OT:RR:CTF:VS H309760 EGJ
Center Director
Consumer Products and Mass Merchandise
U.S. Customs and Border Protection
157 Tradeport Drive
Atlanta, GA 30354
RE: Related Parties; Fallback Method of Appraisement
Dear Center Director:
This is in response to your Request for Internal Advice, dated March 6, 2020, concerning the proper basis of appraisement for imported exercise equipment and parts thereof. Your request arises from a Prior Disclosure filed by the importer on January 29, 2019. The Prior Disclosure was filed in response to a Focused Assessment (“FA”) Pre-Assessment Survey (“PAS”) report, dated September 27, 2018, which was prepared by the Regulatory Audit Division of U.S. Customs and Border Protection (“CBP”). The PAS report examined entries made in calendar year 2014, and concluded that the imported exercise equipment and parts could not be appraised on the basis of transaction value.
The importer has requested confidential treatment for certain information contained in its submission and in the file. Pursuant to 19 C.F.R. § 177.2(b)(7), the identified information has been bracketed and will be redacted in the public version of this ruling. All attachments to the ruling request will also be considered confidential.
FACTS:
The importer buys exercise equipment and parts of exercise equipment from its parent company located in Asia. The importer is also the U.S. distributor of the finished exercise equipment and sells the equipment via both commercial and private sales. As the two parties are related, the importer utilizes a transfer price to declare the equipment’s value to CBP.
For calendar year 2014, the PAS report noted that the parent company’s gross profit margin percentage for its global sales was greater than the gross profit margin percentage for its sales to the U.S. importer. As such, the report stated that the transfer price did not meet the circumstances of the sale test for transaction value, and that transaction value was not the appropriate basis of appraisement for calendar year 2014.
The report recommended that the importer develop and implement a Compliance Improvement Plan (“CIP”), as well as perform self-testing to address transaction value. In its Prior Disclosure, the importer agreed to develop a CIP and to perform self-testing for calendar year 2014 and for subsequent calendar years. In ensuing discussions with CBP, the importer reported that it had obtained the gross profit information on the parent company’s overall sales and its sales to the importer for the years 2015-2018, and that the parent company’s gross profit margin percentage on overall sales exceeded the gross profit margin on its sales to the importer in those years as well. The gross profit margins on exercise equipment for the parent company’s global sales and its sales to the importer are set forth below.
Sales
2014
2015
2016
2017
2018
Parent Company’s Global Sales
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Parent Company’s Sales to Importer
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Profit Variance
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Therefore, the transfer price did not meet the “all costs plus a profit” circumstances of the sale test for the years 2014-2018. Both the importer and Regulatory Audit agree that transaction value is not an acceptable basis of appraisement for the relevant timeframe.
The importer states that it is the sole U.S. purchaser of the parent company’s exercise equipment. Therefore, there are no sales of identical or similar merchandise by the parent company available for the purposes of comparison. Additionally, the importer notes that it does not have access to the wholesale pricing information of other exercise equipment importers. Therefore, the importer cannot compare its transfer price with the pricing practices of the exercise equipment industry.
However, the importer does know the sales price of the finished equipment to its customers located in the United States. The importer notes that the relevant entries include both finished equipment and parts of equipment. The parts will be assembled together before their sales to U.S. customers. Therefore, the importer would find it difficult to calculate the value of the parts using the U.S. customer sales of assembled equipment as a starting point. Furthermore, after an analysis of the sales data, the importer concluded that all of the U.S. sales took place more than six months after the importation of the parts and the equipment. With regard to manufacturing costs, the importer notes that it is unable to obtain them from the parent company. Moreover, even if the importer could obtain them, the costs of the different components would be priced using different foreign currencies – making the manufacturing costs difficult to calculate.
In the absence of other applicable methods of valuation, the importer proposes to utilize a modified transaction value under the fallback method of valuation. The importer proposes to adjust the transfer price to reflect the gross profit margin of the parent company on overall sales of its exercise equipment. Then, the importer states that the modified transfer price will meet the “all costs plus a profit” circumstances of the sale test for transaction value. The importer provided a spreadsheet which sets forth an example of how the unit price of exercise equipment would be increased to reflect the profit margin of the parent company.
The importer proposes that the same fallback methodology be used for both the imported parts and the completed exercise equipment. The importer notes that the parent company’s profit margins do not distinguish between parts and machines. Therefore, the importer states that there is no reason to distinguish between them for purposes of applying the proposed modified transaction value.
