Transfer pricing & e-commerce
The Global Tax Maze .... in the era of Communications Revolution
Structure of Today’s Discussion
Profiling ecommerce – what’s the change
> Examples of emerging business models
Transfer pricing perspectives
> Issues in application of traditional approach > Permanent establishment triggers and issues > Transfer pricing method
> Transfer pricing method
A Case Study
Profiling Ecommerce
– what’s the change
Profiling ecommerce – a TP perspective
Ecommerce – buying and selling of goods/services over the
internet or a computer network
Information and communication technologies underlying
ecommerce are triggering a paradigm shift in the way businesses
function
> Convergence with mobile and remote controls – it is the virtual world
Transfer pricing issues in ecommerce not necessarily new but,
> The uncommon complexities now becoming common
> Application of arm’s length principle posing fresh challenges
A critical step is the understanding and description of the elements in the virtual supply chain
Profiling ecommerce – a TP perspective
New markets being created
> Global reach possible at a click of a mouse > The Online Market – digitised market place
New products being created
> Change in Consumer behavior –
New business
models emerging
> Change in Consumer behavior –
social/business networking, digitised information, entertainment
> Convergence of computer and mobile –
everything possible on the move
Economic distance between producers
and consumers has reduced
> Traditional intermediaries eliminated in
many cases e.g. travel agents
How to assess
market factors?
Profiling ecommerce – a TP perspective
A truly Global Organisation is a reality
>
seamless working across geographies
Change in Competition
>
the SMEs also now have reach and
speed
Changing ways
of doing
business
speed
Relevance of Intangibles
>
technology, content, and marketing
Locus
of value
drivers is a
challenge
Example of new business models / functions
Manufacturing
> Web based ordering systems and inventory controls > Direct sales model (made to order)
> Outsourcing activities and remote monitoring of production process
Distribution
> Traditional shipping services can now make quicker and more accurate
deliveries
> Logistics and fulfillment is now outsourced to the specialists
Marketing, customer relationships management, support
services
> Web based marketing
> Call centres (order procurements triggering a PE risk) > Shared service centres
Example of new business models / functions
Information technology
> Licensing of e-commerce technologies > E-distribution of content
> E-learning and interactive training > Storage of proprietary information
> Application service providers (Software as a service) > Electronic invoicing and payment systems
> Electronic invoicing and payment systems
Financial services
> Entry of smaller players on account of reduction in cost of operations > Traditional players with online presence
> Advantages from shared services and removal of intermediaries
Electronic market places
> Online auctions and Shopping portals
> Content aggregators many more…
Transfer Pricing
Perspectives
TP Pressure Points
Issues in application of traditional approach
Applying the separate transaction approach and finding
comparables
> Speed, frequency, anonymity and integration of exchanges
> Which is the transaction? Understanding the third party transaction? > Degree of technology investment / dependency as a comparability
Where is the decision maker? > Degree of technology investment / dependency as a comparability
factor
Functional Analysis
> Identifying the economically significant activities > Does risk follow the function?
> Supply chain is complex and unique – how to
assess functions and also making economic adjustments for differences
TP Pressure Points
Issues in application of traditional approach
Identifying and valuing intangibles
> Economic ownership of the intangibles : joint vs. several
> Valuation of intangibles vis-à-vis scale of business is it appropriate?
Isn't scale also a factor of entrepreneurial decision making
> With scale the software and hardware may need to be revamped from > With scale the software and hardware may need to be revamped from
scratch
Location savings and their attribution
TP Pressure Points
The permanent establishment exposure
> Server as a PE
> Agency PE : Conclusion of online contracts
P e rm a n e n t E st a b li sh m e n t High A perspective: P e rm a n e n t E st a b li sh m e n t R is k E x p o su re
Source country: allocation of functions, risks and assets to
subsidiary
Low
High
Structuring engagements the TP vs. PE risk management
Economically whether PE or subsidiary cumulative profit in
source country =
TP Method for testing ALP
E-Commerce is likely to result in an integrated business
spanning geographies
> Is a contribution based approach more appropriate?
> Profit split method likely to gain predominance in ecommerce fact
patterns
Can the Responsibility Centre Manual be applied in solving
price setting issues in the virtual world ?
