setting prices on exports (Cavusgil1988):

1 Rigid cost-plus pricing. Thecomplexity of export pricing hascaused many managers to cling COrigid cost-plus pricing, a formufa thatensures margins but may push the fi-nal price so high that the companybecomes uncompetitive in major mar-kets. The foreign list price is set byadding international customer costsand a gross margin to domesticmatlufacturing costs. The final priceto the foreign customer includes ad-ministrative and R&D overheadcosts, transportation, insurance,packaging, marketing, documenta-tion and customs charges as well asprofit margins for both the distribu-tor and the manufacturer. Cost-pluspricing is a static element of the mar-keting mix, since it cannot bechanged to any significant extent.

2 Flexible cost-plus pricing.This strategy sets list prices in thesame way as the more rigid systembut allows for price variations in spe-cial circumstances. For example, dis-counts may be applied to the finalprice, depending on the customer, thesize of the order or the strength of lo-cal compet~tioI1. Although there ismore room to adapt export prices tolocal conditions, the primary objec-tive of this approach is still to main-tain profit margins. It, too, is thus anessentially static element of the mar-keting mix.

3 Dynamic incremental pricing.This method assumes that fixed costsare incurred regardless of the com-panys export sales performance.Therefore, it seeks to recover only

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variable and international customercosts in export prices while adding ina partial overhead factor rather thanthe full overhead load. This ap-proach enables the company to sellits exports at very competitive prices,perhaps enlarging its market share.

Most companies that use dynamicincremental pricing do so only underspecial circumstances. For example,one U.S. industrial MNC negotiatesone-shot deals with its distribu-tors, offering them low prices whenit has a sufficient quantity of theproduct, when the sales potential isgood or when competitive pressurenecessitates aggressive pricing.

In some cases, dynamic incre-mental pricing helps a company intro-duce a product to a market. Underthis strategy, also known as penetra-tion pricing, the introductory, ormarket floor, price is the lowestpossible. The objective is to gain asmuch market share as possible in theshortest time. Once the product at-tains a sufficient market share, pricestend to increase slowly.

Over the past few decades, Japa-nese and Korean MNCs in particularhave successfully used penetrationstrategies in the U.S. and other West-ern markets, often inviting dumpingcharges by local marketers. Whencarried to extremes, however, aswhen a company charges a pricelower than the cost of making theproduct or the products domesticprice, penetration pricing may runafoul of local antidumping laws, thatare in effect in many countries.

Whereas in penetration strategiesintroductory prices start low andslowly rise, in skimming a com-pany introduces the product into amarket at a relatively high price,often while limiting distribution.

This can be an effective method forlaunching innovative, high-techitems, such as advanced consumerelectronics devices or trendy prod-ucts. A certain segment of the markwill pay premium prices to be first have such things, which are usuallyintroduced amid great excitement,highly visible advertising and exten-sive media coverage. As with a penetration strategy, the price slowlycomes into line with the productsprice in other countries. Dynamic cremental pricing also implies skimming when it coincides with adominant market share position, aother companies cannot afford to nore the price leaders practices. Seeral years ago, Cummins Enginereduced its engine prices dramaticallyin Europe, the Middle East and theFar East to about 70 percent of itsprevious price. This strategy was sucessful in limiting the inroads madeby the companys Japanese competi-tion.

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Transfer Pricing PracticesOne of the thorniest problems globalcompanies grapple with when theyventure beyond their home-countryborders is transfer pricing (alsoknown as intracompany pricing).The prices at which units of the samecompany sell to each other have a far-reaching effect on the companys suc-cess because they influenceeverything from foreign subsidiaryperformance to executive compensa-tion to tax obligations. There hasnever been a single best way to settransfer prices, one that satisfies boththe parent company and its foreignaffiliates (not to mention the tax col-lectors in all countries concerned).Nor does any system meet all theneeds of production, marketing andfinance equally well.

Global companies attempt to man-age their corporate families internalprices primarily for two reasons.First, transfer pricing can become avehicle for repatriating profits fromthose countries that have remittancecontrols. In the extreme case, fundsmay be blocked by the central bank,and transfer pricing may be the onlymeans of getting earnings out of thecountry. Second, transfer pricing canbe a way to shift profits out of high-tax countries and into low-tax ones.Underlying both objectives is the de-sire to foster corporationwide effi-ciency. While individual units mayshow poor performance, the com-pany as a whole can achieve optimalresults by means of careful transferpricing. For this reason, MNCs typi-cally centralize transfer pricing underthe direction of the chief financial of-ficer.

