Management control in the transfer pricing tax compliant multinational enterprise

Description
This paper studies the impact of transfer pricing tax compliance on management control system (MCS) design and
use within one multinational enterprise (MNE) which employed the same transfer prices for tax compliance and internal
management purposes. Our analysis shows immediate effects of tax compliance on the design of organising controls
with subsequent effects on planning, evaluating and rewarding controls which reveal a more coercive use of the MCS
overall.

Management control in the transfer pricing tax
compliant multinational enterprise
Martine Cools
a,
*
, Clive Emmanuel
b
, Ann Jorissen
c
a
Lessius University College (Association KU Leuven) & Rotterdam School of Management, Lessius,
Korte Nieuwstraat 33, 2000 Antwerpen, Belgium
b
University of Glasgow, 65 Southpark Avenue, Glasgow G12 8 LE, United Kingdom
c
University of Antwerp, Prinsstraat 13, 2000 Antwerpen, Belgium
Abstract
This paper studies the impact of transfer pricing tax compliance on management control system (MCS) design and
use within one multinational enterprise (MNE) which employed the same transfer prices for tax compliance and inter-
nal management purposes. Our analysis shows immediate e?ects of tax compliance on the design of organising controls
with subsequent e?ects on planning, evaluating and rewarding controls which reveal a more coercive use of the MCS
overall. We argue that modi?cations to the MCS cannot be understood without an appreciation of the MNEs’ ?scal
transfer pricing compliance process.
Ó 2007 Elsevier Ltd. All rights reserved.
Introduction
This study addresses the in?uence of transfer
pricing tax compliance on the design and use
of management control systems (MCSs) in multi-
national enterprises (MNEs) using one set of
transfer pricing books. The domestic management
accounting and control literature stresses the role
of transfer prices as MCS instruments that di?er-
entiate and integrate the actions of parts of the
organisation and impact on performance evalua-
tion (Colbert & Spicer, 1995; Eccles, 1983, 1985;
Gosh, 2000; Luft & Libby, 1997; Spicer, 1988;
Swieringa & Waterhouse, 1982; Van der Meer-
Kooistra, 1994; Watson & Baumler, 1975).
Cross-border transfer pricing in MNEs
1
have tra-
ditionally received a place in other streams of the
0361-3682/$ - see front matter Ó 2007 Elsevier Ltd. All rights reserved.
doi:10.1016/j.aos.2007.05.004
*
Corresponding author. Fax: +32 3 201 1842.
E-mail address: [email protected] (M. Cools).
1
In a multinational environment, the transfer pricing policy
contributes to a large variety of goals, including pro?t
maximisation, cash ?ow, sales and marketing goals; minimising
taxes, duties and tari?s; and achieving socio-political goals
related to ?nancial restrictions, currency ?uctuations and host
country relations (Dunning, 1980; Leitch & Barrett, 1992).
www.elsevier.com/locate/aos
Available online at www.sciencedirect.com
Accounting, Organizations and Society 33 (2008) 603–628
literature. Tax law studies discuss national tax
regimes, tax compliance requirements, and the
optimal transfer pricing method from a ?scal point
of view (Douvier, 2005; Kroppen & Eigelshoven,
1998; Levey, Brandman, & Miesel, 2001; Swenson,
2001; Van Mens & Porquet, 2001). Tax accounting
studies investigate the degree to which national tax
rate di?erentials lead to transfer pricing manipula-
tion and income shifting (Grubert & Mutti, 1991;
Gupta & Mills, 2002; Halpirin & Srinidhi, 1987,
1991; Harris, 1993; Harris, Kriebel, & Raviv,
1982; Jacob, 1996; Jensen, 1986; Klassen, Lang,
& Wolfson, 1993). The contingency literature pro-
vides an alternative perspective by identifying the
objectives of a company’s (international) transfer
pricing policy and the organisational and environ-
mental determinants – such as the tax regulations –
of its transfer pricing method (Borkowski, 1992a,
1992b, 1996, 1997; Cravens & Shearon, 1996; Cra-
vens, 1997; Emmanuel & Mehafdi, 1994; Tang,
1979).
We aim at re?ning the general statement from
the contingency literature that ‘international tax
rules a?ect the choice of the transfer pricing
method’ by investigating the potential impact of
tax compliance on the design and use of the
MCS within MNEs. Tax compliance has recently
gained in importance given that ?scal authorities
worldwide have strengthened their transfer pricing
tax rules. While the extant tax law and tax
accounting literatures focus on ?scal optimisation,
a number of recent analytic studies calculate the
transfer prices that reconcile managerial and tax
objectives under certain static circumstances
(Baldenius, Melumad, & Reichelstein, 2004; Hal-
pirin & Srinidhi, 1991; Hyde, 2002; Hyde & Choe,
2005; Narayanan & Smith, 2000). In contrast, we
use a case study to investigate the process over
time when searching to answer our central
research question: What is the impact of the steps
taken to comply with international transfer pricing
regulations on the design and use of the MCS in
an MNE using one set of transfer prices?
The MNE under study chose to adopt tax com-
pliant transfer pricing by using the same set of
books for both MCS and tax purposes, an
assumption of most analytic articles (Halpirin &
Srinidhi, 1991; Sansing, 1999; Smith, 2002a). Some
recent studies (Baldenius et al., 2004; Hyde &
Choe, 2005; Smith, 2002b), however, model two
distinct transfer prices, one to serve incentive pur-
poses and the other to serve tax purposes. Still,
MNEs commonly use the same set of books, ‘both
for simplicity and in order to avoid the possibility
that multiple transfer prices become evidence in
any disputes with the tax authorities’ (Baldenius
et al., 2004, p. 592; Durst, 2002; Ernst & Young,
2001, 2003, 2005). Consultants advise MNEs to
implement one set of books to demonstrate to
the tax authorities that transfer pricing is justi?ed
by internal, rather than purely tax-driven motives
(Ernst & Young, 2001, 2003). While the analytic
literature regards tax compliance as a fact, the cur-
rent study on MCS design and use explicitly exam-
ines the process of gaining tax compliance: for one
successful MNE the redesign of the transfer pric-
ing system to ensure ?scal compliance and its
impact on the MCS are investigated over the per-
iod 1993–2001. We use Eccles (1985) work to
describe the tax compliance process, while Chow,
Shields and Wu’s (1999) framework guides the
analysis of MCS design, and Adler and Borys
(1996) and Ahrens and Chapman’s (2004) con-
cepts of ‘enabling’ versus ‘coercive’ control sys-
tems guide the analysis of MCS use. The data
are partly historical, based on archival documents
and recollections by managers, and partly longitu-
dinal, with one researcher having been present in
the case company between 1999 and 2002.
We ?nd that our company’s tax compliant
transfer pricing policy permeates all levels of the
organisation and in?uences elements of its MCS.
Analytic generalisation suggests that tax compli-
ance is an additional contingent variable when
seeking to understand MCS design and use in
MNEs. Our study therefore contributes to the con-
tingency school of accounting research investigat-
ing how the role of management accounting is
in?uenced by environmental factors (Abernethy
& Lillis, 1995; Ahrens & Chapman, 2004; Chen-
hall, 2003). We also aim at responding to the call
for theoretical contributions that explain how
transfer pricing processes within the MCS are
actually managed (Colbert & Spicer, 1995; Spicer,
1988) and delve into the deeper internal conse-
quences of transfer pricing in MNEs (Cravens &
604 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
Shearon, 1996; Cravens, 1997). As a result we can
develop a number of propositions that may pro-
vide potentially interesting avenues for future
research. Given the paucity of evidence on the role
of transfer pricing for management purposes in
MNEs, the interviews and archival data provide
a unique insight. The study is also relevant for pol-
icy matters: tax authorities wish to stop tax eva-
sion and manipulation but also to prevent
double taxation, while MNEs seek to comply with
regulations but also to create shareholder (after
tax) value. Within these broad tensions, the conse-
quences of the ?scal ‘arm’s length’ principle for
internal decision making, performance evaluation
and managerial motivation are largely unknown
(Eden, 1998; Hamaekers, 2001).
The remainder of the paper is organised as fol-
lows. The next section on the tax regulatory envi-
ronment outlines the broader context of the study.
We then review the organisational behaviour and
MCS literatures and describe the research method
used and the research site. In the next section we
present the results of our dynamic analysis. After
sketching out the MNE’s overall corporate strat-
egy for the period 1993–2001, we discuss, for the
same period, its emerging tax compliant transfer
pricing policy and the way in which changes in
the latter have impacted its MCS. This is followed
by the development of four propositions on the
consequences of tax compliant transfer pricing
for the design and use of the MCS. Finally, this
paper ends with the discussion of our single case
study ?ndings, our overall conclusions and sugges-
tions for future research.
Tax regulatory environment
Globalisation causes an increasing volume of
trade to remain outside the scope of market forces.
UNCTAD (2003), for example, reports that 60%
of international trade takes place within MNEs.
As the tax accounting literature indicates, the dif-
ferential national tax regimes invite MNEs to
engage in income shifting. National governments
react by installing transfer pricing regulations,
mostly in line with the OECD Transfer Pricing
Guidelines. The ?rst OECD Guidelines were
issued in 1979 and implemented by a number of
Western countries. By the end of the 1980s, the
potentially negative tax e?ects of foreign MNEs’
transfer pricing policy became the centre of politi-
cal debate in the US (Hamaekers, 2001), resulting
in revised and strengthened transfer pricing regula-
tions in 1994 (IRS, §482 and related §). The OECD
responded with reformulated Transfer Pricing
Guidelines in 1995. Consequently, tax authorities
in over 44 countries (OECD and non-OECD,
developed and developing countries) have imple-
mented more explicit and detailed rules, mostly
in line with these OECD Guidelines, and at the
same time have increased their administrative
resources to monitor compliance. Several jurisdic-
tions apply severe penalties, not only when tax
adjustments are needed but also for inadequate
or untimely documentation. The threat of transfer
pricing tax audits has become real for every MNE
(Eden, 1998; Ernst & Young, 2005), witness the
recent IRS claim for additional taxes of US $2.7
billion plus interest of US $2.5 billion on Glaxo-
SmithKline (The Economist, 2004; Wright, 2004).
