• HQ H260036
• Feb 24, 2015

• Type : Valuation • HTSUS :
•  Related:   H165361; 548239; 545705; 547672; 548482; 542261; 546998; 548095; 546979; 548233; H005222; H037375; H029658; H032883; H219515; H017761; H006585; W563483   

HQ H260036

OT:RR:CTF:VS H260036 YAG

Mr. Damon V. Pike, President
The Pike Law Firm, P.C.
246 Sycamore Street, Suite 215
Decatur, Georgia 30030-3434

RE: Ruling Request; Deductive Value; Fallback; Post-Importation Adjustments

Dear Mr. Pike:

This is in response to your ruling request, dated October 10, 2014, seeking approval of the proper basis of appraisement of natural and biodegradable additives, imported from [***], filed by the Pike Law Firm, P.C. on behalf of [***] (the “Importer/Buyer”).

The Importer/Buyer 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 ruling.

FACTS:

The Importer/Buyer is a U.S. Corporation and is a leading Importer/Buyer in North America of natural and biodegradable ingredients made through fermentation technology. The core products handled by the Importer/Buyer are citric acid, gluconates, xanthan gum, special salts, specialties, and sweeteners. The Importer/Buyer also procures complementary or trading products from third-party manufacturers for distribution. Trading products include sweeteners, preservatives, and other organic acids not produced by the company’s [***] plants. The Importer/Buyer belongs to the food additive industry. The Importer/Buyer’s major competitors include [***].

The primary function of the Importer/Buyer is to facilitate distribution of its products and, to a lesser extent, provide sales, marketing, and direct distribution of the imported products. The Importer/Buyer also provides sales and logistical support, and arranges shipping, invoicing, and technical assistance. The Importer/Buyer purchases products from related manufacturers in [***] through its related selling agent. [***] (“Selling Agent”) is the agent as well as the sales and marketing representative for all products from the manufacturing companies of the [***] group. Both the Importer/Buyer and the Selling Agent are wholly-owned by [***], a [***] corporation. Once imported, the goods are either shipped directly to the end customer or are stored in one of eight warehouses in the United States until delivery to the end customer.

The Importer/Buyer purchases imported products from the foreign related manufacturers under the Carriage and Insurance Paid (“CIP”) Incoterm and takes title to the imported goods once they leave the dock of the related manufacturers. The related manufacturers arrange and pay for the delivery and insurance of the merchandise to the specified destination. The charges incurred for foreign inland freight, international freight, and insurance associated with the imported products are properly itemized as non-dutiable charges on the commercial invoice and billed to the Importer/Buyer. The Importer/Buyer’s selling price in the United States is determined by: 1) a U.S. purchaser asking the Importer/Buyer to submit a selling bid; or, 2) the Importer/Buyer searching the market for potential customers and offering the goods for a market price. The selling price in the United States is dictated by order volume and current market conditions. Hence, the Importer/Buyer states that the price of the goods varies by order quantity and timing. Therefore, the Importer/Buyer’s pricing for citric acid and similar commodities is backward integrated, with the pricing set by the negotiations with the ultimate customer in the United States. Under the first scenario, when the Importer/Buyer provides a selling bid to U.S. customers, the Importer/Buyer contacts the Selling Agent to offer to purchase the goods at the bid price, which factors in a [***]% operating margin, to compensate the Importer/Buyer for its overhead expenses, import costs, and reasonable profit. The Importer/Buyer states that the Selling Agent is free to accept or reject the Importer/Buyer’s offering price on behalf of the manufacturing companies, but has no direct control over the sale price. Under the second scenario, the Importer/Buyer searches the market for potential customers. The Importer/Buyer’s U.S. management team is responsible for targeting customers and determining the price to those customers. In this situation, the Importer/Buyer contacts the Selling Agent to determine if they will accept the Importer/Buyer’s purchase price on behalf of the manufacturing companies. The Importer/Buyer states that if the Selling Agent determines that the price is too low, the parties will negotiate the final price, before the Importer/Buyer issues a final proposal to its potential end customer in the United States. This process is similar to the relationship the Importer/Buyer has with its third party vendors, in that the Importer/Buyer always gets a confirmation from its vendors that the quantity of material needed is available at a given price. The value declared to CBP reflects this negotiated backward pricing approach. Furthermore, during its conference with the Internal Revenue Service (“IRS”) on May 2, 2002, the Importer/Buyer stated that in 1995 [***] introduced a new system, in which the company’s key account managers, located primarily in [***], handle certain key accounts on a worldwide basis. These account managers are responsible for marketing the company’s products, maintaining relationships with key account personnel, and negotiating volumes and prices for the account globally.

On December 23, 2004, in accordance with Section 482 of the Internal Revenue Code (26 U.S.C. §482), the Importer/Buyer executed a unilateral Advance Pricing Agreement (“APA”) with the IRS, which covers the taxable years ending [***]. In this instance, the APA is unilateral in nature, meaning the APA is between the Importer/Buyer and the IRS only. There is no foreign tax authority involved. The APA covers all transactions between the Importer/Buyer and the foreign participants (including functions performed by the Importer/Buyer for the related Manufacturers/Sellers). The tested party is the Importer/Buyer.