Companies have available a num-ber of transfer pricing strategies avail-able. Products can be sold to

members of the same corporate fam-ily at cost or a variation of directcost, at market prices, at inflatedprices or at some combination ofthese. Some global corporations usedifferent transfer pricing methods fordifferent purposes, accepting the costand complexity of maintaining morethan one system. Others opt for thesimplicity of a single approach, ac-cepting the inevitable deficiencies ofwhatever system they choose. The fol-lowing are among the possible alter-natives.l Actual cost, which is sometimesviewed as the absence of a transferprice, can be used for intracompanytransactions. Manufacturing facilitiesare treated as cost centers rather thanprofit centers, an approach that re-solves many internal disputes over al-location of profits. A disadvantage ofthe method is that it leaves the costcenters with little inducement tomake investments, leading to addi-tional inefficiencies for the companyas a whole. Another problem is thattax authorities generally do not ac-cept this technique, unless some tax-able profits are allocated to thesupplying unit.l Standard cost, unlike actual cost,has the advantage of identifying effi-ciencies or inefficiencies in the supply-ing unit. It also facilitatesmanagement by exception deci-sionmaking, in which variationsfrom standard cost signal the needfor additional investigation and atten-tion by management. A major short-coming is that standard costing oftenrequires management to make arbi-trary assumptions and leaves the com-pany vulnerable to expending timeunproductively in debates on how toset the standards.

l Modified cost is useful in promot-ing achievement of strategic objec-tives. For example, actual orstandard costs are sometimes ad-justed to encourage more extensiveuse of certain products or services.Companies that expect to have un-used capacity for a time often lowertheir transfer prices in order to pro-vide incremental contributions to thcoverage of sunk costs. Among tmodifications available are variablecosts (those costs of materials, laborand overhead that vary directly withthe number of units produced), marginal costs (the costs of producingone more unit) and full absorptioncosts (costs that would not change sales to other business unitsstopped-for example the cost ofshared factory overhead).l Market price. Prevailing externalmarket prices (arms-length prices)are often viewed as the best transferpricing mechanism for external re-porting. Because this approach re-moves internal bias and facilitatesvalidation, it appeals to outside par-ties, such as tax authorities. From aperformance evaluation perspective,however, market prices may be unfabecause they give the supplying business unit the entire profit on thetransaction, including the benefit ofany cost reductions due to global efciencies. To equitably share the ad-vantage of lower costs, transferprices must be lower than marketprice.l Modified market price. Marketprices can be adjusted to reflect spe-cific characteristics of the goods orservices involved. For example, theymay be reduced to reflect lower marketing or distribution costs that oc-cur in external markets. Ordinarily,

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this will help resolve perceived inequi-ties among supplying and receivingbusiness units. However, a supplyingunit that has no excess capacity willstill feel unfairly penalized if thelower price cuts into the profits theunit would otherwise earn on exter-nal sales. In such a case, the externalprofit is a relevant opportunity costand it should be factored into thetransfer price.* Negotiated prices are determinedby bargaining between the buyingand selling units. Although some ex-ecutives may argue that this tech-nique results in an arms lengthtransaction that is just as valid as anexternal market price, its use in evalu-ating the performance of subsidiarieshas some risks. For instance, negotia-tors may fail to reach agreement,which could result in counterproduc-tive and expensive procurement ofgoods and services from outside thefirm. Another problem is that exces-sive internal competition can under-mine the achievement of congruentgoals among business units and re-sult in a serious loss of cooperation.l Contract price. A variation of thenegotiated price method is a priceagreed upon at the time the firmsbusiness plan is adopted. Such acontract price eliminates vari-ations that result from centratizedsourcing decisions beyond the con-trol of managers of foreign opera-tions. One drawback of the methodis that it does not pass on price hikesin raw materials to marketing units.As a result, it removes the marketingunits incentive to recover any infla-tionary and foreign exchange lossesthrough third party pricing.

How do global companies chooseamong these transfer pricing possibili-

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ties? Many factors are involved in de-ciding which transfer price to useand whether to use different pricesfor reporting external and internalperformance. Sometimes one issue isof overriding importance to a com-pany, clearly dictating a particularpricing system. More often, however,a companys situation is mixed, mak-ing the choice highly complex andprobably contentious. For most com-panies, the decision involves somecombination of the considerationsdiscussed below:l Local taxes. Perhaps the most sig-nificant concerns in setting transferprices are the local tax rate and perti-nent tax regulations. The use of trans-fer pricing to shift profits into localjurisdictions that have relativelylower corporate tax rates normallyresults in lower overall income taxes.However, high prices for capital as-sets increase the depreciation allow-ances for the business units thatreceive them. This lowers overalltaxes when the assets are transferredfrom lower- to higher-rate jurisdic-tions.

An effective transfer pricing sys-tem should deal with changes in im-port-export duties, income taxes,excise taxes, etc., in a way that mini-mizes these taxes overall.