The Web / Mobile Ad Marketplace
IndCo is engaged in the business of providing “mobile
advertising services”. Based on its proprietary technology, it has
developed a business model on lines of an advertising agency
> providing the advertisers with a vast reach and precision on the mobile
medium
> assisting the publishers to get contextual ads for its customers and
thereby increase the value of their mobile property thereby increase the value of their mobile property
> the business involves IndCo charging the advertiser and thereafter
paying the publisher after retaining its share on lines of an agency commission
Given the opportunity in the global markets a international headquarter
entity in Singapore i.e. SingCo was envisaged.
> IndCo and SingCo agreed for an arrangement to co-own the technology
developed by the Indian entity and
> a cost sharing arrangement to share the ownership and future costs of
Strategy Description
IndCo and SingCo would agree to share the costs of the research and development in consideration for exploiting the intangible in India and Rest of World respectively. The proportion of each participant depends upon the share of each of them in the expected overall benefits from the exploitation of the intangibles. India A A P P P A Transfer Price intangibles.
IndCo and SingCo enter into contracts with publishers and advertisers in independent capacity for their respective regions
There would be a periodic inter-company
transfer price for the advertisement and publisher leads generated by one entity for the benefit of the other
Singapore A A A P P P Transfer Price Arrangement
P: Publisher – Revenue Share A: Advertiser – Ad Revenue
Strategy Description
SingCo would further remunerate IndCo
for the provision of technology support services i.e. their share of the research and development costs. In this regard, the CCA would appoint the technology team
as a captive development centre
remunerated under a cost-plus pricing
India A A P P P A Transfer Price
remunerated under a cost-plus pricing model.
SingCo could continue to be the legal
owner of the intangibles. However from an economic perspective all the parties would be co-owners Singapore A A A P P P Transfer Price Arrangement
P: Publisher – Revenue Share A: Advertiser – Ad Revenue
Strategy Review
The profits from the India region would be attributable to
IndCo, while rest of the world would be to SingCo
The strategy benefits
> Provides use of intangibles without royalty payments
> Increased operational flexibility for outside India business - given the
procedural hurdles on cross-border flow of funds procedural hurdles on cross-border flow of funds
> Provides greater flexibility for restructuring (particularly with reference
to transition costs)
> In future, if an India centric structure is chosen, the transfer of rights
from Singapore to India would not trigger any capital gains tax
Pressure-points
> Relatively an untested strategy in the Indian environment > Taxation of buy-in and buy-out payments
Analysis – “Highlights”
Identification of the value drivers and its influence
> Proprietary advertising platform for target advertising > Quality and reach of the publisher sites on the network > Type of the advertisers and their campaign values
Business case parameters
Business case parameters
> The role of the entity in the value chain
> The role played by the entity in the direction of the future development
of the technology
> The relationship of the entity with other participants in the supply chain > Global presence – branches of SingCo
Analysis – “Highlights”
Initial IP transfer value arrived as an average of the actual cost incurred and
the replacement cost. Reasons for not adopting income approach:
> Shelf life of technology is typically low and needs continuous developments to
meet the dynamic needs of the supply chain
> Technology platform is not the only value driver
Share of ownership arrived at based on the project revenues in the regions The costs were divided into platform creation costs and platform
maintenance costs for sharing of the same
> The platform creation costs were agreed to be shared based on the projected
revenue in the regions
> The platform maintenance costs were shared based on the number of
impressions generated by the each entity.
Revamp to support scale – though model remains same -Impact on valuation and cost sharing!!!
Looking Beyond
A global need needs a global solution
> Building a core group for thought leadership initiatives
> Use of contribution analysis approach requires seamless
cross-geography discussions
> Thought leadership – articles etc
Advance Pricing Agreements could be a significant value pitch
Advance Pricing Agreements could be a significant value pitch
> The Google Story – 2006 APA with IRS results in reduction of tax cost
from approx 29.5% to 13%
Targeting the private equity/venture capitalists to create
“An organization’s ability to learn, and translate that learning into action rapidly, is the ultimate competitive advantage”
- Jack Welch
Thank you
Accretive-SDU Business Consulting Private Limited
Bangalore 560 001. INDIA www.accretiveglobal.com +91 (80) 2226 1371
- Jack Welch
The views expressed and the information provided in this presentation are of general nature and is not intended to address the circumstances of any particular individual or entity. The above content should neither be regarded as comprehensive nor sufficient for making decisions.
