Title: Hercules v. Comptroller

State: maryland

Issuer: Maryland Supreme Court

Document:

Hercules Incorporated v. Comptroller of the Treasury, No. 122, September Term, 1997.
[Taxation - Corporate Income - Unitary Business Issue - No part of capital gain realized by
foreign corporation on sale of stock in partial subsidiary apportionable to Maryland.  On
facts, relationship investment, not operational.]
Circuit Court for Baltimore
City Case # 95082018/CL194318 
IN THE COURT OF APPEALS OF MARYLAND
No. 122
September Term, 1997
_________________________________________
HERCULES INCORPORATED
v.
COMPTROLLER OF THE TREASURY
_________________________________________
Bell, C.J.
Eldridge
Rodowsky
Chasanow
Raker
Wilner
Cathell, 
JJ. 
_________________________________________
Opinion by Rodowsky, J.
_________________________________________
Filed:   September 1, 1998
The question in this case is whether the Due Process Clause of the Constitution of the
United States permits Maryland to tax a portion of a capital gain that the petitioner, Hercules
Incorporated (Hercules), realized in 1987 on the sale of its 37.5% stock interest in HIMONT
Incorporated (HIMONT), a corporation created in 1983 when Hercules restructured part of
its business.  The Maryland Tax Court, the Circuit Court for Baltimore City, and the Court
of Special Appeals in Hercules, Inc. v. Comptroller of the Treasury, 117 Md. App. 29, 699
A.2d 461 (1997), all answered the question in the affirmative.  We reverse for the reasons
stated below.
Hercules is a Delaware corporation with its principal place of business in Wilmington,
Delaware.  As it describes itself in its 1987 annual report, Hercules "is a worldwide supplier
of a broad line of natural and synthetic materials and products and related systems," serving,
inter alia, "the electronics, packaging, aerospace, food, synthetic fibers, automotive, graphic
arts, adhesives, paper coatings, and personal-care industries."  Hercules's principal business
activity in Maryland during the relevant time period was the sale of industrial chemicals. 
Prior to 1983 one aspect of Hercules's business was the manufacturing of
polypropylene resin (PPL) from propylene, a petrochemical.  Hercules used 10% to 15% of
its PPL production in the manufacture of film and fibers, and it sold the balance of its PPL
production on the open market.  Hercules failed to keep pace with the technology in the field
so that its PPL production was not as efficient and profitable as that of the more technically
advanced producers.
-2-
Accordingly, as early as 1978, Hercules decided to divest itself of its PPL
manufacturing business, but it had not found a purchaser by 1983.  In 1983 Hercules and
Montedison S.p.A. (Montedison), an Italian manufacturer that utilized state of the art
technology, formed a joint venture.  Each company contributed its PPL manufacturing assets,
Hercules contributed its North American marketing organization, and, apparently,
Montedison contributed its European marketing organization.  The PPL manufacturing plants
owned by Hercules were in Louisiana and Texas.  As the transferee of these assets the joint
venturers created HIMONT, a Delaware corporation.  
Pursuant to their joint venture, Hercules and Montedison each owned 50% of
HIMONT's stock.  At start-up on November 1, 1983, HIMONT issued a promissory note to
Hercules in the amount of $70 million, payable over five years at commercially competitive
interest rates.  This obligation was designed to offset the amount by which Hercules's initial
capital contribution to the formation of HIMONT exceeded Montedison's. 
By means of the formation of HIMONT the joint venturers completely divested
themselves of their PPL manufacturing business, but Hercules continued to use PPL to
manufacture film and fibers.  Hercules (and Montedison) entered into a requirements
contract with HIMONT under which HIMONT agreed to sell PPL to the parents of the
venture at the open market price less a 2.5% "discount intended to recognize the fact that
selling and other indirect expenses will be less for sales to the parents of the venture than that
incurred in the open marketplace."  Hercules purchased between $117 and $146 million
worth of PPL per year from HIMONT from 1984 to 1987.  These purchases amounted to
-3-
between 12% and 13% of HIMONT's annual sales over this time.  At oral argument counsel
for Hercules represented to this Court that Hercules's purchases of PPL from HIMONT were
"somewhere in the eighty percent range" of Hercules's requirements.
