Multinational face several pricing problems when selling abroad. They must deal with price escalation, transfer prices, dumping charges, and gray markets.
When companies sell their goods abroad, they face a price escalation problem. A Gucci handbag may sell for $120 in Italy and $240 in the United States. Why? Gucci has to add the cost of transportation, tariffs, importer margin, wholesaler margin and retailer margin to its factory price. Depending on these added costs, as well as the currency fluctuation risk the product might have to sell for two to five times as much in another country to make the same profit for the manufacturer. Because the cost escalation varies from country to country, the question is how to set the prices in different countries. Companies have three choices:
Set a uniform price everywhere: Coca-Cola might want to charge 75 cents for Coke everywhere in the world, but then Coca-Cola would earn quite different profit rates in different countries. Also, this strategy would result in the price being too high in poor countries and not high enough in rich countries.
Set a market based price in each country: Here Coca-Cola would charge what each country could afford, but this strategy ignores differences in the actual cost from country to country. Also, it could lead to a situation in which intermediaries in low price countries reship their Coca-Cola to high price countries.
Set a cost based price in each country: Here Coca-Cola would use a standard markup of its costs everywhere, but this strategy might price Coca-Cola out of the market in countries where its costs are high.
Another problem arises when a company sets a transfer price (the price it charges another unit in the company) for goods that it ships to its foreign subsidiaries. If the company charges too high a price to a subsidiary, it may end up paying higher tariff duties, although it may pay lower income taxes in the foreign country. If the company charges too low a price to its subsidiary, it can be charged with dumping. Dumping occurs when a company charges either less than its costs or less than it charges in its home market, in order to enter or win a market. In 2000, Stelco, a Canadian steelmaker, successfully fought dumping of steel products by steelmakers in Brazil, Finland, India, Indonesia, Thailand, and Ukraine. A Canadian tribunal found that cut price steel imports from these countries caused â€œmaterial injury to Canadian producersâ€, including Stelco.
When the US Customs Bureau finds evidence of dumping, it can levy a dumping tariff on the guilty company. Various governments are watching for abuses and often force companies to charge the armâ€™s length price â€“ that is, the price charged by other competitors for the same or a similar product.
Many multinationals are plagued by the gray market problem. The gray market consists of branded products diverted from normal or authorized distributions channels in the country of product origin or across international borders. Dealers in the low price country find ways to sell some of their products in higher price countries, thus earning more. Industry research suggests that gray market activity accounts for over $40 billion in revenue each year. In 2004, 3Com successfully sued several companies in Canada (for a total of $10 million) who provided written and oral misrepresentations to get deep discounts on 3Com networking equipment. The equipment, worth millions of dollars, was to be sold to a US education software company and sent to China and Australia, but instead ended up back in the United States.
Very often a company finds some enterprising distributors buying more than they can sell in their own country and reshipping the goods to another country to take advantage of price differences. Multinationals try to prevent gray markets by policing the distributors, by raising their prices to lower cost distributors, or by altering the product characteristics or service warranties for different countries. In the European Union, the gray market may disappear altogether with the transition to a single currency unit. Once consumers recognize price differentiation by country, companies will be forced to harmonize prices throughout the countries that have adopted the single currency. Companies and marketers that offer the most innovative, specialized, or necessary products or services will be least affected by price transparency.
The Internet will also reduce price differentiation between countries. When companies sell their wares over the internet, price will become transparent: Customers can easily find out how much products sell for in different countries. Take an online training course, for instance. Whereas the price of the classroom-delivered day of training can vary significantly from the United States to France to Thailand, the price of an online-delivered day of training would have to be similar.