The arm’s length principle provides an interna-
tional yardstick to judge transfer prices from a tax
perspective: transfer prices between interrelated
parties are acceptable to the tax authorities if the
MNE can prove that independent parties would
have chosen similar prices in similar circumstances
(Article 9, OECD Model Tax Convention, 1992).
Ideally, transfer prices should be based on market
prices, but for various reasons a market-based
transfer price might not exist:
2
transactions taking
place between the divisions of the same ?rm are
often unique and would not be o?ered to the mar-
ket (Eden, 1998). In practice, therefore, cost-based
and negotiated transfer prices are used apart from
market-based prices (Borkowski, 1990, 1992a).
The 1979 OECD Transfer Pricing Guidelines rec-
ognise three transfer pricing methods
3
that,
depending on the circumstances and the character-
istics of the transfer, provide a suitable application
2
Therefore, academics (Eden, Dacin, & Wan, 2001; Picciotto,
1992) and practitioners (Ernst & Young, 2003; Weiner, 2001)
challenge the arm’s length principle.
3
A category called ‘fourth method’ allowed other methods to
be used if justi?ed (OECD, 1979).
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 605
of the arm’s length principle: the comparable
uncontrolled price method (identi?es and applies
a market price), the cost-plus method (augments
the product or service cost with a mark-up compa-
rable to that of an unrelated producer with similar
activities) and the resale-minus method (works
backwards from an arm’s length sales price to an
unrelated party and deducts a mark-up compara-
ble to that of an unrelated company undertaking
similar activities). Due to practical di?culties,
the traditional transactional methods were supple-
mented with two pro?t-based methods in the 1995
OECD Transfer Pricing Guidelines: the transac-
tional net margin method – also known as the
comparable pro?t method (evaluates operating
pro?t relative to an appropriate base like sales or
assets, to verify that the pro?t earned by the
MNE’s division is comparable with that which
an uncontrolled company will earn under similar
circumstances) and the pro?t split method (divides
the total pro?t between the buyer and seller to
re?ect the pro?ts that two unrelated parties earn
undertaking a similar transaction). Despite the
dominance of the arm’s length principle and the
OECD Guidelines, MNEs do not experience trans-
fer pricing tax compliance as an easy task.
National tax authorities interpret and implement
the ?uid arm’s length principle in di?erent ways,
re?ecting long-established domestic tax practices
(Eden et al., 2001; Picciotto, 1992). ‘The conse-
quential divergence in approach among tax admin-
istrations is a growing concern to MNEs –
particularly as countries with no prior formal
transfer pricing rules or experience seek to intro-
duce them’ (Ernst & Young, 2003, p. 5).
The revised rules entail extensive documentation
requirements, urging MNEs to explicitly justify
their transfer pricing policy and to demonstrate it
is based on sound business grounds (IRS, 1994;
OECD, 1995). A crucial part of the documentation
is the functional analysis, which requires a detailed
analysis of the various functions undertaken, the
assets used and the risks taken by the di?erent
parties involved in the intra-?rm transaction. The
more completely the documentation supports the
MNE’s transfer pricing policy, the more likely
the tax authorities will accept it. Pressure to comply
with the documentation requirements is high.
De facto, the burden of proof remains on the
MNE, although only a limited number of countries
like the UK have a self-assessment system in place.
MNEs tend to draw up their transfer pricing docu-
mentation to comply with the most stringent rules
of tax jurisdictions, because bi-lateral tax treaties
4
and advanced pricing agreements (APAs) cannot
progress until these are satis?ed (Cools &Emmanuel,
2007). The EU has an Arbitration Model in place,
but again extensive documentation is required to
defend the transfer pricing policy (EU Convention
90/436/EEC, 1990).
Currently, the IRS holds the distinction of artic-
ulating regulations in the ?nest detail. In contrast
to the OECD Guidelines, the choice of transfer
pricing method has to be justi?ed over other meth-
ods, which necessitates the search for comparables.
The arm’s length character of an MNE’s transfer
prices needs to be sustained by positioning them
amongst the prices and pro?t margins of compara-
ble external transactions between unrelated parties.
A detailed industry sector analysis is then required.
Most MNEs hire specialists to corroborate the evi-
dence, which is a costly and time-consuming under-
taking especially as annual maintenance and
updating of the documentation is needed. Jurisdic-
tions, other than the IRS, are also developing and
strengthening their distinct transfer pricing regula-
tions within the broad guidelines of the OECD
(1995), which further adds to the dynamics of ?scal
compliance.
Theoretical guidance
In the context of the stricter, more detailed tax
regulatory framework, we examine the design and
use of the MCS. Fig. 1 introduces the variables
that have guided our analysis, based on a review
4
If one country’s tax authorities judge that the MNE has not
respected the arm’s length principle, they are allowed to adjust
this MNE’s taxable base (Article 9, OECD Model Tax
Convention, 1992). However, the adjustment in one jurisdiction
does not require a similar adjustment in the other jurisdiction.
Such con?icts, causing double taxation for the MNE involved,
can be resolved if governments enter into bi-lateral tax treaties.
606 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
of the organisational transfer pricing and MCS
literatures.
Organisational transfer pricing literature
Management accounting and control studies
started to recognize the importance of ‘processes’
and ‘dynamics’ under the in?uence of the organi-
sational behaviour literature (Hopwood, 1983;
Jones, 1985; Otley, 1980). Based on Lawrence
and Lorsch (1969), Watson and Baumler (1975)
were the ?rst authors to stress the role of transfer
pricing in increasing di?erentiation, as it allows
decentralisation, and at the same time integrating
the organisation. Later, Swieringa and Water-
house (1982) demonstrated in theory that dynam-
ics and processes, as well as the related pressures
for organisational learning and adaptation, cannot
be ignored when studying transfer pricing. These
early studies in?uenced the frameworks of transfer
pricing choice developed by Eccles (1983, 1985)
and Spicer (1988). Eccles (1985) identi?ed ‘strat-
egy’ and the ‘administrative process’ as the main
determinants of transfer pricing practices. Corpo-
rate strategy and unit strategies (for groups, divi-
sions and individual products) both a?ect
transfer pricing practices: ‘the relationship
between strategy and transfer pricing policy is so
intimate that it is nearly a tautology’ (Eccles,
1985, p. 9). Whereas ‘strategy’ determines what a
company does, the ‘administrative process’ deter-
mines how it does it. Eccles (1985) distinguished
?ve administrative components
5
relevant for trans-
fer pricing: (1) how the transfer price is set (from
pure negotiation to established corporate rules
and procedures), (2) the individuals involved (dif-
ferent levels of general, ?nancial, and other man-
agers), (3) what information is used (data on
costs, external and/or internal transactions), (4)
when transfer prices are set (how frequently and
under what conditions they are changed), and (5)
how con?ict is managed (what con?ict resolution
mechanisms are used and who is involved). It is
these ?ve elements that will guide our description
of how the MNE under investigation approaches
transfer pricing tax compliance. Spicer (1988)
established a positive organisational theory of
the transfer pricing process building upon Watson
and Baumler (1975) and transaction cost econom-
ics (Williamson, 1979). Empirical tests and re?ne-
ments of his theory are situated in a domestic
setting (Colbert & Spicer, 1995; Van der Meer-
Kooistra, 1994) but despite their signi?cance
for the transfer pricing literature, these studies
o?er little on the internal organisation and man-
agement of MNEs,
6
which is the focus of the
current study.
Management control system literature
The MCS literature studies how managers,
while pursuing their personal goals, can be moti-
vated to contribute to overall organisational goals
(Anthony, 1988; Anthony & Govindarajan, 1995;
Berry, Broadbent, & Otley, 1995). Transfer pricing
should provide economic information that favours
goal congruence and have positive motivational
consequences for measuring and evaluating divi-
sional managers’ performance (Grabski, 1985;
Kim & Mauborgne, 1996; Simons, 2000; Watson
& Baumler, 1975). We have chosen to adopt the
MCS DESIGN
?
?
Organising controls
Planning controls
Evaluating/rewarding
controls
MCS USE
Coercive/Enabling use
Internal transparency
Global transparency
Flexibility
Repair
Transfer pricing tax compliance
with a
single set of transfer prices
How are prices set?
Who is involved?
What information is used?
When are prices set?
How is conflict managed?
Fig. 1. The guiding framework.
5
The administrative process is also a?ected by management
style, company culture, technological and market characteris-
tics of the products and general business solutions (Eccles,
1985).
6
Most of the organisational behaviour transfer pricing
studies have a domestic (uni-national) focus, e.g. the agency
theory approach by Harris et al. (1982), the industrial organ-
isational approach by Holmstrom and Tirole (1991) and the
contingency theory approach by Borkowski (1990).
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 607
framework of Chow et al. (1999) to analyse the
MCS of the case company because it incorporates
the major management control functions – ‘organ-
ising’, ‘planning’, and ‘evaluating and rewarding’ –
in an integrated manner. Organising controls, to
begin with, pay attention to ‘decentralisation’
and ‘structuring of activities’. Decentralisation is
the extent to which decision making responsibility
is delegated to lower levels in a vertical hierarchy.
