Transcript TRANSFER PRICE

Chapter
14
Global Pricing
McGraw-Hill/Irwin
© 2006 The McGraw-Hill Companies, Inc. All rights reserved.
Outline
 Pricing Basics
 Global Pricing Issues
 Countertrade
 Pricing Strategies to Control Gray Trade
 Global Pricing Strategies
 Takeaways.
Basic Factors in Pricing
Costs
Experience Curve
Competition
Demand
Pricing Basics
 The Role of Costs
 The standard pricing procedure for exporting consists of
 A cost-plus formula
 Price escalation: The added costs in exporting mean that export
prices tend to escalate over the domestic prices.
 Experience Curve Pricing
 Use of cost-based pricing has increased due to the “experience curve”
effect
 The experience curve shows how unit costs go down as
successively more units of a product are produced
 Experience curve pricing has been adopted primarily by companies
entering an existing market in the maturity stage, because of the
need to be competitive.
The Experience Curve Effect
UNIT COST
PROFIT
MARGIN < 0
P**
PROFIT
MARGIN > 0
BREAKEVEN
TIME
ACCUMULATED
PRODUCTION = q
Pricing Basics
 Competition
 The premium price differential refers to the degree to which the firm
might be granted a higher price by the market because of the
particular strengths of its product.
 Because of competition, prices in foreign market are sometimes lower
than at home, contrary to the price escalation effect.
 Demand
 The strength of demand tends to vary with the PLC stage, the growth
stage typically showing strongest demand.
 Demand and supply: Whether or not price can be high in a strong
demand market, is also determined by the supply from competitors.
Competitive Value Pricing
SETTING A PRICE PREMIUM ON THE BASIS OF DIRECT
COMPARISONS WITH COMPETITION (Caterpillar example)
$ 20,000 IS THE COMPETITOR’S PRICE
$ 3,000 IS THE PREMIUM FOR SUPERIOR DURABILITY
$ 2,000 IS THE PREMIUM FOR SUPERIOR RELIABILITY
$ 2,000 IS THE PREMIUM FOR SUPERIOR SERVICE
$ 1,000 IS THE PREMIUM FOR LONGER WARRANTY
$28,000 IS THE TOTAL VALUE
$ 4,000 DISCOUNT
$24,000 FINAL PRICE
Global Pricing: Added to the Pricing Basics…
EXPORT PRICING
MULTINATIONAL PRICING
EXCHANGE RATES, HEDGING
CURRENCY RISK, CREDIT RISK
TRANSFER PRICE
TARIFFS, PRICE ESCALATION
COUNTERTRADE, SYSTEMS PRICING
DUMPING
PRICE COORDINATION, GRAY TRADE
SKIMMING VS. PENETRATION
PRICING
POLYCENTRIC PRICING, GEOCENTRIC
PRICING, ETHNOCENTRIC PRICING
POSITIONING PRICE,
PRICE/QUALITY
FINAL PRICE
Skimming vs Penetration Pricing
Unit
sales
Profitability
Penetration
price
Skimming
price
Time in local
market
Penetration
price
Skimming
price
Time in local
market
Re-positioning via a Price Reduction
Before Re-positioning
After Re-positioning
Economy
Economy
Brand
C
Brand
C
Brand A
(low price)
Performance
Brand
B
Brand A
(high
price)
Performance
Brand
B
This is the PREFERENCE VECTOR. This shows that the market wants high performance
AND high economy (strong quality/price ratio)
Financial Issues
EXCHANGE RATES – firms must be wary of devaluations;
exchange rate fluctuations affect the performance of local
subsidiaries
HEDGING – purchasing insurance against losses because of
currency fluctuations, firms make use of “forward contracts” or
“swaps”
GOVERNMENT INTERVENTION – various nations introduce
stabilizing measures into financial systems via selective price
controls and price discrimination laws
Transfer Pricing
TRANSFER PRICE – the price paid for products shipped between units
of the same organization when the shipment crosses national borders
so that the correct duties & related fees can be paid
Transfer prices should reflect the prices the subsidiary might
encounter in the open market, also known as “arm’s length prices”
Transfer prices are also used to shift resources within a firm to offset
inflation in country subsidiaries, to support a subsidiary’s local
competitive position, and in other cases for profit repatriation. This has
resulted in accounting firms developing strict guideline for the transfer
pricing process.