To support this fallback calculation, the importer notes that it is a participant in the Fitness Industry Suppliers Association (“FISA”), in which fitness suppliers agree to share their sales figures by product category and regions. After completing this data collection, FISA issues an annual market trend report that companies can use to benchmark against industry data. The importer prepared a summary of these reports for the calendar years from 2014 – 2019. In its report, the importer compares its U.S. commercial sales figures with other unrelated companies’ sales figures in the U.S. and Canada across eight categories of merchandise: upright stationary bikes, recumbent stationary bikes, group exercise bikes, stair climbers, treadmills, elliptical/cross trainers, alternative motion cardio, and other cardio equipment.
The importer has summarized the total sales dollars and the average price per unit sold for each equipment category referenced above. The importer’s report also includes the percent variance between the other companies’ sales per unit and the importer’s sales per unit. These calculations in the treadmill product category for calendar years 2014 – 2018 are set forth below.
Average Unit Sales for Treadmills
2014
2015
2016
2017
2018
FISA Companies’ Sales in the U.S. and Canada
$[XXXX]
$[XXXX]
$[XXXX]
$[XXXX]
$[XXXX]
Importer’s Commercial Sales in the U.S.
$[XXXX]
$[XXXX]
$[XXXX]
$[XXXX]
$[XXXX]
Percent Variance
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
The importer calculated the average profit variance between FISA’s unit sales and the importer’s unit sales across all eight categories of merchandise for each year at issue. Then the importer compared these variances with the profit variance per year between the parent company’s global sales and the importer’s domestic sales. We have set forth that comparison below for reference.
Sales
2014
2015
2016
2017
2018
Parent Company’s Global Sales
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Parent Company’s Sales to Importer
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Profit Variance between Parent Company’s Global Sales and Sales to Importer
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Variance between FISA Pricing and Importer Pricing
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
[XXXX]%
Variance between Parent Company’s Profit on Sales to Importer and FISA Pricing
[XXXX]%
-[XXX]%
[XXXX]%
-[XXX]%
[XXXX]%
Although there are some small fluctuations from year to year, the overall average variance is [XXX]%. This generally shows that the parent company had to generally reduce the profit on sales to the U.S. at approximately the same percentage that the importer had to set its prices below industry average to be competitive in the industry.
ISSUE:
Whether the importer’s proposed method of calculating a modified transaction value under the fallback method is an acceptable basis of appraisement?
LAW AND ANALYSIS:
Merchandise imported into the United States is appraised for customs purposes 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 primary 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 amounts for certain statutorily enumerated additions to the extent not otherwise included in the price actually paid or payable. See 19 U.S.C. §1401a(b)(1).
Special rules apply when the buyer and seller are related parties as defined in 19 U.S.C. § 1401a(g). Specifically, transaction value between a related buyer and seller is acceptable only if the transaction satisfies one of the two tests: (1) circumstances of the sale; or (2) test values. See 19 U.S.C. § 1401a(b)(2)(B); 19 C.F.R. § 152.103(l). Under the “circumstances of the sale” test, we look for evidence showing that the parties’ relationship did not affect the price paid or payable. All relevant aspects of the transaction are analyzed including the way the buyer and seller organize their commercial relations and the way that the price was determined.
The three examples that demonstrate that a relationship did not influence the price under 19 C.F.R. § 152.103(l) are as follows: (i) the price was settled in a manner consistent with the normal pricing practices of the industry in question; (ii) the price was settled in a manner consistent with the way the seller settles prices for sales to buyers who are not related to it; or (iii) 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. To explain the “all costs plus a profit” test, Interpretative Note 3, at 19 CFR § 152.103(l)(iii) states as follows:
If it is shown that the price is adequate to ensure recovery of all costs plus a profit which is equivalent to the firm’s overall profit realized over a representative period of time (e.g., on an annual basis), in sales of merchandise of the same class or kind, this would demonstrate that the price has not been influenced.
In applying the “all costs plus a profit” test, we normally consider the “firm’s” overall profit to be the profit of the parent company. See HQ H065015, dated April 14, 2011; HQ 546998, dated January 19, 2000; and, HQ 542792, dated March 25, 1983. 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 CBP’s purposes. See HQ H106603, dated July 25, 2011; HQ H065015, dated April 14, 2011; and, HQ H065024, dated July 28, 2011.
Finally, the relevant regulations do not define what type of profit we are to consider. However, we are of the view that the operating profit margin is a more accurate measure of a company's real profitability because it reveals what the company actually earns on its sales once all associated expenses have been paid. Nevertheless, in certain circumstances, gross profit can be considered. See HQ H037375, dated December 11, 2009, and HQ H235527, dated August 4, 2015. Both Regulatory Audit and the importer agree that the entries of exercise equipment failed to meet the “all costs plus a profit” circumstances of the sales test because the gross profit margin of the parent company’s overall global sales of exercise equipment was higher than the gross profit margin of the parent company’s sales of exercise equipment to the importer. Moreover, the importer can only obtain gross profit information as opposed to operating profit, which is our preferred metric.
