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Switzerland: Planning for Transfer Pricing: Brand management center for consumer articles

Thursday, 18 September 2014   (0 Comments)
Posted by: Author: Dr. Alexander Voegele
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Authors: Dr. Alexander Voegele and Philip de Homont (NERA Economic Consulting)

This case study shows how the relocation of old,well-established brands in times of BEPS can be mastered by a careful dissection of intellectual property (IP) into various usage rights. Further articles in this series will deal with Transfer Pricing Planning and Transfer Pricing Defense cases, as well as exploring in more depth some of the technical issues raised in this first case study.

The Case Study

An European multinational company had over time acquired several very old consumer goods companies, which were well established in their respective markets. The acquired companies shared one industry, but had their respective headquarters, R&D and marketing centers, manufacturing and other functions in several European and North American countries. The brands of the various companies were very well known, and some were even regarded as part of the national heritage in their respective native countries.

However, the profitability of several subgroups had been low, partially due to the very competitive retail market environment in some developed countries and the adverse macroeconomic environment. Worse, the companies were very decentralized, to the point where the different companies sometimes engaged in very fierce competition with each other.

The headquarter reacted by introducing principal structures to some of its subgroups, but decided to leave the most profitable subgroups out of any restructurings initially. Yet, the new principal structures did not increase the profitability sufficiently. Rather, the principal structure created additional problems: the "routine" distribution and manufacturing companies earned all the profit, while the principals mostly incurred losses. The tax effect was rather negative since some of the principal companies further accumulated loss carry forwards.

Therefore, the group headquarters decided on a larger restructuring. The product portfolio would be streamlined, the R&D of all groups would be centralized, and the brands, manufacturing, and distributors would be managed centrally. The company was very risk-averse and conservative and wanted to avoid getting drawn into BEPS discussions.

We checked several locations for the central management. The expected cost savings, the tax rates, and the possibility of moving important staff and their families to those locations were examined. Based on the living conditions of significant persons, the company finally chose a location in the western part of Switzerland. The office rental was expensive, but the total costs of relocation were reasonable and a tax ruling was available.1

When transferring brands to low-tax countries, most countries, including the US, Canada, France and Germany, tax the value of the migrating IP. Some countries also tax the value of a more broadly defined "business opportunity." When very well known brands are transferred to a low-tax jurisdiction, the probability that the deal will come under close scrutiny by tax authorities is very high.

In this sensitive context, we had to choose what exact IP should be transferred and what an independent purchaser or licensee would pay for it.

Since a few brands could be regarded as some kind of national heritage, it was considered unwise to transfer the legal title of such a brand to Switzerland. Instead, we transferred certain usage rights to Switzerland, and established a system of sublicenses for various regions, certain product lines and different purposes.

To keep the cash-flow effect of additional taxation manageable for the company, we mainly transferred usage rights with short economic useful lifetimes.The value of these particular usage rights can be relatively low, as an independent company would pay less for an asset with a low remaining lifetime. These usage rights had to be defined and separated very carefully.

The crucial question was how the IP should be valued. In general, so-called "Comparable License Fees" from external databases would very rarely reflect the actual value of the unique IP in question. A notable exception might be in very generic IP, such as certain (typically low-value) author rights, film rights, stock images, software, etc.

One possible method would have been to measure the premium that these brands command in retail shops. The brands mostly do achieve high price premiums in comparison to unbranded products, and often the branded products sell in much higher quantities. However, this brand premium often does not translate into high profits for the brand owner. Instead, the retail companies mostly manage to claim a large part of the premium for themselves.

Therefore, the brand value of consumer articles could only be determined by the profits actually achieved with this IP by the new headquarters, adjusted by the effects of relative bargaining power of the licensee versus licensor.

First, we determined the license fees by calculating the annual income from the different usage rights, deducted the respective costs, amortization, etc.

Afterwards, we had to calculate the value of the transferred usage right. We used the existing budgets and forecasts for investments, sales, costs, etc. Then we calculated the gestation lag and depreciation for the respective usage rights. We also used expert surveys for the determination of missing information, in particular for the forecasts. For the value of the existing usage rights from the US, we also used the US income approach, as discussed in the cost-sharing regulations.

Lastly, we carried out an expert survey for the determination of the bargaining power of licensees versus licensors. In this way we reached an arm's length license fee for each individual usage right. Finally we got the value of the transferred IP. We discussed the case with the major tax authorities, and obtained consent for this procedure, but we did not call for APAs. We are confident that this system will survive the new rules for BEPS and will be accepted in future field tax audits.

The system is increasing sales, reduces cost, and is also very tax-efficient.


1  We obtained the tax rulings in Switzerland prior to the recent changes to margins appropriate for limited risk distributors. However, even with the new rules, the decision would have still been for Switzerland.

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