Global pricing concepts

1. C O U R S E I N S T R U C T O R : S N E H A S H A R M A
Global Pricing- A Few More
Concepts

2. L A R G E M N C ’ S
H A V E A N E T W O R K O F S U B S I D I A R I E S S P R E A D A C R O S S
T H E G L O B E .
S A L E S T R A N S A C T I O N S B E T W E E N R E L A T E D E N T I T I E S O F T H E
S A M E C O M P A N Y C A N B E Q U I T E S U B S T A N T I A L , I N V O L V I N G
T R A D E O F
- R A W M A T E R I A L S , C O M P O N E N T S , F I N I S H E D
G O O D S , O R S E R V I C E S .
TRANSFER PRICES ARE PRICES CHARGED FOR
SUCH TRANSACTIONS .
Transfer Pricing

3. An Example
 If a U.S.-based pharmaceutical company
manufactures a drug in a factory that it operates
in Ireland and transfers the drug to the U.S. for
sale, a high transfer price increases divisional
income to the Irish division of the company, and
hence, increases the company’s tax liability
in Ireland.
 At the same time, the high transfer price increases the cost
of product to the U.S. marketing
division, lowers U.S. income, and lowers U.S. taxes.

4. An Example
 The company’s incentives with regard to the transfer
price depend on whether the marginal tax rate is
higher in the U.S. or in Ireland.
 If the marginal tax rate is higher in the U.S., the company
prefers a high transfer price, whereas
 if the marginal tax rate is higher in Ireland, the company
prefers a low transfer price.
 The situation reverses if the drug is manufactured in
the U.S. and sold in Ireland. The general rule is that
the company wants to shift income from the high tax
jurisdiction to the low tax jurisdiction.

5. Factors affecting transfer price decisions
 Market conditions in foreign country
 Competition in foreign country
 Reasonable profit for foreign affiliate
 Income Taxes
 Economic Conditions in the foreign country
 Import Restrictions
 Custom duties
 Price Controls
 Taxation in the foreign country
 Exchange Control

6. Market-based transfer price
Cost-based transfer price
Negotiated transfer price
Transfer Pricing Options

7. Transfer Pricing Options
 Market-based transfer price:
In the presence of competitive and stable external
markets for the transferred product, many firms use
the external market price as the transfer price.
 ARM’S LENGTH PRICES
 Negotiated transfer price:
Senior management does not specify the transfer price.
Rather, divisional managers negotiate a mutually-
agreeable price.

8. Transfer Pricing Options
Cost-based transfer price:
The transfer price is based on the production
cost of the upstream division. A cost-based
transfer price requires that the following
criteria be specified:
Actual cost or budgeted (standard) cost.
Full cost or variable cost.
The amount of markup, if any, to allow the
upstream division to earn a profit on the
transferred product.

9. Cross Country Tax Rate
Differentials Encourage Many
MNC’s To Set Transfer Prices
That Shift Profits From High Tax
To Low Tax Countries To
Minimize Their Overall Tax
Burden.
INTERNATIONAL TAX
ARBITRAGE

10. A CRITERION ACCEPTED BY
TAX AUTHORITIES
WORLDWIDE AS THE
INTERNATIONAL STANDARD
FOR ASSESSING TRANSFER
PRICES
BASIC ARM’S LENGTH
STANDARD (BALS)

11. BALS
 There are three methods to calculate BALS prices:
 Comparable /uncontrollable prices
 The parent company should compare the transfer prices of its
controlled subsidiary to the selling price charged by an
independent seller to an independent buyer of similar goods or
services.
 Resale prices
 It determines BALS by subtracting the gross margin percentage
used by comparable independent buyers from the final third party
sale price.
 Cost-plus
 It fixes BALS by adding the gross profit mark up percentage
earned by comparable companies performing similar functions to
the production costs of the controlled manufacturer or seller.

12. DUMPING OCCURS WHEN IMPORTS
ARE BEING SOLD AT UNFAIR PRICES.
GLOBAL PRICING AND ANTI-
DUMPING REGULATION

13. ANTI-DUMPING
 To minimize risk exposure to anti-dumping
actions, exporters might pursue different marketing
strategies
 Trading Up: Move away form low value to huge value products
via product Differentiation
 Service Enhancement: Adding support services to the core
product
 Distribution and Communication
 Establishment of communication channel with local competitors
 Entering into cooperative agreement with them

