HQ H236154
VAL-2 OT:RR:CTF:VS H236154 YAG
Area Port Director
Port of Portland
U.S. Customs and Border Protection
8337 NE Alderwood Road Portland, OR 97220
RE: Internal Advice; 19 U.S.C. §1401a; Related Parties; Method of Appraisement
Dear Port Director:
This is in response to your memorandum, dated November 23, 2012, forwarding a Request for Internal Advice, filed on behalf of Williams Control, Inc. (“Williams USA”). At issue is the proper basis of appraisement of merchandise purchased and imported from a related party in China. A meeting was held on May 27, 2014.
Williams USA has asked that certain information submitted in connection with this internal advice request be treated as confidential. Inasmuch as this request conforms to the requirements of 19 CFR §177.2(b)(7), the request for confidentiality is approved. The information contained within brackets and all attachments to this internal advice request, forwarded to our office, will not be released to the public and will be withheld from published versions of this decision.
FACTS:
This decision is being issued subsequent to our review of documents submitted by the importer, Williams USA, to U.S. Customs and Border Protection (“CBP”), in particular the following:
Williams USA’s response to the Request for Information (CBP Form 28) issued by the Port on July 7, 2011;
Signed manufacturing agreement between Williams USA and Williams Controls Suzhou Co., Ltd. (“Williams Asia”);
October 2010 Transfer Price list;
U.S. Securities and Exchange Commission Form 10-K, Annual Report for Williams Control, Inc., for the fiscal year ending September 30, 2011;
Trial Balance for Williams Asia;
Information on the costing of finished goods and sensors;
Request for Information issued by Regulatory Audit during March, April, May and June 2012, and the importer’s responses to those requests, including walk-through documentation for several part numbers and transfer pricing methodology;
Williams USA written procedures, including Narratives on Transfer Pricing.
The importer is a maker and importer of electronic throttle controls, pneumatic controls and electronic sensors for heavy-duty trucks, buses, off-road equipment and military applications. In addition, it designs and manufactures a line of adjustable foot pedals and arm rests, as well as a line of joysticks. The foot pedals are sold, pursuant to a licensing agreement for adjustable pedal technology, in the medium and heavy truck and transit bus markets. The joysticks are marketed primarily to the off-road market. The foot pedals, arms rests and joysticks are not at issue. Williams USA sells its products directly to large, heavy truck, transit bus and off-road original equipment manufacturers (“OEMs”) worldwide, and through a network of independent distributors and representatives, which sell controls and sensors to smaller OEMs and replacement parts to truck and bus owners. See Williams USA’s Annual Report (SEC Form 10-K).
In 2005, Williams USA established a manufacturing facility in China (Williams Asia) that operates as a contract manufacturer for Williams USA and manufactures the subject controls and sensors imported by Williams USA. Williams Asia also sells parts and components purchased from Chinese suppliers to Williams USA, which are not at issue. In addition, Williams Asia designs and sells products for the heavy road truck and off-road truck market outside the United States. Under the U.S. Customs Laws, Williams USA and Williams Asia are related parties.
According to the Port’s memorandum, while investigating another issue with the importer, the Port received documents showing that components were supplied by the importer, Williams USA, to the manufacturer, Williams Asia. Williams Asia used the components to build the electronic throttle controls, pneumatic controls and electronic sensors imported by Williams USA. On July 7, 2011, the Port issued a Request for Information (CBPF 28) to the importer concerning cost data on multiple products from one of the entries at issue.
In its response, dated August 11, 2011, the importer informed the Port that, in limited instances, Williams USA provides Williams Asia with certain parts and components, but that they are not assists because the items are sold to Williams Asia. The importer also informed the Port that the intercompany transfer prices for goods sold to the importer by Williams Asia are based on the all costs plus a profit method. The valuation of Williams Asia’s inventory is done by Williams USA using standard cost, which for raw materials (purchased parts/components) is the current purchase price from the supplier, and for manufactured parts (finished goods) is the sum of material, direct labor and overhead costs. The transfer prices charged to Williams USA by Williams Asia for finished goods have a [***]% markup, covering general expenses/total costs and profit. For purchased parts/components, Williams Asia adds a markup of [***]%, because the handling costs for those goods are less. The importer also stated that if standard costs change significantly within the year, Williams Asia would review and update its transfer prices accordingly for subsequent shipments. The importer also informed the Port that the overall operating profit margin for Williams Asia was [***]% for the first six months of FY 2011, and for Williams USA it was approximately [***]% for the same time period. Based on these responses, the Port referred the importer to Regulatory Audit (Seattle), which accepted the importer for audit.
