978-0134129945 Chapter 11 Lecture Note Part 2

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GLOBAL PRICING: THREE POLICY ALTERNATIVES

√ (Learning Objective #5)

There are three alternative positions a company can take on worldwide pricing.

Extension or Ethnocentric

The first can be called an extension or ethnocentric pricing policy. An extension or

ethnocentric pricing policy calls for the per-unit price of an item to be the same no matter

where in the world the buyer is located.

In such instances, the importer must absorb freight and import duties.

The extension approach has the advantage of extreme simplicity because no information on

competitive or market conditions is required for implementation.

The disadvantage of the ethnocentric approach is that it does not respond to the competitive and

market conditions of each national market and therefore, does not maximize the company’s

profits in each national market or globally.

Adaptation or Polycentric

The second policy, adaptation or polycentric pricing, permits subsidiary or affiliate managers

or independent distributors to establish whatever price they feel is most appropriate in their

market environment.

There is no requirement that prices be coordinated from one country to the next.

IKEA takes a polycentric approach to pricing.

One recent study of European industrial exporters found that companies utilizing independent

distributors were the most likely to utilize polycentric pricing.

Such an approach is sensitive to local market conditions; however, valuable knowledge and

experience within the corporate system concerning effective pricing strategies are not brought to

bear on each local pricing decision.

Arbitrage is also a potential problem with the polycentric approach; when disparities in prices

between different country markets exceed the transportation and duty costs separating the

markets.

Geocentric

The third approach, geocentric pricing, is more dynamic and proactive than the other two. A

company using geocentric pricing neither fixes a single price worldwide, nor allows

subsidiaries or local distributors to make independent pricing decisions. Instead, the geocentric

approach represents an intermediate course of action.

Geocentric pricing is based on the realization that unique local market factors should be

recognized in arriving at pricing decisions. These factors include local costs, income levels,

competition, and the local marketing strategy. Price must also be integrated with other elements

of the marketing program.

The geocentric approach recognizes that price coordination from headquarters is necessary in

dealing with international accounts and product arbitrage. The geocentric approach also

consciously and systematically seeks to ensure that accumulated national pricing experience is

leveraged and applied wherever relevant.

Local costs plus a return on invested capital and personnel fix the price floor for the long term.

For consumer products, local income levels are critical in the pricing decision.

GRAY MARKET GOODS

√ (Learning Objective #6)

Gray market goods are trademarked products that are exported from one country to another

where they are sold by unauthorized persons or organizations.

Parallel importing occurs when companies employ a polycentric, multinational pricing policy

that calls for setting different prices in different country markets.

Gray markets can flourish when a product is in short supply, when producers employ skimming

strategies in certain markets, or when the goods are subject to substantial markups.

Gray markets impose several costs or consequences on global marketers. These include:

Dilution of exclusivity. Authorized dealers are no longer the sole distributors.

Free riding. If the manufacturer ignores complaints from authorized channel members,

those members may engage in free riding. That is, they may opt to take various actions to

offset downward pressure on margins.

Damage to channel relationships. Competition from gray market products can lead to

channel conflict as authorized distributors attempt to cut costs, complain to

manufacturers, and file lawsuits against the gray marketers.

Undermining segmented pricing schemes. A variety of forces—including falling trade

barriers, the information explosion on the Internet, and modern distribution capabilities—

hamper a company’s ability to pursue local pricing strategies.

Reputation and legal liability. Even though gray market goods carry the same trademarks

as goods sold through authorized channels, they may differ in quality, ingredients, or

some other way.

Companies should develop proactive strategic responses to gray markets.

DUMPING

√ (Learning Objective #7)

Dumping is an important global pricing strategy issue. GATT’s 1979 antidumping code defined

dumping as the sale of an imported product at a price lower than that normally charged in a

domestic market or country of origin. In addition, many countries have their own policies and

procedures for protecting national companies from dumping.

The U.S. Congress has defined dumping as an unfair trade practice that results in “injury,

destruction, or prevention of the establishment of American industry.”

In 2000, the U.S. Congress passed the so-called Byrd Amendment; this law calls for

antidumping revenues to be paid to U.S. companies harmed by imported goods sold at below-

market prices

In Europe, antidumping policy is administered by the European Commission; a simple majority

vote by the Council of Ministers is required before duties can be imposed on dumped goods.

For positive proof that dumping has occurred in the United States, both price discrimination and

injury must be demonstrated.

Price discrimination is the practice of setting different prices when selling the same quantity of

“like-quality” goods to different buyers.

PRICE FIXING

√ (Learning Objective #8)

In most instances, it is illegal for representatives of two or more companies to secretly set similar

prices for their products. Price fixing is generally held to be an anticompetitive act.

In horizontal price fixing, competitors within an industry that make and market the same

product conspire to keep prices high.

Vertical price fixing occurs when a manufacturer conspires with wholesalers or retailers (i.e.,

channel members at different “levels” from the manufacturer) to ensure certain retail prices are

maintained.

TRANSFER PRICING

√ (Learning Objective #9)

Transfer pricing refers to the pricing of goods, services, and intangible property bought and

sold by operating units or divisions of the same company.

Transfer pricing concerns intracorporate exchanges, which are transactions between buyers and

sellers that have the same corporate parent. For example, Toyota subsidiaries both sell to, and

buy from, each other.