In its APA, the Importer/Buyer identified the Comparable Profits Method (“CPM”) as the best method for evaluating its related party or controlled transactions. The Importer/Buyer sets its prices according to the CPM. The Profit Level Indicator (“PLI”) is an operating margin. According to the APA, the arm’s length range is between [***]% and [***]%. The Importer/Buyer states that this arm’s length range was established on the basis of objective, third-pricing data for distributors (comparable companies), which perform similar functions and assume similar risks as the Importer/Buyer. In the original APA request covering fiscal years [***], the Importer/Buyer proposed to use the Berry ratio as the PLI. However, during the APA negotiations, the IRS demonstrated a strong preference to use the operating margin; therefore, the arm’s length range of operating margins was derived from a range of Berry ratios calculated from comparable companies. Additionally, the IRS APA team accepted the comparable companies, proposed by the Importer/Buyer in its initial submission. These comparable companies engage in distributing industrial chemicals, refrigerants, and bulk specialty chemicals.

Moreover, on December 31, 2007, the Importer/Buyer filed its APA Renewal Request with the IRS because the Importer/Buyer’s APA, submitted to U.S. Customs and Border Protection (“CBP”) together with its ruling request in June of 2006, expired on [***]. Therefore, this ruling also covers the Importer/Buyer’s APA applicable to the Importer/Buyer’s taxable years ending [***]. The Importer/Buyer’s APA was executed on April 26, 2011. Under this APA, the Importer/Buyer is also a tested party, and the transfer pricing method is the CPM. According to this APA, the profit level indicator is an operating margin, and the arm’s length range is between [***]% and [***]%, and the median of the arm’s length range is [***]%. The IRS APA team accepted the PLI and comparable companies, proposed by the Importer/Buyer in its submission; therefore, the final APA does not differ from the Importer/Buyer’s initial request for renewal of its APA. We note that comparable companies utilized in the IRS analysis distribute pharmaceuticals, chemicals, industrial, medical, and specialty gases, and consumer products. The Importer/Buyer’s second APA also covers the Importer/Buyer’s purchase of all goods (including current goods and future products) from the related Manufacturers/Sellers and sale services provided by the Importer/Buyer to its related parties in connection with direct sales of its products to third party customers. Thus, this APA covers both goods and services.

Furthermore, a new APA covering [***] was signed on December 28, 2013. A copy of this APA was also provided for our review. Under this APA renewal, the Importer/Buyer is a tested party, and the transfer pricing method is the CPM. The profit level indicator is an operating margin, and the arm’s length range is between [***]% and [***]%. The Importer/Buyer’s APA also covers all transactions between the related parties in question; however, we do not have information as to what comparable companies were used to achieve the arm’s length range in this APA.

If pursuant to these APAs, the Importer/Buyer’s profit is not within the range for any covered year, the Importer/Buyer must make compensating adjustments to bring its profit within the range for that year. Nonetheless, although the Importer/Buyer applied for participation in CBP’s Reconciliation program and was accepted into the program on October 31, 2007, the Importer/Buyer states that since it met all of the target profit margins in its previous APA, the Importer/Buyer was not required to make any compensating adjustments by amending its accounting books or by filing amended tax returns for any of the APA term years. The Importer/Buyer employs a “monthly margin and inventory roll-forward calculation” to ensure that each month’s invoice prices from its related suppliers allow the Importer/Buyer to earn an operating profit within the range mandated in its APAs with the IRS. Any price adjustments needed for the Importer/Buyer’s operating margin to remain within the required profit range are captured in the next month’s invoices and reported to CBP via Reconciliation; thus, no formal income tax compensating adjustments to the Importer/Buyer’s year-end financial statements are needed. In other words, direct compensating adjustments, pursuant to the APA, never take place. However, the Importer/Buyer’s “monthly margin and inventory roll-forward calculation” captures monthly invoice price adjustments via debits and credits to its Cost of Goods Sold (“COGS”); therefore, the Importer/Buyer reports indirect adjustments to the invoice prices to CBP via reconciliation entries. These upward and downward post-importation adjustments result from reconciling the estimated profits with the actual profits of the Importer/Buyer, once the final selling price of the merchandise to the unrelated end customer has been determined. Thus, even though the Importer/Buyer’s adjustments are not directly related to the APA, these adjustments are made to the value of the imported merchandise; hence, we must evaluate whether the Importer/Buyer can claim the adjustments at issue.

ISSUES: Do transactions between the Manufacturers/Sellers and the Importer/Buyer constitute bona fide sales?

Do the circumstances of the sale establish that the price actually paid or payable by the Importer/Buyer to the Manufacturers/Sellers is not influenced by the relationship of the parties and is acceptable for purposes of transaction value?

Should post-importation adjustments to the value of the merchandise, resulting from the Importer/Buyer’s reconciliation of profit in accordance with its APAs, be taken into account for purposes of determining customs value?

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 exportation to the United States, plus certain enumerated additions. 19 U.S.C. §1401a(b)(1). In order to use transaction value, however, there must be a bona fide sale for exportation to the United States. Several factors are relied on to determine whether a bona fide sale exists. See Headquarters Ruling Letter (“HRL”) 546067, dated October 31, 1996.

Do transactions between the Seller and the Importer/Buyer constitute bona fide sales?