Structuring of activities, on the other hand, refers
to the existence of written policies, rules, standar-
dised procedures and manuals which specify how
to and, sometimes, how not to, perform activities
(Merchant, 1985; Rockness & Shields, 1984). Next,
planning controls contain ‘participative budgeting’
and ‘standard tightness’. Participative budgeting is
the extent to which subordinates contribute to the
development and selection of the performance plan
which their superiors will hold them responsible for
achieving (Shields & Young, 1993). Standard tight-
ness stands for the ex ante probability that a man-
ager can attain the plan (Chow, 1983; Merchant &
Manzoni, 1989). Evaluating and rewarding con-
trols, ?nally, focus on the following three aspects:
‘participative performance evaluation’, ‘controlla-
bility ?lters’ and ‘performance contingent ?nancial
rewards’. Participative performance evaluation
refers to the extent to which employees contribute
to the evaluation of their own performance (Briers
& Hirst, 1990). Controllability ?lters are the con-
trols which reduce the degree to which managers’
performance evaluations are subject to factors
beyond their control (Demski, 1976; Merchant,
1989). Performance contingent ?nancial rewards
refer to the extent that ?nancial compensation is
determined by comparing budgeted to actual per-
formance (Demski & Feltham, 1978; Waller &
Chow, 1985). Our initial concern is whether trans-
fer pricing tax compliance has an in?uence on these
components of MCS design. This then allows an
evaluation of whether transfer pricing tax compli-
ance in?uences the use made of the MCS.
To address MCS use we apply Adler and Borys’
(1996) concepts of ‘enabling’ versus ‘coercive’
bureaucracies, which – as Ahrens and Chapman
(2004) demonstrate – allows the use of controls
simultaneously strengthening mechanistic elements
of organisation and enhancing organic patterns of
communication to be captured (Chapman, 1998;
Dent, 1987; Simons, 1990). Coercive use of the
MCS refers to extensive centralisation and pre-
planning, resulting in a top-down control approach.
Enabling use makes it possible for managers to deal
directly with the inevitable contingencies in their
work. Its basic premise is that operations are not
totally programmable. For an enabling use to be
possible, the MCS needs to be designed in terms
of repair, internal transparency, global transpar-
ency and ?exibility (Adler & Borys, 1996; Ahrens
& Chapman, 2004). ‘Internal transparency’ refers
to the visibility of internal processes for organisa-
tional members, while ‘global transparency’ relates
to the visibility of the overall context in which
organisational members perform their speci?c
duties. When ‘repair’ processes are integrated with
routine operations, managers participate in the
development of organisational rules and standards
by signalling and discussing problems in their
practical implementation. Finally, allowing man-
agers to ‘?exibly’ deal with emerging contingencies
in ways that ?t both local and central agendas is a
necessary condition for enabling MCS use.
Research method
For the design and analysis of the in-depth case
study we relied on Yin (2003), Miles and Huber-
man (1998) and Eisenhardt (1989). Our case study
protocol included the selection criteria of the
research site, the interview protocol and the analy-
sis protocol. Theoretical sampling (Eisenhardt,
1989) guided the selection process of the case com-
pany, consisting of two stages. First, we undertook
a preliminary study to select a group of potential
case companies, to re?ne the research question
and to strengthen the set-up of the research design
and analysis protocol.
7
One selection criterion was
size, since we experienced in 1998 that medium-
sized and smaller MNEs had limited awareness
7
The preliminary study also allowed the main researcher to
re?ne her skills in interviewing managers on this topic and
provided the ?rst material to be analysed using NUD
*
IST
software. Consequently, the coding scheme could be re?ned
before inserting the main data into NUD
*
IST.
608 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
of the ?scal aspects of transfer pricing. We tar-
geted established MNEs, often leaders from a mar-
ket or technological point of view, characterised
by a large number of cross-border transactions.
Other criteria were sector, ?nancial health, and
apparent lack of problems with the tax authorities.
By approaching companies belonging to di?erent
sectors we could avoid the problem of comparison
with direct competitors and increase the possibility
of access. Financially healthy MNEs, as re?ected
in company annual reports for the prior 10 years,
were identi?ed. Also, access would only be possi-
ble to MNEs that felt comfortable enough about
their transfer pricing policy to exchange informa-
tion with an external researcher. In this way, the
lack of problems with the tax authorities became
a natural selection criterion. We selected four com-
panies and interviewed key headquarter infor-
mants. The second stage consisted in selecting
one ‘best practice’ company out of the four origi-
nal MNEs. A mature company was preferred
because of our focus on its transfer pricing history.
To capture the in?uence of the most detailed trans-
fer pricing rules, we needed a company with head-
quarters or subsidiaries in the US. In addition, we
selected a typical case in the sense that the MNE
used one set of transfer pricing books (Baldenius
et al., 2004; Ernst & Young, 2003). The focus is
on the transfer pricing policy of products
8
to limit
the scope of the paper, analogously with Colbert
and Spicer’s (1995) domestic study of the transfers
of semiconductor components. A ?nal criterion
was the degree of access to di?erent managerial
levels: the selected MNE allowed us to visit or
phone its managers at any time.
‘An emphasis on situational details unfolding
over time allows qualitative research to describe
processes’ (Gephart, 2004, p. 455). To reach this
goal, we extensively searched archival documents
covering the period 1993–2001 (see Table 1). In
addition, between 1999 and 2002, we interviewed
23 managers at di?erent levels in the organisation
and involved transfer pricing experts for a total of
92.5 interview hours (see Table 2). Several manag-
ers were contacted regularly, especially the tax
directors, the product division controller and one
of the SBU controllers. The interview protocol,
containing open-ended questions based on the lit-
erature,
9
guided the semistructured interviews.
Participants were free to answer only those ques-
tions that they felt to be relevant to the issue.
The interviewees commented on their situation
and all of them spontaneously compared their cur-
rent situation to the past.
For the analysis we used event listings, also
called time-ordered matrices, to capture the
dynamics and processes in the case (Miles &
Huberman, 1998). These matrices were also used
as the basis to verify the researchers’ interpretation
of the events in regular feedback interviews. We
cross-validated the documents and oral transcripts
by comparing the observations based on the docu-
ments with the observations provided by the inter-
viewees to ensure data triangulation and construct
validity (Miles & Huberman, 1998; Yin, 2003). As
in Chow et al. (1999), the degree of triangulation
was augmented by collecting information from dif-
ferent types of managers. Further, we discussed
trends in the regulatory changes and the conclu-
sions emerging from the case with external transfer
pricing consultants and tax specialists. The quali-
tative data analysis package NUD
*
IST supported
the analysis: we coded complete interview tran-
scripts and summaries of the archival documents
(Miles & Huberman, 1998) in NUD
*
IST. Apart
from using the store-and-retrieve functions, we
relied on NUD
*
IST’s various questioning func-
tions to draw the time-ordered matrices.
Research site
This section describes the research site – the
Semiconductor Product Division (SPD) within
8
Transfer pricing issues are so complex that our analysis can
only be successful if the transfers of products, services and
intangibles are dealt with separately. Still, the provision of
services between departments will be mentioned for complete-
ness where appropriate.
9
To capture processes and dynamics, we asked our infor-
mants about the development, implementation and adaptation
of the transfer pricing policy. The MCS aspects were dealt with
on the basis of Chow et al. (1999, Appendix).
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 609
the selected MNE – including its product ?ow and
tax compliant transfer pricing policy in 2001.
The semiconductor product division (SPD)
The selected MNE is a large, industrial multina-
tional with production facilities and sales organi-
sations in more than 60 countries, employing
over 150,000 people. From the MNE’s product
divisions, we selected SPD as our research site
because it is characterised by the most complex
production chain and the most global operations.
SPD belongs to the electronic system market, in
which technology requires signi?cant capital
investments. It works in partnership with its –
increasingly global – customers to develop and
provide standard products as well as complex sys-
tem applications. In 2001, SPD was organised in a
matrix structure, identifying functions along the
value chain (production, assembly, testing and
sales) versus Strategic Business Units (SBUs) and
Business Lines (BLs) responsible for product avail-
ability and development aimed at di?erent custom-
ers and markets.
Fig. 2 presents the value chain for semiconduc-
tors in 2001. Production was the most capital inten-
sive part of the chain and SPDhad production sites
in the US and Europe. Electronic circuits were
assembled and tested in cheap labour countries in
Asia and also, but to a lesser extent, in the produc-
tion plants in the US and Europe. Testing could
take place in the assembly plants or in a separate
testing plant at a di?erent location. The ?nished
goods were sent to regional sales organisations rep-
resenting SPD in the di?erent continents (North
America, Europe and Asia). Regional marketing
was based on SBU and BL dimensions. The
regional sales organisations managed the physical
Table 1
Types of archival documents used for analysis (111 documents used, prepared between December 1993 and July 2001)
Documents
Type MNE document External document
Organisation charts Internal
Flow charts of logistics chain Internal
Annual report Published information
Company description Published in annual report
MNE website Public information
O?cial transfer pricing documents Internal Con?dential: only for tax authorities
Memoranda on transfer pricing Prepared for tax regulatory bodies
Transfer pricing price models Internal/con?dential
Price calculations Internal excel ?le
Administrative transfer pricing instructions Internal/con?dential
Memos Internal
Minutes of meeting Internal
Internal letters Internal
Discussion notes Internal
Emails Internal
Emails: follow-up on interviews Sent to the researcher
Internal memoranda Internal/con?dential
Faxes Internal
BSC of subunit Internal
Performance evaluation of plant Internal
Target allocation schemes Internal/con?dential
Bonus agreements Internal/con?dential
Performance appraisals Internal
Slide shows Internal
Market and business outlook From industry association
Slide show From consultants
Tax memorandum From enterprises association
610 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
distribution processes and were responsible for
commercial inventories and related obsolescence
risks. They formed the connection between the pro-
duction and commercial environments. A national
Table 2
Summary of interview data used for analysis
Interviews
Type Number of interview hours Number of people interviewed
Preliminary interviews 9 7
In-depth case interviews 46.5 À 2.5 (preliminary hours) = 44 23
At corporate level 3 (Also involved in preliminary round)
Involving Tax director and Tax managers
Quality director 1
Internal auditor for SPD 1
At product division level
Involving controller 1
Plant controllers 2
Industrial planner 1
General plant managers 2
At SBU level
Involving controllers 2
At BL level
Involving general managers 2
Controller 4
Logistics manager 1
Outside transfer pricing experts 25.5 16
Follow-up inside MNE 8 8
Follow-up outside MNE 6 16
Total 92.5 67
raw
materials production
of circuit
plates
pre-
test
product
bank
assembly test industry
warehouse
custom-
er
‘just in
time’ store
Production plant Assembly
& test plant
Regional
sales
organisation
Manufacturing activity Controlled stockpoint
National
sales
organisation
(worldwide)
(USA, Europe)
(North America,
Europe, Asia)
(Asia, Europe,
USA)
Service providers
(worldwide)
Business Line (BL)
Fig. 2. The value chain within SPD in 2001.
