A challenge concerning Nigeria’s transfer pricing regulations concerns the lack of local and regional (African) external comparable data to assist with the application of some of the regulation’s recommended transfer pricing methods.
A critical aspect of the application of the arm’s length principle is to find prices or returns from comparable third-party transactions or companies to benchmark prices or returns earned from the related-party transactions under consideration. Although the OECD Transfer Pricing Guidelines require consideration of each of the comparability factors when performing a transfer pricing analysis, some of the comparability factors may be of greater importance than others, depending on the method selected as the “most appropriate.”
The method selected for testing a transaction is identified based on facts and circumstances relating to that transaction. In selecting data of external comparable companies in order to apply methods such as the Resale Price Method (RPM), the Cost Plus Method (CPM) or the Transactional Net Margin Method (TNMM), one of the relevant comparability factors that needs to be considered is the comparability of economic circumstances. This comparability factor considers relevant issues such as the need for the selected comparable companies to come from comparable economies with similar market risk and similar expected market returns when compared to that of the company whose returns are being tested. In many African countries, including Nigeria, there can be significant constraints with respect to publicly available comparable data.
The comparable data constraint in Africa is mainly due to the absence of law or rules that require private companies to publish their financial statements, difficulty in assessing ownership data of companies, and the relatively limited number of publicly listed companies in the local stock exchanges, such as the Nigeria Stock Exchange. While financial information is useful for testing pricing arrangements and returns, ownership data is useful for determining that selected comparable companies used in the transfer pricing analyses are truly independent of influence from associated or related entities.
To help overcome the comparable data constraint in Africa, in the past, comparable data from “Pan-European countries” had been used to perform such benchmarking analysis, irrespective of the significantly different economies and the related market risk differential.
This problem has come to the forefront of transfer pricing implementation in Africa as more and more African economies put in place their local transfer pricing rules, and seek for more reliable transfer pricing analyses. One of the arguments used to buttress this concern is that a rational investor investing in an emerging economy such as Nigeria will have a higher expected rate of return on such an investment, to cover the relatively high market risk in Nigeria when compared to a similar investment in a European country. As a result, using Pan-European comparables to benchmark returns for the local Nigerian entity could reduce the reliability of the benchmarking analysis.
Read a March 2016 blog article by the KPMG member firm in Nigeria: The Transfer Pricing Comparable Data Constraint Problem in Nigeria – Implications and Recommendations