In VWP of America, Inc. v. United States, 175 F.3d 1327 (Fed.Cir. 1999), the Court of Appeals for the Federal Circuit found that the term “sale” for purposes of 19 U.S.C. §1401a(b)(1) means a transfer of title from one party to another for consideration (citing J.L. Wood vs. United States, 62 CCPA, 25, 33, C.A.D. 1139, 505 F.2d 1400, 1406 (1974)). Without a sale for exportation to the United States, transaction value must be eliminated as a means of appraisement. See HRL 548239, dated June 5, 2003. CBP will consider such factors as to whether the purported buyer assumed the risk of loss for, and acquired title to, the imported merchandise. Evidence to establish that consideration has passed includes payment by check, bank transfer, or payment by any other commercially acceptable means. Payment must be made for the imported merchandise at issue; a general transfer of money from one corporate entity to another, which cannot be linked to a specific import transaction, does not demonstrate passage of consideration. See HRL 545705, dated January 27, 1995.

In addition, CBP may examine whether the purported buyer paid for the goods, and whether, in general, the roles of the parties and the circumstances of the transaction indicate that the parties are functioning as buyer and seller. See HRL H005222, dated June 13, 2007.

Finally, pursuant to the CBP’s Informed Compliance Publication, entitled “Bona Fide Sales and Sales for Exportation,” CBP will consider whether the buyer provided or could provide instructions to the seller, was free to sell the transferred item at any price he or she desired, selected or could select its own downstream customers without consulting with the seller, and could order the imported merchandise and have it delivered for its own inventory.

To substantiate its claim that there is a bona fide sale between the Manufacturers/Sellers and the Importer/Buyer in this case, the Importer/Buyer provides the following documents for our review: invoices and proof of payment, including bank statements, daily confirmation of wire transfers, and a list of invoices paid with particular wire transfers. According to the Importer/Buyer, the Importer/Buyer will assume title and risk of loss under the CIP terms of sale when the Manufacturers/Sellers deliver the goods to the carrier. The Importer/Buyer makes payments to the foreign subsidiaries via wire transfer on an invoice-specific basis, thus demonstrating the required linkage between import transactions and wire transfers.

Further, the Importer/Buyer provided a detailed description of the determination of its selling price. The Importer/Buyer states that its selling price to the U.S. customers after importation is determined using two methods: (1) U.S. purchasers ask the Importer/Buyer to submit a selling bid for a certain product at a certain price when the customer wants to buy one of the Importer/Buyer’s products, or (2) the Importer/Buyer searches the market for potential customers and offers the goods at market prices based on what the Importer/Buyer’s U.S. management team is able to determine is the price that its competitors are offering for the same or similar products.

Under the first method of setting the selling price in the United States, once the Importer/Buyer submits its selling bid, the Importer/Buyer then calculates a bid price based on a “per pound” price which factors in the operating profit necessary for the Importer/Buyer to stay within the interquartile range called for in its APA and otherwise compensate it for the overhead expenses and costs of goods. The Importer/Buyer then communicates this bid to its Selling Agent for a particular product from a particular plant. The Importer/Buyer needs a confirmation from the Selling Agent that the stated volumes are available for the stated period of time and at a set price. If the Importer/Buyer cannot enter into an agreement to source the necessary products, then the Importer/Buyer cannot commit to selling the products to its customer. The Selling Agent then consults with the manufacturing entity to which the bid is addressed. After that consultation, the bid is either accepted or rejected by the Selling Agent based on the following criteria: whether the bid meets the floor price (bare minimum) which will allow the manufacturer to cover its costs and earn a profit, and whether the manufacturer can produce the required quantities for the contract period. If the bid is accepted, the Importer/Buyer contracts with its customer and issues a purchase order directly to the sister manufacturing company (not to the Selling Agent), and an invoice is issued by the foreign manufacturer to the Importer/Buyer when the product is shipped. This invoice serves as the basis of appraisement upon importation. If the bid is rejected, that rejection is communicated to the prospective customer and the process ends.

The second method, as previously noted, involves the Importer/Buyer seeking out its own customers and offering the product to them at “market prices.” Once the Importer/Buyer determines an acceptable market price for a given product to a specific customer, the Importer/Buyer then contacts its selling agent to ascertain whether the related manufacturing entity producing that product will accept that preliminary market price and possible quantities. If the preliminary price is too low, the Selling Agent will communicate that the floor price has not been achieved and will negotiate a higher price on behalf of the manufacturing entity with the Importer/Buyer. Once an acceptable market price has been agreed upon, the Importer/Buyer then issues a formal pricing quote to the end customer, which, if accepted, results in the Importer/Buyer issuing a purchase order to the related manufacturing company. When the product has been manufactured, the related company issues an invoice to the Importer/Buyer upon shipment of the product, which invoice is used as the basis for the customs valuation declaration upon importation of that product into the United States.

Therefore, pursuant to the Importer/Buyer’s statements and detailed description of its determination of the selling prices, which account for the negotiations between the Importer/Buyer and the Selling Agent, it appears that the Importer/Buyer always provides instructions to the seller, through the seller’s Selling Agent, about the product to be ordered based on solicitations it receives from unrelated purchasers or from bids it solicits from unrelated customers in the United States. According to the information presented, the Importer/Buyer selects these customers without consulting with its related manufacturers and is free to sell the merchandise at any price it desires, as long as it meets the floor price established by the Selling Agent, so that the manufacturing entities all remain profitable. The Importer/Buyer can also have imported products delivered for its own inventory at one of its eight (8) U.S. warehouses.