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 611
sales organisation was the contact point of SPD
in the customer’s country. Unlike the regional
sales organisations, national sales organisations
did not store or distribute stocks. A number of
service providers located worldwide (such as the
Corporate Centre, Technical Support Centres
and Application Laboratories) took care of all
activities that were not directly related to the
goods ?ow.
The semiconductors-in-progress, physically
travelling from one functional (operational or
commercial) unit to the other and thereby cross-
ing both organisational and ?scal borders, were
monitored and steered by the BLs. While the
BL general manager was located in one country,
every BL was active on an international scale
and made use of SPD factories and departments
all over the world. BLs undertook joint marketing
initiatives with the sales organisations. The BLs
also incorporated product knowledge and devel-
oped new products, often with support from the
laboratories. BLs with similar products were
grouped as SBUs. SBUs formulated product
groups’ worldwide strategies and allocated assets
and resources in line with the targets agreed by
product division management. They also commu-
nicated with key executives of strategic customers
and suppliers.
Semiconductors’ transfer pricing policy in 2001
In 2001, SPD used four types of transfer prices.
Since the number of production steps undertaken
in a particular plant varied, a price was calculated
for every separate step. The transfer price between
operational units was the sum of the prices for all
steps already undertaken. ‘Production’ prices con-
sisted of budgeted costs increased with a uniform,
?xed pro?t uplift. ‘Assembly’ and ‘test’ prices
included a uniform, ?xed, but lower, pro?t mark-
up on top of the budgeted costs. The transfer price
between an assembly and test facility and a regio-
nal sales organisation was the aggregate of produc-
tion, assembly and test costs plus pro?t mark-ups.
The transfer price between regional and national
sales organisations was the resale price minus a
uniform, ?xed pro?t margin. ‘Resale’ transfer
prices used the lowest pro?t margin percentage.
The three percentages were motivated by the func-
tional analysis applied to the interacting parties.
Fig. 3 shows the product transfer prices.
Budgeted costs were used as the cost basis to
encourage e?ciency and cost control at the pro-
duction and assembly levels. The corporate con-
troller at SPD stressed that
‘using actual costs (when determining trans-
fer prices) would allow the supplying divi-
sions to pass along cost ine?ciencies to the
buying party’ (August 1999).
In order to meet the tax authorities’ require-
ment to use actual costs, an explicitly documented
adjustment was made at the end of the year. Sim-
ilarly, cost-plus transfer prices were used to
account for the delivery of services, again applying
a ?xed pro?t mark-up. Unlike the uniform per-
centages related to the product stream, the mark-
up percentages for calculating the services price
would di?er for each BL, re?ecting its own speci?c
use of the services available.
The tax compliant transfer pricing policy was
used in two ways. On the one hand, transfer prices
were used to invoice the subsequent functional
entities along the value chain. At an aggregate
level, they contributed to the results of the geo-
graphical sites, which were of particular interest
to the national tax authorities. On the other hand,
transfer prices in?uenced the results of the SBUs
and BLs which were responsible for steering the
semiconductors through the value chain. From
the moment the products were sent from the prod-
uct bank to an assembly and/or test facility, the
production transfer price became a cost for the
BL. Similarly, the BLs paid for the assembly and
test activities, for the sales e?orts and for the use
of particular services.
Dynamic analysis
SPD’s tax compliant transfer pricing policy
emerged over a number of years. We trace its
dynamic in?uence on the MCS for the period
1993–2001, following the framework shown in
Fig. 1. However, since we cannot ignore the com-
pany’s strategic focus (Eccles, 1985), we will ?rst
612 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
brie?y report on our case MNE’s developments in
strategy and organisation design.
Strategy and organisation design
At MNE corporate level, two strategic phases
can be distinguished. In the period 1993–98 the
main strategic goal was to recover the MNE’s
pro?tability. In 1993 corporate management sig-
ni?cantly simpli?ed the product costing and bud-
geting system and insisted on its ‘consistent
application in all product divisions’ (SPD control-
lers’ meeting, November 1995). The aim was to
increase understanding of the costing system so
that cost-reducing suggestions might emerge at
all levels.
10
In the period 1998–2001 creating
shareholder value became the priority of any deci-
sion-making. In 1998 corporate management
implemented a version of economic value added
(EVA) to measure the ?nancial performance of
all product divisions. In that year corporate man-
agement also gave the Corporate Quality depart-
ment the responsibility to develop the balanced
score card (BSC) and to introduce it in all product
divisions.
SPD adopted the simpli?ed costing and budget-
ing system in 1993 and further introduced strategic
benchmarking, which was to be applied strictly.
The corporate focus on clear and transparent sys-
tems was among the driving factors to gradually
restructure SPD towards a matrix organisation
between 1996 and 2001. Along the product axis
of the matrix, BLs were regrouped into SBUs
according to the similarity of their products and
technological processes. Along the functional axis
of the matrix, operational and sales activities were
increasingly centralised. In 1996 SPD established a
coordinating SBU Assembly and Testing to man-
age the assembly and test plants, and from 1998
on, it allocated an increasing number of produc-
tion plants to the SBU Production. While plants
used to be part of a particular BL, most of them
were decoupled from that BL by 2000. In the same
raw
materials
production pre-
test
product
bank
assembly test industry
warehouse
Production plant Assembly
& test plant
C + a C + b C + b C + b R - c
custom-
er
‘just in time’
store
Regional
sales
organisation
market price
National
sales
organisation
‘Cost Plus’ ‘Resale Minus’
Transfer price
Transfer price
Transferprice
Manufacturing environment: Cost (C) + uniform, fixed profit uplift
(a for production, b for assembly or testing)
Sales environment: Resale price (R) – uniform, fixed profit margin (c)
Fig. 3. Product transfer pricing in SPD in 2001.
10
This strategic focus on simplicity and traceability was
reinforced by the increasing need for transparency for transfer
pricing tax compliance, promoted by Corporate Tax, as
explained in the section on Transfer Pricing Tax Compliance.
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 613
year the regional sales organisations were
regrouped under a global sales organisation and
organised into customer-line segments (automo-
tive, consumer, etc.). By July 2001 the organisa-
tional restructuring of SPD had been completed.
The strategic dynamics are summarised in Table 3.
Transfer pricing tax compliance
By 1993 the Corporate Tax department had
become aware of US initiatives to strengthen
transfer pricing regulations. At that time
‘we did not actively oversee the transfer pric-
ing policy in the product divisions, nor did
we have a written version of their policy.
Until 1993 there were a number of general
transfer pricing principles, but the parties
involved had some freedom to negotiate
transfer prices . . . From 1993 on, the ful?l-
ment of the compliance requirements became
the primary goal for Corporate Tax’ (Corpo-
rate Tax director, November 2000).
Corporate Tax’s main concern was the potential
incurrence of economic double taxation (internal
letter, December 1993). To avoid any misunder-
standing by the tax authorities, Corporate Tax
urged the product divisions to clearly document
that their transfer prices respected the arm’s length
principle and related detailed tax rules:
‘. . . Such a transfer pricing document needs
to be provided by the business because prod-
uct divisions like semiconductors operate in
an extremely complex environment’ (Corpo-
rate Tax director, November 1999).
Over the period 1993–2001 Corporate Tax con-
tinued to educate managers at all organisational
levels about the importance of using ?scally
acceptable transfer prices and clear and contempo-
raneous documentation. Additionally, they intro-
duced internal audits to monitor the correct
application of the formal transfer pricing policy
(minutes meeting, June 1995; SPD internal audi-
tor, October 2000).
For SPD transfer pricing was crucial due to
the global character of its activities. SPD devel-
oped its ?rst documented transfer pricing policy
by providing short answers to Corporate Tax’s
information requests (Finance and Accounting
department letter, December 1993). The resulting
four-page document included a rough functional
analysis (internal memos, September 1994). Cor-
porate Tax encouraged the setting up of a SPD
Transfer Pricing Workgroup in 1995, that aimed
at revising the transfer pricing policy in terms
of its consistency throughout the product division
and at drafting a transfer pricing document to be
used for ?scal compliance (minutes Workgroup
meeting April 1995, May 1995).
