Negotiating Transfer Prices

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 total revenue. We analyze two transfer-pricing schemes and their corresponding bargaining problems. Both bargaining settings exhibit non-transferable utility because the transfer price not only allocates corporate profit but also affects corporate profit through the incentives it creates for the divisions’ investment and quantity decisions. In particular, we discuss how concepts from bargaining theory can be use used to determine a ‘fair’ agreement concerning the transfer price.