Accordingly, based on the description of the Importer/Buyer’s sales process, substantiated by numerous documents submitted by the Importer/Buyer, we find that the Importer/Buyer has established the existence of a bona fide sale between the Importer/Buyer and the related Manufacturers/Sellers.

Do the circumstances of the sale establish that the price actually paid or payable by the Importer/Buyer to the Manufacturer/Seller is not influenced by the relationship of the parties and is acceptable for purposes of transaction value?

There are special rules that apply when the buyer and seller are related parties, as defined in 19 U.S.C. §1401a(g). Specifically, 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 will 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). In this case, there are no “test values” available to us; therefore, the Importer/Buyer provided information regarding the circumstances of the sale.

Under this 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 will not influence the price actually paid or payable. The Customs Regulations specified in 19 CFR Part 152 set forth illustrative examples of how to determine if the relationship between the buyer and the seller influences the price. In this respect, Customs will examine the manner in which the buyer and seller organize their commercial relations and the way in which the price in question is derived in order to determine whether the relationship influences the price. If it can be shown that the price is 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 will not be influenced by the relationship. See 19 CFR §152.103(l)(1)(i)-(ii). In addition, Customs will consider the price not to have been influenced if the price is 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). Nonetheless, these are examples to illustrate that the relationship will not influence the price, but other factors may be relevant as well. See 19 CFR §152.103(I); see also HRL H037375, dated December 11, 2009; HRL H029658, dated December 8, 2009; HRL H032883, dated March 31, 2010; and, HRL H219515, dated October 11, 2012.

A. The related party prices are settled in a manner consistent with the way the seller settles prices in sales to unrelated buyers

The Importer/Buyer states that its related manufacturing entities sell products to unrelated buyers; however, those buyers are not located in the United States. Nonetheless, the Importer/Buyer provided invoice/unit pricing information for sales by the foreign manufacturers to unrelated distributors. Two of the four countries in which the unrelated distributors are located are in developing countries. The Importer/Buyer states that because consumers in developing countries have lower incomes than consumers in the United States, the food and beverage items that use the additives sell for lower retail prices than the same end products in the United States. These lower retail prices result in less income and less capital available for producers to purchase raw materials, which is reflected in the lower prices from foreign manufacturers to unrelated distributors in developing countries than to the Importer/Buyer in the United States. Additionally, the Importer/Buyers states that lower prices in these developing countries, where consumers are not prejudiced by the presence of lower quality Chinese-originating raw materials, are due to price competition from China. For these reasons and on the basis of the information provided, we find that the sales to unrelated parties in developing countries are not a proper comparison in this case.

However, the Importer/Buyer states that the price in one mature market [***] where the product [***] is sold to an unrelated distributor is virtually identical to the unit price charged by the foreign manufacturer to the related Importer/Buyer. On the basis of this one unit price, for one product that was sold to a country in [***] in 2013, the Importer/Buyer argues that the related party prices are settled in a manner consistent with the way the seller settles prices in sales to unrelated buyers. Even if we accept the argument that the majority of the company’s sales outside North America are to the [***], and the price between these two markets are more comparable, we find that comparing the prices for one product imported in 2013 is not enough to show how the company settles prices to unrelated buyers for other product lines, imported since 2006. Accordingly, on the basis of the information provided, we are unable to conclude that the related party prices are settled in a manner consistent with the way the seller settles prices in sales to unrelated buyers. B. The related party prices are settled in a manner consistent with the normal pricing practices of the industry

In support of its claim that the related party prices are settled in a manner consistent with the normal pricing practices of the industry, the Importer/Buyer states that the Importer/Buyer sets its prices in accordance with a transfer pricing policy between the Importer/Buyer and the related manufacturers. The transfer price is adjusted monthly to account for market forces, changes in cost structure, and other factors that may impact profitability of the Importer/Buyer’s subsidiary. The Importer/Buyer further states that food and beverage additives are commodity products and subject to pricing changes due to market pressures. Therefore, the Importer/Buyer prices its products to its end consumers based upon what the market will bear as a result of competition between various suppliers. The Importer/Buyer states that all sales between the Importer/Buyer and the related manufacturers use this market price as a starting point. Once this market price is established, a previously negotiated operating margin is allocated to the Importer/Buyer to compensate it for its services as the exclusive U.S. distributor. This margin is intended to cover the Importer/Buyer’s costs plus return a reasonable profit that falls within the interquartile range established by the APA. The Importer/Buyer also describes the process through which the Importer/Buyer sets its operating margin. First, the Importer/Buyer tracks its monthly sales data for all products and records this data in a “Sales Summary” sheet, provided for our review, and the Importer/Buyer tracks its actual COGS and analyzes the sales and COGS data to ensure compliance with the APA. Based on this data, the Importer/Buyer proposes the prices that it is willing to pay for each of its imported products for the ensuing month, as captured by the Importer/Buyer’s pricing proposal dated December of 2005 (also provided to our office). The Selling Agent then responds with the monthly prices at which the manufacturing subsidiaries will sell the goods in question, which are specified in the Selling Agent’s “Intercompany Transfer Pricing Sheet.” Based on these monthly prices, as well as the monthly COGS, the operating margins are adjusted on an annual basis to allow each [***] subsidiary to meet its local target profit margins. The Importer/Buyer concludes by arguing that the pricing methodology set forth above is typically used in the food additive industry.