The importer agrees that it does not have enough information to satisfy any of the aforementioned tests to determine whether its related party transactions are arm’s length. Therefore, transaction value is not acceptable basis of appraisement for the exercise equipment and its parts. When imported merchandise cannot be appraised on the basis of transaction value, it is appraised in accordance with the remaining methods of valuation, applied in sequential order. 19 U.S.C. § 1401a(a)(1). 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)).
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 that being appraised. (19 U.S.C. § 1401a(c)). The terms “identical merchandise” and “similar merchandise” are defined in 19 U.S.C. § 1401a(h)(2) and (4), in pertinent part, as follows:
(2) The term “identical merchandise” means-
merchandise that is identical in all respects to, and was produced in the same country and by the same person as, the merchandise being appraised; or
if merchandise meeting the requirements under subparagraph (A) cannot be found … merchandise that is identical in all respects to, and was produced in the same country as, but not produced by the same person as, the merchandise being appraised…
…
(4) The term “similar merchandise” means-
merchandise that-
(i) was produced in the same country and by the same person as the merchandise being appraised,
(i) is like the merchandise being appraised in characteristics and component material, and
(iii) is commercially interchangeable with the merchandise being appraised, or
(B) if merchandise meeting the requirements under subparagraph (A) cannot be found … merchandise that-
(i) was produced in the same country as, but not produced by the same person as, the merchandise being appraised, and
(ii) meets the requirement set forth in subparagraph (A)(ii) and (iii).
The importer states that the transaction value of identical or similar merchandise is not available as a basis for appraisement. The importer is the parent company’s sole purchaser in the United States. Therefore, there are no sales of identical or similar merchandise by the parent to an unrelated party in the United States for comparison. With regard to information on exercise equipment and parts sold by other companies located in the same country as the parent company, the importer notes that it does not have access to this information. Therefore, we agree with the importer that the transaction value of identical or similar merchandise is not a viable basis of appraisement.
Turning next to deductive value, we note that under 19 U.S.C. § 1401a(d), the starting price is one of the following three prices:
(i) if the merchandise is sold in the condition as imported at or about the date of importation of the merchandise being appraised;
(ii) if the merchandise concerned is sold in the condition as imported but not sold at or about the date of importation 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 90th date after the date of such importation; and,
(iii) if the merchandise concerned was not sold in the condition as imported and not sold before the close of the 90th date after the date of importation of the merchandise being appraised, the price is the unit price at which the merchandise being appraised, after further processing, is sold in the greatest aggregate quantity for the 180th date after the date of such importation.
The importer states that the deductive value is not available as a basis of appraisement. According to the submissions, a large percentage of the imports are parts of exercise equipment. After importation, these parts are assembled into completed equipment, such as treadmills and stationary bikes. It would be too difficult to use the sales price as a starting point for any of the entries of parts. With regard to entries of finished equipment, the importer notes that a statistical sampling shows that many products were sold more than 180 days after importation. Therefore, we agree with the importer that deductive value is not available as a basis of appraisement.
Moving down the valuation hierarchy, we note that under 19 U.S.C. § 1401a(e), computed value is “the sum of (A) the cost or value of the materials and the fabrication and other processing of any kind employed in the product of the imported merchandise; (B) an amount for profit and general expenses equal to that usually reflected in sales of merchandise of the same class or kind …; (C) any assist …; (D) the packing costs.” The importer states that it cannot obtain the aforementioned information from the parent company. Therefore, computed value is unavailable as a basis of appraisement.
The importer requests appraisement of the imported exercise equipment and parts using the “fallback” method of valuation in 19 U.S.C. § 1401a(f)(1), which provides:
If the value of imported merchandise cannot be determined, or otherwise used for the purposes of this chapter, under subsections (b) through (e) of this section, the merchandise shall be appraised for the purposes of this chapter on the basis of a value that is derived from the methods set forth in such subsections, with such methods being reasonably adjusted to the extent necessary to arrive at a value.
When calculating under the fallback method, the value may not be appraised, inter alia, on the basis of the price on the domestic market in the country of export, the selling price in the U.S. of merchandise produced in the U.S., minimum prices or arbitrary or fictitious values. 19 U.S.C. § 1401a(f); 10 CFR § 152.108.
Under section 500 of the Tariff Act of 1930, as amended, which constitutes CBP’s general appraisement authority, the appraising officer may:
Fix the final appraisement of merchandise by ascertaining or estimating the value thereof, under section 1401a of this title, by all reasonable ways and means in his power, any statement of costs or costs of production in any invoice, affidavit, declaration, other document to the contrary notwithstanding….