At the time of the initial formation of HIMONT, Hercules and Montedison were each
entitled to appoint three directors to HIMONT's six-member board of directors.  Other than
the three individuals who were so appointed by Hercules and who served only as directors
in HIMONT, there were no common officers or employees of Hercules and HIMONT.  
When HIMONT was first created, it contracted for certain administrative services
from Hercules and Montedison because HIMONT needed time to hire, train, and staff a
complete administrative structure.  These administrative services were accounting,
contracting, payroll, finance, and insurance.  HIMONT decided what services it needed and
made the policy decisions.  Hercules and Montedison then supplied the manpower on a
subcontracting basis to implement those decisions.  As time went on, the services provided
to HIMONT by Hercules declined as HIMONT built up its administrative structure.
In February 1987 HIMONT was taken public.  The initial offering price for HIMONT
stock was $28 per share.  This offering raised over $379 million and diluted Hercules's and
Montedison's ownership of HIMONT from 50% each to 37.5% each, while the public held
25%.  After the public offering HIMONT's board of directors was expanded to nine
members.  Hercules had the right to appoint three of the nine directors.
In September 1987 Hercules sold all of its stock in HIMONT to Montedison at $59.50
per share, realizing a $1.3 billion gain from a total net proceeds of nearly $1.5 billion.  The
-4-
sale was precipitated, at least in part, by Montedison's threat to make a hostile tender offer
to the shareholders of Hercules.  Hercules listed this capital gain on its 1987 Maryland
Corporation Income Tax Return, and, after computing a statutory apportionment factor of
.001434, paid $137,307 in Maryland state income taxes. 
In 1991 Hercules filed an amended 1987 Maryland Corporation Income Tax Return,
in which it excluded the $1.3 billion gain in computing the apportionment to Maryland.
Hercules requested a tax refund of $132,562.  In October 1992 this claim was denied by the
respondent, Comptroller of the Treasury (the Comptroller). 
Hercules appealed this denial of refund to the Maryland Tax Court.  The hearing
record before that agency consists of a stipulation of facts, certain documents, and the
testimony of a former officer of Hercules.  On January 3, 1995, the Tax Court affirmed the
decision of the Comptroller, holding that there was "insufficient convincing evidence that
the gain on the sale of Himont stock was the result of a discrete business enterprise unrelated
to Hercules' unitary activities."  Hercules moved the Tax Court to withdraw its opinion in
order to permit a motion for reconsideration; the Tax Court, by an order entered January 27,
1995, withdrew its order of January 3.  After considering and denying Hercules's motion for
reconsideration, the Tax Court, by an order entered March 16, 1995, reinstated its original
order upholding the decision of the Comptroller. 
The Tax Court viewed the primary question to be whether the ownership and sale by
Hercules of its stock in HIMONT was for "operational purposes."  That agency focused on
two aspects of the Hercules-HIMONT relationship, (1) the consummation, by the sale of
-5-
     The 1987 annual report of Hercules, quoted in full by the Tax Court, describes the
1
transaction as follows:
"'The sale of Himont represents Hercules' substantial and highly profitable
disengagement from the [PPL] business.  From the early eighties, Hercules'
primary objective for [PPL] was the enhancement of its value, for ultimate
disposition.  The formation of the Himont joint venture during 1983 brought
technical and marketing advantages to the business and the final step of taking
Himont public (in February of 1987) allowed the markets to value our
accomplishments, paving the way for a negotiated sale of our remaining
interest.  Hercules' efforts over the years in disposing of this major element of
the company (which no longer fits into strategic plans) paid dividends in terms
of profit and financial resources.  The financial resources provided will
enhance expansion into value-added, growth-oriented areas of the chemical
industry.  These are businesses in which the company has greater influence
over its destiny because they are based on technology rather than raw material
position.'"