In response to a questionnaire from Regulatory Audit, the importer expanded on information already provided to the Port and also advised CBP of the following:
Williams Asia provides contract assembly services to Williams USA using components purchased from Williams USA or third parties. Components purchased from third parties are based on Williams USA-directed assembly processes and are obtained from suppliers identified, qualified and monitored by Williams USA. Williams USA is responsible for negotiating the prices of components used in goods assembled by Williams Asia for Williams USA. Williams Asia purchases directly from vendors at the prices negotiated by Williams USA.
Williams Asia may place orders for items such as component parts and production equipment with Williams USA. Williams USA transfers the items to Williams Asia and charges it the acquisition cost. Williams Asia pays the international transportation costs.
There is a manufacturing agreement between Williams USA and Williams Asia but there are no formal agency, distribution and or/service agreements between the parties. The parties have a royalty agreement by which Williams Asia pays a royalty for sales to unrelated parties. Williams Asia unrelated party sales are predominantly limited to customers in China.
Williams Asia only has one U.S. customer, Williams USA.
Williams USA does not separately track profit on sales for products imported from Williams Asia. The overall operating profit for Williams USA on all products, whether imported from Williams Asia or manufactured by Williams USA, was [***]% in FY 2011 and [***]% in FY 2010.
Williams Asia’s operating profit for products sold to Williams USA is approximately [***]%. The profit mark-up added to standard costs is determined at the beginning of each fiscal year based on the next fiscal year’s budget to ensure the operating profit margin approximates [***]%. In sales to unrelated parties, Williams Asia negotiates the sale price with its customers. The operating profit for unrelated sales is determined by subtracting the cost of production and operating costs from the negotiated sales price.
Individual part profit is not considered when reporting all costs plus a profit to CBP.
For transfer costing purposes, the cost of each part is determined individually and not grouped with other part numbers. Transfer prices for exported parts, including existing exports, are reviewed once a fiscal year. If standard costs change significantly during the year, Williams USA reviews and updates the transfer prices for subsequent shipments. Each Williams Asia invoice is reviewed for purchase price variances by the Williams USA senior cost accountant.
According to the Regulatory Audit report of a walk-through of Williams USA’s facilities and of documentation for certain identified part numbers, conducted in April 2012 as part of the audit, the Financial Controller for Williams USA informed CBP that the company performed studies of other contract assembly facilities and determined that the average contract assembler profit margin was [***]%, and that Williams USA attempts to keep Williams Asia in that same range of profitability. The [***]% markup on goods sold to Williams USA by Williams Asia covers profit [***]% plus all other costs not included in the labor and overhead absorption rate and material costs, such as transportation, Chinese customs duties and fees.
CBP noted in the case of one part number examined during the documentary walk-through, that there was a mid-year transfer price reduction, which Williams USA attributed to a change in supplier. According to a company email, Williams USA contacted Williams Asia to ensure that Williams Asia’s transfer price would reflect the lower purchase price of the component once the component from the new supplier was being used in the imported parts.
In response to a Request for Information from Regulatory Audit, dated May 3, 2012, Williams USA further advised CBP of the following:
The transfer pricing methodology is not an approved Advance Pricing Agreement between the governments of China and the United States.
Williams USA sometimes sells components to Williams Asia at cost, the invoiced purchase price, and sometimes with a [***]% markup. The [***]% markup is intended to cover all freight and handling costs for which Williams USA is responsible. Williams Asia pays the freight and handling for export shipments. Not all Williams USA to Williams Asia sales prices for components were up to date at the time of the audit.
