Transfer Pricing on the Audit Committee agenda - Part 2 Transfer Pricing on the Audit Committee agenda - Part 2

In Part 1 of our blog, we were looking at various transfer pricing topics where Audit Committee involvement is recommendable. In part 2, we look at how this involvement can be operationally implemented. How can the AC’s involvement be operationalized?

The limited time resources that an AC can devote to this topic, given its other responsibilities, require that the necessary information is condensed, to the point and easily understandable, also for professionals with limited expert understanding of the matter.

At the outset (or at any time for ACs that have not dealt with TP in the past) as well as in regular intervals thereafter, a summary of a comprehensive health check of the TP area covering TP policy, compliance status and processes is certainly necessary to get everyone on the same page and create the right baseline understanding.

On an ongoing basis, the AC could deal with the abovementioned topics through the help of dashboards that provide the required information in a condensed graphical format and enable a focus on concrete areas with potential risks.

Such dashboards could provide an overview of the group’s profitability on an entity-by-entity basis compared to standardized transfer pricing benchmarks given the entities’ functional profiles as well as an overview of the allocation of the group profits among the various jurisdictions in which it is located. Such overviews can be used by the AC to assess on a high-level basis whether the profit allocation is broadly in line with the group’s understanding of where value creation takes place. 

The creation of transparency on the abovementioned topics is not only in the interest of the AC, but may also benefit those parts of the organization operationally dealing with transfer pricing topics, e.g. the tax department.

A health check should in any case be performed periodically to ensure that intercompany transactions are priced according to the TP policy targeted by the group. Furthermore, this type of exercise can also be useful to look beyond and foresee specific operational challenges, taking a moment to assess the status quo.

Such a health check does not have to be the result of a long, manual exercise but it can relatively easily be performed through automated data analytics tools. 

The compliance status could be developed out of workflow management systems that are used to organize the compliance process, which many organizations still view as a project – for further insight on this, please refer to this article. 

Condensed information on the compliance status in different countries, ongoing tax audits and their status, etc. are beneficial for the operational units at the headquarters in any case and, as such, the development of such dashboards should not be merely understood as a means to satisfy AC requirements, but also as a possible step forward in the operational excellence in this area for the overall organization.

A description of processes may be helpful anyway, as many organizations handle numerous TP topics rather on an ad-hoc basis. 

The tax world changes and evolves, and so do the responsibilities of ACs, including the responsibilities that have a connection to TP.

The topic of ESG, for example, has received increasing attention from groups in recent years. To the extent that ESG measures lead to changes in a group’s value chain or business restructurings, TP may be significantly impacted; although, given the increasing public scrutiny connected to the ESG topic, it would be beneficial to review a Group’s TP policy even before such major changes in the value chain or business restructurings take place.

Similarly, the increasing number of non-financial reports with which many groups comply might lead to changes in the group’s structure (e.g. onshoring of certain activities, in-housing of certain services, etc.).

It is therefore important for ACs to evaluate the TP impact that such changes may have on their organization, and how it is ensured process-wise that the TP angle of these change initiatives is appropriately considered to manage potential risks in this area.

The actions that can be taken within an organization to increase the focus on TP are various:

• From an AC perspective, it would be advisable to seek a dialog with the Tax and Finance department to evaluate together which information may be necessary to have a broad overview on where the organization stands in terms of TP.
• Ideally, such information overview should be organized regularly based on a schedule and possibly in the form of a dashboard, which can provide a graphical overview of the information and allow to easily identify areas of risk.
• This should be seen by the relevant operational units not as a mere supervision exercise, but rather as a means of making the organization as a whole more robust and increasing the excellence level.
• From a non-AC perspective, actions can proactively be taken by the Tax and Finance departments to facilitate information access for the AC, providing a schedule and ensuring that the main areas of risks are appropriately covered to facilitate a respective discussion.