Who was involved? The Workgroup consisted of
nine members: four ?nancial managers, two Cor-
porate Tax managers, one BL manager, one plant
manager and one SPD legal department manager
(minutes Workgroup meeting, May 1995). How-
ever, other managers at all levels were involved
in the transfer prices revision discussion: SPD’s
Table 3
Dynamics in strategy and organisation design
Strategic focus 1993–98 1998–2001
Corporate level Recovery of pro?tability: simpli?ed
product costing and budgeting system
Creating shareholder value:
introduction of EVA and BSC
Product division level:
speci?c for SPD
Implementing new costing/budgeting
system, introduction of strategic
benchmarks
1998: Implementation of EVA
and BSC
1996–2001: Restructuring towards matrix form
Product axis: SBUs with similar BLs
Functional axis: 1996: SBU Assembly and Testing
1998: SBU Production
2000: Restructuring of sales organisations
614 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
management team, corporate internal auditors,
controllers and ?scal managers from various coun-
tries, plant managers and controllers, BL manag-
ers and controllers, SBU managers, controllers
from the Chief Financial O?cer (CFO) o?ce
and from the Chief Operations O?cer (COO)
o?ce, and regional sales managers (internal
memo, 1995; emails, September 1995; faxes, June,
September, October 1995).
How were prices set? Existing transfer pricing
practice, based on the physical ?ow of the prod-
ucts and services, formed the foundation of the
revised policy. SPD, however, wanted to improve
transparency and consistency and in this way be
able to better justify the policy to the tax authori-
ties. The Workgroup introduced a number of uni-
form and unambiguous formulas to be applied
universally: the same transfer pricing method was
used for all semiconductors-in-progress at the
same stage of production when crossing the bor-
ders of their organisational units, wherever these
were located geographically. For all manufactur-
ing activities a transfer price based on budgeted
costs plus the same ?xed pro?t uplift was applied,
while the national sales organisations paid the
regional sales organisations their sales price minus
a ?xed, predetermined pro?t margin. Adjustments
were not allowed other than under exceptional cir-
cumstances and the possibility of price negotia-
tions was eliminated (minutes Workgroup
meeting, June 1995; notes, 1995; memo, March
1996; emails, 1995, 1996; administrative instruc-
tion, July 1999):
‘SPD uses a transparent transfer pricing
model. The main point is that transfer pric-
ing is not determined by negotiations or
internal arrangements, but that it is just a
fairly measured system. When the model
shows a structural defect, it will be discussed
at product division level’ (a SBU controller,
October 2000).
‘The consequence of using the models is that
we avoid endless discussions on plate prices,
that we reach easy cost allocations between
our plants and the BLs. In addition, it leads
to a simpler budgeting process’ (SPD Vice
president/SBU controller, March 2001).
Which information was used? The transfer prices
were based on budgeted costs for MCS reasons
and adjusted to actual costs at year-end in line
with the ?scal rules (minutes Workgroup meeting,
June 1995). Cost data was involved, together with
available internal and external comparables (a BL
site controller, March 2001).
‘The budgeted transfer prices depend on the
expected loads in the plants . . . Normally
the prices are benchmarked and should be
best in class’ (a BL controller, September
2001).
Internal benchmarking had been introduced in
1994 in the light of the strategic objective of recov-
ering pro?tability. External benchmarking came in
1995, induced both by this strategic objective and
by tax compliance rules. To ful?l the IRS’ compa-
rables requirements, transfer prices were compared
to third party references in order to prove their
arm’s length character.
‘The strategic reasons and the tax compliance
reasons to introduce external benchmarking
seem to reinforce each other’ (a BL control-
ler, October 2000).
When were prices set? In practice, SPD calcu-
lated transfer prices once a year. Interim revisions
were possible after approval by SPD’s price board,
but would only be implemented if there were sub-
stantial and external reasons like currency swings
or changed purchase prices (controllers’ confer-
ence, 1996; memo and emails, March 1996):
‘In case of signi?cantly di?erent market
prices, it is possible to change prices during
the year. However this has never been done,
since our model tries to track long-term evo-
lutions’ (a COO o?ce controller, December
2000).
Several managers added that adjustments,
although possible, were avoided in order to maxi-
mise clarity for both internal management and the
tax authorities:
‘There are hardly any changes in the year in
order to avoid confusion’ (a plant general
manager, July 2001).
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 615
How was con?ict managed? When con?ict arose,
managers had to prepare a case and present it
to product division management. One SBU con-
troller gave an example of an adjustment of trans-
fer prices because of the pressure on the chip
market:
‘a structural problem was felt in the produc-
tion price model. We ?rst had a discussion
at SBU level. Later, we discussed this with
the COO o?ce. . . During a thorough inves-
tigation, di?erent aspects, semiconductor
type, prices, package costs, etc. were scruti-
nised. . . Product division management
exceptionally gave in and adjusted the trans-
fer price. Even under these circumstances,
the product division is not keen to allow
an adjustment of transfer prices’ (October
2000).
Corporate Tax requested SPD’s Finance and
Accounting department to implement a ‘key docu-
ment retention policy’:
‘Retention of all relevant transfer pricing
documents is very important, because tax
audits are to be expected sooner or later in
one or more countries’ (letter, August 1995;
memo, May 1995).
The MNE underwent a number of tax audits,
‘more speci?cally in countries trying to catch up
with the detailed US regulations’ (a Corporate
Tax manager, November 1999), but no signi?cant
problems had been encountered during the period
under study. Maintaining documentation was
mainly the responsibility of the production, assem-
bly and testing, and sales units.
‘At that level every step is tracked, especially
at production plant and assembly and test
level. So more at the functional level, and less
at BL level since they do not receive real
invoices. Although it is a steering mecha-
nism, the whole tracking needs to be trans-
parent at any moment. At that level the
?scal audit takes place. The di?erent entities
need to be able to prove that they follow the
o?cial transfer pricing policy’ (a SBU con-
troller, October 2000).
By the end of 1995 SPD’s transfer pricing doc-
ument consisted of 21 pages,
11
published by
Corporate Tax in 1996 as a part of the enter-
prise-wide Transfer Pricing document. External
consultants checked the document (as well as later
versions) and provided more detailed evidence of
comparables. Moreover, in the following years
SPD management continued to improve the trans-
fer pricing policy’s consistency. While the 1995
Workgroup had conducted a detailed functional
analysis (included in the Transfer Pricing docu-
ment), the CFO noticed in 1999 that
‘recent developments in the semiconductor
environment have quite an impact on the risk
factors that had been set and de?ned earlier.
Together with the relevant corporate depart-
ments and the members of the product divi-
sion’s management team we reviewed the
functional analysis . . . The main conclusion
is that the risk factors in the production
plants have developed di?erently from the
assembly and testing area. For that reason
we need to di?erentiate the pro?t uplift, pro-
viding each of the two sectors with their own
risk-based pro?t uplift’ (internal letter CFO,
February 1999).
The review of the functional pro?les highlighted
that production required increasingly higher capi-
tal investments than the assembly and test processes.
The resulting di?erentiation of the mark-ups favour-
ing production was included in the 1999 transfer
pricing document (February 1999).
Table 4 summarises the dynamics in the SPD’s
transfer pricing tax compliance. We conclude that
managers at all levels were involved in revising the
transfer pricing policy and that all were held
responsible for compliance and implementation.
In addition, an internal audit team was appointed
to monitor application of the transfer pricing pol-
icy. The dynamics in MCS design and use are now
examined over the time period in which the initia-
tives with respect to transfer pricing tax compli-
ance took place.
11
The contents of the 1996 and 1999 Transfer Pricing
document are summarised in Table 4.
616 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
MCS design: organising controls
Gradually, starting from 1993, SPD introduced
a uniform and transparent transfer pricing policy
under the impetus of the MNE’s top management
priority given to tax compliance. One of the major
changes was that transfer pricing negotiations
across the product division were no longer allowed
because negotiated transfer prices were deemed
incompatible with the arm’s length principle
(OECD, 1995). The Workgroup centralised and
streamlined the existing policy of this large and
complex product division, reformulating it as sim-
ply and uniformly as possible so it could be easily
understood by SPD’s own managers and by out-
siders, especially the tax authorities. The overall
simpli?cation of the transfer pricing policy rein-
forced the trend set by the changes in corporate
strategy since 1993 (minutes Workgroup meeting,
June 1995). Not only the strategic objectives but
also the tax compliance objectives bene?ted from
the SPD’s restructuring (1996–2001). Due to the
creation of the SBU Assembly and Testing in
1996, a single, uniform transfer pricing policy
could govern the transfers between this SBU and
the regional sales organisations. Similarly, the set-
ting up of the SBU Production in 1998 made the
transfer pricing policy more transparent. In the
same year SPD simpli?ed the transfer pricing
model for the national sales organisations by mak-
ing every country use an identical pro?t percent-
age. In sum, once the transfer pricing policy had
been redesigned, involving SPD managers at all
levels, transfer pricing was managed in an increas-
ingly centralised way.
In terms of the ‘structuring of activities’, we
notice how both corporate and product division
management pressed for the strict adherence to
the extensively documented transfer pricing policy:
the uniform transfer pricing procedures had to be
respected under all circumstances and internal
auditors monitored their application. Deviations
were only exceptionally allowed. Corporate Tax
undertook the same role in the other product
divisions to prepare an o?cial, enterprise-wide
transfer pricing document. Documentation of the
functional analysis and data about comparables
were crucial in order to justify the transfer price.
The need for a functional analysis seems to have
played an important role in the decision to restruc-
ture SPD’s activities. By recognising the same
functions, wherever they were located geographi-
cally, the same transfer pricing method could be
applied. The transfer pricing document retention
policy ensured that all relevant transfer pricing
information was kept on a contemporaneous
basis. Table 5 summarises the events in terms of
the MCS.
