JOURNAL OF MANAGERIAL ISSUES

Vot. XVIII Number 4 Winter 2006: 453-467

The Effect of Framing and Compensation Structure
on Seller's Negotiated Transfer Price
Dipankar Ghosh
Associate Professor of Accounting
University of Oklahoma
Margaret N. Boldt
Associate Professor of Accounting
Southern Illinois University Edwardsville
The outcomes of negotiated trans-
fer prices affect profit for the man-
agers involved and can also impact
company profit when quantity, as well
as price, is an element of the negoti-
ation. Thus, it is important for both
companies and managers to under-
stand the variables affecting negotia-
tion outcomes. Prior research in ne-
gotiation (see Bazerman et ai., 2000)
has investigated how negotiators' per-
ceptions of the negotiation situation
impacted outcomes. Further, these
perceptions seem to influence out-
comes and enhance negotiator profit
over and above the effect of other im-
portant variables in negotiation, like
risk preference and competitive be-
havior (Thompson, 1998). Other re-
cent research has shown that making
the optimal payoff salient to negotia-
tors increases negotiator effectiveness
beyond that obtained through risk
preference alone (Ghosh and Boldt,
2004).
Prior accounting research (e.g.,
Lipe, 1993; Luft, 1994) has also found
that the framing of problems affects
managers' judgments and prefer-
ences in other tasks and domains
(e.g., variance investigation and con-
tract choice). These studies have con-
sistently shown that the presentation
of monetarily equivalent options in
semantically different ways (i.e., gains
and losses, bonuses and penalties) af-
fects how managers frame problems
and make judgments. However, some
research suggests the framing effect
is not consistent and research find-
ings may be limited by contextual and
procedural variations (Levin et aL,
1998). While Lipe (1993) proposes
that future framing studies examine
the role of motivation in general,
Ghosh and Boldt (2004) list compen-
sation structure as a specific motiva-
tion variable that could potentially
limit the framing effect in negotia-
tion.
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
(453)
454 GHOSH AND BOLDT
To the extent that a manager is
evaluated and compensated based on
divisional profit, he or she would like
to enhance divisional profit. Not sur-
prisingly, prior research suggests that
compensation structure is an impor-
tant variable associated with transfer
pricing (Grabski, 1985; Ghosh, 2000).
Specifically, negotiators achieve
higher profits when profit is a larger
percentage of total compensation
(Ghosh, 2000). These findings imply
that negotiators see the making of
profit from a transfer transaction as a
more important goal when profit is a
larger percentage of compensation.
Still, how the profit goal is framed
may affect the manager's likelihood
of performing the actions necessary
to achieve the goal.
Our research uses an experiment
to examine the effect of positive and
negative goal framing on sellers'
share of profit available from a ne-
gotiated transfer for two different
compensation structures. Partici-
pants were given the role of a seller
facing a negotiation for a potentially
profitable transfer with another divi-
sion in the same company. The posi-
tive frame condition asked partici-
pants to think about the profit to be
made from the transaction while the
negative frame condition asked par-
ticipants to think about the profit
they would forego to the other divi-
sion. The amount of management
compensation dependent upon divi-
sional profit also varied. The low com-
pensation condition told participants
that their bonus compensation was
only 3% of divisional profit while the
high compensation condition told
participants that their bonus was 30%
of divisional profit.
The remainder of this article is or-
ganized as follows. The next section
develops the research hypotheses.
The following section discusses the
research method. Then, the results of
the data analyses are discussed. The
last section summarizes the results
and provides some conclusions.
THEORY AND HYPOTHESES
Framing
Research evidence indicates the
framing effect has an impact on
choices and behaviors of negotiators
(Bazerman et al, 1985: Bottom and
Studt, 1993). Negotiators compare,
code and evaluate negotiation out-
comes relative to a reference point
(Neale and Bazerman, 1991). Evi-
dence from the decision-making lit-
erature suggests the adopted refer-
ence point impacts how the outcome
situation is framed. Eurther, decision-
maker choices and behaviors depend
on the reference point used in eval-
uating outcomes (Tversky and Kah-
neman, 1981; Kuhberger, 1998).
Recent accounting research has
found similar effects in contract
choice. Luft (1994) found that em-
ployees prefer bonus contracts to
penalty contracts. Ghosh and Boldt
(2004) found that making the poten-
tial profit outcome salient enhanced
negotiator effectiveness. These find-
ings provide additional evidence that
the frame affects negotiation out-
comes.