Upon closer examination of this approach, we find that the Importer/Buyer fails to satisfy the circumstances of the sale test in this instance. The Importer/Buyer must have objective evidence of the normal pricing practices of the industry in question and present evidence that the transfer price is settled in accordance with these industry pricing practices. See HRL 547672, dated May 21, 2002; and HRL 548482, dated July 23, 2004. Objective evidence addressing how prices are set in the relevant industry, in order to establish the “normal pricing practices of the industry” is essential. See HRL 542261, dated March 11, 1981 (TAA. No. 19) (stating that where the transfer price was defined with reference to prices published in a trade journal (the posted price) and the posted price was commonly used by other buyers and sellers as the basis of contract prices, the transfer price was acceptable). In this case, while informative, we do not consider the Importer/Buyer’s statements describing the Importer/Buyer’s pricing structure to be objective evidence of how the food additive industry sets its prices.

The Importer/Buyer argues for a broader application of 19 CFR §152.103(l)(1)(ii), showing that the price is settled in a manner consistent with the normal pricing practices of the industry in question. The Importer/Buyer states that CBP’s definition of the industry is restrictive. The Importer/Buyer claims that the seller’s prices to the Importer/Buyer are set in accordance with the normal pricing practices of the industry because the Importer/Buyer earns an operating margin comparable to the distribution companies selling non-durable goods, which formed the basis of the CPM analysis for tax purposes in its APAs.

We have reviewed the Importer/Buyer’s APAs and the companies used for the CPM analysis. Upon our review, we find that the information contained in the documents is not sufficient to determine that in this case the related party prices are settled in a manner consistent with the normal pricing practices in the industry. In HRL 547672, dated May 21, 2002 and in HRL 548482, dated July 23, 2004, we stated that the transfer pricing study was not sufficient to establish that the transfer prices at issue were set in accordance with the normal pricing practices in the industry and that, once again, objective evidence was necessary. We also note that the pricing practices must relate to the industry in question, which generally includes the industry that produces the goods of the same class or kind as the imported merchandise. See HRL 546998, dated January 19, 2000; see also HRL 548095, dated September 19, 2002. In this case for all three APAs, a set of functionally comparable companies was used to determine a target operating margin range for the Importer/Buyer for the term of the proposed APA. Our review of these comparable companies indicates that these companies were chosen based on their functional comparability with the Importer/Buyer. The comparable companies sell a variety of non-durable products, none of which are in the food additive industry. We have consistently held over the years that CBP does not consider the industry in question to consist of other functionally equivalent companies if those companies do not sell goods of the same class or kind. CBP has ruled that the mere fact the Importer/Buyer allegedly earned an operating profit comparable to other functionally equivalent companies is not sufficient to establish either the normal pricing practice of the industry or that the related party price was settled in a manner consistent with the normal pricing practices of the industry in question. See HRL 548482, dated July 23, 2004; HRL 548095, dated September 19, 2002. Accordingly, in line with previous rulings, CBP reaches the same conclusion in this case. The Importer/Buyer has failed to show that the prices will be settled in a manner consistent with the normal pricing practices of the food additive and beverage industry.

C. Price adequate to ensure recovery of all costs plus a profit test

In its initial submission, dated June 15, 2006, the Importer/Buyer states that the all costs plus a profit test is not directly applicable to its transactions because (1) prices for the food and beverage additives at issue are backward integrated, with pricing set by negotiations with the ultimate customers, thereby preventing the Importer/Buyer from developing a bill of materials for its products, and (2) the profit earned by the foreign subsidiaries varies between facilities due to their maturity and the age of the machinery and equipment. Additionally, in its supplemental submission, dated June 4, 2014, the Importer/Buyer states that even though it was able to secure the parent company’s audited financial information for 2013, it was not able to procure specific cost and profit information related to various product lines.

Nevertheless, the Importer/Buyer suggests that its APAs and all supporting documentation submitted to CBP supports its position that the transactions between the Importer/Buyer and the Manufacturers/Sellers are arm’s length transactions. Therefore, we evaluate whether the APAs establish, in accordance with 19 CFR §152.102(i)(1)(iii), that the price is adequate to ensure recovery of all costs plus a profit that is equivalent to the firm’s overall profit realized over a representative period of time in sales of merchandise of the same class or kind.

In this case, the Importer/Buyer’s APA analyzed in detail the various pricing methodologies under Section 482 of the Internal Revenue Code. Pursuant to these APAs, the Importer/Buyer’s profitability was compared to that of comparable companies, and the IRS approved the range of profitability after evaluating the information submitted by the Importer/Buyer. However, we note that for purposes of the all costs plus a profit test, the price must be adequate to ensure recovery of all costs plus a profit in sales of merchandise of the same class or kind. Pursuant to 19 CFR §152.102(h), the 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. As we mentioned before, none of the comparable companies chosen for the analysis sell goods of the same class or kind as the Importer/Buyer, and whether the products covered by the APAs are comparable to the imported products at issue is a very important consideration. HRL 547672, dated May 21, 2002. In other words, CBP’s review of the companies deemed to be functionally comparable to the Importer/Buyer does not lead this agency to conclude that they are engaged in the sale of the same class or kind of merchandise. Moreover, we have previously ruled that the focus of interpretive note (iii) of 19 CFR §152.103(l)(1) is the seller’s costs and profit, and CBP regulations examine whether the seller received a price that enabled the recovery of all costs, plus a reasonable profit. HRL 548482, dated July 23, 2004; HRL H017761, dated September 27, 2007; and, HRL H029658, dated December 2009. Accordingly, we find that comparing the Importer/Buyer’s profitability under the CPM method to the profitability of functionally comparable companies in this case does not satisfy the all costs plus a profit test for customs purposes.