Williams Asia buys equipment and fixed assets from Williams USA and is charged the cost to Williams USA to procure the equipment or fixed asset, including transportation cost to Williams USA’s U.S. facility. In some cases, Williams USA assembles or tests the equipment or asset before it is shipped to Williams Asia. These costs are not factored into the invoice price to Williams Asia because they are considered minor in relation to the total cost of the item and when apportioned over the number of units produced over the lifespan of the equipment. Williams Asia pays the freight and handling costs for the export shipment.
Williams Asia may set its own transfer pricing formula that is different from the current formula, but Williams USA is not required to accept it. Williams Asia can propose transfer prices that result in higher profit margins but they would have to be negotiated with Williams USA.
Williams USA does not track the percentage of goods it sells that does not contain a component assembled by or imported from Williams Asia.
Williams USA pays Williams Asia on a 90-day basis and makes monthly payments, which are the standard terms for domestic unrelated customers. Williams USA grants extended payment terms to Williams Asia, which pays Williams USA as cash is available to do so.
In the Narrative on Variances submitted by the importer, Williams USA stated that when preparing its annual budget, it reviews budgeted costs and determines a new markup percentage for parts sold by Williams Asia to Williams USA to ensure a net cost plus ratio of approximately [***]% for Williams Asia. According to the importer, based on a transfer price study done on comparable manufacturing companies in China, the arm’s-length range was [***]% - [***]%, with a median of [***]%. A copy of the transfer pricing study was not provided. The importer also stated that Williams USA analyzes Williams Asia’s financials on a quarterly basis, and if the margin falls out of the arm’s-length range, Williams USA determines whether to adjust transfer pricing more frequently than once a year.
Based on the information submitted by the importer during the audit process, the Port issued a determination concluding that the importer’s transfer pricing methodology failed to meet the circumstances of the sale test and, therefore, it was not shown that the parties’ relationship did not influence the price of the imported goods. Further, the Port determined that price adjustments or variances were made outside the transfer pricing agreement and were not reported to CBP as changes in value and, therefore, were in violation of U.S. Customs Laws.
In response to the Port’s determination, the importer argued that samples needed to be selected in order to evaluate all costs plus a profit on a product level. The importer proposed that it or the Port select samples, for which it would provide information on Williams Asia’s cost and profit for each part. The importer suggested that if the Port was still not in agreement with the importer after sampling, the Port should seek internal advice from this office.
After considering the importer’s proposal, the Port, in consultation with Regulatory Audit, determined that obtaining samples of individual part numbers for comparison with overall profit margin would not yield an acceptable profit margin comparison because the overall company profit for Williams USA was determined by the combined profits for all parts sold in all markets. The Port determined that because a differentiation regarding the origin of the products was not made in determining the overall profit margin of Williams USA, a “same class or kind” claim could not be made when comparing individual product profit to the overall profit margin.
ISSUE:
What is the proper method of appraisement of the imported merchandise under 19 U.S.C. §1401a(b)?
LAW AND ANALYSIS:
Merchandise imported into the United States is appraised in accordance with Section 402 of the Tariff Act of 1930, as amended by the Trade Agreements Act of 1979 (19 U.S.C. §1401a; TAA). The preferred method of appraisement of imported merchandise for customs purposes is transaction value. Transaction value is the price actually paid or payable for the merchandise when sold for export to the United States, plus certain enumerated additions to the extent not otherwise included in the price actually paid or payable. 19 U.S.C. §1401a(b)(1). The term “price actually paid or payable” means the total payment (whether direct or indirect, and exclusive of any costs, charges, or expenses incurred for transportation, insurance, and related services incidental to the international shipment of the merchandise from the country of exportation to the place of importation in the United States) made, or to be made, for imported merchandise by the buyer to, or for the benefit of the seller. 19 U.S.C. §1401a(b)(4)(A).
Price Adjustments
According to the information submitted, although transfer prices are set yearly, if the seller’s (Williams Asia’s) standard costs change significantly within the year, the buyer, Williams USA, reviews and updates transfer prices accordingly for subsequent shipments. In addition, each month Williams USA analyzes and updates material costs using the suppliers’ latest purchase prices, and each quarter it analyzes cost-plus margins and, if needed to keep arm’s-length pricing, adjusts transfer prices more frequently than once a year.