In the context of the current study,
managers of selling divisions enter
negotiations for the transfer sale of a
good with the goal of increasing their
divisional profits. They essentially
face a situation of obtaining more
profit or gain (i.e., a positive frame)
for their division from the transfer or
forego some of the profit or gain (i.e.,
a negative frame) from the transfer to
the other division. Therefore, posi-
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
THE EFFECT OF FRAMING AND COMPENSATION STRUCTURE 455
tive or negative framing of the profit
goal from transfer pricing is expected
to culminate in sellers claiming dif-
ferent shares of the profit available
from the transaction. Thus, the first
hypothesis is:
HI: Seller's share of the profit will be
higher when the profit goal is expressed in
terms of profit foregone (i.e., a negative
frame) compared to when the goal is ex-
pressed in terms of profit made (i.e., a pos-
itive frame).
Compensation Structure
Managing the transfer pricing
problem can be difficult because the
transfer price affects divisional profit
which, in turn, is typically the basis for
evaluating and compensating the
manager (Eccles, 1985). Also, a firm's
compensation plan significantly in-
fluences the motivation of organiza-
tional members (Schwab, 1973) and
stimulates behavior between negoti-
ating divisions by influencing the bar-
gainers' aspiration level (Pruitt and
Lewis, 1975). Research in transfer
pricing indicates that compensation
structure (e.g., basis of the compen-
sation) is a pervasive issue in transfer
pricing (Eccles, 1985; Grabski, 1985;
Vancil, 1978) and has a significant im-
pact on outcomes of negotiated trans-
fer pricing (Chalos and Haka, 1990;
Ghosh, 2000).
In the current study, sellers with a
compensation structure that is more
dependent upon divisional profit
may perceive the earning of profit
from the transfer as a more important
goal than sellers whose compensation
structure was less dependent upon di-
visional profit. Based on the above,
sellers' shares of the profit available
from the transfer are expected to be
larger when the bonus percentage
based on divisional profit is larger.
The second hypothesis is stated as:
H2: Seller's share of the profit will be
higher when bonus compensation based on
divisional profit is a larger percentage (i.e.,
high compensation) compared to when bo-
nus compensation based on divisional
profit is a smaller percentage (i.e., low com-
pensation).
Flexibility
Conflict, in general, is inevitable in
organizations with divergence of pref-
erence among its members (Eccles,
1985). Not surprisingly, negotiation
research shows that conflict is a nat-
ural phenomenon when both the
trading divisions are trying to en-
hance their division performance
(Eccles, 1985; Grabski, 1985; Ghosh,
2000).
Negative goal framing is expected
to intensify the conflict problem.
Some flexibility on the issue being ne-
gotiated reduces the level of conflict
inherent in negotiation (Lax and Se-
benius, 1986; Thompson, 1998). Flex-
ibility via concession on the price
(i.e., lower price for the seller and
higher price for the buyer) would
mean adversely affecting divisional
profits. However, when the goal is
framed negatively (i.e., profit fore-
gone), flexibility will be perceived as
giving up even more profit. Thus, neg-
ative framing is expected to manifest
itself in reduced flexibility for sellers.
Thus, the third hypothesis is:
H3: Sellers will be less flexible via conces-
sion on price when the profit goal is ex-
pressed in terms of profit foregone (i.e., a
negative frame) compared to when the goal
is expressed in terms of profit made (i.e., a
positive frame).
Similarly, compensation structure
is also expected to have an effect on
flexibility. As stated above, the seller
may perceive the goal of earning di-
visional profit as a more important
goal when divisional profit is a larger
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
456
GHOSH AND BOLDT
percentage of total compensation
than when divisional profit is a
smaller percentage of total compen-
sation. Thus, it is expected that sellers
will be less likely to give up a portion
of their divisional profits via conces-
sion on price.
H4: Sellers will be less flexible via conces-
sion on price when bonus compensation
based on divisional profit is a larger per-
centage (i.e., high compensation) com-
pared to when bonus compensation based
on divisional profit is a smaller percentage
(i.e., low compensation).
