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Monday, February 6, 2012

Not even twins are comparable-the difficulties in transfer pricing and valuation

I've taken an elective on transfer pricing taught by PwC tax partner Sanjay Tolia, and he jokingly said once that Not even twins are comparable. That inspired me to write this post, given the similarities between transfer pricing and equities valuation.

Although transfer pricing is a particular subset of valuation, it has many unique issues related to perceived equity, performance measurement, global agreements/standards and other aspects which valuation itself does not have. There are no universally accepted standards for valuing equities/real assets(though credit securities/derivatives are now valued using widely accepted models/curves/metrics). But for transfer pricing itself, there is a lot of guidance available in form of the 2010 OECD guidelines and the United Nations guidance on the same. And many tax administration rulings are publicly available for giving valuers an idea of the latest trends, in opposition to  valuation where valuations themselves are not publicly disclosed-at best a boilerplate apology for a valuation a.k.a fairness opinion, is disclosed. Though activist investors & securities regulators prod companies to disclose their valuation opinions/deal rationale, there is not enough public data on the same, and thus little consistency.

But the purpose of this post was to highlight the difficulties in finding comparable transactions/situations for transfer pricing, and finding peer ratios for valuation. In both cases, one desires to understand the arms length transaction valuation benchmark put by the external market. The main difficulties in my view are
  1. Lack of timely updated publicly available data
  2. Inherent bias in picking peers-you start with the end in mind to maximize or minimize valuations. Hence, those using the valuations must be mindful of that bias
  3. Differences not evident on the surface and needs indepth analysis to justify differences. For example, gross margins are influenced by marketing spend(which can support higher selling price) and so operating net margins better explain differences.
  4. Everyone will claim their case is unique and therefore not amenable to comparable-especially those unfavorable to that cause. 
Other points exist but these are the main ones in my opinion

1 comment:

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