VAL-2 OT:RR:CTF:VS W563605 CMR

Port Director
U.S. Customs and Border Protection
1100 Raymond Boulevard Newark, NJ 07102

RE: Internal Advice Request; Federal Jeans; First Sale

Dear Port Director:

This is in response to the request submitted by Sharretts, Paley, Carter and Blauvelt, P.C., on behalf of their client, Federal Jeans, that the Port seek internal advice from this office regarding the dutiable value of their client’s merchandise.

FACTS:

Federal Jeans is an importer of denim garments. It purchases merchandise from a middleman, Towncross Limited (Towncross) located in Hong Kong. Towncross purchases merchandise from various factories. Towncross either purchases merchandise directly from factories, or in some cases, Towncross purchases merchandise from license holders who purchase the merchandise from factories. In both purchase arrangements, the factories may subcontract the work out to other factories. Federal Jeans, Towncross, the license holders and the factories are all unrelated parties.

All of the transactions are FOB Hong Kong. Towncross claims to take title and assume risk of loss in Hong Kong when consolidating the orders for shipment. In addition, Towncross assumes risk for any defective merchandise and the file contains documents to support that claim, i.e., examples of credit issued by Towncross to Federal Jeans for various claims and the schedule of payments reflecting the deductions of credits for several invoices issued in calendar year 2003.

The Office of Regulatory Audit (hereinafter, Regulatory Audit) has issued Technical Assist Review Reports regarding the valuation of garment entries by Federal Jeans. These reports focused on entries of merchandise which occurred in calendar year 2001. Federal Jeans claims the entered value is properly based on the transactions between Towncross and the factories (which sometimes included assists) or Towncross and the license holders; in other words, the first sale price. Regulatory Audit believes that transaction value should be based on the sales transactions between Towncross and Federal Jeans. Based upon its determination that the transaction value of the entries by Federal Jeans should be based upon the sale between Towncross and Federal Jeans and its review of the importer’s books and records, among other things, Regulatory Audit issued a Technical Assist Review Report wherein it concluded that entries of merchandise by Federal Jeans for calendar year 2001 through the first quarter of calendar year 2004 were undervalued. Regulatory Audit calculated the duties owed based on the sale between Towncross and Federal Jeans.

Regulatory Audit believes the submitted first sale supporting documentation could not be validated as Federal Jeans could not substantiate the country of origin of the goods by furnishing production records to show that the goods were in fact produced in the factories from which sales were claimed. In addition, many, if not all, of the factories which produced the goods were closed when CBP requested production records from Federal Jeans.

Federal Jeans, through counsel, disagrees with the conclusions reached by Regulatory Audit and maintains that the sales between Towncross and the factories and the sales between Towncross and the license holders meet the requirements under Nissho Iwai American Corp. v. United States, 16 C.I.T. 86, 786 F. Supp. 1002, reversed in part, 982 F. 2d 505 (Fed. Cir. 1992), as bona fide sales for export to the United States and thus may serve as the basis for appraisement of the merchandise. Counsel also argues that production records are not required documentation for proof of first sale.

We have reviewed the material in the file referred to this office for a decision on the internal advice request. We note that documentation from various transactions is in the file. These documents include invoices from Towncross to Federal Jeans identifying the container number and the ship on which certain ordered merchandise has been shipped (identifying the merchandise by the purchase order number); Towncross packing lists, export licenses identifying Towncross as the exporter, Federal Jeans as the consignee, and identifying the manufacturer of the goods, multi-country declarations, copies of bills of lading identifying Towncross as the shipper/exporter on behalf of various shippers, copies of receipts from manufacturers or license holders to show payment received from Towncross, invoices from manufacturers or license holders to Towncross with the purchase order number for Federal Jeans identified on the invoices, sales confirmations from Towncross to Federal Jeans, and purchase orders from Towncross to manufacturers or license holders with the following information on those purchase orders – (1) the purchase order number for Federal Jeans, (2) the Federal Jeans style numbers for the garments and (3) instructions to produce “as per our attached sketches.”

ISSUE:

Whether the merchandise at issue is properly appraised based on the sales between Towncross and the factories or license holders, or based on the sales between Towncross and Federal Jeans.

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 (TAA; 19 U.S.C. § 1401a). The preferred method of appraisement is transaction value, which is defined as the "price actually paid or payable for the merchandise when sold for exportation to the United States" plus certain statutory additions. 19 U.S.C. § 1401a(b)(1). There is no dispute that transaction value under 19 U.S.C. § 1401a(b)(1) is the appropriate basis of appraisement. The question is which transaction value should be used.