HIMONT stock, of Hercules's "long-term corporate strategy for '... profitable disengagement
from the [PPL] business'"  and (2) the requirements contract.  The agency concluded that
1
"Hercules sought to disengage from the [PPL] manufacturing business in order
to avoid unreliable markets for the purchase of raw materials, and to shift its
corporate focus to that of a specialty chemical company.  In the creation,
nourishment, operation and sale of Himont, there was a significant flow of
value both from Hercules to Himont and back from Himont to Hercules." 
Hercules petitioned the Circuit Court for Baltimore City for judicial review.  That
court affirmed the agency decision.  Hercules appealed to the Court of Special Appeals.  That
court affirmed, reasoning that "the function of the creation of HIMONT and ultimate sale of
HIMONT stock was not merely to increase the investor's profitability in the usual sense of
the term, but instead, was to transform the nature of the investor's business."  Hercules, 117
Md. App. at 54, 699 A.2d at 473.  Accordingly, it was held that the Tax Court properly
-6-
determined that Hercules's investment in HIMONT fell on the operational side of the line
between an investment and an operational function.  Id.
This Court granted Hercules's petition for a writ of certiorari as well as the
Comptroller's conditional cross-petition which questions the timeliness of Hercules's petition
to the circuit court for judicial review.  
Additional facts will be presented, as necessary, in the resolution of these issues.
I
The Comptroller contends that Hercules failed to comply with Maryland Rule
7-203(a)(1), which requires that a party file for judicial review within thirty days of the date
of the order of an administrative agency from which review is sought.  The Tax Court issued
its first order on January 3, 1995.  That order was withdrawn on January 27, 1995.  The Tax
Court reinstated its original order on March 16, 1995.  Hercules petitioned for judicial review
on March 24, 1995. 
The Comptroller argues by analogy to Hess v. Chalmers, 27 Md. App. 284, 339 A.2d
706, cert. denied, 276 Md. 744 (1975), a declaratory judgment case in which the operation
of an order was stayed and then the stay was lifted.  In Hess, the days elapsed prior to the
stay were added to the days after the suspension was vacated in computing the time limit.
"The countdown was resumed, not to start again from the beginning, but to take up where
it left off."  Id. at 288, 339 A.2d at 708.  The Comptroller argues that twenty-three days had
elapsed prior to the Tax Court's withdrawal of its January 3 order, and that the clock
-7-
therefore started at twenty-four after the filing of the March 16 order.  This would make
Hercules's petition for review untimely by two days.
The Comptroller's argument, however, conflates the meaning of "stay" and
"withdraw."  Prior to the expiration of the time for petitioning for judicial review, an
administrative body has the power to strike its own order, which is what occurred here.
Consequently, the March 16 order was the final order in the proceeding.  Indeed, by means
of a stamped legend the Clerk of the Maryland Tax Court gave notice that the parties had the
right to "appeal" within thirty days "from the date of the above Order." 
We now turn to the merits.
II
"Under both the Due Process and the Commerce Clauses of the Constitution, a State
may not, when imposing an income-based tax, 'tax value earned outside its borders.'"
Container Corp. of America v. Franchise Tax Bd., 463 U.S. 159, 164, 103 S. Ct. 2933, 2939,
77 L. Ed. 2d 545, 552 (1983) (quoting ASARCO Inc. v. Idaho State Tax Comm'n, 458 U.S.
307, 315, 102 S. Ct. 3103, 3108, 73 L. Ed. 2d 787, 794 (1982)).
Hercules's sales within Maryland during the critical time period--the 1987 tax year--
were seven-tenths of 1% of its total sales.  The taxpayer had sales of $14.1 million in
Maryland, as compared to $2 billion overall.  It owned $32,155 worth of machinery and
equipment within the state and paid $82,820 in Maryland salaries; overall, Hercules owned
$2.8 billion in assets and paid over $627 million in salaries and wages.  Uncontradicted
testimony established that Hercules had no manufacturing facilities in Maryland and that the
-8-
salaries paid in this state reflected individuals who lived in Maryland but commuted to
Hercules's home office in Wilmington, Delaware. 
