Multinational Company Performance Measurement

The nonfinancial differences among countries in economy, laws, customs, and politics should
play a part in evaluating a foreign division’s results.

Multinational companies must account for additional concerns such as how tariffs, differences
in exchange rates, and the availability and relative cost of materials and skills are also factors
could affect performance evaluations.

The use of transfer pricing by multinationals to gain tax and income advantages can conflict with the use of transfer pricing to evaluate performance or to create performance incentives

For example: Some pharmaceutical companies produce their goods in Puerto Rico and sell the
majority of the product in the mainland United States. Because Puerto Rico has a relatively
lower tax status than the rest of the U.S., the incentive is for the pharmaceutical company to
charge the highest transfer price possible for drugs sold to their U.S. divisions (such as market
price), thus retaining the profits in the territory that has a lower tax rate. Conversely, if the
producing country has relatively higher taxes than the primary country in which sales occur, the
incentive will be to charge the lowest price possible (such as cost) for the goods so that the
profits end up in the selling country division. The resulting performance could be that the
producing country fails to meet total demand. Also, if the price is actual cost, the producer will
not have any incentive to control those costs because they are merely transferred to the other
division, one solution to such a dilemma is to use standard costs instead of actual costs. (The
standard could be made more stringent over time through continuous improvement efforts).
Another solution is to change the accountability structure of the segments, becoming more
centralized if decentralized transfer prices fail to create the desired incentives.

As with any performance evaluation, a multinational company should focus on separating
controllable from non-controllable costs, basing assessments only on costs that can be affected by the managers’ choices. If a foreign currency becomes devalued, this will affect profits negatively but is outside management’s control. When foreign governments impose trade restrictions such as tariffs, the performance measurement should take into account the reduced profits from such sources. When managers in foreign countries keep their books in a foreign country’s currency, their supervisors should consider the effects of currency fluctuations, inflation, and differences in relative purchasing power in the foreign country. For example, a country with lower costs of labor and goods will also have to price goods for sale in that country much lower than in a country where labor and goods are more costly.

However, because performance evaluations should provide incentives for managers to
improve overall operations, it is important to determine if any portion of a non-controllable
event could actually have been prevented or deflected. For example, if managers know they
will not be held accountable for a devalued currency, they may not be as quick to move funds
out of the country as if they were accountable for a portion of such losses. Managers evaluated
in such a fashion might employ market analysts or economists specializing in currency
exchange to help forecast such changes.

Another way of enhancing the value of performance measurement is by using benchmark
values from other managers or companies in similar local environments. Each distinct area
would have its own comparison group, which would provide an opportunity to evaluate
performance across companies.

Finally, because profits can be so distorted by various international issues, performance
evaluations could avoid the focus on profit and instead focus on more stable indicators, such as revenues, market share, or operating costs.