METHOD
Design and Participants
Participants were 48 managers of a
Fortune 500 covcvpdiny. Inter-unit trans-
fers are quite common in this organ-
ization and the prices of these trans-
fers are nearly always negotiated
between managers of the trading
units. The participants had, on aver-
age, 14.5 years of experience. All of
the participants have had direct and
frequent involvement with determin-
ing transfer prices: 29 (61%) vvnithin
the past year, 17 (35%) within the
past 2-4 years and two (4%) more
than five years ago.
In our experiment, we manipu-
lated goal framing by asking one
group to think about the profit made
from a transfer (positive frame) and
the other group to think about the
profit foregone (negative frame) to
the other division from a transfer.
There were two levels of compensa-
tion structure obtained by varying the
extent to which compensation de-
pends on division profit (low and
high). The 2X2 research framework
from the configuration of the inde-
pendent variables of framing and
compensation structure resulted in
four cells. They are: profit earned-low
compensation (#1), profit earned-
high compensation (#2), profit fore-
gone-low compensation (#3) and
profit foregone-high compensation
(#4).
Task and Procedure
Due to the difficulty in obtaining
qualified participants (i.e., managers
with inter-unit transfer pricing expe-
rience), only seller judgments were
measured and every manager per-
formed two tasks: one for each of any
two of the four cells described above
(i.e., cell #1 and #2, or cell #1 and #3,
etc.). The experimental materials,
along with the instructions, were sent
to the organization's Director of
Training, who then distributed them
to managers with inter-unit pricing
experience. To avoid ordering ef-
fects, the combination and sequence
of the tasks was randornly assigned to
participants (see Kirk, 1995). For
each task, the managers read the task
and decided the quantity and price
they would agree to in a negotiated
settlement. The participants also pro-
vided the minimum price they would
be willing to sell at for the same quan-
tity selected in the first part of the
task. Next, they completed a debrief-
ing questionnaire to collect informa-
tion on their experience and check
the experimental manipulations.
Research Variables
Goal Framing. Both framing manip-
ulations stressed the same goal of at-
taining profit from negotiated trans-
fer pricing. For the positive frame
manipulation, the participant was
told to think about how much profit
could be made from the transfer. The
task posed the following question:
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
THE EFFEGT OF FRAMING AND COMPENSATION STRUCTURE
457
1. You are trying to decide the quantity and the
transfer price of the motors you will sell to
the Fans Division and the profit your divi-
sion will earn from that decision.
A. For you to agree to sell your motors to
the Fans Division for the year 2005, what
should be the quantity and the transfer
price per motor?
Quantity: motors
Transfer price (per motor): $
B. Based on the transfer price and quantity
you agreed to in (A) above, how much
profit will your division make in 2005
from internal sales: $
For the negative frame manipulation,
the task posed the following:
1. You are trying to decide the quantity and the
transfer price of the motors you will sell to
the Fans Division and the profit your divi-
sion will forego to the Fans Division from
that decision.
A. For you to agree to sell your motors to
the Fans Division for the year 2005, what
should be the quantity and the transfer
price per motor?
Quantity: motors
Transfer price (per motor): $_
B. Based on the transfer price and quantity
you agreed to in (A) above, how much
profit will your division forego to the
Fans Division in 2005 from internal
sales: $
Compensation Structure. The com-
pensation structure manipulation
varied the bonus percentages from
division profit. For the low compen-
sation group, each manager was to as-
sume that the bonus percentage was
three percent (3%) of their divisional
profit. For the high compensation
condition, the bonus percentage was
thirty percent (30%) of divisional
profit. (The Appendix includes the
instructions for the profit made-low
compensation condition (i.e., cell#l)
only.)
Share of Profit To make the task
somewhat realistic and consistent
with the judgments made by the par-
ticipants in their daily work, partici-
pants were asked to initially specify
the quantity of units to be transferred
as well as the price. They made these
judgments based on the information
presented in Table 1.
Based on this information, divi-
sional profit does not strictly increase
as the quantity transferred and trans-
fer price increases. Rather, the
amount of divisional profit varies, de-
pending on both the quantity of units
to be transferred and the price
agreed to for that particular quantity.