In order to levy a tax upon Hercules's capital gain from the sale of HIMONT stock,
there must be some nexus linking this income to activities within the state.  The necessary
nexus usually "is satisfied by demonstrating the existence of unitary business, part of which
is carried on in the taxing state."  NCR Corp. v. Comptroller of the Treasury, Income Tax
Div., 313 Md. 118, 132, 544 A.2d 764, 771 (1988).  Where the nexus exists, the Maryland
tax on a corporation engaged in a multi-state business is governed by Maryland Code (1957,
1997 Repl. Vol.), § 10-402(c) of the Tax-General Article (TG), which requires that net
income be apportioned to this state on the basis of a formula using property, payroll, and
sales.  See Random House, Inc. v. Comptroller of the Treasury, 310 Md. 696, 697, 701, 531
A.2d 683, 683, 685 (1987); see also NCR Corp., 313 Md. 118, 141-42, 544 A.2d 764, 775;
Xerox Corp. v. Comptroller of the Treasury, Income Tax Div., 290 Md. 126, 129-30, 428
A.2d 1208, 1211 (1981); accord Mobil Oil Corp. v. Commissioner of Taxes, 445 U.S. 425,
100 S. Ct. 1223, 63 L. Ed. 2d 510 (1980).  The legislative purpose underlying this statute is
to tax multi-state corporations doing business in Maryland to the bounds permitted by the
United States Constitution.  NCR Corp., 313 Md. at 146, 544 A.2d at 777.  To that end, the
question before us becomes one of federal constitutional, rather than of Maryland statutory,
law.  In resolving that question, the burden is on the taxpayer to show "'by "clear and cogent
evidence" that [the state tax] results in extraterritorial values being taxed.'"  Container Corp.,
463 U.S. at 175, 103 S. Ct. at 2945, 77 L. Ed. 2d at 559-60. 
-9-
     The decision of the Supreme Court of Minnesota was rendered on March 12, 1998, well
2
after the decision by the Court of Special Appeals in the instant matter.
Hercules submits that the undisputed facts in this case meet that burden because the
claimed connection to Maryland is too remote.  In addition to its analysis of decisions of the
Supreme Court of the United States, Hercules relies on Hercules Inc. v. Commissioner of
Revenue, 575 N.W.2d 111 (Minn. 1998), where the Supreme Court of Minnesota held, inter
alia, that that state could not constitutionally tax an apportioned part of the gain realized by
Hercules on the very sale of stock that gives rise to Maryland's attempt to tax an apportioned
part of the same gain.   The Comptroller argues (1) that "Hercules' creation and ownership
2
of, relationship with, and ultimate sale of HIMONT served an operational function of
Hercules" such as to constitute a portion of its unitary business and (2) that "the presence of
a flow of value between Hercules and HIMONT establishes that they comprised a unitary
business."
Creation and Ownership
The Supreme Court has recently reemphasized its three-part test in determining
whether a subsidiary is a part of the unitary business of the parent; those three elements are:
(1) functional integration, (2) centralization of management, and (3) economies of scale.
Allied-Signal, Inc. v. Director, Div. of Taxation, 504 U.S. 768, 783, 112 S. Ct. 2251, 2260,
119 L. Ed. 2d 533, 549 (1992).  Looking to the period prior to HIMONT's going public, and
not to the year of the stock sale, the Comptroller submits the following argument, the
relevance of which is questionable:
-10-
"Hercules, as a 50% shareholder, controlled, in concert with Montedison, all
aspects of HIMONT.  Indeed, HIMONT's by-laws expressly gave Hercules
(and Montedison) veto power over such major corporate acts as adoption of
budgets, adoption of long-range plans and objectives, disposal of large capital
assets, and declaration of dividends." 
The Supreme Court considered and rejected precisely this sort of argument in F.W.
