Negotiating Transfer Prices

Abstract

We consider a team-investment setting in which transfer prices between two divisions are negotiable. Investments are made independently and simultaneously after the bargaining stage, i.e. with a given transfer price `on the table'. Both divisions' investments jointly affect the sales price of the final product and hence total revenue. The bargaining problem over transfer prices is shaped by equilibrium profits in these investment games. We analyze two transfer-pricing schemes and their corresponding bargaining problems, which exhibit non-transferability of utility. In particular, we discuss how concepts from bargaining theory are used to find a `fair' agreement on the transfer price as well as on the transfer-pricing scheme. It is also demonstrated how additional lump-sum payments among the divisions change the bargaining problems and may solve well-known problems of inefficiency.