Based on these facts, the Port is of the opinion that it is necessary to determine whether the transfer prices are based on an objective formula agreed upon prior to importation. 19 CFR §152.103(a)(1) provides, in pertinent part:
In determining transaction value, the price actually paid or payable will be considered without regard to its method of derivation. It may be the result of discounts, increases, or negotiations, or may be arrived at by the application of a formula, such as the price in effect on the date of export in the London Commodity Market.
However, rebates, or any other decrease in the price actually paid or payable made or effected after the date of importation are to be disregarded for the purposes of determining transaction value. 19 U.S.C. §1401a(b)(4)(B).
CBP has determined that where the price is not fixed at the time of importation, transaction value is not applicable. See e.g., HQ 545618, dated August 23, 1996; HQ 545242, dated April 16, 1995; HQ 545798, dated October 28, 1994; HQ 546231, dated February 10, 1997; and HQ 546421, dated March 27, 1998. CBP has determined that the fixed price rule is satisfied when the price is determinable by an objective formula agreed upon prior to importation. In applying this provision, CBP ruled in HQ 542701, dated April 28, 1982, TAA No. 47, and in subsequent rulings, that in situations in which the price paid or payable is determined pursuant to a formula, a firm price need not be known or ascertainable at the time of importation. Nevertheless, it is necessary for the formula to be fixed at importation so that a final sales price can be determined at a later time on the basis of some event or occurrence over which neither the seller nor the buyer has any control. See also HQ 545622, dated April 28, 1994.
The importer argues that the question of whether the transfer prices between Williams Asia and Williams USA are fixed formulas is not at issue because the prices are not subject to post-importation price adjustments. Any changes in price only affect future shipments and do not affect prices on a post-importation or retroactive basis.
While the Port acknowledges that increased standard costs only affect future shipments and do not affect prices on a post-importation or retroactive basis, the Port takes issue with the fact that the actual sales reported to the IRS and the standard sales reported to CBP are not the same, due to the post-importation variances/adjustments made by the company for tax purposes. The Port is concerned that there is no agreement between the parties that fixes any part of the re-pricing process for purposes of declaring value to CBP, and that their transfer pricing policy has not been accepted as a bilateral Advance Pricing Agreement by the U.S. and Chinese Governments. In support of its position, the Port cites Headquarters Ruling Letter (“HQ”) W548314, dated May 16, 2012, for the proposition that, in addition to determining whether the relationship of the parties influenced the price, it has to be determined whether the price is a formula within the meaning of 19 CFR §152.103(a)(1).
HQ W548314, which revoked HQ 547654 (Nov. 9, 2001), detailed CBP’s position on what constitutes a “formula” for purposes of using transaction value, thereby allowing post-importation adjustments to the price. CBP established five factors that should be used to determine whether an objective formula is in place prior to importation for purposes of determining the price within the meaning of 19 CFR §152.103(a)(1). The factors address the “payable” aspect of the price actually paid or payable in transaction value and whether potential post-importation adjustments, particularly downward adjustments, may be accepted. In HQ W548314, the related party importer and sellers used a transfer price to report the transaction value to CBP which was calculated by subtracting: transportation costs to the U.S., customs duties, fixed costs of the importer’s U.S. operations, and the importer’s profits from the anticipated resale price in the U.S. of the merchandise sold by the importer to the U.S. customers after importation. Due to the frequency and fluctuations of the adjustments because of the variations in sales prices and volumes of the imported merchandise, the related party sellers proposed to defer certain deductions from the resale price until after the actual resale in the U.S. Under those circumstances, the importer made entry at the resale price less freight costs, customs duties, and the importer’s profit. The deduction for the importer’s U.S. fixed costs would occur after resale in the U.S. Entries from all shipments to the U.S. between the seller and importer were flagged for Reconciliation with CBP. For those costs not known at the time of entry (i.e. the importer’s fixed costs in the U.S.), the importer proposed to file quarterly Reconciliation entries with CBP to adjust its prices to reflect the actual costs. As part of the quarterly Reconciliation filing, the sum of the fixed costs would be allocated by product group to individual shipments made during the quarter based on the ratio of fixed costs to sales for each product grouping. Applying the five factors, CBP determined that the importer’s transfer pricing policy was a formula in place prior to importation and that all adjustments to the price pursuant to the policy, which were reported to CBP, were to be taken into account in determining transaction value.
