One of the oft-encountered problems in the application of profit-based methods is the lack of reliable data for independent comparable companies operating in the same country or economic region as that of the dependent tested party. This problem may manifest itself in some of the smaller developed countries, but is particularly acute in most of the emerging/developing economies. The lack of local comparables is often addressed by practitioners by using suitable comparables from other jurisdictions. Yet, when such comparables come from countries with significantly different economic conditions than the country of the tested party, some adjustments to account for these differences are called for.

In this article, the third in a series of articles for BNA Transfer Pricing International Journal, NERA Vice President Vladimir Starkov, Economist Angela Li, and former NERA Consultant Madhura Maitra explore the options of improving comparability in cases where non-domestic comparables are used. The adjustment for the cost of capital presented in an earlier paper may be sufficient for setting the returns ex-ante, as long as these returns target the median of the adjusted range. In this latest article, the authors discuss the necessity of testing the ex-post results using the combination of the cost of capital adjustment with the adjustment for differences in volatility of financial returns in different market.

(In the first article, the authors provide an overview of existing guidelines and literature on adjustments for economic differences, illustrate the need for economic circumstances adjustments, and describe some of the techniques that can be used to implement adjustments for the differences in economic conditions. The second article provides practical application and examples.)