Question

Describe the term “BEPS – Base Erosion and Profit Shifting” in the context of multinational transfer pricing.

The four common types of budgets that companies use are incremental, activity-based, value proposition and zero-based. Discuss how any one of the budgeting methods can be applied to the financial sector.

Using examples, explain how performance indicators or measures would differ in assessing the performance of profit-seeking organisations versus not-for-profit organisations.

What is integrated reporting and why does it matter?

Discuss whether COVID-19 is severly impacting shareholder value?

Answer 1

A. BEPS – Base Erosion and Profit Shifting” in the context of multinational transfer pricing.

                            Transfer pricing refers to the prices of goods and services that are exchanged between commonly controlled legal entities within an enterprise. For instance, if a subsidiary company sells goods or renders services to the holding company, the price charged is referred to as transfer price and the setting is called transfer pricing. Entities under common control refer to those that are ultimately controlled by a single parent corporation. Multinational corporations use transfer pricing as a method of allocating profits (earnings before interest and taxes) among its various subsidiaries within the organization.

                                                      Multinational corporations use transfer pricing as a method of allocating profits (earnings before interest and taxes. ... Transfer pricing takes advantage of different tax regimes in different countries by booking more profits for goods and services produced in countries or economies with lower tax rates.

                                         Base Erosion and Profit Shifting (BEPS) indicate tax avoidance strategies which Multinational Corporations (MNCs) employ for reducing their tax bases. Typically, a company needs to pay tax for the incomes or profits they earn.

                     For businesses, the BEPS project helps measure the need for behavioral change, at every level.

1. Tax administrations now won’t just introduce stricter measures and look for restricting tax treaty benefits, but would also test arrangements which in their view, lack substance or has a real commercial principal purpose. Business groups would have to reshape the business models and might have to adopt the practices for evaluating their position in the new environment.

2. Enhanced transparency is one of the key objectives of the BEPS framework. This brings new reporting obligations such as Country-by-Country Reporting (CbCR). Transparency would also mean to anticipate outcomes of extra disclosures that are required to be made. Such requirements could lead to additional transfer pricing challenges or might even cause adverse publicity.

3. As the implementation of BEPS quickens, businesses increasingly would require track how changes to transfer pricing practices and domestic laws, and the revised double tax treaties would affect them.

                                                 All of these changes would need allocation of more resources for tax function. Well-executed and timely reaction to the new measures wouldn’t just avoid difficulties – it would ensure that the businesses are better placed to manage the tax burdens, and can have more cost-beneficial and streamlined operational models.

B. Four Main Types of Budgets/Budgeting Methods

1. Incremental budgeting;

Incremental budgeting takes last year’s actual figures and adds or subtracts a percentage to obtain the current year’s budget. It is the most common method of budgeting because it is simple and easy to understand. Incremental budgeting is appropriate to use if the primary cost drivers do not change from year to year.

2. Activity-based budgeting

Activity-based budgeting is a top-down budgeting approach that determines the amount of inputs required to support the targets or outputs set by the company. For example, a company sets an output target of $100 million in revenues. The company will need to first determine the activities that need to be undertaken to meet the sales target, and then find out the costs of carrying out these activities.

3. Value proposition budgeting

Value proposition budgeting is really a mindset about making sure that everything that is included in the budget delivers value for the business. Value proposition budgeting aims to avoid unnecessary expenditures – although it is not as precisely aimed at that goal as our final budgeting option, zero-based budgeting.

4. Zero-based budgeting

Zero-based budgeting (ZBB) is a budgeting technique that allocates funding based on efficiency and necessity rather than on budget history. Management starts from scratch and develops a budget that only includes operations and expenses essential to running the business; there are no expenses that are automatically added to the budget. The zero-based approach is good to use when there is an urgent need for cost containment, for example, in a situation where a company is going through a financial restructuring or a major economic or market downturn that requires it to reduce the budget dramatically.

C.      Differ in assessing the performance of profit-seeking organizations versus not-for-profit organizations.    

                               

1. Percentage or Shared Ownership

One of the basic accounting differences between a for-profit company and a nonprofit corporation derives from ownership. Individuals and entities can own percentages or shares of a for-profit company, known as equity. An owner’s stock or percentage of ownership is recorded in the company’s accounting system and increased or decreased over time. The owners listed on the books are entitled to benefit from the company’s activities by receiving dividends or disbursements of profits, or having the value of the ownership shares or percentages increase with the company’s successful performance in the marketplace.