Woolworth Co. v. Taxation & Revenue Dep't, 458 U.S. 354, 102 S. Ct. 3128, 73 L. Ed. 2d
819 (1982).  In F.W. Woolworth, the parent company owned all of the stock of three of the
four foreign subsidiaries at issue, as well as a 52.7% interest in the fourth--a far greater level
of ownership than that of Hercules in HIMONT in 1987.  F.W. Woolworth elected all of the
three wholly-owned subsidiaries' directors, and had the "authority to operate these companies
as integrated divisions of a single unitary business."  Id. at 362, 102 S. Ct. at 3134, 73 L. Ed.
2d at 826.  Moreover, the record demonstrated "some managerial links" between F.W.
Woolworth and its subsidiaries; there were common directors with the parent company and
frequent communications between the subsidiaries and the parent.  Id. at 368, 102 S. Ct. at
3137, 73 L. Ed. 2d at 830.
Nevertheless, the Supreme Court reiterated that the proper test under the Constitution
was not the potential of unitary control, but rather the actual, in fact unitariness or
separateness of the subsidiary enterprises.  Id. at 362, 102 S. Ct. at 3134, 73 L. Ed. 2d at 826.
See also ASARCO, 458 U.S. at 320-22, 102 S. Ct. 3111-12, 73 L. Ed. 2d at 798-99 (no
unitary control where the parent owned 51.5% of the stock of the subsidiary and could have
controlled the subsidiary's management).  Thus, the Supreme Court found little functional
integration between F.W. Woolworth's subsidiaries and the parent company.  F.W.
-11-
Woolworth, 458 U.S. at 364, 102 S. Ct. at 3135, 73 L. Ed. 2d at 828.  The subsidiaries
performed their functions "'autonomously and independently of the parent company.'"  Id.
at 365, 102 S. Ct. at 3135, 73 L. Ed. 2d at 828 (quoting undisputed trial testimony).  Thus,
there was insufficient functional integration to consider the dividends from the four
subsidiaries as part of F.W. Woolworth's unitary business.   Id. at 366, 102 S. Ct. at 3136,
73 L. Ed. 2d at 829.
Similarly, the day-to-day operation of HIMONT was relatively autonomous of
Hercules.  HIMONT had its own research, sales, marketing, and manufacturing personnel.
HIMONT employees who were hired away from Hercules were terminated by Hercules and
informed that they would have no "bridge" back to the parent company.  No employee or
officer of HIMONT was simultaneously an employee or officer of Hercules.  At the time of
the sale of HIMONT stock, only three members of HIMONT's nine-person board of directors
were appointed by Hercules. 
The Comptroller also makes reference to the fact that HIMONT was created by
agreement between Hercules and Montedison, as opposed to having been acquired on the
open market.  This is the proverbial distinction which lacks a difference.  Maryland may not
tax income earned outside its borders, even on a proportional basis, unless there is "'"a
rational relationship between the income attributed to the State and the intrastate values of
the enterprise."'"  Container Corp., 463 U.S. at 166, 103 S. Ct. at 2940, 77 L. Ed. 2d at 553
(quoting Exxon Corp. v. Wisconsin Dep't of Revenue, 447 U.S. 207, 219-20, 100 S. Ct. 2109,
2118,  65 L. Ed. 2d 66, 79 (1980), in turn quoting Mobil Oil Corp., 445 U.S. at 437, 100 S.
-12-
     The Comptroller's brief in this Court states that "had [Hercules] sold its [PPL]
3
manufacturing business outright, without the intervening step of a tax fee exchange creating
HIMONT, the gain on such a sale would have produced apportionable taxable income."
Brief of Respondent at 22.  This proposition is true, but irrelevant.  At oral argument in this
Court, the Comptroller disclaimed relying on the theory of a step transaction.
Ct. at 1231, 63 L. Ed. 2d at 520).  The manner by which HIMONT was created in no way
illuminates the Hercules-HIMONT relationship four years later.  
The principal basis of decision by the Tax Court viewed the entire purpose of
HIMONT's existence to be extricating Hercules from the PPL manufacturing business, and
that, as such, the sale of stock should be considered an operational part of Hercules's
business.   This Tax Court analysis, approved by the Court of Special Appeals, would stretch
3
functional integration beyond the constitutional bounds established by the Supreme Court
which, in analogous cases, has not encompassed strategic, long-range decisions of a company
within operational functions.