Hypotheses 1 and 2 both relate to
the seller's share of the profit availa-
ble. Typically, division managers will
agree to the quantity that should be
transferred so that both divisions will
profit from the exchange and then
negotiate a price to divide the profit
available from the transaction (see
Zimmerman, 2006). In this study, the
dependent variable, the seller's share
of the profit available from the trans-
action, was operationalized as the
proportion of profit made from the
transfer to total profit possible for the
quantity selected by the participant,
or the profit ratio. For example, sup-
pose a participant selected 45,000
units as the quantity to be transferred
and $9.10 as the selling price. For the
quantity selected, 45,000 units, the
seller claims profits of $36,500
[($9.10 X 45,000) - ($3.90 X
45,000) - $197,500]. However, for
the 45,000 quantity, there is $482,000
in profit available to be shared among
the two trading divisions [($19 X
45,000) - ($3.90 X 45,000) -
$197,500]. In this example, the
seller's expected share of the profit
available is .076 or 7.6% [$36,500/
$482,000]. A higher profit ratio indi-
cates that the seller is claiming a
greater share of the available profit
from the transfer.
Flexibility. For determining flexibil-
ity during negotiation, the following
JOURNAL OF MANAGERL^L ISSUES Vol. XVIII Number 4 Winter 2006
458
GHOSH AND BOLDT
Table 1
Decision Aid Data Provided to Participants
RELEVANT INFORMATION TO HELP YOU IN YOUR DECISION
Quantity required
by Fans Division:
Selling price of Fans Division:
Average costpermotor:
Your division's average profit
from external sales (fixed):
15.000 - 60,000 motors per year,
$19,00 per exhaust fan
Up to 25,000 motors ($4,00 per motor + $100,000 fixed costs): $8,00
25.001 - 40,000 motors ($3,95 per motor + $148,000 fixed costs): $7,65
40,001 - 50,000 motors ($3,90 per motor + $197,500 fixed costs): $7,85
Above 50,001 motors ($3,85 per motor + $255,000 fixed costs): $8,10
(Note: These costs are for intemal transfer only. Additional marketing costs,
such as collection expenses, advertisements, sales personnel, etc, are not
included,)
$352,000
question was posed to participants af-
ter they answered question (1) above:
2, At the quantity level stated by you in (1)
above, what would be the absolute minimum
price at which you will agree to a transfer?
Minimum price for transfer
(per motor): $
The dependent variable, flexibility,
was operationalized as the proportion
of flexible proflt amount [i,e,, proflt
made (as per question lA) less proflt
made from the minimum transfer
price (as per question 2)] to proflt
made from the transfer at the price
and quantity specifled in Question
lA, This ratio, which we refer to as
the flexibility ratio, measures the per-
centage of proflt that the negotiator
is willing to give up during negotia-
tions, A higher flexibility ratio indi-
cates more flexibility during negotia-
tion. For example, suppose the same
participant that provided 45,000 units
and a transfer price of $9,10 (see ex-
ample above) provided a minimum
transfer price of $8,50 in Question 2,
The transfer price of $8,50 would
provide $9,500 of proflt to the seller
[($8,50 X 45,000) - ($3,90 X
45,000) - $197,500], The flexibility
ratio would be ,7397 [($36,500 -
$9,500)/$36,500] and indicate a will-
ingness on the seller's part to give up
73,97% of the proflt claimed by the
flrst price provided in Question lA,
RESULTS
Observations from 96 tasks (i,e,, 48
participants who completed two tasks
each) were available with 24 obsei-va-
tions in each cell. As might be ex-
pected from participants with consid-
erable experience in the decision
setting, all observations gathered
were useable. That is, there was no
need to drop an observation due to
incorrect calculations or clear evi-
dence that a participant misunder-
stood the instructions, etc.