Countertrade
COUNTERTRADE – transactions in which all or part of the payment is made in
kind rather than cash. Examples are as follows:
Barter
The direct exchange of goods/services between trading partners
Compensation Deals
Involve payment both in goods and in cash; the inclusion of
some amount of cash makes the deal more attractive to the seller.
Counterpurchases
The most typical version of countertrade; two contracts are
negotiated, one to sell the product (which constitutes the initial
agreement) at an agreed cash price, and one to buy goods from
the purchaser at an amount equal to the amount in the initial
transaction.
May take two forms; 1) seller agrees to accept some amount of
output as full or partial payment, 2) seller agrees to buy back
some output at a later date.
Product Buy-backs
Offset Deals
The seller contracts to invest in local production or procurement
to partially offset the sale price.
Evaluating a Countertrade Offer
For the seller evaluating a countertrade proposal, the
following points must be considered:
1. Is this the only way the order can be secured?
2. Can the received goods be sold?
3. How can we maximize the cash portion?
4. Does the invoiced price incorporate extra
transaction costs?
5. Are there import barriers to the received goods?
6. Could there be currency exchange problems if we
repatriate the earnings from sales in a third country?
Systems Pricing in Turnkey Sales
Pricing of turnkey package
Bundled?
Unbundled
Get supplier
discounts?
No firm-specific
advantages
System
discounts?
Price taker
Package Price
Profit sharing
or penalty for
nonperformance
Competitors: standalone profit centers?
Components
where firm has
FSA's
Price maker
Competitive entry?
Make or buy?
Component prices?
No profit sharing
or penalty for
nonperformance
Gray Trade
 Gray trade is the sales of genuine branded goods through
unauthorized channels.
 Gray trade involves shipments from overseas plants that
enter a market via entry points not easily controlled.
Examples include shipments from the Asian manufacturers
who produce for Western companies and whose products
can be diverted to ports in one country before entering the
market country.
 Gray trade is acute in trade areas where barriers have been
recently dismantled & exchange rates fluctuate, creating big
arbitrage opportunities and “consumer tourism”.
Pricing Actions against Gray Trade
•
ECONOMIC CONTROLS – influencing price setting in local markets via
changing shipping prices or by rationing the product
•
CENTRALIZATION – forming price-corridors, setting limits for local
prices
•
FORMALIZATION – standardizing the process of planning and
implementing pricing decisions
•
INFORMAL COORDINATION – via articulation of corporate values &
culture, human resource exchanges
Controlling Gray Trade:
Coordinating Pricing Strategies
Level of Marketing Standardization
High
High
Economic controls
Low
Informal coordination
Strength of
Local
Resources
Low
Centralization
Formalization
Ethnocentric Pricing
ETHNOCENTRIC PRICING
One global price, in one currency
$
PROS: no gray trade
CONS: no local adaptation
Geocentric Pricing
GEOCENTRIC PRICING
Y
DM
$
One price in each region, common
regional currency
PROS: some coordination, little gray
trade, some adaptation
CONS: not locally adapted
Polycentric Pricing
DM
DM
P
PY
k
$
k
POLYCENTRIC PRICING
$
Y
Local prices, in local currency
PROS: locally adapted
CONS: not coordinated, more gray
trade
Takeaways
Although centrally coordinated prices interfere with the local
subsidiary’s ability to target its market, it is necessary and
possible to coordinate pricing at least by regions or trading
areas.
Takeaways
To discourage gray trade, which attempts to take advantage
of currency exchange shifts & local price differentials,
companies try to keep prices in different countries within a
narrow band or “corridor”.
Takeaways
Transfer prices between a global firm’s plants in different
countries can seldom be used to shift profits but should be
used to motivate subsidiaries & measure performance, while
remaining supportable to local tax authorities.
Takeaways
Countertrade, including barter, is a frequent pricing option
in countries with a lack of hard currency, especially when
global financial turmoil puts domestic currencies under
pressure.
Takeaways
Global pricing still has to pay attention to basic issues such
as competition, price-quality relationships, & stage of the
product life cycle.