In ASARCO, the Supreme Court flatly rejected the argument that "corporate purpose
should define unitary business."  ASARCO, 458 U.S. at 326, 102 S. Ct. at 3114, 73 L. Ed.
2d at 801.  In that case, Idaho contended that the dividends paid on stock held by ASARCO
in partial subsidiaries should be considered a part of that company's unitary business if the
investments were "'acquired, managed or disposed of for purposes relating or contributing
to the taxpayer's business.'"  Id. (quoting Idaho's brief) (emphasis added).  The Supreme
Court rejected this argument, stating that such a broad definition of unitary business "would
destroy the concept."  Id.
-13-
Guidance on the constitutional issue is also found in Allied-Signal, 504 U.S. 768, 112
S. Ct. 2251, 119 L. Ed. 2d 533.  The case concerned New Jersey's attempt to tax an
apportioned part of the gain realized by Bendix on its sale of 20.6% of the stock of ASARCO
Inc. that Bendix had purchased on the open market over a period of two years.  Bendix had
four major operating groups:  automotive, aerospace/electronics, industrial/energy, and forest
products.  ASARCO was a world leader in producing nonferrous metals.  The Court
recognized that "the payee and the payor need not be engaged in the same unitary business
as a prerequisite to apportionment in all cases."  Id. at 787, 112 S. Ct. at 2263, 119 L. Ed. 2d
at 552.  "What is required instead is that the capital transaction serve an operational rather
than an investment function."  Id.  New Jersey argued that Bendix's sale of the ASARCO
stock served an operational function because Bendix intended to use the proceeds from the
sale to acquire another aerospace company, Martin Marietta.  Id. at 789, 112 S. Ct. at 2264,
119 L. Ed. 2d at 553.  The Supreme Court rejected this argument, pointing out that it
"reveal[ed] little about whether ASARCO was run as part of Bendix's unitary business."  Id.
Of course, when Bendix sought to acquire Martin Marietta, it also withdrew its investment
in a partial subsidiary engaged in the smelting and refining business.  Seemingly the strategic
decision to discontinue an investment in one area of activity in order to concentrate resources
elsewhere is no more an operating function in the case before us than was the strategic
decision in Allied-Signal.  
To illustrate further why Bendix's investment in ASARCO was not an operating
function, the Court in Allied-Signal stated that the ASARCO stock was not a "short-term
-14-
investment of working capital analogous to a bank account or certificate of deposit."  Id. at
789-90, 112 S. Ct. at 2264, 119 L. Ed. 2d at 553-54.  Similarly, in the decision on the sale
by Hercules of its stock in HIMONT, the Supreme Court of Minnesota rejected the argument
that the sale served an operational function for Hercules by pointing out that Hercules had
not "treated its investment in Himont as a repository for working capital like a bank account
or certificate of deposit."  Hercules, 575 N.W.2d at 117.  
The Supreme Court has made clear beyond any doubt that the proper level of inquiry
under the Constitution depends upon the actual connection between the subsidiary
investment and its parent.  How the parent intends to use the income derived from its
investments is irrelevant.  "Income, from whatever source, always is a 'business advantage'
to a corporation.  Our cases demand more.  In particular, they specify that the proper inquiry
looks to 'the underlying unity or diversity of business enterprise ....'"  F.W. Woolworth, 458
U.S. at 363, 102 S. Ct. at 3135, 73 L. Ed. 2d at 827 (quoting Mobil Oil Corp., 445 U.S. at
440, 100 S. Ct. at 1233, 63 L. Ed. 2d at 523).  This underlying unity is not present between
Hercules and HIMONT. 
Flow of Value
The Comptroller also argues that HIMONT served as a source of "an essential
product" for use in Hercules's unitary business operations.  At HIMONT's formation, both
Hercules and Montedison pledged good faith efforts to purchase all of their respective PPL
requirements from HIMONT.  The Comptroller thus analogizes the present situation to that
-15-
of the taxpayer in Corn Products Refining Co. v. Commissioner of Internal Revenue, 350
U.S. 46, 76 S. Ct. 20, 100 L. Ed. 29 (1955).
