Title: Roxane Laboratories, Inc. v. Tracy

State: ohio

Issuer: Ohio Supreme Court

Document:

Roxane Laboratories, Inc., Appellant, v. Tracy, Tax Commr., Appellee. 
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[Cite as Roxane Laboratories, Inc. v. Tracy (1996), ___ Ohio St.3d ___.] 
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Taxation -- Sales and use taxes -- Equipment used to perform Federal 
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Food and Drug Administration testing on samples of a 
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pharmaceutical batch taken after the packaging and sale of the 
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remainder of the batch not exempt. 
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(No. 94-2045 -- Submitted December 12, 1995 -- Decided March 1, 
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1996.) 
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Appeal from the Court of Appeals for Franklin County, Nos. 93APH12-
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1721 and 93APH12-1722. 
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Roxane Laboratories, Inc. (“Roxane”), appellant, contests the appellee 
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Tax Commissioner’s assessments of sales and use taxes on various items of 
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equipment used for stability testing.  The assessments involved the audit 
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periods of January 1, 1983, through December 31, 1985, and January 1, 1986, 
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through December 31, 1988.  Both the Board of Tax Appeals (“BTA”) and the 
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court of appeals upheld the assessments.   
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Roxane manufactures generic pharmaceutical products.  Roxane does not 
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develop new prescription pharmaceuticals itself.  Rather, it waits until an 
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innovative new drug patent has expired and develops a product for sale based 
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upon the expired patent.  Because the drugs produced by Roxane have been 
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previously approved by the Federal Food and Drug Administration (“FDA”), 
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Roxane is not required to obtain re-approval of the effectiveness or medicinal 
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value of these drugs.  Roxane is, however, required by the FDA to procure pre-
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approval of each drug it intends to manufacture. 
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In order to obtain this re-approval, Roxane is required by the FDA to test 
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the stability of the drugs it manufactures.  The purpose of testing for stability 
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(“stability testing”) is to verify, at set intervals of time, that the drugs have not 
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become ineffective or chemically broken down. The FDA requires that stability 
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testing be done (1) prior to FDA approval in order to develop a protocol for 
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manufacturing the product and to establish future testing procedures, and (2) 
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after the drug is packaged and marketed to assure its continued efficacy by 
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monitoring the product during its expected shelf life.  In dispute is the 
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equipment Roxane uses in its stability testing of the packaged drugs. 
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In order to conduct the required on-going stability testing, samples from 
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each pharmaceutical batch are drawn off from the manufacturing process as the 
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product goes into the package and are monitored and tested using the stability 
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testing equipment. If the stability tests are not satisfactory, the drug is deemed 
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adulterated and must be recalled.  Stability testing is not performed on the 
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drugs as they are being manufactured, nor does the testing indicate whether the 
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drugs were manufactured properly. 
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Roxane timely appealed the assessments on the stability testing 
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equipment to the BTA.  In affirming the assessments, the BTA found that the 
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stability testing was performed either before any manufacturing had begun or 
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after the drug had been packaged and sold, and therefore the stability testing 
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equipment was not entitled to exception under R.C. 5739.01(E)(2) as items 
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used directly in manufacturing.  Roxane appealed and the court of appeals 
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affirmed the BTA’s decision on this issue. 
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The cause is now before this court pursuant to an allowance of a 
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discretionary appeal. 
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______________________ 
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 Brickler & Eckler and Mark A. Engel; and Brian E. Andreoli, pro hac 
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vice, for appellant. 
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Betty Montgomery, Attorney General, and Richard C. Farrin, Assistant 
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Attorney General, for appellee. 
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___________________ 
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Cook, J.  The issue before this court is whether equipment used to 
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perform FDA testing on samples of a pharmaceutical batch taken after the 
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packaging and sale of the remainder of the batch is exempt from sales and use 
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taxes as an adjunct to manufacturing pursuant to R.C. 5739.01(E)(2).  We find 
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that equipment used in stability testing does not qualify as an adjunct to 
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manufacturing under R.C. 5739.01(R), as it is used after manufacturing ends. 
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Roxane challenges the failure to exempt the stability testing machinery 
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from sales and use taxes as an adjunct to manufacturing.  Because the use tax 
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adopted the sales tax exemptions, we will address only the sales tax statutes, 
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but the analysis applies equally to the use tax.  See R.C. 5741.02(C)(2). 
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Roxane contends that, because the stability testing is required by the 
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FDA, the testing is part of the manufacturing process, and is therefore 
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exempted from sales tax by former R.C. 5739.01(E)(2), which provided: 
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“‘Retail sale’ *** include[s] all sales except those in which the purpose 
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of the consumer is: 
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“ *** 
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“(2)  *** to use or consume the thing transferred directly in the 
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production of tangible personal property * * * for sale by manufacturing, 
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processing ***.”  (140 Ohio Laws, Part II, 3216.) 