In response to comments on whether the objective formula pricing requirement for transaction value is synonymous with the circumstances of the sale or test values methods for analyzing related party transactions, CBP stated in HQ W548314:
If an import transaction involves post-importation adjustments, and an importer seeks to claim those downward adjustments (as upward adjustments always required reporting), then its transfer pricing policy must constitute a “formula” within the meaning of 19 CFR §152.103(a)(1). Further, those adjustments must satisfy either the circumstances of the sale or test values methods. Therefore, CBP does not agree that if the formula requirement is met, the circumstances of the sale test is met. Rather, the post-importation analysis has two requirements: (1) there is a “formula” within the meaning of 19 CFR §152.103(a)(1) that is analyzed using the factors, so that properly documented adjustments may be claimed if they occur; and (2) the parties satisfy the requirements under 19 U.S.C. §1401a to show that the relationship did not influence the price. CBP’s analysis under these two requirements is not overlapping; one of the requirements deals with the appropriateness of claiming the post-importation adjustments in cases that fall under CBP’s interpretation of a formula, fixed prior to the importation, and the other requirement goes to the validity of the prices declared to CBP.
Unlike in HQ W548314, in this case prices of previously imported goods are not being adjusted. The only price adjustments being made are for goods yet to be imported into the United States, and the adjusted prices are being reported to CBP when the goods are entered. Accordingly, the question of whether the declared price, which may differ from the contracted transfer price, is derived from an objective formula does not arise, and HQ W548314 is not applicable.
Circumstances of the Sale
Transaction value is an acceptable basis of appraisement only if, inter alia, the buyer and seller are not related, or if related, an examination of the circumstances of the sale indicates that the relationship did not influence the price actually paid or payable, or the transaction value of the merchandise closely approximates certain “test values.” 19 U.S.C. §1401a(b)(2)(B); 19 CFR §152.103(l). While the fact that the buyer and seller are related is not in itself grounds for regarding transaction value as unacceptable, where CBP has doubts about the acceptability of the price and is unable to accept transaction value without further inquiry, the parties will be given the opportunity to supply such further detailed information as may be necessary to support the use of transaction value pursuant to the methods outlined above.
“Test values” refer to values previously determined pursuant to actual appraisements of imported merchandise. In this instance, no information regarding test values has been submitted or is available; consequently, the circumstances of the sale must be examined in order to determine the acceptability of transaction value.
Under the circumstances of sale approach, the transaction value between a related buyer and seller is acceptable if an examination of the circumstances of the sale indicates that although related, their relationship did not influence the price actually paid or payable. The CBP Regulations specified in 19 CFR Part 152 provide illustrative examples of how to determine if the relationship between the buyer and the seller influences the price. In this respect, CBP will examine the manner in which the buyer and seller organize their commercial relations and the way in which the price in question was derived in order to determine whether the relationship influenced the price. If it can be shown that the price was settled in a manner consistent with the normal pricing practices of the industry in question, or with the way in which the seller settles prices with unrelated buyers, this will demonstrate that the price has not been influenced by the relationship. See 19 CFR §152.103(l)(1)(i)-(ii). In addition, CBP will consider the price not to have been influenced if the price was adequate to ensure recovery of all costs plus a profit equivalent to the firm’s overall profit realized over a representative period of time. 19 CFR §152.103(l)(1)(iii). These are examples that illustrate that the relationship has not influenced the price, but other factors may be relevant as well.