D. An examination of whether other factors indicate that the relationship between the Importer/Buyer and the Manufacturer/Seller did not influence the price

CBP previously has held that an importer could show that the sales price was not influenced by the relationship for purposes of the circumstances of the sale test, based on the totality of the circumstances considered. HRL H029658, dated December 8, 2009 and HRL H219515, dated October 11, 2012. In HRL H029658, the importer provided various evidence to show that the prices were at arm’s length, including: (1) a detailed description of its sales process and price negotiations; (2) a bilateral APA that was approved by the IRS (the importer was a tested party under the APA, with CPM chosen as the best method to evaluate inter-company transactions); and, (3) a paper, prepared by the importer’s accountants, which provided details with respect to the pricing practices in the automotive industry. The evidence presented by the importer did not strictly fall within a single illustrative example, specified in 19 CFR §152.103(l)(1)(i)-(iii), such as the normal pricing practices of the industry. Nevertheless, taken together, the documents provided by the importer assisted CBP in reaching its conclusion that the relationship of the parties did not influence the price.

Additionally, in HRL H219515, the importer also explained how it set its price, referred to as the “U.S. list price,” which was the customer selling price for a product. In support of its pricing structure, the importer submitted a paper, prepared by the company’s accountants that detailed pricing practices in the analytical instruments industry. The industry report compared the gross profit of the importer to the gross profits of the dominant players (direct competitors of the importer) in the analytical instrument industry. The importer submitted its transfer pricing study, based on the CPM methodology and utilized functionally comparable companies, which was not approved by the IRS. However, CBP determined that even though the importer’s transfer pricing study by itself was not sufficient to show that a related party transaction value was acceptable for Customs purposes, the underlying facts and the conclusions reached in this transfer pricing study contained relevant information in examining the circumstances of the sale, since this transfer pricing study confirmed the gross profit margins of the importer, as set by the importer and verified through the independent review of the analytical instruments industry and quantitative data of the importer’s direct competitors. Accordingly, CBP found that the sales price was not influenced by the relationship for purposes of the circumstances of the sale test, based on the totality of the information considered and CBP’s review and examination of all relevant aspects of the transaction.

This case is different from the facts and documents present in HRL H029658 and in HRL H219515. In this case, even though the Importer/Buyer explains its sales process and how prices are set, it has not submitted any documents (such as a study prepared by independent parties that detail the pricing practices in the food additive industry) to collaborate its assertions. Additionally, there is no independent evidence comparing the operating profit of the Importer/Buyer to the operating profits of the dominant players (direct competitors of the Importer/Buyer) in the food additive industry.

The Importer/Buyer submitted multiple APAs for our review. CBP has noted that whether the Importer/Buyer’s transfer pricing methodology has been reviewed and approved by the IRS is a significant factor. HRL 546979, dated August 30, 2000 and HRL H029658, dated December 8, 2009. In this case, the Importer/Buyer’s transfer pricing analysis has been reviewed and accepted by the IRS. In fact, the Importer/Buyer entered into multiple APAs with the IRS. All of the Importer/Buyer’s imported products are covered by the APA. Although CBP did not participate in the APA pre-filing conferences or the APA process, the Importer/Buyer provided CBP with a waiver that enabled access to the documents that were submitted to the IRS. However, we note that the Importer/Buyer’s APAs are not bilateral APAs. See HRL 546979, dated August 30, 2000; HRL 548233, dated November 7, 2003; and, H029658, dated December 8, 2009. Therefore, the foreign tax authorities have not had a chance to approve the APAs’ mandated profit levels for the Importer/Buyer and make determination that the related Manufacturers/Sellers are earning an overall profit that will allow them to cover their costs and profit. Thus, based on all of the information evaluated, the Importer/Buyer’s unilateral APAs are akin to transfer pricing studies, except for the fact that the IRS examined the Importer/Buyer’s transactions. Although we are taking the APAs into account, they do not add any value for purposes of determining whether the parties satisfy the circumstances of the sale test. The Importer/Buyer’s argument rests solely on these APAs and the description of how the prices are set. Accordingly, in the absence of further information substantiating the Importer/Buyer’s assertions and its determination of the prices between the related parties, we hold that the Importer/Buyer has failed to demonstrate that the prices will not be influenced by the relationship for purposes of the circumstances of the sale test. Thus, transaction value is not the proper method of appraisement for this related party transaction.

E. Alternative methods of appraisement, applied in sequential order

When transaction value is eliminated as the appropriate method of appraisement, imported merchandise must be appraised in accordance with the remaining methods of valuation, applied in sequential order. 19 U.S.C. §1401a(a). The alternative bases of appraisement, in order of precedence, are: the transaction value of identical or similar merchandise (19 U.S.C. §1401a(c)); deductive value (19 U.S.C. §1401a(d)); computed value (19 U.S.C. §1401a(e)); and, the “fallback” method (19 U.S.C. §1401a(f)). Pursuant to 19 U.S.C. §1401a(a)(2), if the value cannot be determined on the basis of the transaction value of identical or similar merchandise, the merchandise shall be appraised on the basis of the computed value, rather than the deductive value, if the importer makes a request to that effect to the customs officer concerned at the time of the filing of the entry summary. See also 19 CFR §152.102(c). The transaction value of identical or similar merchandise is based on sales, at the same commercial level and in substantially the same quantity, of merchandise exported to the United States at or about the same time as the merchandise being appraised.