Table 4
Dynamics in transfer pricing ?scal compliance
Initiative by Corporate Tax department Reaction by SPD
1993: Request to all product divisions to
document their transfer pricing policy for goods
1994: Prepared a four-page SPD transfer pricing document
Contents: current transfer pricing methods in use, motivation,
situation of regional and national sales organisations, conclusion
1995: Request to SPD to elaborate on the transfer
pricing policy for goods
1995: Set up a SPD Transfer Pricing Workgroup with nine ?xed members
(from ?nancial department, Corporate Tax Managers, BL manager, plant
manager, SPD legal department) and other managers involved regularly
(corporate internal auditors, SBU managers, regional sales managers)
1996: Publication of an enterprise-wide transfer
pricing document. External consultants checked
the documents and provided evidence of
comparables
1996: Provided a 21-page Transfer Pricing document Contents:
Introduction, Description of semiconductors activities, Legal structure,
Business organisation, Basic transfer pricing policy, Transfer pricing
method for the manufacturing organisations, Transfer pricing method for
the selling organisations, Functional analysis, Transfer pricing to other
MNE organisations, Other issues
1999: Publication of a revised enterprise-wide
transfer pricing document
1999: Di?erentiated the mark-up for production (higher) from the mark-up
for assembly and test activities Contents: Identical sections as in 1996
document
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 617
MCS design: planning controls
SPD calculated transfer prices on the basis of
budgeted costs, using the simpli?ed budgeting
and costing system adopted in 1993. This new sys-
tem enabled strategic benchmarking to become an
integral part of the budgeting process since 1994
(controllers’ meeting, November 1995; Annual
Report, 1998). While internal benchmarking was
introduced for strategic reasons, the introduction
of external benchmarking was also driven by the
need to provide third party references to prove
the arm’s length character of the transfer prices
(a BL controller, October 2000; IRS, 1994). One
of the reasons to create separate SBUs for Produc-
tion and for Assembly and Testing was that it
helped SPD management to apply internal and
external benchmarking in the operational environ-
ment. Moreover, where external benchmarks were
available, the consistent application of the uniform
transfer pricing formulas resulted in the remo-
val of any anomaly a?ecting the comparability of
Table 5
Dynamics in the MCS
Tax compliance MCS
Organising controls
Since 1993: 1993–94: Implementation of a central, simpli?ed budgeting
and costing system in SPD
Need for a consistent and transparent transfer pricing policy
as the best defence against the tax authorities worldwide,
involving clear transfer pricing procedures and an
understandable document for tax compliance
1994: First SPD transfer pricing document
1995: Internal audit team involved to follow up on the
implementation of the revised transfer pricing policy
1996: Central design of uniform assembly and test prices
1996: Second SPD transfer pricing document, containing an
extensive functional analysis
1998: Central design of uniform production prices
1999: Third SPD transfer pricing document, with di?erentiated
uplifts for production versus assembly and testing
Planning controls
1993: Need for a consistent and transparent transfer pricing
policy as the best defence against the tax authorities
worldwide
1994: Implementation of simpli?ed costing and budgeting system
in SPD, formally designed to involve both a bottom-up and
top-down process
1995: Need for external benchmarks, i.e. comparables, to
motivate the arm’s length character of the transfer prices
1994: Introduction of internal benchmarking: increasingly
top-down approach
1995: Introduction of external benchmarking: increasingly
top-down approach
1996: Same targets imposed for all assembly and test plants
1998: Same targets imposed for all production plants
Evaluating and rewarding controls
1993: Corporate Tax department started to put pressure on
the product divisions to adopt a uniform, consistently
applied transfer pricing policy
1998: Introduction of BSC on a company-wide basis: ?nancial
and customer-related performance measures were determined
by product division level; competence and process measures
were determined by managers from all hierarchical levels
1998: Introduction of bonus system in Europe (already existing
in US and Asia). No bonus was paid if ?nancial BSC targets
were not attained. However, if managers could give a reasonable
explanation for failing to meet the non-?nancial BSC targets,
a (part of the) bonus could still be paid
2000: Review of the BSC
2001: Product division management was puzzled about the
performance evaluation system of the national sales
organisations: if more control over costs was installed,
the current transfer pricing system could come under pressure
618 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
performance of similar organisational units, both
within and outside SPD. In other words SPD
could apply the same targets to similar plants.
The strict benchmarking exercise encouraged the
plants to aim at ‘best in class’ prices (1999 Transfer
Pricing document; a BL site controller, March
2001). While the budgeting process
12
involved
two-way communications (a BL controller, Octo-
ber 2000), interviewees mentioned that
‘benchmarking and top-down considerations
receive more weight than bottom-up consid-
erations and lower-level managers do not
experience real participation’ (a BL HR
manager, April 2001).
This observation can only be fully understood
in the light of the importance attached to strategic
benchmarking (an SBU controller, October 2000).
The targets were ‘set up to be SMART: Speci?c,
Measurable, Applicable, Realistic and Time
related’ (a plant general manager, September
2001). Operational managers reported that
‘the uniform, benchmarked targets can be
easily attained by the older and more mature
plants, but are harder to attain for the youn-
ger and smaller plants’ (controller SBU
Assembly and Testing, December 2000).
The facts are summarised in Table 5: we
observe an increased emphasis on uniform bench-
marking targets, restricting lower level manager
participation in setting targets or changing bench-
marks. Standard tightness, especially of ?nancial
targets, was experienced di?erently by SPD man-
agers in di?erent functions and plants.
MCS design: evaluating and rewarding controls
SPD evaluated the performance of individual
managers in relation to predetermined targets.
The introduction of the BSC in 1998, through
the Corporate Quality department, represented
an important development for performance evalu-
ation in SPD. Top management at SPD was
responsible for determining the ?nancial and cus-
tomer-related performance indicators, while the
competence and process measures were deter-
mined by the lower level managers (Corporate
Quality director, April 2001). Targets could be for-
mulated at site or departmental level and could be
either individually or group based, in line with the
intentions of the BSC. Despite the introduction of
the BSC, interviewees stressed that overall ?nan-
cial measures received the primary focus:
‘In terms of the evolution of performance
evaluation over time, the focus is now clearly
more on ?nancial targets and returns. It went
from attention to the recovery of pro?tability
to shareholder value and growth potential’
(a BL HR manager, April 2001).
Typically EVA, sometimes replaced by earnings
before interest and tax (EBIT), was the single most
important bonus target. EVA was calculated by
applying a number of corrections to EBIT, partic-
ularly for working capital and, notably, tax. Both
corrections were determined centrally and could
not be in?uenced locally by the managers under
evaluation. Take as an example the bonus scheme
of one BL’s management team. In 2000, 25% of
the total bonus for its managers was attributed
to EVA. Cash ?ow, stocks and sales were followed
up and taken into account during the evaluation of
EVA. The non-?nancial measures each comprised
5%, 10% or 15% of the maximum bonus. For this
BL, three customer-related measures each counted
for 5%, as well as three time-to-market related pro-
cess measures for three key projects. Additional
process and competence measures were in place,
each counting for 5–15% of the maximum bonus
(BL bonus matrix, 2000). The BSC clearly enabled
performance evaluators to incorporate non-?nan-
cial elements:
‘The BSC has in any case the advantage of
enabling the soft aspects to be measured in
a better way. HRM is learning to experiment
with it . . . I’m getting prepared to make these
elements more concrete. . . Moreover, evalua-
tion has become more acceptable on a lower
level’ (a BL HR manager, August 2001).
12
By the time the BSC was introduced, the emphasis on
traditional annual budgeting was reduced in favour of rolling
forecasts and external benchmarking (Annual Report, 1998;
Corporate Quality director, April 2001).
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 619
For production, assembly and testing, the bud-
geted, benchmarked transfer prices – whilst
included in the EBIT, cash ?ow and EVA mea-
sures – could only be improved by reducing actual
costs. A plant manager reported
‘I try to make the BSC re?ect as closely as
possible what the operators and engineers
see in the factory, and make these visible ele-
ments ?nd a connection with the ?nancial
program. . . Multiply shipments by the pro-
duction transfer price, deduct costs and you
get EBIT’ (September 2001).
Plant managers, knowing the transfer price,
could estimate the EBIT for each load, with
EVA being equal to that EBIT estimate less the
centrally determined weighted average cost of cap-
ital multiplied by inventory and deducting the tax
charge. Hence, productivity, shipments and other
non-?nancials relating to process and competence
became primary controllable items for plant man-
agers. The main focus was to reduce costs. Simi-
larly, the national sales organisations recognised
that the ?nancial targets could only be outper-
formed by increasing sales volumes:
‘. . . how the national sales organisations are
evaluated: sales and sales volume are impor-
tant . . . It was di?erent in the past: for years,
the sales organisations were evaluated based
on EBIT, which put pressure on the transfer
pricing system. They would ask for lower
transfer prices, so that their pro?t could be
increased. . . This whole discussion has been
stopped, and now every selling organisation
gets a ?xed pro?t percentage. This means
that the confusion between the ?scal, local
and global result has been solved, and that
the sales organisations have no interest in
manipulation anymore’ (SPD vice presi-
dent/SBU controller, April 2001).
The ?xed pro?t percentage embedded in the
resale minus transfer price did not, however, dis-
tinguish between higher and lower margin prod-
ucts. SPD management realised this:
‘We are currently discussing whether it is
good to evaluate based on sales volume,
and whether the evaluation should not be
based on margins, on product mix. From a
managerial point of view it makes sense to
investigate whether the sales parties get the
maximal value out of the market. I stress
this is a managerial, not a ?scal issue. . . This
current discussion would again open up the
way towards more dialogue between the
BL and the sales organisation, so that a
higher margin can be squeezed out of the
market. It would lead to margin targets in
the countries and in the regions. However,
the consequence is that sales organisations
might ask again for the transfer prices to
be adapted. But such adjustment of transfer
prices is what we at SBU level want to avoid’
(SPD vice president/SBU controller, April
2001).
