Benchmarking Related Party Transactions (RPT): Why Going Beyond Arm’s Length Certification is Critical for Robust Corporate Governance.

Discover why arm’s length certification alone is not enough for Related Party Transactions (RPT). Learn how benchmarking, valuation, and transfer pricing strengthen compliance and governance.

Benchmarking RPT – Why Going Beyond Arm’s Length Certification Makes All the Difference

Most companies approach Related Party Transaction (RPT) compliance with a single question:

Is the transaction at arm’s length?

It is absolutely the right starting point. But it is not the complete answer.

Stopping at arm’s length certification often backed only by internal management representation is where most organisations fall short of true governance excellence. In today’s regulatory and stakeholder environment, substantiation matters as much as conclusion.

This is where RPT benchmarking becomes a powerful differentiator.

Understanding the Arm’s Length Principle — and Its Limitations

The arm’s length principle requires that transactions between related parties be conducted as if they were between unrelated parties under similar circumstances.

While conceptually simple, the real challenge lies in:

Establishing comparability
Ensuring objective validation
Creating defensible documentation

In practice, many organisations rely on:

CFO or management certification
Internal notes supporting pricing decisions

While necessary, these are not sufficient, especially when transactions are:

Material in value
Subject to Audit Committee scrutiny
Requiring shareholder approval
Under regulatory lens (e.g., SEBI, Income Tax authorities)

Why Arm’s Length Certification Alone Falls Short

An arm’s length certificate without robust backing raises key risks:

Regulatory challenge risk
Audit qualifications or observations
Shareholder activism concerns
Reputational exposure

In essence, a certification answers “what” — but stakeholders increasingly demand clarity on “how” and “why”.

What Genuine RPT Benchmarking Looks Like

A mature approach to RPT governance goes beyond assertions and builds evidence-backed benchmarking frameworks.

1. Comparable Market Data (CUP Method)

For transactions involving goods or services:

What do independent third parties charge?
Are there comparable uncontrolled transactions?
Can external quotations or vendor bids be obtained?

This Comparable Uncontrolled Price (CUP) approach is the most direct validation of arm’s length pricing.

2. Independent Valuation

For transactions involving:

Assets
Real estate
Financial instruments

An independent registered valuer’s report provides:

Objective fair value assessment
Regulatory defensibility
Enhanced credibility before Audit Committees

In certain cases, this is not just best practice it is a legal requirement under Indian regulations.

3. Transfer Pricing Framework

For cross-border RPTs:

Documentation under the Income-tax Act, 1961 provides structured methodologies
Methods like:
- Cost Plus Method
- Transactional Net Margin Method (TNMM)

Even for domestic RPTs, applying transfer pricing logic:

Brings analytical discipline
Enhances defensibility

4. Historical Benchmarking

A critical but often ignored dimension:

How do current transaction terms compare with past transactions?
Are there significant deviations?

If yes, are they:

Commercially justified?
Properly documented?

Consistency is a key indicator of fairness.

5. Peer Benchmarking

Looking outward strengthens internal validation:

What are industry norms?
How do peer companies structure similar transactions?
Are pricing and terms aligned with market practice?

This adds contextual credibility beyond internal analysis.

Building a Robust RPT Benchmarking File

Forward-looking organisations create a dedicated benchmarking file for each significant RPT.

A well-structured file includes:

Transaction overview
Nature and rationale
Benchmarking methodology used
Market data / quotations
Valuation reports (if applicable)
Transfer pricing analysis
Historical comparison
Final conclusion and justification

This transforms compliance from:

“We believe it is arm’s length”
to
“We can prove it is arm’s length.”

Why This Matters More Than Ever

Regulatory and governance expectations in India are evolving rapidly:

Increased scrutiny under SEBI (LODR) Regulations
Stronger Audit Committee oversight
Enhanced disclosure requirements
Rising investor expectations

In this environment, documentation is not a formality rather it is a shield.

From Compliance to Governance Excellence

Organisations that invest in robust RPT benchmarking achieve:

Greater Audit Committee confidence
Stronger regulatory defensibility
Improved investor trust
Reduced litigation and compliance risk

Most importantly, they move from minimum compliance to governance leadership.

Conclusion

Yes , asking whether a transaction is at arm’s length is essential.

But stopping there is no longer enough.

True RPT governance lies in demonstrating with evidence, analysis, and documentation — that the transaction stands up to scrutiny from regulators, auditors, and shareholders alike.

That is the difference between compliance and credibility.