The importer argues that the prices at which Williams Asia sells goods to Williams USA are acceptable transaction values because they meet the circumstances of the sale test, in that, the price is adequate to ensure the recovery of all costs plus a profit equivalent to Williams USA overall profit in sales of the same class or kind of merchandise over the representative period of time. The all costs plus a profit example examines whether the related party compensates the seller for all its costs of production, plus a profit. The regulations do not give us the definition of “equivalent” profit; however, if the profit of the seller is equal to or higher on the U.S. imports than the firm’s overall profit, the purchase price would not be artificially low for Custom’s purposes. See HQ H065024, dated July 28, 2011; HQ H238990, dated April 7, 2014. The importer believes that a review of the actual costs to produce the imported merchandise, as well as a comparison of the foreign seller’s profit to the parent company’s overall profit (which happens to be the importer), will prove its argument.
The importer submitted the operating profit figures for Williams Asia and the overall profit for Williams USA earned by these company in 2010 and 2011. As stated in the FACTS portion of this ruling, the overall operating profit for Williams USA on all products, whether imported from Williams Asia or manufactured by Williams USA, was [***]% in 2011 and [***]% in FY 2010. William Asia’s operating profit for products sold to Williams USA is approximately [***]%. Therefore, the operating profit of the seller, William Asia, is equal to or exceeds the overall profit of its parent company, William USA.
However, the issue in this case is whether the overall operating profit of William USA is acceptable for CBP, because the company sells a variety of products, which might or might not be of the same class or kind as the imported merchandise. The Port and Regulatory Audit determined that comparing sample valuations of individual parts manufactured and sold by Williams Asia to Williams USA overall profit margin is not acceptable because Williams USA’s overall company profit is the combined profit for all parts sold in all markets, not just for parts identical or similar to the parts obtained from Williams Asia. Therefore, the Port and Regulatory Audit opined that it is not possible to compare the profit of Williams Asia with the profit of Williams USA. In examining this issue, we reach a different conclusion.
19 CFR §152.102(h) states that “merchandise of the same class or kind” means merchandise (including, but not limited to, identical merchandise and similar merchandise) within a group or range of merchandise produced by a particular industry or industry sector. Identical goods are identical in all respects to the goods being appraised and are produced in the same country by the same or a different producer as the appraised goods. See 19 U.S.C. §1401a(h)(2). Similar goods are like the goods being appraised, in terms of characteristics and materials, or commercially interchangeable with them, produced in the same country by the same or a different producer. See 19 U.S.C. §1401a(h)(4) and 19 CFR §152.102(i). Accordingly, the definition of the “merchandise of the same class or kind” is broader in scope and is not limited to similar or identical merchandise.
Williams Asia manufactures and sells finished goods such as electronic throttle controls, pneumatic controls and electronic sensors to Williams USA, which resells them in the U.S. market. However, in addition to selling the identical or similar merchandise as Williams Asia, Williams USA designs and manufactures a line of adjustable foot pedals and arm rests, as well as a line of joysticks. According to the information submitted, Williams USA does not track profits on sales of individual types of goods but treats all the goods it sells as a single class of goods for profit allocation purposes because they are sold to the same class of users. It is true that adjustable foot pedals, arm rests, and joysticks are not similar or identical to the imported electronic throttle controls, pneumatic controls and electronic sensors. However, we find that these items represent the merchandise of the same class or kind, as defined in 19 CFR §152.102(h). As of December 2012, Williams USA merged with Curtiss-Wright Corporation (“Curtiss-Wright”). Williams USA operates within Curtiss-Wright’s industrial controls segment, designing, manufacturing, and selling all of its products for specialty vehicles, such as heavy trucks, transit buses, off-road equipment and military applications. William USA operates within the driver control subsystem industry, and all of its manufactured, designed, and sold products, even though not identical or similar, belong to this industry sector.
Accordingly, in this case, because the sellers’ operating profits were higher than the profits of the parent company in sales of merchandise of the same class or kind over a representative period of time, we find that Williams USA has satisfied the circumstances of the sale test. Thus, transaction value is an acceptable method of appraisement in the instant case.
HOLDING:
The goods may be appraised using the transaction value method of appraisement.
This decision should be mailed by your office to the party requesting Internal Advice no later than 60 days from the date of this letter. On that date, Regulations and Rulings, Office of International Trade, will make the decision available to CBP personnel and the public at www.cbp.gov, by means of the Freedom of Information Act and other methods of public distribution.
Sincerely,
Monika R. Brenner, Chief
Valuation & Special Programs Branch