In Corn Products, the Supreme Court held that a taxpayer's investment in corn futures
constituted an integral part of the corporation's unitary business.  In particular, the Court
noted that the corporation had suffered through periods during which the raw materials
necessary for their products were in short supply.  In order to guard against future shortages,
the taxpayer had invested in corn futures; later, the taxpayer sought to have the profit on
those transactions classified as capital, rather than operating, gains.  Id. at 48-49, 76 S. Ct.
at 22-23, 100 L. Ed. at 33-34.  The Supreme Court reasoned, inter alia, that such a
speculative hedge on raw materials must be considered as part of the taxpayer's unitary
business, for "[t]o hold otherwise would permit those engaged in hedging transactions to
transmute ordinary income into capital gain at will."  Id. at 52-54, 76 S. Ct. at 24-25, 100 L.
Ed. at 35-36.
The instant case is far from analogous to Corn Products.  On October 31, 1983,
Hercules and Montedison, as the shareholders of HIMONT, drafted a document (the Sales
Protocol) which set forth various principles governing the sale of PPL by HIMONT to a third
party.  The Sales Protocol provides:
"The basic principle for sale of [HIMONT] products to either [Hercules
or Montedison PPL] consuming units shall be that the transfer will take place
at market price, less a discount intended to recognize the fact that selling and
other indirect expenses will be less for sales to the parents of the venture than
that incurred in the open marketplace." 
-16-
The Comptroller's interpretation of the Sales Protocol is that it "assure[d] a supply of
inventory" to Hercules "at a favorable price."  Moreover, the Comptroller characterizes the
Sales Protocol as a sort of "sweetheart" deal, in which Hercules's favorable price was
achieved solely by virtue of its relationship to HIMONT. 
However, the Sales Protocol on its face belies any such contention.  The rationale
underlying the discount is specified as a volume discount in which the unit price is lower due
to fewer transaction costs.  The undisputed testimony is that PPL was widely available in the
world market during this time.  The Hercules witness, a retired Vice-President and General
Counsel, testified that he was "very confident" that Hercules could have purchased PPL
under the same terms and conditions from any third-party supplier during this time period
given the volume Hercules was purchasing. 
"[W]e could have entered into this kind of a supply contract with any of the
other producers out there.  Because there's never been a real shortage of [PPL].
And we were a big big customer, user of [PPL] in our fiber and film operation.
Any manufacturer of [PPL] would have been delighted to have gotten our
business." 
Unlike Corn Products, there is no evidence here that Hercules has ever suffered
through a period during which PPL was unavailable or even scarce.
Moreover, the relationship between Montedison, Hercules, and HIMONT also belies
any inference that the Sales Protocol was anything but what it purported to be.  In 1987, due
to the public offering, Hercules's interest in HIMONT was reduced to a minority interest.
At this time, Hercules increased its PPL purchases from HIMONT by nearly $25 million.
Moreover, Hercules continued to purchase PPL from HIMONT at roughly the same rate after
-17-
it divested itself of its ownership interest in HIMONT as it had prior to divestiture.  Indeed,
the Tax Court characterized the dealings between Hercules and HIMONT as "arm's-length
agreements." 
Thus, as the Supreme Court of Minnesota concluded, in analyzing the Sales Protocol:
"[PPL] was widely available on the world market during the 1980s, and
Hercules purchased it from suppliers other than Himont soon after the
agreement was signed.  Further, Hercules purchased [PPL] from Himont at an
arm's length price, and continued to buy [PPL] from Himont at the same price
even after it sold the stock.  Any argument that Himont sold [PPL] at a
uniquely favorable price, solely based on its link to Hercules, is inconsistent
with the record before us."
Hercules, 575 N.W.2d at 117.
There was no substantial evidence to support a finding that Hercules was using
HIMONT as a "hedge" against future shortages of a valuable raw material or purchasing the
materials at a below-market price.  Therefore, the Corn Products doctrine is inapposite.
