Apple and Total Landed Profits

Apple’s CEO, Tim Cook, was hauled in front of a Congressional subcommittee in May and grilled about corporate tax avoidance. At issue is a complex corporate structure that allows Apple’s European subsidiaries to distribute profits to a holding company in Ireland where the corporate tax rate is 12.5 percent. As a result, Apple holds over $100 billion in Ireland that the CEO says “isn’t coming back” anytime soon. This equates to avoiding $35 billion in corporate tax payments.

Not long ago, I was talking to a Director-level contact at a multinational pharma company about tax efficient supply chains. This was a much-discussed topic about five years ago, but it’s less so today. In his opinion this is because the tax structures and supporting supply chain flows have already been set up.

In some industries, companies lowered their tax burden by setting up a regional supply chain entity, typically in Switzerland. There is a “form follows function” rationale that means, in short, if you actually have a large number of your most important supply chain executives doing the important decision making out of Switzerland, it is much easier to justify your low tax rates to tax authorities. With this kind of structure, savings come in two areas: from lower corporate taxes and from any synergies that a centralized regional approach can bring to the supply chain. This centralized approach served to lower tax risks — the risk that the tax man would audit the structure and find it to be a tax dodge and then impose huge fines. If the company could show synergies from centralization, that risk largely disappeared.

However, in the pharmaceutical industry, this executive said the supply chain just went along for the ride and had to live with the tax structures and supporting supply chain flows that were created. The key corporate entities were more often in Ireland and Puerto Rico, and the supply chain was not so centralized. The goal was to have the supply chain impact be neutral, and to garner the savings on the tax side.

At his company, instead of talking about total landed costs, they have started talking about total landed profits. Total landed profits are based upon both lowering supply chain costs and lowering tax burdens. In this executive’s view, it was now time to go back and take a close look at the structure. The structure made assumptions, but did the supply chain costs really reflect the assumptions? So the focus should not just be on transfer prices, but also on how much more inventory needs to be carried, and the higher-than-expected tariff and logistics costs that result from the tax structure. Once they do this analysis, they can see if the tax efficient supply chain really provided all the benefits promised. He would also love to see his company implement a global trade management solution. He believes it would help them better analyze the existing supply chain cost structure, as well allow them to do a better job of delivering better total landed profits through Free Trade Zones.

After I got off the call, I realized I really should have asked him more about how the company calculates total landed costs. The tax structures described do lower the overall corporate tax rate, but they don’t necessarily improve profits. To declare a profit, the money has to be repatriated to the country where the corporate headquarters resides. It is then taxed at that nation’s corporate tax rate. In the case of Apple, which is headquartered in the US, that means 35 percent of revenues.

That is why Apple is holding $35 billion in Ireland; it is deferring profits because it doesn’t want to pay that tax. The billions Apple holds can be used for acquisitions or in other European investments that can help the company grow or decrease its cost structure.

Ultimately, the big multinationals are hoping for a tax holiday for repatriated revenues. In the US, our last such tax holiday was in 2004; we seem to have one of these tax holidays every 10 to 20 years. In 2004, a set of major corporations were allowed to bring back retained revenues from their overseas subsidiaries at a tax rate of only 5.25 percent.

With that being the case, and companies not knowing when or if such a tax holiday will occur, how could a company possibly calculate total landed profits?

Clearly, the path to higher total landed profits will depend upon retaining skilled lobbyists and generous campaign donations.

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