In Nissho Iwai American Corp. v. United States, 16 C.I.T. 86, 786 F. Supp. 1002, reversed in part, 982 F. 2d 505 (Fed. Cir. 1992), the Court of Appeals for the Federal Circuit reviewed the standard for determining transaction value when there is more than one sale which may be considered as being for exportation to the United States. The case involved a foreign manufacturer, a middleman, and a United States purchaser. The court held that the price paid by the middleman/importer to the manufacturer was the proper basis for transaction value. The court further stated that in order for a transaction to be viable under the valuation statute, it must be a sale negotiated at arm’s length, free from any non-market influences, and involving goods clearly destined for the United States. See also, Synergy Sport International, Ltd. v. United States (Ct. of Int’l Trade, 1993).

In accordance with the Nissho Iwai decision and our own precedent, we presume that transaction value is based on the price paid by the importer. In further keeping with the court’s holding, we note that an importer may request appraisement based on the price paid by the middleman to the foreign manufacturer in situations where the middleman is not the importer. However, it is the importer’s responsibility to show that the "first sale" price is acceptable under the standard set forth in Nissho Iwai. That is, the importer must present sufficient evidence that the alleged sale was a bona fide "arm’s length sale," and that it was "a sale for export to the United States" within the meaning of 19 U.S.C. § 1401a.

Therefore, in order to use the sales between Towncross and the factories or the license holders, i.e., “first sales,” Federal Jeans must be able to show that the sales were negotiated at arm’s length, were free from any non-market influences, and that the goods at the time of the sale were clearly destined for the United States. Counsel for Federal Jeans submits that her client has demonstrated each of these elements with regard to these sales. Regulatory Audit disagrees. Our examination of the record causes us to agree with counsel for the importer for the following reasons.

All of the parties involved in the transactions at issue are unrelated. When the parties are not related, there is a presumption that their transactions are conducted at arm’s length. In Treasury Decision (T.D.) 96-87, Determining Transaction Value in Multi-Tiered Transactions, dated January 2, 1997, we stated that “[i]n general, Customs will consider a sale between unrelated parties to have been conducted at ‘arm’s length.’” Therefore, without evidence to the contrary, the sales between the factories and Towncross and the sales between the license holders and Towncross meet the first requirement of Nissho Iwai. In addition, the sales between Towncross and Federal Jeans are presumed to be at arm’s length in the absence of evidence to the contrary.

Regulatory Audit has questioned whether the sales to Towncross were bona fide sales because in some cases the amount Towncross paid a license holder for merchandise was the same amount the license holder paid the factory. Regulatory Audit cites to Headquarters Ruling letter (HQ) 547697, dated December 17, 2001, to support its view that the failure of the license holder to make a profit on the sale indicates that a bona fide sale did not occur between the parties. Additionally, it is argued that the fact that the terms of sale were FOB Hong Kong between the manufacturers or license holders and Towncross and between Towncross and Federal Jeans indicates that Towncross never took title or assumed risk of loss for the goods.

HQ 547697 dealt with a four-tier transaction, much like the four-tier transactions at issue herein. The importer purchased merchandise from a middleman, who in turn purchased the merchandise from a license holder who purchased it from the manufacturer. As in this case, the middleman sometimes purchased the merchandise directly from the manufacturer. The importer wished to use the price paid by the middleman to the license holder or manufacturer as the transaction value for the imported merchandise. CBP examined the transactions between the manufacturers and the license holder, the manufacturers and the middleman, and the license holder and the middleman. We found that the license holder and middleman paid the same price for the merchandise meaning that the sale between the parties did not generate a profit. In addition, the terms of sale at all levels were FOB Hong Kong, so title and risk of loss transferred simultaneously from either the license holder or manufacturer to the middleman to the importer. This would indicate that the manufacturers shipped directly to the importer and the license holder and middleman never actually took possession of the merchandise. Considering the lack of a profit for the license holder and the “flash” transfer of title and risk of loss to the importer, CBP determined that there was insufficient evidence of bona fide sales between the manufacturers, license holder and middleman and rejected use of “first sale” for appraisement of the merchandise.

The factual scenario in HQ 547697 does appear remarkably similar to the situation in the case at issue. However, each case must be assessed based upon the facts and the evidence available in each individual case. Flash transfer of title and risk of loss by itself does not equate to a failure to show a bona fide sale. For instance, in HQ 545271, dated March 4, 1994, it was determined that the price between the manufacturers and the middleman constituted the price actually paid or payable for purposes of determining transaction value of the merchandise. In that case, the manufacturers shipped the merchandise directly to the importer per the terms of the purchase orders between the middleman and the manufacturers. A review of the entire transaction and the documentary evidence, including copies of the purchase contracts between the importer and the middleman, and copies of purchase orders between the middleman and the manufacturers, led CBP to conclude a bona fide sale of merchandise for export to the United States occurred between the manufacturers and the middleman even though the middleman never took physical possession of the merchandise.