Descriptive statistics are provided
in Table 2, An examination of the
means for proflt made, proflt ratio,
flexibility amount and flexibility ratio
provides initial support for the re-
search hypotheses. That is, the means
JOURNAL OF MANAGERIAL ISSUES Vol, XVIII Number 4 Winter 2006
THE EFFECT OF FRAMING AND COMPENSATION STRUCTURE
459
Table 2
Descriptive Statistics - Means (Standard Deviations) for Dependent Variables
Number of Observations
Profit
Made
Profit
Forgone
POSITIVE Profit from
Minimum
FRAME Transfer Price
Flexibility Amount =
Profit Made - Minimum Profit
Profit Ratio =
Profit Made (Made + Forgone)
Flexibility Ratio =
Flex. Amount Profit Made
Number of Observations
Profit
Made
Profit
Forgone
NEGATIVE Profit from
Minimum
FRAME Transfer Price
COMPENSATION STRUCTURE
3% Variable
24
$136,593.75
($118,497)
$384,78 l.(X)
($149,429)
$33,625.00
($82,266)
$102,968.75
($80,166.59)
0.265
(0.229)
0.846
(0.259)
24
$212,864.33
($81,350)
$241,934.79
($108,956)
$116,347.71
($85,398)
30% Variable
24
$232,510.67
($67,461)
$198,916.88
($87,512)
$160,458.54
($65,160)
$72,052.13
($37,390)
0.568
(0.148)
0.320
(0.143)
24
$343,033.71
($156,816)
$128,489.33
($77,018)
$261,408.17
($158,424)
Flexibility Amount = $96,516.63
Profit Made - Minimum Profit ($50,424)
Profit Ratio = 0.469
Profit Made (Made + Forgone) (0.132)
Flexibility Ratio = 0.499
Flex. Amount Profit Made (0.231)
$81,625.54
($88,991)
0.718
(0.160)
0.240
(0.252)
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
460
GHOSH AND BOLDT
of the profit measures indicate more
profit as well as a larger share of profit
available in the negative frame con-
dition than in the positive frame con-
dition. In addition, the means of the
flexibility measures suggest less flexi-
bility in the negative frame condition
than in the positive frame condition.
Share of Profit
Hypothesis 1 predicts that sellers'
shares of profit available will be
higher when the profit goal is ex-
pressed in terms of profit foregone
(i.e., a negative frame) compared to
when the goal is expressed in terms
of profit made (i.e., a positive frame).
Hypothesis 2 predicts that sellers will
expect a larger share of profit availa-
ble when the bonus percentage based
on divisional profit is larger. To test
these hypotheses, a two-way ANOVA
analysis was done with framing (two
levels: positive and negative frame)
and compensation structure (two lev-
els: low [i.e., 3%] and higb [i.e.,
30%]) as categorical independent
variables and profit ratio as the de-
pendent variable. The results (Table
3, Part A) indicate that the overall
ANOVA model was significant (F =
29.46, p = 0.0001). Further, the in-
dependent variables, compensation
structure (F = 25.69, p = 0.0001) and
framing (F = 62.09, p = 0.0001), were
both significant explanatory variables
of profit ratio. The interaction of the
two independent variables was not
significant. Panel B shows the overall
mean of the profit ratio scores sepa-
rately for the two independent varia-
bles. The profit ratio is significandy
higher for the high compensation
structure and negative framing com-
pared to the low compensation struc-
ture and positive framing.
An examination of eta squares and
partial eta squares (Table 3, Panel C)
was done next to gain some insight
into the practical significance of
framing and compensation structure
in explaining the profit ratio scores.
Using eta squared as the measure of
effect size, compensation accounts
for 14% of the variability in tbe profit
ratio scores while framing accounts
for 34% of the variability. Using eta
partial squared as the measure of as-
sociation, compensation accounts for
22% of the variability while framing
accounts for 40%. In conclusion, the
results support the first two hypothe-
ses that negative goal framing and a
compensation structure with a larger
bonus percentage-based divisional
profit results in sellers claiming a
larger sbare of the pro0t available.
Flexibility
Hypothesis 3 predicts that when the
profit goal is expressed in terms of
profit foregone from the transfer (i.e.,
a negative frame), sellers will be less
flexible about the price compared to
when the goal is expressed in terms of
profit to be made from that price (i.e.,
a positive frame). Hypothesis 4 pre-
dicts that sellers will be less flexible
about the price when the bonus based
on divisional profit is a larger percent-
age. These hypotheses were first tested
using a two-way ANOVA analysis with
framing (two levels: positive and neg-
ative frame) and compensation struc-
ture (two levels: low [i.e., 3%] and
high [i.e., 30%]) as categorical inde-
pendent variables and flexibility ratio
as the dependent variable.
The results (Table 4, Part A) sbow
the overall ANOVA model to be sig-
nificant (F = 34.06, p = 0.0001).
