Request for Internal Advice; 19 U.S.C. § 1401a(b); Transaction Value; Multi-tiered Transaction; “First Sale”

HQ H272520 October 24, 2017 OT:RR:CTF:VS H272520 CMR CATEGORY: Valuation Port Director Attn: SIS Vera Warren U.S. Customs and Border Protection 11099 South La Cienega Boulevard Los Angeles, CA 90045 RE: Request for Internal Advice; 19 U.S.C. § 1401a(b); Transaction Value; Multi-tiered Transaction; “First Sale” Dear Port Director: This is in response to a request for internal advice from you received by our office on January 21, 2016, regarding the applicability of first sale valuation for certain travel bags imported by a U.S. importer from Country A. This internal advice involves one entry of merchandise for which your port requested additional information. The entry at issue was entered on June 9, 2014. FACTS: The entry at issue consists of certain travel bags manufactured in Country A. The importer places an order with its related middleman. The related middleman places an order with a Country B middleman who is the parent of the manufacturer in Country A. The Country B middleman places a manufacturing service order with the factory in Country A and provides the component materials necessary to produce the merchandise as an assist to the factory. The factory produces the goods. This factory only produces goods for its related parent. When the goods are ready to ship, the factory ships the merchandise directly to the ultimate consignee, the U.S. importer, in the United States. The factory invoices the Country B middleman for its manufacturing services. The Country B middleman invoices the importer’s related party middleman for the merchandise. The related party middleman invoices the U.S. importer for the merchandise. The Country B middleman prepares a “first sale” transaction value worksheet for appraisement of the goods upon importation into the U.S. by taking the manufacturer’s invoice price and adding the costs of the assists provided by the Country B middleman to the manufacturer. A request for information, on a Customs and Border Protection (CBP) Form 28, was issued to the importer on March 5, 2015. In response to that and follow-up requests, CBP received, among other things, copies of a first sale valuation worksheet, purchase orders and invoices between the parties, evidence of payment between the parties, the bill of materials, air waybill, and packing list. CBP also received a copy of the importer’s Master Manufacturing Terms and Conditions which applies to its transactions with the Country B middleman. In addition, CBP was provided with a summary statement of select financial information for the fiscal year 2013 – 2014 for the Country B middleman and its related Country A manufacturer. In response to requests and questions from this office, additional information was submitted, including “[The Importer’s] Umbrella Purchase Order Terms and Conditions For Shipments Destined for a U.S. Terminal,” “Key Changes to [the importer’s] Umbrella Purchase Order Terms and Conditions,” “Key Changes to [the importer’s] Umbrella Purchase Order Terms and Conditions for DAT Shipments to the U.S., Canada and the EU Countries,” and audited financial statements for the factory and middleman for the years 2013, 2014, and 2015. Two purchase orders from a division of the importer stated to be to the unrelated Country B middleman were submitted to CBP in counsel’s submission of June 4, 2015. We note that the purchase orders do not indicate to whom they were submitted. These purchase orders have multiple comments at the top of each indicating that a number of line items had revised FOBs (Incoterms). Other than the references to FOBs at the top of the purchase orders, the purchase orders do not contain any other Incoterms or any terms to indicate when title to the goods transfers. In counsel’s submission of July 14, 2017, these same purchase orders are identified as internal Buy Sheets. The Buy Sheets record revisions which are the result of negotiations. The revisions are recorded in the comment section of the Buy Sheet. Once the pertinent details of the order are finalized, the Buy Sheet is transmitted from the importer’s Enterprise Resource Planning (ERP) system to its web-based portal which automatically generates official purchase orders to the Country B middleman and identifies the U.S. importer’s related middleman as the buyer, i.e., the “bill to” party. The importer requires its vendors and factories to use this web-hosted purchase order management system. Vendors log into the system to view and download their orders. The middleman, i.e., the vendor, and the first sale factory each have access to the electronic system. However, counsel submits that the factory does not begin to produce merchandise destined for the importer until it receives a purchase order from the middleman. Two purchase orders between the Country B middleman and its related factory were submitted for CBP review. The purchase orders indicate on their face that they are contracts. In addition, they indicate that the middleman provides assists to the factory in the form of raw materials and accessories free of charge; the manufacturer must ship finished goods within one year of receiving the raw materials from the middleman; and, the terms of sale are “FOB [X], [Country A] Term.” The purchase orders also identify the ultimate consignee and indicate that the goods are for export to the U.S. only. The invoice from the middleman indicates the goods were sold to the middleman related to the importer. The invoice indicates a shipping term of D-F USWC Base Port. Counsel for the importer indicates that this means “Delivered Minus Freight U.S. West Coast.” The importer’s “umbrella purchase order terms and conditions document” provides that the goods will be shipped by the vendor, i.e., the middleman, to the importer in accordance with the Incoterm Delivered at Terminal (DAT), with the exception that the importer will pay the freight from the export terminal to the destination terminal. The document specifically provides that title and risk of loss will transfer to the buyer, i.e., the importer, “at the time the goods are placed at the disposal of Buyer on the effective date of a DAT Certificate issued by Buyer’s designated Freight forwarder or customs broker at the named terminal of destination.” The document further specifies that the vendor “bear[s] all risk of loss or damage to the goods until the effective date and time of the applicable DAT Certificate” and “deliver[s] and transfer[s] title of the goods to Buyer at the named terminal of destination at the effective date and time of the applicable DAT certificate.” This accords with the Master Manufacturing Terms and Conditions, upon which the importer relies to form contracts for the purchase of goods with vendors, and which provides that the Buyer is responsible for the payment of freight; however, “the Vendor shall bear the risk in delivery of the Goods until the Goods reach the destination terminal and are delivered in accordance with the Incoterm on the Order.” The submitted Air Waybill indicates “Freight Collect” which means that the buyer (the importer’s related middleman) will pay the freight. However, CBP has not been presented with the DAT Certificate for the entry at issue. Counsel indicates that the importer receives electronic “Milestone” and “Shipment” detail notifications from its ocean carriers or air freight forwarders via an online management portal, and that such notifications trigger specific actions. These are now used in lieu of physical, stamped certificates or bills of lading. CBP was provided with a copy of the “shipment detail > milestone detail” related to the entry at issue from the electronic management portal. The invoice from the manufacturer to the middleman is labeled “First Sales Invoice” and indicates FOB Country A. It specifies the manufacturer is the shipper; the division of the importer that ordered the merchandise is the party to whom the merchandise is to be shipped; the shipment is for account and risk of the middleman; and, it is signed by the middleman, not the manufacturer. The packing list is also signed by the middleman, although the goods are shipped directly from Country A to the U.S. by the manufacturer. With regard to the invoice being signed by the middleman, counsel explained that: The shipping department of the factory makes all kinds of invoices (CMT, FOB and first sale invoices) on behalf of [the middleman]. For [the importer’s] orders, the shipping department keeps [the middleman’s] chop and uses it after the first sale invoice is confirmed to be correct and accepted by [the middleman]. The importer submits that the Country B middleman is not their agent and that risk of loss transfers from the Country B middleman to the importer’s related middleman when the goods are available for unloading at the named destination terminal. Title passes from the importer’s related middleman to the importer when the goods reach the importer’s distribution center in the U.S. The importer claims that the “first sale” price between the manufacturer and its related party middleman meets the all costs plus a profit test to show that the related parties operate at arm’s length. They submit that the related party prices are sufficient to ensure recovery of all costs plus a profit which is equivalent to the buyer’s overall profit realized over a representative period of time in sales of merchandise of the same class of kind. Based upon the importer’s counsel’s review of confidential financial reports, counsel submits that the related parties meet the all costs plus a profit test as the manufacturer in Country A realized an operating profit greater than the operating profit of its middleman parent in Country B. Specifically, counsel submits that for the year 2013, the middleman’s operating profit was 6.89% and the manufacturer’s operating profit was 6.95%. For the year 2014, the middleman’s operating profit was 0.95%, and the manufacturer’s profit was 6.07%. The financial statements for the parent company, .i.e, the middleman, indicates that the company utilizes equity-method investment with regard to its related party companies, including the Country A manufacturer. This office consulted with a CBP auditor who reviewed the submitted financial statements. In calculating the operating margins, the auditor did not include income financing activities and expenses from financing activities to ensure that the calculation was only of operating profit from the sale of goods of the same class or kind. These calculations resulted in somewhat different operating profit margins that those presented by counsel. For the year 2013, the middleman’s operating profit was 6.89% and the manufacturer’s profit was 6.63%. For the year 2014, the middleman’s operating profit was 0.95%, and the manufacturer’s profit was 5.66%. For the year 2015, the middleman’s operating profit was 2.57%, and the manufacturer’s was 4.33%. ISSUE: Whether the sale between the middleman and its related factory is a bona fide sale which may serve as the basis for appraisement of the goods under 19 U.S.C. § 1401a(b) under the “first sale” principle of appraisement. 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). The importer seeks to utilize the transaction value of the sale between the middleman and its related manufacturer in the transaction at issue. 