Opinion ID: 1951745
Heading Depth: 1
Heading Rank: 4

Heading: Flow of Value

Text: 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 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. 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 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'slength 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: 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'slength, 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 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.