However, while both compensation
structure (F = 21.37, p ^ 0.0001) and
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
THE EFFECT OF FRAMING AND COMPENSATION STRUCTURE
Table 3
Framing and Profit
461
Part A:
Source
Two-way ANOVA with PROFIT RATIO as Dependent Variable
Sum of
DF :
Model 3
Error 92
Corrected Total 95
Source DF
Compensation Structure 1
Framing 1
Structure x Framing 1
PartB:
PartC:
Least Squares Means
Compensation
Structure
Low (or 3 percent)
High (or 30 percent)
Framing
Positive
Negative
Mean
Squares
2.59
2.70
5.30
Type
mss
0.75
1.82
0.02
Eta Squared and Partial Eta Squared
Effect
Compensation
Structure
Framing
Structure X Framing
Square
0.86
0.03
Mean
Square
0.75
1.82
0.02
ratio LSMEAN
0.42
0.59
ratio LSMEAN
0.37
0.64
Eta
Squared
0.142
0.343
0.003
F Value Pr > F
.46 <.O0Ol
F Value
25.69
62.09
0.61
HO:LSMeanl
t Value
5.07
HO:LSMeanl
t Value
7.88
Partial Eta
Squared
0.217
0.403
0.007
R-Square
0.49
Pr > F
<.OOO1
<.OOO1
0.4382
= LSMean2
Pr>ltl
<.OOO1
= LSMean2
Pr>ltl
<.OOO1
J OURNAL OF MANAGERIAL ISSUES Vol. XVIII Nu mber 4 W inter 2006
462
GHOSH AND BOLDT
framing (F = 72,44, p = 0,0001) were
significant explanatory variables of
the flexibility ratio, the interaction of
the two independent variables was
also significant (F = 8.35, p =
0,0048), The means of the flexibility
ratio in part B of Table 4 explains this
interaction. For the low compensa-
tion condition, the difference in the
mean flexibility ratios is 0,347 (0,846
in the positive frame condition and
0,499 in the negative frame condi-
tion). In contrast, the difference in
the mean flexibility ratios in the high
compensation condition is 0.08 (0.32
in the positive frame condition and
0,24 in the negative frame condi-
tion) , That is, while negative framing
reduces flexibility, it does so more in
the high compensation condition.
Another examination of eta
squares and pardal eta squares (Table
4, Panel C) was done to assess the ex-
tent of association between framing
and compensation structure and the
flexibility ratio scores. If eta squared
is used as the measure of effect size,
then compensation accounts for
about 21% of the variability in the
flexibility rado scores while framing
accounts for almost 70% of the vari-
ability. Using eta pardal squared as
the measure of association, compen-
sation accounts for about 29% of the
variability while framing accounts for
approximately 58%, In conclusion,
the results support the hypothesis
that negative goal framing would re-
duce flexibility of sellers entering into
a transfer price negotiation more
than positive goal framing. However,
this reduction is somewhat moder-
ated by the compensadon structure.
DISCUSSION AND
CONCLUSIONS
In their review of negotiation lit-
erature, Bazerman et al. (2000) con-
clude that motivation of negodation
behavior occurs via the negotiator's
mind because negodator behavior
and outcome is determined by how
the negodator perceives and con-
structs the game situadon. The find-
ings in this article are consistent with
other research showing how individ-
ually-held perceptions of the situa-
tion affect processes and outcomes of
negotiations (Larrick and Blount,
1997). This article shows that framing
the potendal profit outcome in terms
of profit foregone (i.e., a negadve
frame) enhances the seller's claimed
share of profit available from a trans-
fer compared to when the potendal
profit outcome is framed in terms of
profit made (i,e,, positive frame).
Further, this framing effect was per-
sistent across both compensation
structures tested.
However, although the effect is
moderated by compensadon struc-
ture, negadve framing makes the sell-
ers less flexible than positive framing.
That is, the price below which the sell-
ers are unwilling to trade when the
goal is negadvely framed is reladvely
close to the upper bound exchange
price compared to when the goal is
posidvely framed. This reduced flexi-
bility suggests that there may be more
potendal for conflict with negadve
goal framing than with posidve fram-
ing. For organizadons concemed with
inter-divisional conflict, the costs asso-
ciated with using negadve goal frames
in negodadon situadons may exceed
the benefits, Importandy, this ardcle
cannot address this trade-off because
only one side of the transacdon is ex-
amined (the seller side). Further, no
future costs of inflexibility (e.g., lack of
cooperadon or willingness to trade in
future periods) are included in this
study.
