The arm’s-length result of profitability can be established by one of several financial indicators. A Variety of indicators may be used in a given analysis; the choice between Profit Level Indicators (“PLI”) depends upon the activities of the tested party, the reliability of the data of comparable uncontrolled companies and the extent to which the indicator will produce a reliable measure of an arm’s –length result. These indicators include the rate of return on capital employed, net profit margins and various “financial ratios”. A critical factor to be considered in selecting an appropriate PLI is the extent to which that PLI is likely to produce a reliable measure of an arm’s length result.
It is calculated by usually taking Operating Profit/Operating cost for the sale side and Operating Cost/Sales for the purchase side.