14. C O O R D I N A T I O N B E T W E E N P R I C E S I N
D I F F E R E N T C O U N T R I E S
PRICE COORDINATION

15. Factors affecting the price coordination
 Nature of customers
 Amount of product differentiation
 Nature of channels
 Nature of competition
 Market Integration
 EU
 Internal Organization
 Decentralized /centralized companies
 Government Regulation

16. Alternatives to promote price coordination
 Economic Measures
 Rationing (Country wise)
 Centralization
 Formalization
 Formal set of price rules for country mangers to comply with
 Informal Coordination
 Best price gatherings

17. AN UMBRELLA TERM USED
TO DESCRIBE
UNCONVENTIONAL TRADE
FINANCING TRANSACTIONS
THAT INVOLVE SOME FORM
OF NON-CASH
COMPENSATION
COUNTERTRADE

19. Forms of Counter Trade
 Barter-
 direct exchange of goods or services having equivalent
values without a cash transaction.
 It is most common in deals that involve subsistence
economies. Barter is also sometimes introduced into
existing contracts to recover debt through goods when
the debtor cannot pay cash

20. Forms of Counter Trade
 Clearing Agreement
 Under this form, two governments agree to import a set specified value
of goods from one another over a given period. Each
party sets up an account that is debited whenever goods
are traded. Imbalances at the end of the contract period
are cleared through payment in hard currency or goods.
 One clearing agreement between Indonesia and Iran
specified that Indonesia would supply
paper, rubber, and galvanized sheets in exchange for
30,000 barrels per day of Iranian crude oil

21. Forms of Counter Trade
 Switch-trading
This is a variant of clearing arrangements
where a third party is involved.
In such deals, rights to the surplus credits
are sold to specialized traders (switch
traders) at a discount. The third party uses
then the credits to buy goods from the
deficit country.

22. Forms of Counter Trade
 Buyback or compensation
 involves repayment in the form of goods derived from directly
from, or produced by, the technology, plant, or equipment
provided by the seller
 A typical example of a buyback contract is an agreement that
was settled between PALMCO Holdings, Malaysia’s biggest
palmoil refiner, and Japan’s Kao Corporation.The contract set
up a $70 million joint venture to produce palm oil byproducts
in Malaysia. Kao was to be compensated by 60 percent of the
output that it could use as inputs for producing
detergents, cosmetics, and toiletries.

23. Forms of Counter Trade
 Counterpurchase
 Similar to buyback arrangements, two parallel contracts are
set up. Each party agrees to buy a specified amount of goods
from the other for hard currency over a set period. Contrary
to buybacks, the products are unrelated. Typically, the
importer will provide a shopping list from which the
exporter can choose.
 In October 1992, PepsiCo set up a joint venture in Ukraine with
three local partners. Under the agreement, the partnership was to
market ships built in Ukraine. Proceeds from the ship sales were to
be used to buy soft-drink equipment, to build bottling plants, and
to open Pizza Hut restaurants in Ukraine

24. Forms of Counter Trade
 Offsets
 Offset is a variation of counterpurchase: the seller agrees to
offset the purchase price by sourcing from the importer’s
country or transferring technology to the other party’s
country.
 There are two different types: direct and indirect offset.
 With direct offset, the supplier agrees to use materials or components
sourced from the importing country.
 Indirect offset refers to a contractual arrangement that involves goods
or services unrelated to the core goods to be exported.
• An offset contract between Indonesia and General Dynamics to buy
F-16 aircraft, stipulated that some of the parts would be supplied by
PT Nusantara, an Indonesian manufacturer.

25. Motives Behind Counter Trade
 Gain access to new or difficult markets
 Overcome exchange rate controls or lack of hard
currency
 Overcome low country creditworthiness
 Increase sales volumes
 Generate long term customer goodwill

26. Benefits of Countertrade
 Allows entry into difficult markets
 Increases company sales
 Overcomes currency controls & exchange problems
 Increases sales volume
 Overcomes credit difficulties
 Allows fuller use of capacity
 Allows disposal of declining products

27. Disadvantages of Countertrade
 No “in house” use of goods
 Time consuming and complex negotiations
 Uncertainty
 Increase costs
 Difficult to resell goods by offsets
 Brokerage costs
 Getting businesses in which firm may have no
knowledge
 Risky if commodities are involved

28. Pros and Cons of Countertrade
 Gives firms a way to finance an export deal when other
means are unavailable.
 Foreign governments may require it.
 Helps countries that don’t have sufficient foreign currency reserves.
However:
 May involve defective goods.
 Must invest in in-house trading department
 expensive and time consuming.
 Most attractive to large, diverse multinational
enterprises

29. THAT’S ALL FOR TODAY