Despite the limited control that managers
within SPD could exercise over the ?nancial indi-
cators, non-attainment resulted in not receiving
the cash bonus award. By contrast, reasonable
explanations of deviation in terms of non-?nancial
targets would lead to a bonus being given (Bonus
System manual, July 1998). The BSC and the per-
formance contingent ?nancial rewards scheme
13
were under continuous review. The Corporate
Quality director commented on the BSC review
in 2000 that
‘The product division is still searching for the
variables that are best for driving people,
given that in this sector, the cyclical and
dynamic market has a major in?uence’
(April 2001).
The overview of evaluating and rewarding
controls, as summarised in Table 5, allows us
to conclude that the introduction of the BSC
and the related bonus matrix – with their
greater recognition of non-?nancial perfor-
mance indicators – counterbalanced the lack
of control SPD managers exercised over trans-
fer pricing.
13
For the European sites, the bonus scheme had only been
introduced in 1998.
620 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
Consequences for MCS use
Interviewees at SBU and BL levels seemed to
accept the high degree of centralisation and struc-
turing of activities:
‘The central transfer pricing policy is impor-
tant in the defence against the tax authorities.
The BL is kept outside of how the product
division is organising tax issues with the tax
authorities’ (a SBUcontroller, October 2000).
However, the impact on management control
was not regarded by all as an advantage:
‘Today, transfer pricing has mainly become a
matter for the Finance and Accounting
department. If you ask me, I think transfer
pricing should be used as an instrument to
stimulate the di?erent organisations towards
optimal behaviour. For stock management,
the implementation of the current transfer
pricing policy does sometimes come at the
expense of ?exibility’ (a BL systems and pro-
cedures manager, July 2001).
For the BLs and SBUs responsible for products
worldwide, the combination of the rigid transfer
prices and an emphasis on ?nancial performance
indicators meant that entrepreneurial initiatives
had to be carefully considered. For example, BL
managers following a market penetration strategy
needed to show short-term gains or live with the
consequences of the performance contingent
reward scheme (a BL controller, June 2001):
‘It is possible that a BLwants toparticipate ina
market because of strategic reasons. When the
BL is not pro?table in that market and expects
it will become pro?table within one year and a
half, it will accept the losses. It is a strategic dis-
cussion that can lead to pressures to adjust
transfer pricing. However, SPD wants to keep
the transfer pricing system simple, and does
not want to start adjusting it’ (SPD vice presi-
dent/SBU controller, March 2001).
Initiatives to open new markets, such as China,
appeared ?nancially unviable under the uniform
transfer pricing policy, as one BL general manager
illustrated:
‘I would prefer a closer co-operation between
the businesses and the manufacturing plants.
In order to reach competitive advantages, we
should be able to involve the plants more
into the basic business. One of our customers
is a Chinese producer of TV sets . . . The Chi-
nese end-customers do not ask for a perfect
image or a perfect sound, they just want
the TV to work. Therefore, the chips we o?er
are too expensive for the region. Still, in the
total chain, it can be an interesting business.
While marketeers would say: ‘the price is too
low, we do not want this business’ . . . from
the business creation side they would take
wrong decisions based on the internal price
construction – this is because we have a uni-
form transfer pricing system, while we have a
regional pricing structure for our ?nal prod-
ucts’ (August 2001).
The BL could not ?exibly adjust its transfer
prices to support sales in China without a special
request made to product division management.
Entrepreneurship seemed discouraged because of
the rigidity caused by the tax compliant transfer
pricing policy.
During the early interviews, several people
claimed that the transfer pricing policy had a neu-
tral role in the organisation,
‘. . . decisions at SBU level are not much
in?uenced by today’s transfer pricing mecha-
nism. It is managed at BL level, where it
works in quite a neutral way’ (a SBU con-
troller, October 2000).
However, recognition of the dynamics of semi-
conductor market conditions leads to a di?erent
perspective. Between 1993 and 2001 the semicon-
ductor market showed an overall growth trend
but was at the same time cyclical with highly vola-
tile growth rates (McClean Report, 2001). The
years 1999 and 2000 – our early interview period
– were characterised by a surging world economy
and a boom in the semiconductor market, with full
utilisation of all SPD’s production units. By the
end of 2000, however, demand for semiconductors
started to drop and in 2001, the downturn of the
cycle began to result in inventory adjustments,
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 621
overcapacity and the start of a global recession.
SBUs and BLs
14
put pressure on the transfer pric-
ing system: they argued with SPD top manage-
ment to get lower transfer prices in order to meet
targets and to survive the crisis.
‘The pressure to lower costs typically does
not come from the sales force but from the
BLs, who are under pressure to make more
pro?t’ (a BL controller, September 2001).
Plants managers from their side started to fear
that BLs would be tempted to accept chips at low
prices from outside suppliers given the existing
overcapacity. The recession put so much pressure
on the transfer pricing system that SPD top man-
agement allowed a number of exceptional adjust-
ments of the production transfer prices. However,
in 2001 the market deteriorated further and top
management took over all operational decisions
to maintain capacity utilisation as far as possible.
In addition, they suspended all bonuses in order
to alleviate the pressures on the operational system
and the MCS. One manager concluded that
‘SPD has recently incorporated a number of
non-?nancial elements, although still the
?nancial indicators are leading, which is
especially clear in today’s downturn situa-
tion’ (a HR manager September 2001).
Overall, we see that tax compliance had a mixed
in?uence on MCS use within SPD. In several
respects, the implementation of MCS design
changes can be viewed as enabling. The educating
role of Corporate Tax in increasing SPD manage-
rial awareness and the cross-section of managers
involved in the Transfer Pricing Workgroup illus-
trate this: the terms and processes of intra-group
trade were made very clear. With tax compliance
being such an overriding priority for our case
MNE during the period under study, internal and
global transparency had become explicit goals of
the transfer pricing policy. Once implemented,
however, the scope for SPD managers to repair or
to deal ?exibly with changing market conditions
was extremely constrained. The uniform applica-
tion and monitoring of the transfer pricing methods
created the impression of totally programmable
operations reinforced by extensive documentation.
For every exception to the documented policy,
product division management needed to give its
approval. This included decisions concerning com-
parables or benchmarks, outsourcing and market
initiatives. The tight codi?cation of best practice
routines and the pressure to stick to the written
rules had come at the expense of ?exibility and
repair: in order to preserve the highest possible
degree of transparency lower level managers were
not allowed to deviate from the documented rules.
The situation constrained managerial scope to
innovate and improve e?ectiveness. At the BLs, ini-
tiatives could be sti?ed by the emphasis on ?nancial
measures. At the sales organisations, the evaluating
and rewarding controls were being reassessed.
Overall, the interviewees felt the coercive conse-
quences of transfer pricing tax compliance to be
stronger than the enabling forces induced.
Development of the propositions
Based on the dynamic analysis of the single case
study, we formulate four propositions predicting
the consequences of tax compliant transfer pricing
on the design and use of the MCS in other research
contexts. Fig. 4 schematically depicts the proposi-
tions in the guiding framework.
MCS design
Tax compliance directly in?uenced centralisa-
tion and the structuring of activities within our sin-
gle case study: from 1993 on, the degree of
centralisation and documentation increased con-
siderably through the role of headquarter tax
and audit functions. In fact SPD’s central Work-
group, set up in 1995 to review the transfer pricing
policy in accordance with the ?scal requirements,
directly addressed the organising controls of the
MCS. The detailed documentation requirements
and procedures involved had to be uniformly
applied across organisational units performing
the same functions. We therefore predict that:
14
BL managers were the entrepreneurs along the product axis
but their autonomy to outsource was conditional on production
and assembly and testing operating at full capacity.
622 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
Proposition 1. Adoption of a single tax compliant
transfer pricing policy causes changes in an MNE’s
organising controls identi?ed by
1a. an increase in centralisation, and
1b. an increase in the structuring of activities.
The developments in the organising controls
in?uenced the planning controls: with increasingly
centralised control, SPD management expected all
similar functions undertaking similar risks to per-
form at similar levels determined by the internal
and/or external benchmarks. The use of external
comparables re?ected competitors’ achievements
and introduced challenging targets for internal
operations to attain. Benchmarks became centrally
determined and were rarely changed during the
year. Con?dence in these benchmarks gave plan-
ning a degree of certainty and simultaneously pro-
vided universal performance criteria. As a result,
the need for participative budgeting lessened.
Based on this analysis, Proposition 2 is formulated
as follows:
Proposition 2. Adoption of a single tax compliant
transfer pricing policy causes subsequent changes in
an MNE’s planning controls identi?ed by
2a. an increased use of universally applied internal
and external benchmarks, and
2b. a reduction in participation by lower manager
levels in setting standards and targets.
The e?ect of transfer pricing tax compliance on
the organising and planning controls further in?u-
enced the evaluating and rewarding controls. Over
the time period of this study, SPD managers’ con-
trol over non-?nancials appears to have increased
whilst controllability over ?nancials diminished.