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In order for this manufacturing exemption to apply, a taxpayer must meet 
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the definition of “manufacturing” provided in former R.C. 5739.01(R) (now 
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5739.01[S]).  During the audit periods in question, the General Assembly 
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focused repeatedly on this definition and changed the language of the statute 
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several times; however, the concept never changed.  The legislative changes 
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only clarified the concept by further defining the statutory terms.1    
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From November 24, 1981 until March 12, 1987, R.C. 5739.01(R) 
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provided: 
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“‘Manufacturing’ or ‘processing’ means the transformation or 
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conversion of material or things into a different state or form from that in 
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which they originally existed and, for the purpose of the exceptions contained 
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in division (E)(2) of this section, includes the adjuncts used during and in, and 
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necessary to carry on and continue, production to complete a product at the 
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same location after such transforming or converting has commenced.”  (139 
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Ohio Laws, Part II, 3250.) 
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From March 13, 1987, until October 20, 1987, R.C. 5739.01(R), as 
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amended by Am. H.B. No. 159, 142 Ohio Laws 2109, 2114-2115, provided: 
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“(R)(1)  ‘Manufacturing’ or ‘processing’ means the transformation or 
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conversion of material or things into a different state or form from that in 
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which they originally existed.  Manufacturing or processing begins at the point 
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where the transformation or conversion commences, or at the point where raw 
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materials are committed to the manufacturing process in a receptacle by being 
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measured, mixed, or blended, whichever occurs first, and it ends when the 
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product is completed. 
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“(2)  For the purpose of the exceptions contained in division (E)(2) of 
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this section, things used or consumed directly in manufacturing or processing 
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include the adjuncts used during and in, and necessary to carry on and 
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continue, production to complete a product at the same location after 
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transforming or converting has commenced and before it has ended.  Adjuncts 
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include, but are not limited to, machinery and equipment that generates heat or 
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power for production processes and foundations and supports for machinery 
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and equipment used during manufacturing.  Machinery and equipment used 
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before manufacturing begins or after manufacturing ends as described in this 
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division are neither used directly in manufacturing nor as adjuncts. 
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“(3) For the purpose of the exceptions contained in division (E)(2) of this 
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section, the fact alone that machinery or equipment, supplies, or services are 
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necessary, essential or crucial to the manufacturing process does not mean they 
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are used directly in the manufacturing process or as an adjunct.”  (New 
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language emphasized.) 
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From October 20, 1987, through April 10, 1990, R.C. 5739.01(R)(2), as 
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amended by Am. Sub. S.B. No. 92, 142 Ohio Laws 266, further expanded the 
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definition of “adjuncts” to manufacturing.  It provided: 
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 “ * * * Adjuncts include, but are not limited to, machinery and 
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equipment that generates heat or power for production processes, foundations 
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and supports for machinery and equipment used during manufacturing, and 
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machinery and equipment used during the manufacturing period to test or 
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check the quality of the thing being manufactured, unless the thing being 
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manufactured is removed from the manufacturing plant or facility for the test or 
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check.  Machinery and equipment used before manufacturing begins or after 
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manufacturing ends as described in this division are neither used directly in 
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manufacturing nor as adjuncts.”  (New language emphasized.) 
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It is axiomatic that exemptions from taxation are not favored by the law 
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and the intention to grant an exception must be clearly expressed.  Meridian 
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Technology Leasing Corp. v. Tracy (1995), 73 Ohio St.3d 387, 389, 653 
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N.E.2d 232, 234, citing Pfeiffer v. Jenkins (1943), 141 Ohio St. 66, 68, 25 O.O. 
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197, 198, 46 N.E.2d 767, 768.  Roxane contends that it is entitled to the 
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manufacturing exemption because the stability testing is essential to the 
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salability of the product under the dictates of the FDA.  The language of the 
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exemption statutes, however, plainly excludes this equipment. 
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The stability testing equipment is not a part of the transformation or 
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conversion of raw materials into a different state, as “manufacturing” is 
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defined. The testing’s limited purpose is unrelated to the production process.  
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The stability testing is conducted on samples “drawn off” as the product goes 
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into the package.  At this point, no further ingredients are added to the product.  
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The transformation is complete before the product is packaged. Thereafter, the 
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stability testing is done at various intervals, while the product is on the market. 
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 Such equipment cannot be said to be used “during and in, and necessary to 
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carry on and continue, production to complete a product at the same location 
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after such transforming or converting is commenced” in order to qualify as an 
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adjunct to manufacturing.  Nor can the equipment be found to meet the 
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definition that the adjunct be used before the manufacturing process ended.  