Counsel for the importer cites to HQ 546409, dated July 9, 1997 and HQ 546683, dated August 13, 1997, as holding that the lack of a profit does not preclude a bona fide sale. We must agree with counsel. We have stated in numerous rulings that for Customs purposes, a "sale" generally is defined as a transfer of ownership in property from one party to another for a consideration. J.L. Wood v. United States, 62 CCPA 25, 33; C.A.D. 1139 (1974). Certainly failure to make a profit may cause CBP to view a transaction with greater scrutiny, but it does not preclude a determination that a bona fide sale has truly occurred. Other factors, beyond profit, may enter into the decision to contract to sell merchandise. In this case, counsel has presented a reasonable and quite believable explanation, i.e., that due to the quota system in Hong Kong, a license holder stands to benefit through a sale with no monetary profit because the sale with the provision of the quota the license holder holds ensures the license holder will not have its quota reduced the following year for failure to use it.

A review of the documents contained in the file also supports the view that a sale occurred between the manufacturers or license holders and Towncross. Towncross ordered the merchandise after confirming the sale with Federal Jeans. There is no information in the file to indicate that Towncross was restricted in choosing manufacturers to produce the goods it needed to fill the orders it received from Federal Jeans. It appears to have used various manufacturers and license holders and a review of the transactions represented in the file indicates that Towncross always made a profit and the profit margin varied with each transaction. Although Regulatory Audit believes that the large variation in the profit margin is not consistent with industry trade practices, counsel is correct that this would indicate that Towncross was free to set its own prices and determine its own profit and was not acting as an agent for another party but acting as a buyer and seller on its own behalf.

As for the procurement of the quota, the failure of the factories to obtain quota for the merchandise sold does not mean that the merchandise was not destined for export to the United States at the time that Towncross purchased it. In the four-tier transactions involving license holders, one would not expect the factories to obtain the quota as the license holders would possess it. As the license holders had the necessary quota at the time of the sale to Towncross, this would support the argument that the merchandise was sold to Towncross for export to the United States. In the three-tier transactions, it is claimed that Towncross obtained the quota and necessary Hong Kong export licenses prior to its purchases of the merchandise at issue. A review of the documentation in the file does reflect dates on the Hong Kong export licenses which are prior to the delivery dates for the merchandise to Towncross from the factories. Therefore, the fact that the factories that produced the merchandise did not obtain the necessary quota for shipment to the United States is not determinant of whether the goods were sold to Towncross for export to the United States.

We believe the information in the file supports Federal Jeans’ use of the price between the manufacturers or license holders and Towncross. The documentary evidence indicates that the sales were at arm’s length and at the time of sale to Towncross the merchandise was clearly destined for the United States as each document reflected the purchase order number for the Federal Jeans order to Towncross. In addition, counsel argued in her submission of March 25, 2004, that “the goods also conformed to Federal Jeans’ specifications, were labeled in accordance with U.S. labeling requirements and bore U.S. markings.” Nothing in the file refutes this claim. The fact that a company may distribute merchandise in markets other than the United States does not mean that a particular shipment is not clearly destined for the United States and is an insufficient basis for rejection of the claim that the merchandise is sold for exportation to the United States.

Finally, with regard to the rejection of the claimed first sale price because of a failure to produce production records from the factories claimed to produce the goods, counsel is correct that in the case of the four-tier transactions, production records are irrelevant. As the sale for which the “first sale” price is being claimed is the sale between the license holder (who did not produce the goods) and Towncross, the source of the goods is not relevant to whether the sale at issue is a bona fide sale. Production records would certainly be relevant if there were a question with regard to the country of origin of the goods, especially goods subject to quota restrictions.

With regard to the three-tier transactions, we do understand that the inability to verify that the goods were produced in the factory which is claimed to have sold them would bring into question the validity of a first sale claim. However, where the factory closed after the claimed production dates of the merchandise and shipment of that merchandise to the United States, the inability to obtain records from a closed factory becomes an understandable obstacle to meeting a request for production records, especially in this particular case when the request is made several months after that closure. Without information to show that the factories which were claimed to have produced the merchandise and sold it directly to Towncross were closed at the time of

the claimed production, we have no basis upon which to reject the claimed first sale price.

HOLDING:

The transactions at issue should be appraised based on the first sale price between Towncross and the license holders or Towncross and the factories, as applicable. Based on the information in the file, the transactions between Towncross and the license holders or factories were bona fide sales at arm’s length for the sale of merchandise for export to the United States.

You are to mail this decision to the internal advice requester no later than 60 days from the date of the decision. At that time, Regulations and Rulings of the Office of International Trade will make the decision available to CBP personnel, and to the public on the CBP Home Page on the World Wide Web at www.cbp.gov, by means of the Freedom of Information Act, and other methods of public distribution.                                
Sincerely,

Monika R. Brenner, Chief            
Valuation and Special Programs Branch