Transfer pricing started life as a very necessary (if rather anodyne) mechanism to account for one part of an organisation selling goods or services to another part of the same organisation.
A good example would be ensuring that every division made a fair contribution to their running costs of shared services such as the IT and HR functions.
However, transfer pricing has been repurposed as a tool for minimising a company’s tax bill by enabling them to shift profits to subsidiaries deliberately located in municipalities with low corporation tax. Licensing a brand to another subsidiary being a classic example.
Whatever your perspective on the rights or wrongs of transfer pricing or ‘profit shifting’, it looks increasingly likely that country by country reports (CBCR) will have a material impact on transparency. But why is that? Firstly, the G20 and all the Organisation for Economic Co-operation and Development (OECD) member countries have committed to implementing country by country reporting. Secondly, France alone has 20,000+ subsidiaries of multinationals, according to accountants Scott-Moncrieff, so there’s a substantial reach. And thirdly let’s consider what a CBCR entails: Governments forcing multinationals with revenue over €750m to declare profit, tax paid, tax accrued, tangible assets and number of employees (amongst other things) for each tax jurisdiction. More than enough detail to make a difference.
In theory, companies can take comfort from the fact CBCRs will be for the eyes of the relevant tax authority only. But in the era of WikiLeaks, it’s safe to assume most if not all will make it into the public domain. Just as importantly, a proposed new EU Directive on so-called ‘public CBCRs’ means a subset of CBCR data could automatically be put into the public domain by governments.
Either way, the net result is that in a post-CBCR world it’ll be much easier for campaign groups or motivated individuals to call out companies for profit-shifting. In turn, that means we can look forward to a fresh deluge of that scourge of social media: angry memes…
But will companies really change their behaviour in response to CBCR?
Intuitively we might expect that companies with a high public profile would be most likely to respond to CBCR. Perhaps they’d start by charging a fair transfer price across all goods and services, and in time simplify convoluted corporate structures designed to facilitate profit shifting. After all, it would be fair to assume that from a reputational perspective they have most to lose.
In reality they would likely have changed their approach to transfer pricing anyway, so crediting CBCR as the driver of that change would be a little farfetched. But why is that? I’d argue it comes down to two words: ‘The brand’, which at most high-profile multinationals is nurtured with the love and attention normally reserved for a newborn child. Most big-name multinationals either saw the transfer pricing threat coming years ago, or they’ve been burnt by it recently (Facebook, Google and Starbucks in the UK, for example) and are already well down the road in changing how they allocate profits.
So what about the multinationals who aren’t quite so much at the forefront of public consciousness?
Unused to the scrutiny to which their higher profile peers are subjected, perhaps they’ve felt more emboldened to retain corporate structures that minimise their tax bills. Until now maybe they haven’t felt the need to invest heavily in brand or PR teams to managed the subsequent inherent risk.
Given the potential for a ratcheting up of external scrutiny, I certainly expect some changes in behaviour in some of non-household name multinationals. But not all. Various sectors already have strong critics on ethical grounds—the arms industry, tobacco companies, mining companies, and oil and gas companies to name but a few. When there’s already such strong, fundamental objections to your business model, does some more pressure from profit shifting really make a material difference? Scrutiny of CBCRs by governments might force some companies’ hands. But, faced with an implicit threat of relocating jobs, it’s not hard to imagine a scenario where tax settlements aren’t especially punitive vs. the tax ‘savings’ companies have made.
Wherever shareholders and senior execs land on their response to CBCR, what is very clear is that getting a country by country report wrong would be a serious self-inflicted wound. When transparency is the raision d’etre of an initiative, accuracy is essential—there’s no room for mistakes. In that context, it’s common sense to run some checks on the various bits of data in the CBCR report template before the report is submitted. For example, does the corporation tax that you claim to have paid in each tax jurisdiction in your CBCR match the data in your ERP or accounting software? Does it match each of the tax returns your company submitted in those regions? Automating those sorts of checks is where I’d unashamedly argue that analytics tools like ACL have a role to play.