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Rather, the equipment is encompassed in the language of the statute which 
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affirmatively excludes as adjuncts, that machinery and equipment used “before 
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manufacturing begins or after manufacturing ends * * * [as] neither used 
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directly in manufacturing nor as adjuncts.” 
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We are unwilling to stretch the language of the statute to adopt Roxane’s 
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view that the product is not complete until it reaches its expiration date.  
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Pursuant to Ohio Adm. Code 5703-9-21(B)(8), a product is “completed” “when 
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all processes that change or alter its state or form or enhance its value are 
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finished, even though the item subsequently will be tested to ensure its quality 
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or be packaged for storage or shipment.”  The record discloses that the stability 
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testing in no way changes or alters the product. Rather, the testing is used only 
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to ensure that the product remains safe and effective during its prescribed shelf 
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life. 
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Finally, Roxane argues that because the FDA stability testing is a 
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prerequisite to marketing the product, the testing is essential to the 
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manufacturing process.  However, R.C. 5739.01(R)(3) provided that “the fact 
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alone that machinery or equipment, supplies, or services are necessary, 
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essential, or crucial to the manufacturing process does not mean they are used 
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directly in the manufacturing process or as an adjunct.”  Therefore, we find that 
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the stability testing equipment used after the product is completely transformed 
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and packaged does not qualify as an adjunct to the manufacturing process 
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which is exempt from sales and use taxes.   
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Other cases from this court cited by the taxpayer are distinguishable.  In 
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Jeep Corp. v. Limbach (1989), 47 Ohio St.3d 67, 547 N.E.2d 975, the BTA 
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exempted equipment used to perform tests on the final inspection line before a 
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vehicle was shipped for sale.  If the inspection revealed a problem, then further 
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adjustments to the vehicles were made.  These tests occurred after most of the 
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final inspection line adjustments had taken place but before the end of the line.  
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The Jeep court stated that it would not overrule the BTA’s finding that all 
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equipment on the final inspection line including the equipment in question was 
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exempted from tax.  Jeep Corp., 47 Ohio St.3d at 68, 547 N.E.2d at 977, citing 
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Hawthorn Mellody, Inc. v. Lindley (1981), 65 Ohio St.2d 47, 19 O.O.3d 234, 
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417 N.E.2d 1257, syllabus.  We reconcile Jeep with the result here based on the 
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key facts that the vehicles being tested in Jeep were still on the inspection line 
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and the manufacture of the vehicle was not complete at the time the test was 
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performed. 
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In OAMCO v. Lindley (1986), 24 Ohio St.3d 124, 24 OBR 347, 493 
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N.E.2d 1345, clarified (1987), 27 Ohio St.3d 7, 27 OBR 427, 500 N.E.2d 1379, 
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reclarified (1987), 29 Ohio St.3d 1, 29 OBR 122, 503 N.E.2d 1388, a heated 
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conveyor belt was used to transport freshly mixed asphalt into trucks.  In 
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allowing the conveyor as an adjunct entitled to tax exception, this court held 
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that the equipment utilized to preserve the required product state is an adjunct 
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to property used or consumed directly in the production of tangible personal 
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property.  OAMCO, 27 Ohio St.3d at 8-9, 27 OBR at 428, 500 N.E.2d at 1381.  
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Unlike the conveyor in OAMCO, the stability testing equipment does not act 
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upon the manufactured product, it does not effect any change in state or form, 
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nor does it maintain the form of the product.  Further, the stability testing 
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occurs after the drug has been completed, distributed, and sold. Additionally, 
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unlike the stability testing equipment, the conveyor in OAMCO was utilized 
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only at a time prior to delivery of the asphalt to customers. 
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Roxane also argues that because the FDA demands the stability testing, 
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federal law had preempted the state definition of “manufacturing.”  Preemption 
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is inapposite to this case because the FDA statutes and the Ohio tax statutes are 
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not in conflict on this subject.  The FDA statutes and regulations pertain to 
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manufacturing procedures, while the Ohio tax statutes address Ohio sales and 
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use taxes. 
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Finding that the stability testing equipment does not qualify as an exempt 
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adjunct to the manufacturing process, we affirm the decision of the court of 
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appeals. 
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Judgment affirmed. 
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MOYER, C.J., DOUGLAS, WRIGHT, RESNICK and F.E. SWEENEY, JJ., 
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concur. 
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PFEIFER, J., dissents. 
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PFEIFER, J., dissenting.  The stability testing of appellant’s generic drugs 
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is inseparably connected with the manufacture of the drugs.  Thus, I would 
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hold that the equipment that appellant uses in the stability testing is an adjunct 
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to manufacturing and is exempt from sales and use taxes. 
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1 Following the audit periods in question, R.C. 5739.01 was amended.  We do 
not address these later amendments because they are not relevant to the time 
period in question.