BEPS Driving Taxpayers to Analyze Value Chains

The Tax Management Transfer Pricing Report ™ provides news and analysis on U.S. and international governments’ tax policies regarding intercompany transfer pricing.

By Dolores Gregory

May 16 — The OECD's new emphasis on aligning profits with value creation could induce more companies to take a rigorous approach to their transfer pricing through a value-chain analysis.

“The traditional transfer pricing approach is to talk about the routine and the residual, and this is reflected in the way we do our transfer pricing,” said Andrew Casley, transfer pricing partner with PricewaterhouseCoopers LLP in London, during a May 16 webinar.

The international project to combat tax base erosion and profit shifting has changed the ground game, he said, by placing new emphasis on the economic basis for the residual.

This means tax authorities around the world have much higher expectations of taxpayers for disclosure and documentation of their related-party transactions, and for analysis of what really drives their profits or losses.

The Organization for Economic Cooperation and Development has issued new documentation requirements under Action 13 of its action plan on BEPS. Multinational taxpayers must provide a master file that includes a description of the global supply chain and the main drivers of business profit .

Those reports can be prepared separately, Casley said in a e-mail to Bloomberg BNA. “And they could be fairly basic. So there is nothing that requires you to do something called value-chain analysis,” he said.

“One question people are asking themselves, though, now that they come to work through what the Master file looks like in practice, is where these two things go once you start digging into them more deeply—e.g., once a tax audit starts. And you don't have to go far down that road before you find you are doing either value-chain analysis or something similar in one form or another. So even if you stick to the basics in the Master file, it can be worth doing some sort of VCA first.”

Types of Value-Chain Analyses

One form of value-chain analysis is similar to an aggregate profit split, in which all processes are worked out and granted relative values—a percentage contribution to profit—and allocated to entities based on the functions performed. But taxpayers can also conduct an empirical value-chain analysis to explain how the transfer pricing results in a particular division of profits among the companies in the group.

John Burgess, transfer pricing managing director with PwC, said the empirical approach focuses on external evidence to measure the contribution of the various factors. It isn't a comparables analysis, though it does draw on data from unrelated companies. The analysis of functions, assets and risks focuses on those elements that give the company a competitive advantage—attributes that generate incremental profits or losses.

Such an analysis works best as a collaboration with specific managers, rather than relying on extensive interviews with different parts of the business. The hazard of this approach, however, is that it can be very subjective.

Casley noted that a value-chain analysis is nothing new. “Businesses have been doing it for a very long time.”

But under the BEPS project, a VCA is now a more vital tool because it provides companies with a means of defending their transfer pricing. It may be particularly useful under the new country-by-country reporting regime.

“We're not saying throw away your transfer pricing and do this instead,” Casley said. But once a taxpayer has completed its transfer pricing study, the value-chain analysis can explain why the transfer pricing is right.

“The VCA can be an excellent way to defend transfer pricing, especially if you expect challenges—perhaps to traditional one-sided methods (which remain perfectly valid); or the validity of the comparables used for your TP,” Casley said.

Casley also noted that there is some confusion among taxpayers between a value-chain analysis and a profit split method in part because the OECD has said a profit-split approach can be helpful in aligning profits with value creation in some situations.

“There's a link in some people's minds between value chain analysis and profit split, but the answer is ‘you should not be boxed in,' ” Casley said. “If you're doing a profit split, you may to do a value-chain analysis, but there is nothing that says if you do a value-chain analysis you have to walk into a profit split.”

To contact the reporter on this story: Dolores W. Gregory in Washington at

To contact the editor responsible for this story: Molly Moses at

Request Transfer Pricing Report