As further evidence of "a significant flow of value" from HIMONT to Hercules, the
Comptroller points to the "administrative services provided by Hercules during the period
of Hercules' ownership and thereafter."  In this respect the Comptroller relies on Container
Corp., 463 U.S. 159, 103 S. Ct. 2933, 77 L. Ed. 2d 545, in which the Court upheld
California's decision to tax income flowing to a corporation from its twenty foreign
subsidiaries.  Specifically, that decision held that the flow of value from the parent to the
subsidiaries was significant based on the following factors used by the California Court of
Appeal:
-18-
"These [factors] included appellant's assistance to its subsidiaries in obtaining
used and new equipment and in filling personnel needs that could not be met
locally, the substantial role played by appellant in loaning funds to the
subsidiaries and guaranteeing loans provided by others, the 'considerable
interplay between appellant and its foreign subsidiaries in the area of corporate
expansion,' the 'substantial' technical assistance provided by appellant to the
subsidiaries, and the supervisory role played by appellant's officers in
providing general guidance to the subsidiaries."
Id. at 179, 103 S. Ct. at 2947, 77 L. Ed. 2d at 562 (citations omitted).  Elaborating on the
degree to which the parent exercised control, supervision, and guidance, the Supreme Court
noted:
"Two of the factors relied on by the state court deserve particular
mention.  The first of these is the flow of capital resources from appellant to
its subsidiaries through loans and loan guarantees.  There is no indication that
any of these capital transactions were conducted at arm's-length, and the
resulting flow of value is obvious.  ... 
"The second noteworthy factor is the managerial role played by
appellant in its subsidiaries' affairs.  ... In this case, the business 'guidelines'
established by appellant for its subsidiaries, the 'consensus' process by which
appellant's management was involved in the subsidiaries' business decisions,
and the sometimes uncompensated technical assistance provided by appellant,
all point to precisely the sort of operational role we found lacking in F.W.
Woolworth."
Id. at 180 n.19, 103 S. Ct. at 2948 n.19, 77 L. Ed. 2d at 562 n.19 (citations omitted; emphasis
added).
On the facts of the instant matter there is no substantial difference between the service
agreements and the requirements contract.  The Tax Court found that the agreements were
"arm's-length."  Just as HIMONT was not selling PPL to Hercules at a discount that was not
available to other volume purchasers, HIMONT was not paying a premium to Hercules for
-19-
the administrative services, and Hercules was not rendering the services at less than fair
value.  In this respect we agree with the analysis by the Supreme Court of Minnesota which
said:
"Similarly, Hercules provided a broad spectrum of administrative services to
Himont, including personnel, facilities, equipment systems, and equipment
management, but these services were comparable to those available from many
firms that provided corporate out-sourcing services.  Importantly, Hercules
provided these services at arm's length prices, and Himont continued to
purchase them even after Hercules had sold its interest in Himont. The arm's
length nature of these transactions indicates that they did not embody the
requisite flow of value to create a unitary business relationship."
Hercules, 575 N.W.2d at 116.
For all of the foregoing reasons, we hold that Hercules's gain on the 1987 sale of its
stock in HIMONT to Montedison is not subject to apportionment to Maryland for income
taxation.  
JUDGMENT OF THE COURT OF SPECIAL
APPEALS REVERSED.  CASE REMANDED
TO THAT COURT WITH INSTRUCTIONS TO
REVERSE 
THE 
JUDGMENT 
OF 
THE
CIRCUIT COURT FOR BALTIMORE CITY
AND TO REMAND THIS ACTION TO THE
CIRCUIT COURT FOR BALTIMORE CITY
WITH INSTRUCTIONS TO REVERSE THE
ORDER OF THE MARYLAND TAX COURT
AND TO REMAND THIS ACTION TO THE
MARYLAND TAX COURT FOR FURTHER
PROCEEDINGS CONSISTENT WITH THIS
OPINION.
COSTS IN THIS COURT AND IN THE COURT
OF SPECIAL APPEALS TO BE PAID BY THE
RESPONDENT, COMPTROLLER OF THE
TREASURY.
-20-
 -