19 U.S.C. § 1500(a) (emphasis added).
In this regard, the Statement of Administrative Action (SAA), which forms part of the legislative history of the TAA, provides in pertinent part:
Section 500 is the general authority for Customs to appraise merchandise. It is not a separate basis of appraisement and cannot be used as such. Section 500 allows Customs to consider the best evidence available in appraising merchandise. It allows Customs to consider the contract between the buyer and seller, if available, when the information contained in the invoice is either deficient or is known to contain inaccurate figures or calculations…. Section 500 authorize [sic] the appraising officer to weigh the nature of the evidence before him in appraising the imported merchandise. This could be the invoice, the contract between the parties, or even the recordkeeping of either of the parties to the contract….
In those transactions where no accurate invoice or other documentation is available, and the importer is unable, or refuses, to provide such information, then reasonable ways and means will be used to determine the appropriate value, using whatever evidence is available, again within the constraints of section 402.
Statement of Administrative Action, H.R. Doc. No. 153, 96 Cong., 1st Sess., pt. 2, reprinted in, Department of the Treasury, Customs Valuation under the Trade Agreements Act of 1979 (October 1981), at 67.
Section 152.107 of the Customs Regulations (19 CFR § 152.107) details how the fallback method can be broadly interpreted to arrive at a dutiable value. Section 152.107(a) provides, in pertinent part, the following:
If the value of imported merchandise cannot be determined or otherwise used for the purposes of this subpart, the imported merchandise will be appraised on the basis of a value derived from the methods set forth in §§ 152.103 through 152.106, reasonably adjusted to the extent necessary to arrive at a value. Only information available in the United States will be used.
The importer proposes to use a modified transaction value to appraise the goods under the fallback method. The importer plans to enter the goods under a provisional price, which is the invoice price for the goods. Then, when the importer receives the annual gross profit information for the parent company’s global sales of exercise equipment, the importer will adjust the price on its entries of exercise equipment so that it meets the “all costs plus a profit” test for transaction value. This would mean increasing the invoice price by the following percentage for each calendar year; for 2014 – [XXXX]%, for 2015 – [XXXX]%, for 2016 - [XXXX]%, for 2017 - [XXXX]%, and for 2018 - [XXX]%.
For support, the importer provided the annual domestic industry sales figures for similar exercise equipment published by FISA. For each year at issue, the importer’s unit sales prices were lower than the industry’s unit sales prices by the following percentages: for 2014 – [XXXX]%, for 2015 - [XXXX]%, for 2016 – [XXXX]%, for 2017 – [XXXX]%, and for 2018 – [XXXX]%. These differences are all within [XX]% of the differences in the parent company’s global sales figures and the parent company’s sales to the importer. The importer notes that this supports the notion that the sales to the U.S. importer are adjusted in order for the importer to competitively price its U.S. exercise equipment sales.
We agree with the importer’s assessments regarding the provisional invoice price and the sales price of its goods. Both the gross profit margin and the retail sales price are figures which have not been reduced by operating costs and other costs. We find that if the importer increases its invoice price each year to reflect the gross profit margin on the parent company’s global sales, it will more closely approximate the retail sales prices published by the exercise equipment industry. Therefore, we take the view that the importer’s proposed method of calculating a modified transaction value is acceptable under the fallback method of appraisement.
However, the importer has raised the question of whether the current year’s provisional transfer price may be adjusted to reflect the parent company’s gross profit margin from the prior year. As stated above, Interpretative Note 3, at 19 CFR § 152.103(l)(iii), describes the “all costs plus a profit” test as follows:
If it is shown that the price is adequate to ensure recovery of all costs plus a profit which is equivalent to the firm’s overall profit realized over a representative period of time (e.g., on an annual basis), in sales of merchandise of the same class or kind, this would demonstrate that the price has not been influenced.
We take the view that the prior year’s gross profit margin is a representative period of time for the purposes of adjusting the current provisional transfer price under the fallback method. However, the importer must consistently apply this method to all of its price adjustments. Further, we find that the ACE Reconciliation Program is a proper method for adjusting the final value of the imported exercise equipment and parts.
HOLDING:
We find that adjusting the provisional transfer price to reflect the parent company’s gross profit margin from the prior year is an acceptable basis of appraisement for the exercise equipment and parts under the fallback method. Further, the ACE Reconciliation Program is a proper method for adjusting the final value of the imported equipment and parts.
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, the Office of International Trade, Regulations and Rulings, will make the decision available to CBP personnel and the public on the CBP website located 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