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 a sale 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, 17 C.I.T. 18 (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 a middleman to a 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. In Treasury Decision (T.D.) 96-87, dated January 2, 1997, the Customs Service (now Customs and Border Protection (CBP)) advised that the importer must provide a description of the roles of the parties involved and must supply relevant documentation addressing each transaction that was involved in the exportation of the merchandise to the United States. The documents may include, but are not limited to purchase orders, invoices, proof of payments, contracts, and any additional documents (e.g. correspon- dence) that establishes how the parties deal with one another. The objective is to provide CBP with “a complete paper trail of the imported merchandise showing the structure of the entire transaction.” T.D. 96-87 further provides that the importer must also inform CBP of any statutory additions and their amounts. If unable to do so, the sale between the middleman and the manufacturer cannot form the basis of transaction value. Based on the documentation presented to CBP, there is no question that the merchandise manufactured in Country A was clearly destined for the U.S. We must determine, however, whether the transaction between the Country B middleman and the Country A manufacturer was a bona fide sale, i.e., was the middleman acting as a buyer/seller of the merchandise, and whether the related parties’ transaction was conducted at arm’s length. Based on the purchase orders, invoices, and paragraph 6.1 of the Manufacturing Terms and Conditions document, the risk of loss transfers from the manufacturer to the middleman at the port of export when the goods are loaded on board a vessel for shipment and to the importer when the goods are delivered at the port of destination. As title must pass for there to be a sale, it is apparent the protestant asserts that title passes with the risk of loss. However, although the risk of loss, and title in this case, pass in accordance with the Incoterms, and the parties have submitted evidence of payment so that we have evidence of a transfer of property for consideration, i.e., a sale, we must determine whether we have a bona fide sale under 19 U.S.C. § 1401a(b). As the manufacturer and the middleman are related, we must determine whether the transaction between them meets the arm’s length requirement set forth in 19 U.S.C. § 1401a(b)(2)(B). The basis for determining whether the transaction value between related parties is acceptable is set forth in 19 U.S.C. § 1401a(b)(2)(B). The statute provides, among other things, that if an examination of the circumstances of the sale of the merchandise indicates that the parties’ relationship did not influence the price actually paid or payable, then the transaction value is acceptable. Under the circumstances of the sale test, which the importer relies upon to submit that the middleman and manufacturer operate at arm’s length, the CBP regulations state, in relevant part at 19 CFR § 152.103(l)(iii), Interpretative note 3: 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. As noted in the FACTS above, the parent company utilizes the equity-method investment with regard to the Country A manufacturer, i.e., its subsidiary. The equity method of accounting “is only used when the company is deemed to have significant influence over the investee company. A significant influence normally refers to significant equity control of the company.” Based on the use of the equity-method, it is apparent that the Country B middleman has significant control over the manufacturer. However, this does not preclude consideration of whether the sales between the related parties may be considered arm’s length under the all cost plus a profit method. In applying the all costs plus a profit test, CBP normally considers the “firm’s” overall profit to be the profit of the parent company. Thus, if, as in this case, the seller of the imported goods is a subsidiary of the parent company, the price must be adequate to ensure recovery of all the seller’s costs plus a profit that is equivalent to the parent company’s overall profit. See HQ 546998, dated January 19, 2000. Based upon our review of the submitted financial statements, the manufacturer’s operating profit for the years 2014 and 2015 was greater than the operating profit of its parent, i.e., the middleman for those years. Based upon the operating profits, CBP concludes that the manufacturer recovered its costs plus a profit equivalent, or greater than, that of its parent, and therefore meets the circumstances of the sale test set forth in 19 CFR § 152.103(l)(iii). As such, the sales from the manufacturer to its parent meet the arm’s length requirement of 19 U.S.C. § 1401a(b)(2)(B) for the years 2014 and 2015. However, for the year 2013, the manufacturer did not have an operating profit equivalent to that of its parent and thus, does not meet the all cost plus a profit test for that year. HOLDING: Based upon the information submitted for review, and having found that the Country A manufacturer and its related Country B middleman meet the all cost plus a profit test as evidence that they operate at arm’s length, the entry at issue for 2014 should be valued based upon the transaction value of the “first” sale between the manufacturer and its related middleman. Sixty days from the date of this letter, Regulations and Rulings of the Office of Trade will take steps to make this decision available to Customs and Border Protection (“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