In determining transfer prices to subsidiaries, global companies must address a number of issues,

including taxes, duties, and tariffs, country profit transfer rules, conflicting objectives of joint

venture partners, and government regulations.

Tax authorities take a keen interest in transfer pricing policies.

Three major alternative approaches can be applied to transfer pricing decisions:

1. A market-based transfer price is derived from the price required to be competitive in

the global marketplace.

2. Cost-based transfer pricing uses an internal cost as the starting point in determining

price. Cost-based transfer pricing can take the same forms as the cost-based pricing

methods discussed earlier in the chapter.

3. Negotiated transfer price occurs when the organization’s affiliates determine the prices

among themselves. This method may be employed when market prices are subject the

frequent changes. (Table 11-3)

Tax Regulations and Transfer Prices

Because global companies conduct business in world characterized by different corporate tax

rates, there is an incentive to maximize income in countries with the lowest tax rates and to

minimize income in high-tax countries.

In recent years, many governments have tried to maximize national tax revenues by examining

company returns and mandating reallocation of income and expenses.

Sales of Tangible and Intangible Property

Each country has its own set of laws and regulations for dealing with controlled intracompany

transfers.

Whatever the pricing rationale, executives and managers involved in global pricing policy

decisions must familiarize themselves with the laws and regulations in the applicable countries.

COUNTERTRADE

√ (Learning Objective #10)

In recent years, many exporters have been forced to finance international transactions by taking

full or partial payments in some form other than money. A number of alternative finance

methods, known as countertrade, are widely used.

In a countertrade transaction, a sale results in product flowing in one direction to a buyer; a

separate stream of products and services, often flowing in the opposite direction, is also created.

Countertrade generally involves a seller from the West and a buyer in a developing country.

Countertrade flourishes when hard currency is scarce. Exchange controls may prevent a

company from expatriating earnings; the company may be forced to spend money in-country for

products that are then exported and sold in third-country markets.

Historically, the single most important driving force behind the proliferation of countertrade was

the decreasing ability of developing countries to finance imports through bank loans.

Generally, several conditions affect the probability that some form of countertrade will be used:

The priority attached to the import. The higher the priority, the less likely it is that

countertrade will be required.

The value of the transaction. The higher the value, the greater the likelihood that

countertrade will be involved.

The availability of products from other suppliers. If a company is the sole supplier of a

differentiated product, it can demand monetary payment.

Barter

The term barter describes the least complex and oldest form of bilateral, non-monetized

countertrade.

Simple barter is a direct exchange of goods or services between two parties. Although no money

is involved, both partners construct an approximate shadow price for products flowing in each

direction.

Counterpurchase

The counterpurchase form of countertrade, also termed parallel trading or parallel barter, is

distinguished from other forms in that each delivery in an exchange is paid for in cash.

Offset

Offset is a reciprocal arrangement whereby the government in the importing country seeks to

recover large sums of hard currency spent on expensive purchases such as military aircraft or

telecommunications systems.

Distinguishing characteristics between offset and counterpurchase:

Counterpurchase is characterized by smaller deals over shorter periods of time.

Offset is not contractual but reflects a memorandum of understanding that sets out the

dollar value of products to be offset and the time period for completing the transaction.

Offsets have become a controversial facet of today’s trade environments.

Compensation Trading

Compensation trading, also called buyback, is a form of countertrade that involves two

separate and parallel contracts.

In one contract, the supplier agrees to build a plant or provide plant equipment, patents or

licenses, or technical, managerial, or distribution expertise for a hard currency down payment at

the time of delivery.

In the other contract, the supplier company agrees to take payment in the form of the plant’s

output equal to its investment (minus interest) for a period of as many as 20 years.

Essentially, the success of compensation trading rests on the willingness of each firm to be both a

buyer and a seller.

Switch Trading

Also called triangular trade and swap, switch trading is a mechanism that can be applied to

barter or countertrade. In this arrangement, a third party steps into a simple barter or other

countertrade arrangement when one of the parties is not willing to accept all the goods received

in a transaction.

The third party may be a professional switch trader, switch trading house, or a bank.

The switching mechanism provides a “secondary market” for countertraded or bartered goods

and reduces the inflexibility inherent in barter and countertrade.

TEACHING TOOLS AND EXERCISES

Activity: Students should be preparing or presenting their Cultural-Economic Analysis and

Marketing Plan for their country and product as outlined in Chapter 1.

Out-of-Class Reading: Nagle, Thomas T. and Reed Holden. The Strategy and Tactics of

Pricing: A Guide to Profitable Decision Making 3/e. Upper Saddle River, New Jersey: Prentice

Hall, 2002.

Internet Exercise: Look up prices for some upscale watch brands (like Movado, Tag Heur, or

Rolex) from traditional U.S.-based merchants like Macy’s or Saks Fifth Avenue. Then go to

www.alibaba.com and checkout the prices for these “similar” products. What are the price

differentials? Is the “price” for the genuine article worth the “difference” for the knockoffs?

Go to www.overstock.com and check out the prices of these similar products through the “grey

market. Again, is the price differential worth the monetary difference? Explain your rationale.

Guest Speaker: Invite a local service provider (attorney, shopkeeper) and asked them to speak

to the class about how they “price” there particular service. Compare and contrast “how” they

price from the descriptions and strategies outlined in this chapter.