The purpose of paper testing is to get a ballpark adjustment for your arrowrest centershot position and nock point height. You don't need a sight on the bow at all to do this. It has nothing to do with the sight itself.

You're shooting an arrow through paper, and the tear or hole the shaft leaves in the paper can give you some indication of what your arrow is doing as it's leaving your bow.

If you have a horrible left or right tear, your centershot most likely needs to be adjusted. Just as if you have a terrible vertical tear, you may have to play with your nock point position. The spine of the shaft comes into play also, and how well the shaft is matched to the energy that your bow is producing.

If you do a search for "paper" in the search function, you should come up with some reading about it.