JOURNAL OF MANAGERIAL ISSUES Vol, XVIII Number 4 Winter 2006
THE EFFECT OF FRAMING AND COMPENSATION STRUCTURE
Table 4
Framing and Flexibility
463
Part A: Two-way ANOVA with
Sum of
Source DF
Model 3
Error 92
Con-ected Total 95
Source
Compensation Structure
Framing
Structure x Framing
DF
1
1
1
FLEXIBILITY RATIO as Dependent Variable
Mean
Squares Square
5.23 1.74
2.70 0.03
5.30
Type
inss
1.09
3.70
0.43
F Value
34.06
Mean
Square
1.09
3.70
0.43
Pr>F
<.00Ol
F Value
21.37
72.44
8.35
R-Square
0.53
Pr>F
<.OOO1
<.00Ol
0.0048
Part B: Flexibility Ratio Means - Compensation Structure by Framing
Compensation Structure
Low (i.e., 3%) High (i.e., 30%)
Goal Framing
Positive
Negative
0.846
0.499
0.320
0.240
Part C: Eta Squared and Partial Eta Squared
Effect
Compensation
Structure
Framing
Structure X Framing
Eta
Squared
0.206
0.698
0.081
Partial Eta
Squared
0.288
0.578
0.137
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
464
GHOSH AND BOLDT
To effectively manage inter-profit
center relations, it is important to un-
derstand how to affect motivational
behavior during negotiations. Prior
research suggests (Ghosh, 2000) that
complementary arrangement of or-
ganizational factors should be such
that negotiating managers have a sin-
gular motive (i.e., cooperative or
competitive) to achieve overall bene-
fits. This article suggests the framing
effect impacts sellers' share of profit
available from a transfer over and
above the effect from compensation
structure. Of course, it is possible that
the value provided in the high com-
pensation structure condition (i.e.,
30%) was simply not large enough to
swamp the framing effect and the
framing effect may be mitigated at
higher values. However, the instruc-
tions to participants minimized the
risk of failure and indicated a signifi-
cant amount of guaranteed profit.
These factors may have enhanced the
perceived stability of the market and
reinforced the motivation ability of di-
vision only performance results
(Chalos and Haka, 1990). The find-
ings of a persistent framing effect chal-
lenges practitioners to be aware that
how negotiations are framed may im-
pact negotiation outcomes, even when
managers face a compensation struc-
ture that should motivate them to be
focused on enhancing their divisional
profit. The effect on the company can
be far-reaching because many com-
pany decisions are made based on di-
visional profit numbers (e.g., person-
nel decisions, expansion decisions).
Furthermore, there is no guarantee
that motivations successful in increas-
ing divisional profit outcomes will also
lead to higher company profit out-
comes (Chalos and Haka, 1990).
As with any research effort, limita-
tions exist and the results of the pres-
ent experiment must be considered
in light of those limitations. One no-
table limitation is each participant
completed the task under two differ-
ent conditions. While the repeated
use of participants made efficient use
of experienced managers, it is possi-
ble this method also introduced bias
into the results. Another limitation is
the use of a single event task. While
the instructions describe an ongoing
relationship among the trading divi-
sions, the participants did not actually
negotiate or make multiple period
decisions. Also, as stated above, the
instructions to participants mini-
mized the risk of failure. Of course,
many negotiations are expected to be
recurring and this study does not ex-
amine how the results may differ in
an ongoing negotiation setting or
when there is a real risk of failure. In
addition, features of the experimen-
tal design, such as the cue values used
for the compensation structures and
task-specific wording, may limit ge-
neralizability to other situations.
This research provides additional ev-
idence on the importance of negotia-
tors' mental perceptions of the nego-
tiation situation and the potential
impact of these perceptions on nego-
tiation outcomes. Future research
could consider the effect of other fac-
tors that may shape negotiators' men-
tal perceptions of" the negotiation sit-
uation like social relationships,
emotions, ethics and culture. The find-
ing of an interaction effect among
compensation structure and framing
on flexibility suggests another poten-
tially fruitful avenue for further re-
search. For example, does the degree
of operating leverage (ratio of fixed
costs to total costs) or the selected pro-
duction level (extent of commitment
to intemal sales) influence fiexibility?
