The Berry Ratio: Profit Level Indicator or Transfer Pricing Method?

Abstract

The Berry Ratio was named after Dr. Charles Berry who developed the method as part of his expert testimony in the DuPont case in the late 1970s. The Berry Ratio first appears in the U.S. Section 482 Transfer Pricing Regulations (“482 Regulations”) in 1994 where it was specifically mentioned as a financial ratio that could be used as a profit level indicator (PLI) when applying the Comparable Profits Method (CPM) to a tested party. The Berry Ratio was included in the OECD’s Transfer Pricing Guidelines in 2009, and in the United Nations Practical Manual on Transfer Pricing for Developing Countries in 2013; both identify the Berry Ratio as a possible PLI to be applied with CPM’s “European cousin”, the Transactional Net Margin Method (TNMM). The Berry Ratio has been little used in practice, most likely due to its long-time status as an unspecified method. The method also has a reputation that is somewhat “shady”, having been called “one of the most misused ratios in the context of transfer pricing analyses.” However, the method may be undergoing a renaissance, for at least three reasons. First, there is a growing trend for multinational enterprises (“MNEs”) to create centralized hubs for selected value-adding activities, in particular, distribution and procurement. These hubs are assigned low or limited functional and risk profiles, making them candidates for a Berry Ratio PLI used in conjunction with CPM or TNMM. Second, the growing internationalization of business services is creating new opportunities for using the Berry Ratio for services. Third, the fragmentation and geographic dispersion of value-adding activities along the global and regional value chains of multinational enterprises (“MNEs”) are creating “stuck in the middle” business units where the Berry Ratio could be a more reliable transfer pricing method than the traditional methods. This chapter focuses on the mechanics of the Berry Ratio and its applicability and limitations, as outlined in the 482 Regulations, OECD Guidelines and UN Manual. Important court decisions that deal with the Berry Ratio are also discussed. All materials are updated as of August 2023.

Keywords: transfer pricing, Berry Ratio, international tax

JEL Classification: H25, H26, H73