Functions, Assets, and Risks analysis (FAR Analysis)
You must perform a FAR analysis to delineate the controlled transaction. This is a key step in the comparability analysis.
When to perform or update the FAR analysis
You should perform the FAR analysis prior to or at the same time as the transaction takes place.
If you already have a FAR analysis, it must be updated if there are changes in the allocation of functions, assets, or risks in the transaction. The FAR analysis is a central part of the process of selecting comparable transactions or companies. If the nature of the transaction changes, you must ensure that the basis for comparability remains accurate.
Purchasing functions are transferred from a subsidiary (Company A) to the parent company. This means that the purchasing function and risks associated with purchasing, such as price risk and inventory risk, are affected.
This is a FAR analysis
In the FAR analysis, you must identify who performs the functions and whose assets are being used. Furthermore, you must identify the risks involved and determine who assumes these risks. The functions and assets must be considered in relation to the value drivers in the group's value chain and the specific industry, as mapped out in the broad-based analysis.
The FAR analysis should not just list all the functions performed, the assets used, and the risks assumed that are associated with the transaction. You should describe the relevant economically significant factors. You must identify who:
- Performs the value-creating functions
- Contributes assets that are significant to value creation
- Manages risks that are significant to value creation
The actual conduct of the parties is central to the FAR analysis. In addition, the agreement that establishes obligations between the parties and other circumstances affecting the transaction are part of the analysis. If there are discrepancies between how the transaction is carried out and what is described in agreements, the actual conduct should form the basis. Read more about agreements in Written agreements in controlled transactions.
Description of the company's value chain
The FAR analysis should provide a description of the value chain and the value drivers in the transaction. A value chain describes the physical flow of goods, the value-creating activities performed, and who performs them.
Identifying the key value drivers in a transaction can be challenging, especially when the value chain involves multiple transactions and parties. You are in the best position to provide a thorough and detailed description of the value drivers since you have the most in-depth knowledge of the business.
For instance, a value chain can be based on Porter's Value Chain Model (Michael Porter 1985):
Important questions to support the conduct of a FAR analysis
Functions
- What is the value-driving functions performed?
- Who performs the value-driving functions? Functions can be performed by more than one party.
Assets
- Which assets are used in the transaction - tangible, financial, or intangible assets?
- Who owns the assets?
- Who has the authority to make decisions regarding the assets?
Risks
- What risks are present in the transaction?
- Who assumes the risks in the transaction?
- Who has control over the risks?
Special considerations for assessing risks in the FAR Analysis
All business activities involve some form of risk. Parties engaged in business activities will expect a return that reflects the risks they assume. How the parties assess risk is essential in this context.
In controlled transactions, it can be challenging to identify who assumes various risks.
In a FAR analysis, you must identify and describe the significant risks associated with different functions and assets. You must also describe who controls these risks.
Important information
You have control over risk when you:
- Can make decisions related to managing the risk
- Have the expertise to manage the risk
- Have the financial capacity to manage the risk
The parties to a transaction have different roles and functions, and the level of risk can range from limited to high. The process of identifying and analysing risk can be illustrated as follows:
You can present the FAR analysis in several different ways. You may structure the analysis at the transaction level, the company level, or as a combination of both. The presentation may look like this:
A matrix providing such an overview does not replace the descriptions and explanations that a FAR analysis must include. Nor can you summarise the weighting in the analysis or use it to conclude who contributes the most to value creation. Different functions, assets, and risks may have varying significance in value creation, regardless of whether the weight for each element is characterised as high, medium, or low.
Special considerations for FAR analysis related to intangibles
Intangibles are assets that:
- are neither physical nor financial
- can be owned or controlled for use in business
- would be priced in a transaction between independent parties
Intangibles can be divided into two categories:
- Assets related to the production or delivery of a specific good or service, such as patents, know-how, customer lists, licenses, and software
- Assets related to the marketing of products/services, such as logos/brands, trademarks, and trade names
Intangibles are a significant value driver in many businesses. The OECD Transfer Pricing Guidelines therefore require you to perform a FAR analysis where these assets and their contributions to value creation are described in more detail. In the FAR analysis of intangibles, it is important to identify the intangibles in the transaction that are valuable and unique.
Intangibles can be more challenging to identify than tangible assets. In a group, multiple entities may be involved in the creation of intangibles. Several entities within the group may have performed functions, used assets, or assumed risks that contribute to the value of the intangible.
You must assess five important characteristics/functions, and the risk(s) associated with them. The analysis covers all phases of the intangible’s lifecycle.
Development
This includes functions and risks related to how the intangible is developed, such as ideas and development plans, market assessments, production plans, and who performs or contributes to these functions.
Enhancement
This includes efforts to improve the functionality and/or quality of the intangible. This may, for example, involve further developing the software, increasing the asset's capacity and durability, or analysing user data to identify areas for improvement.
Maintenance
This includes all activities aimed at maintaining original functionality and quality so that the asset continues to generate value in the business. This may, for example, involve necessary updates for software functionality, updating/adapting product profiles, and monitoring customer experiences.
Protection
This includes activities to prevent unauthorised exploitation of the asset. Examples include registering the asset in a patent register or and establishing control measures to ensure that important characteristics or key features of the asset are not made public.
Exploitation
This includes activities related to the actual use of the asset and to facilitating its use.
Presentation of a FAR analysis with intangibles