Product division management set the benchmarks
for the ?nancial targets and determined transfer
prices as well as the capital charge and tax correc-
tion rates used to calculate EVA. Plant and sales
organisation managers in?uenced cost and sales
volume decisions respectively but within a cen-
trally planned production schedule. Operational
measures such as production yields, number of
shipments, customer response times and sales by
segment gained in importance as controllable lead
indicators. The BSC formalised the prominence of
these operational lead measures by including them
under process and competence factors. The award
of a cash bonus depended on strict attainment of
the ?nancials, but not of the non-?nancials: rea-
sonable explanations of deviations from compe-
tence and process measures might still trigger a
bonus. We therefore predict that:
Proposition 3. Adoption of a single tax compliant
transfer pricing policy causes subsequent changes in
Transfer pricing
tax compliance
with a
singe set of
transfer prices
Internal transparency +
Global transparency +
Flexibility -
Repair -
Organising
Controls
Centralisation +
Structuring of
activities +
MCS DESIGN
MCS USE
Prop. 1
Prop. 3 Prop. 2
Planning
Controls
Participative
budgeting -
Standard
tightness +
Evaluation/Rewarding
Controls
Non-financial, self-selected
performance indicators +
Different evaluation
style for financials versus
non-financials
Coercive
Use +
Prop. 4
Fig. 4. Resulting propositions.
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 623
an MNE’s evaluating and rewarding controls iden-
ti?ed by
3a. an increased recognition of self-selected, non-
?nancial performance indicators, being tai-
lored to individual subunits, and
3b. different evaluating and rewarding styles
relating to ?nancial and non-?nancial
indicators.
MCS use
Our study raises questions about the optimal
balance between Ahrens and Chapman’s (2004)
dimensions of MCS use. The dynamic analysis
demonstrates that tax compliance asymmetrically
in?uenced the four dimensions: the priority
placed upon internal and global transparency
resulted in a considerable loss of ?exibility and
repair and ?nally in a more coercive use of the
MCS. At the time of our study, the increase in
bureaucracy and formalisation due to the con-
temporaneous tax compliance requirement lim-
ited local and lower managers’ discretion to
such a degree that their commercial ?exibility
and business creation facilities seemed jeopar-
dised. So, the following proposition can be
formulated:
Proposition 4. Adoption of a single tax compliant
transfer pricing policy causes an increase in the
coercive use of an MNE’s MCS, identi?ed by
4a. an increase in internal and global transparency
4b. at the expense of ?exibility and repair.
Concluding discussion
Since the mid-1990s more and more countries
have markedly strengthened their ?scal regulations
pertaining to international transfer pricing. The
‘political visibility’ (Watts & Zimmerman, 1986)
of the MNE under study made it a potential target
for upcoming transfer pricing audits, especially in
periods of growth in the global market. Further-
more, corporate and product division managers
explained that
‘our MNE has regular contacts with national
governments worldwide for many other rea-
sons than for transfer pricing. An example is
the application for a patent or a technical
licence. If our MNE set up its transfer pricing
policy toshift all pro?ts tothe lowtax countries
– even if it was able to cover itself completely
froma ?scal point of view– we wouldnot count
on a lot of goodwill from the tax authorities’
(product division controller, August 2000).
In contrast to earlier contingency studies, this
transfer pricing investigation has bene?ted from
a process view acknowledging the dynamic charac-
ter of the in?uence of tax compliance on the MCS
(Hopwood, 1983; Jones, 1985; Otley, 1980; Swie-
ringa & Waterhouse, 1982). Time-ordered matrices
(Miles & Huberman, 1998) have helped us to reli-
ably summarise the chronological analysis of the
case. SPD put in place a transparent tax compliant
transfer pricing policy using a single set of transfer
pricing methods and records for both management
control and tax compliance purposes at the request
of Corporate Tax and MNE headquarters man-
agement. We ?nd that the process of transfer pric-
ing tax compliance spread through the di?erent
levels of the organisation: SPD managers at all lev-
els were involved in designing the tax compliant
transfer pricing policy. Once the uniform policy
was adopted, all managers were requested to com-
ply and the consistent implementation of the pol-
icy was monitored by the internal audit team.
Our propositions express a time-ordered
sequence of the impact of tax compliance on the
components of MCS design. SPD management
deliberately addressed the organising controls
(Chow et al., 1999) by centralising and document-
ing the transfer pricing policy to respond to the
strengthened tax regulations. In the longer run,
the initial e?ect on the organising controls also
a?ected the planning and evaluating and rewarding
controls. Target setting became a pseudo-partici-
pation exercise. The lower degree of controllability
that managers could exercise in terms of transfer
pricing and the related ?nancial results was partly
compensated by the introduction of the BSC and
the recognition of self-selected, non-?nancial per-
formance measures. The reward and performance
624 M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628
evaluation system remained focused on the ?nan-
cials and distinguished attainment in terms of
?nancial and non-?nancial measures. The impact
on the use of the MCS was more subtle, suggesting
that increases in transparency were counter-bal-
anced by losses of ?exibility due to the uniform
transfer pricing policy, which needed to be consis-
tently applied under all circumstances. Overall, a
more coercive use of the MCS (Ahrens & Chap-
man, 2004) limited managerial discretion to
improve innovation and e?ectiveness. As observed
above, the case company’s MCS did not immedi-
ately experience any negative e?ects from the single
tax compliant transfer pricing policy and top man-
agement seemed to largely underestimate how
strict adherence to the documented transfer pricing
policy would a?ect MCS use. The strong reactions
by lower level management, especially during the
2000–01 recession, however, emphasise the extent
of the undesirable side-e?ects. We conclude that
this delay is the major reason why corporate man-
agement of such a successful, mature MNE only
started to consider these negatives at the end of
our research period. It is clear that this situation
reinforces the need for longitudinal examination
to understand change in transfer pricing policies.
Eccles (1985, p. 256) recognised that ‘pressures
for uniformity in transfer pricing policies’ are based
on the advantages of administrative simplicity and
concerns about fairness in a domestic environment.
However, we ?nd that in an international context
the pressures for uniformity are increased by exter-
nal tax requirements and have disadvantages for
commercial entrepreneurship and managers’ moti-
vation. We emphasise this unexpected in?uence of
tax compliance because of its broader political rele-
vance: the constraining of managerial entrepreneur-
ship was not anticipated by the OECD Member
States. Instead, they stress that evaluation of the
arm’s length principle should always take into
account a ?rm’s commercial circumstances, which,
just as in the case of independent trade, allows devi-
ations from the general pricing policy if the ?rm
wants to pursue a market penetration strategy
15
(OECD, 1995). Our case study observations suggest
that ?rms in the process of gaining tax compliance
may be susceptible to losing a certain degree of ?ex-
ibility to exploit fully newmarket opportunities. No
earlier studies have investigated the consequences of
the current tax authorities’ approach towards trans-
fer pricing for internal decision making, perfor-
mance evaluation and managerial motivation
(Eden, 1998; Hamaekers, 2001).
Finally, we want to stress that when researchers
seek to understand MCS design and use in com-
plex, modern-day MNEs, they need to take into
consideration the priority that corporate manage-
ment a?ords to tax compliance. Despite attempts
to gain alternative explanations through negative
case reasoning, our study proposes a re?nement
of the contingency literature in terms of how envi-
ronmental factors in?uence the potentially active
role of management accounting (Abernethy &
Lillis, 1995; Ahrens & Chapman, 2004; Chapman,
1997; Chenhall, 2003; Fisher, 1995; Luft & Shields,
2003). Instead of enumerating the objectives of the
transfer pricing policy and the factors in?uencing
the methods used (Borkowski, 1992a, 1992b,
1996; Cravens & Shearon, 1996; Cravens, 1997;
Emmanuel & Mehafdi, 1994; Tang, 1979), this
study investigated the way ?scal regulations can
in?uence the internal role of transfer pricing and
the MCS to which it belongs. Our propositions
suggest that the process of gaining tax compliance
should be explicitly examined when researching
the design and use of the MCS within MNEs.
With the aim of analytic generalisation (Sca-
pens, 1990; Yin, 2003), we based our study on
the analysis of one case company favouring the
use of the same transfer pricing policy in daily
business activities as the best defence against ?scal
intrusion and enquiry. We cannot conclude that
non-compliant transfer pricing policies interact
with the design and use of the MCS in a di?erent
way, nor whether degrees of tax compliance are
feasible or equally in?uential. The characteristics
of the case clearly provide ways to extend this type
of research. First, the propositions can be tested in
other MNEs that use a single transfer pricing pol-
icy to pursue tax compliance and these may
include less mature and established MNEs. Sec-
ond, the adoption of tax compliance using a single
15
A lower than arm’s length transfer price allows a lower ?nal
product price to stimulate sales in a new environment.
M. Cools et al. / Accounting, Organizations and Society 33 (2008) 603–628 625
transfer pricing policy appears to create a need for
non-?nancial performance indicators at lower
management levels, which may be appropriate
with a compatible MCS design to evaluate and
reward performance. Further, future work is
needed to study more systematically the various
advantages and disadvantages of adopting single
transfer prices. Finally, the propositions can be
tested for MNEs with more than one set of trans-
fer pricing records. This focus may o?er valuable
insights to MNE relationships with tax authorities.
For each investigation, observation over a sus-
tained period of time seems essential if a rich
understanding is to be obtained.
Acknowledgements
The authors wish to thank the following people
for their insightful comments on earlier drafts of
this paper: John Burns, David Cooper, Sigrid De
Wever, Theresa Libby, David Otley, Paolo Perego,
Frank Selto, Ann Vanstraelen and the participants
at the 4th ENROAC workshop on Management
Accounting Change (Groningen), the Research
Day on Accounting (Ghent), the Accounting
Workshop organised by the Universities of Amster-
dam and Nyenrode, the AAA Management
Accounting Conference (Miami), and the Financial
Management Seminar at the Rotterdam School of
Management. We also wish to record our thanks
to the key contact persons at the company involved
in this study and all its interviewees for their open-
ness and willingness to participate in this study.
We also thank the editor and two anonymous
reviewers for their constructive suggestions for
improving this paper.
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