Reporting to Stakeholders

It is all very well to look for new ways of effective transfer pricing but we do need to understand whether we are achieving the goals we set ourselves in this crucial aspect of fulfilling our strategy. In MNEs and transnational organizations, it is the strategic decisions in respect of transfer pricing that will influence the success or failure of our international ventures and, for this reason, they are some of the most important decisions we shall make. It follows that the value of information is potentially higher in relation to strategic decision making since the cost of mistakes is so much greater and so the importance of providing relevant and timely performance-related information should not be underestimated. Internal performance reports of different hues are a crucial ingredient in helping us here.

Naturally, various measurement criteria may be adopted but the important performance indicators are those that identify the degree of achievement of our transfer pricing objectives. Part of this is acknowledging that creating, understanding, impacting, managing, serving, manipulating, and exploiting markets are the common denominators of organizational strategy, which is nothing without implementation. There are two key elements in the drive for profitability. One is the ability to maximize revenues and the other is to reduce or contain costs. In relation to the first, a vital feature of our success is the ability to position our products, or services, within the market place in a way that generates an acceptable and sustainable profit margin. For MNEs and transnational organizations, a crucial element here is recognition of the role played by their transfer pricing policy. It impacts on the likelihood of being able to maintain high levels of profitability, the probability of competitive attack from other organizations, and the linkage with necessary operational improvement strategies to reduce or contain costs.

A well-designed performance-reporting system focuses on results and measures these results against objectives and targets that have already been established. To discover whether we have a good performance-reporting system, a number of questions need to be asked. First, are the reports being read and acted upon? Reports distributed without any feedback are an indication that the system is not highly effective. Indeed, they may not contain information that is relevant at the time. Second, do the reports provide sufficient information for us to take corrective action where necessary without delay? Internally, the main purpose of performance reporting is not to tell us where we have been but, more importantly, where we are going. If this kind of information can’t be gathered from the reports, then they are simply not doing their job. Third, are we receiving the information we need in a timely fashion? Knowing we have problem days, or sometimes weeks, after it first becomes apparent simply isn’t good enough.

We are well endowed with technology these days to ensure our performance reporting is online and real-time. Unfortunately, when it comes to our organization, a good reporting system will not turn a poor performer into a good performer. However, it may turn a good performer into an even better performer because the information provided encourages people to strive for the best.

This means that we must have suitable measures in place, which must reflect the core values of our organization with regard to transfer pricing. More importantly, the monitoring and reporting mechanisms we use should be designed to focus the behavior of all those involved on the journey toward achieving our objectives. The resulting common sense of direction fosters the necessary team effort required to produce the best possible outcomes.

Summary

Transfer prices are useful in several ways. They can help an MNE identify those parts of the organization that are performing well and not so well, and without proper transfer pricing, an MNE could suffer double taxation on the same profits. Yet, determining transfer prices causes so much difficulty and is so surrounded by snags. If this is the case, why are such prices necessary?

It could be argued that they are not really necessary in a vertically integrated organization, but when this integration crosses national borders, the failure to have justified transfer prices for a wide range of activities in such an organization will lead to significant conflict. In addition, the abolition of transfer prices would prevent the meaningful measurement of operating performance of individual operating units within the MNE or transnational organization. It would also prevent the accurate estimation of likely earnings on proposed investment projects. Furthermore, transfer prices give business-unit managers an economic base and incentive for correct decision making. Finally, without an acceptable transfer pricing mechanism, the very existence of our MNEs and transnational organizations would be at risk.

That said, because of a lack of pertinent data, there are still many instances in which the chosen transfer price cannot be justified on any logical grounds. On other occasions, managers are influenced by a variety of factors other than economic considerations. Many senior-management groups in MNEs and transnational organizations are unaware that suboptimizing behavior is occurring in their organizations or that a change in transfer pricing policies could markedly improve their overall group performance. Transfer pricing is an integral part of the operating system for MNEs and transnational organizations but there are many issues that need to be addressed. The scope for a modern transfer pricing system that not only enhances overall organizational performance but also avoids intense conflict is considerable.