                                                       A nonprofit is not owned by anyone. Even though you may have founded the organization or sit on its board of directors, you don’t own any percentage of the entity. Under the laws of the state in which you set up the nonprofit, the company is run by its board, officers and staff as a public trust. This means in the organization’s accounting system, there are no owner’s equity or retained earnings accounts.

2. Accounting for Income and Expenses

                              For-profit companies track revenue and expenses typically related to the sale of products and services in a general ledger, which is a single, self-balancing account that represents the business activity of a single entity. A nonprofit doesn’t sell goods and services for a profit that can be tracked within an ordinary chart of accounts in a general ledger.

                              Typically, a nonprofit’s revenue is made up of donations and grants. Many types of donations are restricted in their use, and grants often have a self-contained budget, which authorizes the use of funds only for the purposes and in the amounts agreed upon in the grant contract.

3. Financial Reports

A for-profit corporation keeps a balance sheet that reflects the assets the corporation owns, which can be distributed as retained earnings to shareholders.

                       Meanwhile, a nonprofit keeps a statement of financial position, which reflects the assets on hand that can be used to further the mission of the organization.

D. What is integrated reporting and why does it matter?

Integrated reporting (IR) is the latest development in a long line of proposed reporting innovations that have sought to improve the usefulness of corporate reporting. IR aims to build on reporting developments to provide a more holistic form of reporting the value created by a business, by considering non-financial resources such as human, social and intellectual capitals as well as financial capital.

                       Many organizations think they are already producing an integrated report. However, IR is more than just another corporate report, it relies on a series of underlying activities. IR is defined as a process, founded on integrated thinking, which results in a periodic integrated report, and related communications that highlight value creation. There is a need to set out clearly how IR fits in with the plethora of guidance from other standard setting bodies. This is being addressed by the Corporate Reporting Dialogue, set up by the IIRC in response to market calls for greater coherence, consistency and comparability between corporate reporting frameworks, standards and related requirements. Participants include significant standard setting bodies such as IASB, GRI and FASB.

Integrated Reporting brings together material information about an organization’s strategy, governance, performance and prospects in a way that reflects the commercial, social and environmental context within which it operates. It leads to a clear and concise articulation of your value creation story which is useful and relevant to all stakeholders.

                                   But is not only about reporting; Integrated Reporting encompasses Integrated Thinking. It is as much about how companies do business and how they create value over the short, medium and long term as it is about how this value story is reported.

                           There are a multitude of benefits associated with Integrated Reporting - both within an organization and from an external perspective.

1. Encouraging your organization to think in an integrated way

2. Clearer articulation of strategy and business model

3. A single report that is easy to access, clear and concise

4. Creating value for stakeholders through identification and measurement of non-financial factors

5. Linking of non-financial performance more directly to the business

6. Better identification of risk and opportunities

7. Improved internal processes leading to a better understanding of the business and improved decision making process

E. COVID-19 is severely impacting shareholder value

                    The global COVID-19 pandemic has presented executives with the most challenging times in their careers. The social impact of their decisions is under the spotlight as they try to balance the needs of all key stakeholders—customers, partners, suppliers, and society in general.

Most of the investors we interviewed immediately focused on the importance of taking good care of current employees, assuming a company has enough liquidity to be a going concern. The emphasis should be on keeping employees working if possible, but only under the safest possible conditions. Protecting employees’ health is not just the humane thing to do: it can also help a business ramp back up more quickly when the risks subside. It can also engender greater loyalty among employees—a benefit that can easily be underrated: one of the investors we spoke with cited a retailer that put employees at risk by keeping its stores open longer than was probably prudent. The investor viewed this negatively; the company’s emphasis on quarterly sales will likely come with a cost in the future.

                                The investors we interviewed also note the importance of protecting customers and suppliers. Executives’ reflexive reaction to the pandemic has been to try to conserve cash where they can—for instance, holding off on payments to suppliers and squeezing suppliers on price. These actions make sense for those companies that might not survive otherwise, investors acknowledge, but companies with some liquidity should consider using it to help smaller, weaker customers and suppliers. A quick recovery for customers means increased demand for goods and services. But if suppliers don’t recover quickly (or at all), companies won’t be able to ramp up production to meet this increased demand and may lose share to competitors.

                                             Stakeholder and sustainability issues were already at the forefront of public discussions prior to the COVID-19 crisis. Some of the investors we spoke with say companies should remain cognizant of environmental issues, even now. One investor pointed to a company that made a quick decision to begin to diversify its supply chain geographically. It failed, however, to realize that, as a result of climate change, hurricane activity was likely to increase in its preferred location. The company would simply be swapping risks rather than reducing them. It remains a good time to think about how to remove waste from processes, which can reduce costs and benefit the environment.