The Importer/Buyer purchases the imported merchandise only from its related parties. In addition, the Importer/Buyer is the exclusive distributor of merchandise; therefore, no arm’s length transaction values of identical or similar merchandise imported by unrelated parties from the Importer/Buyer’s sellers exist. The Importer/Buyer states that there is no identical merchandise produced by any of its competitors in any country where its own products are fermented. However, there is one product that could be considered similar to any of the products fermented by the Importer/Buyer’s sister companies and that is produced by a competitor in the same country as the Importer/Buyer’s related factory location: [***] produced by [***]. This product represents [***]% of the Importer/Buyer’s total imports by value into the United States. The Importer/Buyer believes that this product could be considered commercially interchangeable with its own product in accordance with 19 CFR §152.102(i).

However, the Importer/Buyer indicates that its competitor [***] imports [***] into the United States in much lower quantities than it does. Because the similar merchandise is believed to be imported into the United States in lower quantities than the merchandise being appraised, an adjustment would have to be made to take into account that difference in accordance with 19 CFR §152.104(d) on the basis of sufficient information. The Importer/Buyer has no information about the customs values that its competitor reports to CBP, and we do not have any information at this time to verify the Importer/Buyer’s assertions as to the differences in quantities in order to determine what, if any, adjustments are needed to the quantities of the merchandise, in order to appraise the imported product [***] under the transaction value of identical or similar merchandise method of appraisement. Nevertheless, if information with respect to the transaction value of identical or similar merchandise is available, the product [***] imported by the Importer/Buyer may be appraised under this method of appraisement.

Under the deductive value method, imported merchandise is appraised on the basis of the price at which it or identical or similar merchandise is sold in the United States in its condition as imported and in the greatest aggregate quantity either at or about the time of importation, or before the close of the 90th day after the date of importation. 19 U.S.C. §1401a(d)(2)(A)(i)-(ii). This price is subject to certain enumerated deductions. 19 U.S.C. §1401a(d)(3).

The Importer/Buyer claims that its current system functionality does not permit tracking of the imported merchandise by LOT number with sales of those products to end U.S. customers; therefore, no existing report can be run which has the capability to link the import date of a specific product with the re-sale date of that same product to the ultimate U.S. purchaser. Further, even though the majority of the imported products might be sold within 90 days of import, some products imported by the Importer/Buyer are resold after 90 days. Therefore, the Importer/Buyer argues that the deductive method of appraisement does not apply in this case. We disagree.

In this case, the Importer/Buyer prices its products to its end consumers based upon what the market will bear as a result of competition between various suppliers. Thus, all sales between the Importer/Buyer and the foreign manufacturers use this market price as a starting point. Once this market price is established, a previously negotiated operating margin is allocated to the Importer/Buyer to compensate it for its services as the exclusive U.S. distributor. The invoiced unit prices initially declared to CBP reflect this backward pricing approach utilized by the company. Therefore, given the methodology according to which the Importer/Buyer sets its prices, we find the deductive value method of appraisement to be applicable in this case.

Furthermore, pursuant to 19 CFR §152.105(c):

The deductive value of the merchandise being appraised is whichever of the following prices (as adjusted under paragraph (d) of this section) is appropriate depending upon when and in what condition the merchandise concerned is sold in the United States: (1) If the merchandise concerned is sold in the condition as imported at or about the date of importation of the merchandise being appraised, the price is the unit price at which the merchandise concerned is sold in the greatest aggregate quantity at or about such date; (2) If the merchandise concerned is sold in the condition as imported but not sold at or about the date of importation of the merchandise being appraised, the price is the unit price at which the merchandise concerned is sold in the greatest aggregate quantity after the date of importation of the merchandise being appraised but before the close of the 90th day after the date of such importation . . .

For deductive value, the term “merchandise concerned” means the merchandise being appraised, identical merchandise, or similar merchandise. 19 U.S.C. §1401a(d)(1). In other words, all three types of merchandise may be utilized for appraisement. See HRL H006585, dated April 12, 2007; HRL W563483, dated December 28, 2006; and, HRL H165361, dated November 1, 2011. Thus, the Importer/Buyer need not track the specific imported merchandise in order to employ deductive value. Moreover, you state that not all the imported merchandise may be sold within the 90 day period required by 19 U.S.C. §1401a(d)(2)(A). Based on the information provided, we assume that in most cases there will be sales within the 90-day period. Therefore, the deductive method of appraisement would be applicable in those instances. If, in a given case, there are no sales within 90 days after importation, the goods may be appraised under 19 U.S.C. §1401a(f), the “fallback method,” using a modified deductive value. In this regard, 19 CFR §152.107(c) provides as follows:

Deductive value. The “90 days” requirement for the sale of merchandise referred to in §152.105(c) may be administered flexibly.

Therefore, pursuant to 19 U.S.C. §1401a(f), sales beyond 90 days after importation may be employed in the appraisement of the subject merchandise.

Should post-importation adjustments to the value of the merchandise, resulting from the Importer/Buyer’s reconciliation of profit in accordance with its APAs, be taken into account for purposes of determining customs value?

