Since the heart of the Arm’s Length Principle is the comparison of prices of goods or services. In order to compare prices, we must first make sure that the product or service selected for comparison is the similar to the product or service for which the price is to be determined. This is why we need to conduct a Comparability Analysis—to check whether the goods or services are comparable.
Before we can explain how to determine transfer prices according to the Arm’s Length Principle, we need to understand what Comparability Analysis means. Let’s look at a simple example from the lesson of pricing “eggs”.
“We shouldn’t quickly assume that a Grade 0 eggs priced at THB 4.67 is more expensive than a Grade 5 eggs priced at THB 3.00. Grade 0 eggs are large, weighing 70 grams or more, while Grade 5 eggs weigh only 45–49 grams. If we calculate the price per gram, they’re almost the same—around THB 6 per gram.” In the same way, when comparing a transfer price with a price between independent companies, we must first check whether the two transactions are materially different. And if the two transactions are not comparable, we must check whether the data adjustment can be applied to remove those differences. If yes, then the prices can be compared. [Director-General’s Notification No. 400, Clause 3]
The point that should be elaborated is how to adjust data to remove differences that prevent comparability. One common example is the delivery terms or “Incoterms”. For example, Company C sells goods to a related company at an ex-factory price but sells to independent customers at FOB price. The company can adjust the transfer price by adding transportation costs from the factory to the port, making both prices FOB and can be compared with the market price of independent companies, etc. If so, it means that we can improve the information to eliminate the impact of differences and be able to compare prices.
However, some differences of some transactions cannot be adjusted to make them comparable.
For example:
(a) Differences in transaction terms: A subsidiary sells industrial tools to its Japanese parent company, which then resells them to factories. The subsidiary also sells the same tools directly to factories in Thailand. In this case, the transfer price (which is a wholesale price) cannot be compared to the market price (which is a retail price), and we cannot adjust the data to make them comparable.
(b) Geographical and economic differences: A parent company sells pharmaceutical products to its Thai subsidiary and to independent traders in Bangladesh. Customers in these countries may have very different purchasing power due to different levels of economic development. So, the prices cannot be compared, and it’s unclear how to adjust the data to make them comparable.
(c) Differences in product quality: Motorcycle parts bought by a subsidiary from the parent’s factory in China may have a higher transfer price than similar parts from independent suppliers in China, because the quality is different. In this case, we cannot adjust the data to make the prices comparable.
Next time, we’ll talk about the key factors to consider when doing a Comparability Analysis under Thai law which is quite similar to that of the OECD Guidelines, indeed.
[Contact Person: Mr. Phongnarin Ratarangsikul | Partner]