The Need for Working Capital Adjustments in a Transfer Pricing Setting: A Theoretical Note
6 Pages Posted: 26 Aug 2005
Date Written: July 1, 2004
Transfer pricing involves the price that one member of a multinational organization charges another member operating in a different tax jurisdiction for goods, services or intangible property. Performing working capital adjustments are necessary to ensure that returns derived from a set of comparables can be reliably applied to a tested party operating in a non arm's length setting. There is no theoretical argument that suggests that working capital adjustments should be rejected. The analysis has shown that operating in a perfectly competitive environment implies that working capital adjustments are a requirement. These findings are supported on theoretical grounds which are violated when different working capital intensities between firms exist. Given that firms are assumed to be price-takers, then the only way that prices charged by all firms can be a taken as given is if all of the factors that affect prices, including working capital intensities, are the same.
Keywords: Transfer pricing, working capital adjustments, perfectly competitive markets
JEL Classification: L00
Suggested Citation: Suggested Citation