As noted above, both of the Importer/Buyer’s APAs utilize the CPM. As a consequence of using the CPM approach, the Importer/Buyer is required to make retroactive price adjustments (downward and upward) to meet its federal tax obligations and to show that its prices are at arm’s length for tax purposes.

Considering our determination that the Importer/Buyer failed to meet the circumstances of the sale test and, thus, cannot use transaction value as a method of appraisement, we find that it is not necessary for us to determine whether the Importer/Buyer meets the factors in order for its transfer pricing policy to be considered an objective formula for purposes of appraising the merchandise under transaction value. Accordingly, we need to address the treatment of post-importation adjustments under the deductive method of appraisement.

The price determined under deductive value (19 U.S.C. §1401a(d)) is to be reduced by an amount equal to the following: “(i) any commission usually paid or agreed to be paid, or the addition usually made for profit and general expenses, in connection with sales in the United States of imported merchandise that is of the same class or kind, regardless of the country of exportation, as the merchandise concerned…” See 19 U.S.C. §1401a(d)(3)(A)(i). Additionally, 19 CFR §152.105(e) supplements the statutory provisions in 19 U.S.C. §1401a(d)(3)(A)(i) and states the following:

(e) Profit and general expenses; special rules. (1) The deduction made for profit and general expenses (taken as a whole) will be based upon the importer's profit and general expenses, unless the profit and general expenses are inconsistent with those reflected in sales in the United States of imported merchandise of the same class or kind from all countries, in which case the deduction will be based on the usual profit and general expenses reflected in those sales, as determined from sufficient information. Any State or local tax imposed on the importer with respect to the sale of imported merchandise will be treated as a general expense. (2) In determining deductions for commissions and usual profit and general expenses, sales in the United States of the narrowest group or range of imported merchandise of the same class or kind, including the merchandise being appraised, for which sufficient information can be provided, will be examined.

19 U.S.C. §1401a(g)(2) states that “for purposes of this section, merchandise (including, but not limited to, identical and similar merchandise) shall be treated as being of the same class or kind as other merchandise if it is within a group or range of merchandise produced by a particular industry or industry sector.” Furthermore, 19 U.S.C. §1401a(h)(5) defines “sufficient information” as: the term sufficient information . . . (ii) deducted under subsection (d)(3) of this section as profit or general expense (iii) added under subsection (e)(2) as profit or general expense; . . . means information that establishes the accuracy of such amount, difference, or adjustment.

In this case, direct compensating adjustments to the profit of the Importer/Buyer, pursuant to the APA, are not needed. The Importer/Buyer’s “monthly margin and inventory roll-forward calculation” captures monthly invoice price adjustments via debits and credits to its COGS, and the Importer/Buyer reports indirect adjustments to the invoice prices to CBP via reconciliation entries.

However, the Importer/Buyer still uses multiple APAs prepared for tax purposes in which the profit range is not calculated on the basis of comparable companies that produce merchandise within a group or range of merchandise produced by a particular industry or industry sector such as the food additive and beverage industry. The Importer/Buyer either provides a selling bid or a final proposal to the potential end customers in the United States and determines its original (reasonable) profit and reports the price of the imported merchandise to CBP. At a later date, in accordance with its APAs, the Importer/Buyer recalculates its original profit on the basis of profitability of comparable companies that distribute industrial chemicals, refrigerants, pharmaceutical, and consumer products. Thus, once again, the facts presented in these APAs do not lead us to conclude that the comparable companies utilized in these APAs reflect a group or range of merchandise produced by the food additive and beverage industry. Therefore, in this case, the Importer/Buyer has failed to establish that its profit and expenses, as it originally plans to report to CBP, are inconsistent with those usually reflected in sales of merchandise of the same class or kind as the imported merchandise. Thus, the Importer/Buyer has not demonstrated that value adjustments will be warranted. Therefore, we find that the Importer/Buyer may appraise its merchandise under the deductive value method of appraisement on the basis of the Importer/Buyer’s amount of profit and general expenses, as it originally plans to report to CBP. In other words, the imported merchandise may be appraised using the unit price, initially declared to CBP under the deductive method of appraisement. HOLDING:

In conformity with the foregoing, transactions between the Importer/Buyer and its related Manufacturers/Sellers constitute bona fide sales. However, the acceptability of transaction value based on the related party sale between the Importer/Buyer and Manufacturers/Sellers has not been demonstrated. Further, we find that post-importation adjustments to the value of the merchandise, resulting from the Importer/Buyer’s reconciliation of profit in accordance with its APAs, should not be taken into account. Accordingly, the imported merchandise should be appraised under the deductive value method of appraisement as entered. If, in a given case, there are no sales within 90 days after importation, the goods may be appraised under 19 U.S.C. 1401a(f), using a modified deductive value.

Please note that 19 CFR §177.9(b)(1) provides that “[e]ach ruling letter is issued on the assumption that all of the information furnished in connection with the ruling request and incorporated in the ruling letter, either directly, by reference, or by implication, is accurate and complete in every material respect. The application of a ruling letter by a Customs Service field office to the transaction to which it is purported to relate is subject to the verification of the facts incorporated in the ruling letter, a comparison of the transaction described therein to the actual transaction, and the satisfaction of any conditions on which the ruling was based.”    Please do not hesitate to contact us at (202) 325-0042 if you have any questions or concerns.

Sincerely,

Monika R. Brenner, Chief
Valuation & Special Programs Branch