Generally, lower transfer pricesmean lower levies; prices in excess ofcertain thresholds may result inhigher import duties, especially ifthey are assessed on an ad valorembasis. Similarly, keeping transferprices low can reduce local value-added taxes. VATS are based on thevalue added within the taxing juris-diction and are factored into theprice at the next sales level.

l Currency fluctuations. Transferprices can be adjusted so as to bal-ance the effect of fluctuating currencies when one subsidiary operates an environment of low-level inflatioand another in a climate of rampantinflation.0 Subsidiary profits. Still another of rransfer pricing is to manipulatethe profit position of a subsidiary.For example, startups often requiresubstantial corporate assistance,which can be provided in the form lower purchase prices from or highsales prices to other company units.In this way, a market niche can becarved out more quickly for thestartup and its long-term survivalguaranteed.l Expense accounting. Transferprices can also be used to advantagewhen the host government poses restrictions on allowable deductionsfor expenses. Sometimes certain serices, such as product development strategic planning assistance, are pvided to the subsidiary but cannot charged because of restrictions. Inthat case, costs for those services cabe recouped by increasing the trans-fer prices of components sold to theunits.l Joint venture support. Similarly,transfer pricing can help recoup ex-penses from a joint venture, espe-cially if there are restrictions onrepatriation of profits. Lowering thprices of products and services to aparent reduces the outflow of fundsfrom the home country, while raisinthe prices of purchases from the paent shifts funds to the home country.When government imposes localprice controls, transfer pricing prac-tices may again help. Higher transferprices on exports of intermediate

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goods from a parent to a subsidiaryin such a market may help supportthe case for an increase in the priceof the final product.l Output capacity. Subsidiaries withsubstantial excess production capac-ity can set transfer prices low enoughto encourage additional internal con-sumption but high enough to coverthe supplying units variable costs.

Exhibit 4 illustrates graphicallythe dynamics of transfer pricingamong the members of the corporate

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family. In this illustration, SubsidiaryA is considered a favored subsidi-ary since it is allowed to source at alow cost and sell at a high pricewhen transacting with other subsidi-aries. The corporate reasons for thisare also outlined.

As implied by the above discus-sion, the ability to control internalprices charged to subsidiaries affordsthe global corporation significantflexibility and overall efficiency. Nev-ertheless, these benefits often come ata cost. First, there is the complication

of internal control measures. Manipulating transfer prices makes it verydifficult to determine the true profitcontribution of a subsidiary. Secondmorale problems typically surface aa subsidiary whose profit perform-ance has been made worse artifi-cially. Third, because of culturaldifferences, some subsidiary managements may react negatively to pricemanipulation. Fourth, there is theconcern over local regulations. Sub-sidiaries, as local businesses, mustabide by the rules. Legal problemswill arise if the subsidiary follows acounting standards that are not ap-proved by the host government.Indeed, in many countries, transferpricing practices are often subject toclose review by local authorities.ConclusionUndoubtedly, pricing will continue gain significance for global compa-nies over the next decade. With intesified competition andinterdependence of markets, globalmanagers will find management ofprices even more challenging. Thechallenges will involve attainment obetter coordination of worldwideprices by corporate headquarters,achievement of the delicate balancebetween corporate and local controlof prices, quicker response to marketplace changes, avoidance of gray-market or parallel-importing activityand development of alternatives tooften costly price competition.

These challenges imply new or improved practices on the part ofglobal companies. For example, an ficient, smooth and rapid system ofcommunication with subsidiary managers or distributors is essential.Those companies that operate in socalled global industries, such as tele-

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communications, construction equip-ment, or medical equipment, need todevise efficient mechanisms for moni-toring competition worldwide anddisseminating relevant informationto the members of the corporate fam-ily in a timely manner.

Pricing globally also remains anorganizational challenge. Increas-ingly, it is an area in which inputfrom different functional divisionsand regions allows for better deci-sionmaking. Nevertheless, many com-panies make critical pricing decisionswithout the necessary consultationwith all units concerned.

Pricing executives will also haveto develop a better appreciation ofthe intimate relationships betweenprice and other elements of the mar-keting mix. Pricing decisions cannotbe reached in isolation from other di-mensions of the offer, such as prod-uct quality, after-sale service,follow-up sales opportunities, creditterms and so on. Price representsonly one item in the bundle of bene-fits perceived by the customer. Inter-preting customers perception ofproduct value continues to be a for-midable but necessary task. Pricingdecisions that are based on a good

understanding of perceived value-from the perspective of both the inmediaries and the finalcustomers-are more likely to be cessful.Acknowledgment: This article isbased partially on the authors earw ork w hich appeared in a corporareport, Marketing Strat egies forGlobal Growth and Competitiue-ness, New York, NY: Business lnt enat ional Corporatio n, 1990, .C7-7

Cavusg~l, S. Tamer (1988). Unravelq the Mys-rque of Export Pncmg, Rus~ness Horizons 31,No. 3 (May-June 1988):54-63.

Cavusgd, S. Tamer and Ed Sikora (1988). HowMultrnat~onals Can Counter Gray Marker Im-ports, Colrrmbiir]ournizl of World Business 2.3,No. 4 (Xinrer 1988), 75-86.

Reirman, Valene (1996). Japan is Aghast as Feigner Takes the Wheel at Mazda, Wtz// Street_/OWMU[,1.5 Apnl.

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