Further study is needed on the factors
JOURNAL OF MANAGERIAL ISSUES Vol. XVIII Number 4 Winter 2006
THE FFFECT OF FRAMING AND COMPENSATION STRUCTURE 465
affecdng flexibility, and other inter- italize on the framing effect or other
personal variables, to understand the factors designed to shape managers'
complete effect on a company from percepdons of inter-divisional interac-
implemendng changes that would ca{> dons.
APPENDIX
(For Profit Made and Low Compensadon Structure Condidon)
INTRODUCTION
Assume that in a manufacturing firm, you are the manager of the Motors
Division producing electric motors. One of your motors, which consdtute about
25% of your divisional sales, is required to be sold internally to the other division
in the firm, namely the Fans Division, which uses it for one of their finished
products (exhaust fans). Your motor and the exhaust fan are standard industry
products. Hence, neither division has much flexibility to either pass on or recoup
additional product costs. The remainder of your sales (about 75%), which in-
cludes different types of motors, occurs in the open market. The demand and
the price for the motors on the external market are very stable; thus, profit to
your division from these sales is stable. Your divisional profit is, therefore, the
sum of the profit from internal transfers to the Fans Division and the fixed profit
from external sales.
Your compensadon has a fixed salary and a bonus based solely on the per-
formance of your division. Specifically, your bonus is 3% of your divisional profit
(sum of the profit from internal sales and the fixed profit from external sales).
The transfer price for selling the motors to the Fans Division is negodated
between you and the manager of the Fans Division and you can negodate what-
ever price is sadsfactory to both of you. The exact transfer price (for the quandty
involved) is important to both of you because it has a significant effect on both
divisions' profits. Both divisions are about the same size in terms of invested
capital, divisional profit and interdependencies. You are required to decide the
quandty and the price at which you will agree to transfer the motors to the Fans
Division for the year 2005. In making your decision, think ahout the extent of profit
your division would potentially make from the internal transfer. You will be provided
with the relevant information to help you in your decision.
YOUR COMPENSATION FROM THE NEGOTIATED TRANSFER PRICE
The following illustration may help you to understand how your compensadon
will be determined. Assume that based on the informadon provided, you agree
to sell 40,000 motors in a year at a price of $15.50 each at which level your
divisional profit from internal transfers will be $76,800. Assume that from your
external sales (75% of your division's sales) you earned a fixed profit of $242,600.
Therefore, your total divisional profit is $319,400 (i.e., $76,800 + $242,600), As
stated earlier, your bonus is 3% of your divisional profit of $319,400 or $9,582.
However, if your offered price for the quandty of transfer is unacceptable to the
manager of the Fans Division and is rejected, then you earn zero profit from
JOURNAL OF MANAGERIAL ISSUES Vol, XVIII Number 4 Winter 2006
466 GHOSH AND BOLDT
internal transfer. Your bonus then will be based only on the fixed profit from
external sales
The above figures, except for the bonus percentage (3%) and the proportion of
internal transfer (25%) to external sales (75%), are illustrative only and should not
be assumed to apply to the actual project,
RELEVANT INFORMATION TO HELP YOU IN YOUR DECISION
Quantity required
by Fans Division: 15,000 - 60,000 motors per year
Selling price of Fans Division: $19,00 per exhaust fan
Average cost per motor: Up to 25,000 motors
($4,00 per motor + $100,000 fixed costs): $8.00
25,001 - 40,000 motors
($3,95 per motor + $148,000 fixed costs): $7,65
40,001 - 50,000 motors
($5,90 per motor + $197,500 fixed costs): $7.85
Above 50,001 motors
($3,85 per motor + $255,000 fixed costs): $8,10
(Note: These costs are for internal transfer only.
Additional markedng costs, such as collection ex-
penses, advertisements, sales personnel, etc, are
not included.)
Your division's average profit
from external sales (fixed): $352,000
1, You are trying to decide the quantity and the transfer price of the motors
you will sell to the Fans Division and the profit your division will earn from
that decision,
A, For you to agree to sell your motors to the Fans Division for the year 2005,
what should be the quandty and the transfer price per motor?
Quantity: motors Transfer price (per motor): $
B. Based on the transfer price and quandty you agreed to in (A) above, how
much profit will your division make in 2005 from internal sales:
[Note: your bonus is 3% of your divisional profit]
2. At the quandty level stated by you in (1) above, what would be the absolute
minimum price at which you will agree to a transfer?
Minimum price for transfer (per motor): $
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