Supply Chain Nearshoring: Finance and Tax Considerations
How to Nearshore Your Supply Chain While Capturing Financial Gains and Avoiding Tax Pitfalls
Modern supply chains have grown increasingly layered as they account for separate continental end markets, manufacturing facilities and scarce raw materials spread across multiple geographies. Recent events have changed the calculus on cost and risk minimization, while new government tax incentives force business leaders to plan for and confront new logistics opportunities.
For North American firms, the financial and management advantages of nearshoring away from Asia have become glaringly obvious for most producers. In short, nearshoring advantages generally fall in to three buckets:
- Freight costs from Asia that spiked during the pandemic underscored ocean-crossing risks, both time and money, for North American business leaders.
- Labor costs in Mexico are comparable with low-cost Asian manufacturing nations and are significantly less than manufacturing labor costs in China.
- Time-to-market advantages can drive factory-to-customer timing from 2-3 months to just days out of Mexico — unleashing months of inventory cash and relaxing management decision timeframes.
The combination of all three effects can have a dramatic impact on the income statement of a nearshorer, and levered firms are using unleashed working capital from inventory-in-transit to reduce debt in our current expensive borrowing cost environment. As your firm contemplates these advantages, Cherry Bekaert advises leaders to be thoughtful about subtle, less understood, negative tax effects as well.
Overlay Operational Supply Chain, Tax and Legal Structure Maps
Unfortunately, these increasingly complex supply chains can create potential tax liabilities that can impact a company’s financial performance as it makes fundamental changes to its operational footprint. Overlaying supply chain maps with corresponding tax and legal structure maps is essential to avoid potential tax liabilities. Companies need a clear idea of their supply chain nodes to manage risks and optimize operations. Additionally, they need to incorporate tax and legal aspects into the equation to help identify potential tax liabilities, which will save them costs relating to penalties, interest payments and reputational damage. Cherry Bekaert assists with this coordination and planning.
Avoid Tax on Disguised Dividends Triggered by Supply Chain Changes
When a company acquires another to supplement their supply chain, the Post-Merger Integration (PMI) process becomes crucial to ensure a smooth and successful transition. During this phase, the acquirer evaluates the target company’s procurement and supply chain practices to identify potential areas for improvement. One key element that comes into play is the use of Purchase Price Allocation (PPA), an accounting method used to allocate the purchase price of the acquired company to its tangible and intangible assets.
In the context of supply chain enhancement, PPA helps the acquiring company assess the value of the target company’s supply chain assets and resources. This evaluation aids in making informed decisions about retaining, optimizing or integrating specific elements of the target company’s supply chain into the acquirer’s existing operations. By leveraging PPA, the acquiring company can strategically utilize the acquired supply chain capabilities to improve their own operational efficiency, expand market reach and ultimately drive greater profitability.
Disguised dividends are a misunderstood liability that can arise when assets are transferred between different parts of an organization. Companies can also be liable for tax when there are changes to supply chain nodes, such as an acquisition, a change in supply contract or a sale of a factory while moving to an outsourcer. Many companies ignore the tax implications of such changes, resulting in potential tax liabilities. Cherry Bekaert teams are well-versed on how companies can avoid costly layers of tax on disguised dividends triggered by changes to the supply chain.
Case: Supply Chain Changes Triggered by a Recent Acquisition
In 2019, TC-X, a U.S.-based manufacturer, acquired G-X, a China-based electronics component manufacturer. The acquisition was part of TC-X’s strategic expansion, and it allowed them to expand their global manufacturing capabilities and reduce costs. However, TC-X did not properly assess the tax implications of the acquisition, and they failed to consider the potential supply chain changes. As a result, the company transferred contracts and know-how between the two companies, and tax authorities identified those transfers as disguised dividends. The result was a material tax liability that caused significant reputational damage and costs.
The Process of Purchase Price Accounting
When a company acquires another business and pays more than the fair value of the assets and liabilities acquired, the difference is known as goodwill. Purchase price accounting is the process of allocating the purchase price (consideration) paid in an acquisition to the fair value of the assets and liabilities acquired.
Goodwill is included in a company’s balance sheet as a non-current asset. However, when there are changes in the company’s supply chain, it can create potential tax liabilities relating to disguised dividends.
Supply Chain Migration Should Not Be a Siloed Function
Supply chain migration planning cannot be a siloed function within company operations, as it can impact multiple areas of the business, including material tax and legal consequences. It is crucial that there is a cross-functional approach to supply chain decisions, incorporating tax advisers and legal experts to identify any potential tax liabilities and ensure they are mitigated. Appropriate purchase price accounting can facilitate tax planning, while a cross-functional approach that incorporates tax and legal experts can help mitigate negative tax impacts. Cross-functional teamwork can help companies manage risks while optimizing their operations.
Optimize Tax Impacts During Sustainability Planning
To avoid negative tax impacts and successfully target lucrative tax credits, companies should incorporate tax teams into supply chain planning. This will help ensure that the tax implications of supply chain changes are considered before any changes are made. Regular tax and legal structure reviews can also help identify any potential tax liabilities before they occur, providing an opportunity to mitigate the risks. Companies should engage experienced tax advisers who can advise on the tax implications of supply chain changes and provide guidance on the best strategies for minimizing tax liabilities. The Cherry Bekaert strategic tax team has several in-house professional engineer CPAs to identify tax credit opportunities, especially as companies make operational changes to meet sustainability targets.
As business decision makers ponder changes to supply chains with an eye towards reducing their carbon footprint, Cherry Bekaert services can drive a real difference. Careful diligence and planning can unleash lucrative tax credits down the road – there are over $1 trillion in newly-minted U.S. tax credits up for grabs. Many credits are fully transferable to create immediate liquidity opportunities. The Cherry Bekaert site-selection services team can assist with the incorporation of local, state and federal incentives for job creation, investment and sustainability efforts into operational planning.
Let Us Guide You Forward
Reach out to your Cherry Bekaert advisor to learn more about how our team can help your business increase supply chain agility, avoid disguised taxes and drive profitable nearshoring efforts.
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