The global supply chain has evolved over the years, moving first from fragmentation to consolidation, and then more recently, to the rethinking of globalisation in light of supply chain pressures and the increasing digitalisation of the global economy. When COVID-19 hit, many countries experienced lockdowns and disruptions in supply chains, and governments and multinational companies alike realised how dependent they were on these networks - and hence vulnerable. More recently, the temporary halting of traffic through the Suez Canal has further highlighted the fragility of global supply chains. And on the other hand, increasing digitalisation has allowed companies to remotely provide services both internally and to clients and customers.
To thrive in this uncertain world, organisations need to build a more resilient supply chains; reliance on traditional monolithic supply chains will no longer suffice. The COVID-19 pandemic has also accelerated the need for supply chain digitalisation. Supply chains in a post-COVID world will look markedly different, and transfer pricing models will need to adapt to fit the new footprint and transactions between entities of multinational groups.
Supply chain in a post COVID world
What was once a globalised supply chain framework that focused on minimising costs and inventories and maximising asset utilisation was severely dislodged when countries went into lockdown and implemented pandemic trade controls. Now, manufacturers worldwide are under political and competitive pressures to diversify their supply base, evaluate near or onshoring options to shorten supply chains, and increase proximity to both suppliers and customers.
Over the next years, we can expect to see multinational groups recalibrate their supply chain models. As multinational groups evaluate supply and distribution arrangements, they must also be mindful of the impact that these changes to existing structures can have on transfer pricing. For a start, multinational groups need to consider the functional and risk profiles and levels of profit for all links in their supply chains. Changes in intercompany pricing structures (and prices) may need to be made if risks shared by related companies within the group have shifted. For example, limited risk distributors or contract manufacturers which were risk-insulated pre-COVID might now assume greater risks and are therefore should also assume greater transfer pricing risk.
If COVID-19 lingers, travel restrictions may continue and longer-term changes to the location of decision-making personnel may be necessary. And even if COVID-19 ceases to be a threat, the changes in how and where global businesses are managed as a result of COVID-19 may persist. With greater regionalisation of both logistic hubs and management personnel, it will be important to re-assess group entities that make key business decisions within the Group and ensure commensurate remuneration of these entities.
Digitalisation of the supply chain
The pandemic has accelerated the process of digital transformation. The next-generation supply chain must be fully digital, delivering transparency and resilience needed for both businesses and consumers who demand to retrieve relevant information from any point and time. When employing new technologies, such as artificial intelligence and machine learning in the supply chain, multinational groups must consider DEMPE functions (development, exploitation, maintenance, protection and enhancement) undertaken by group entities and ensure the arm’s-length allocation of results deriving from these functions within the group.
With the boom in e-commerce, as individuals and companies procure online to minimise physical interactions, it also becomes crucial for multinational groups to review and align the remuneration of the overall supply chain based on the ‘new normal’.
In order to gain greater control over the taxation of its worldwide income in the face of the OECD’s proposed Pillar 1 measures, multinational groups may wish to create permanent establishments in those countries where they currently have a market presence but no physical presence. This would enable the use of traditional transfer pricing methods to determine the profit subject to tax instead of following the OECD’s proposal of having residual income taxed in those countries.
Multinational groups will have to work more effectively than ever to manage their supply chains in the rapidly changing environment due to COVID-19. This will require monitoring changes to the supply chain due to the pandemic and for many, it may involve rethinking supply chains to ensure future sustainability.
Whenever discussing business changes, tax should have a seat at the table to ensure holistic operational and tax solutions, cash mobility, alignment of results with economic substance, reduction of operating costs, optimisation of effective tax rates, acquisition integration, and alignment of tax with business structures.
Without a robust transfer pricing policy that fits with the company’s business model, multinational groups are at risk for transfer pricing adjustments and critical questions from the public. In order not to jeopardise their brand’s reputation, the group’s transfer pricing policy must be proactively managed in order to for multinational groups to rise to the challenge of keeping its policy in line with changes in the group’s business model. It will involve stakeholders from management, business and operations, finance, legal, tax and trade-compliance coming together to gather and evaluate information to plan the strategic and transfer pricing roadmap ahead.
Providing and executing on a holistic approach requires coordination from many different areas within an organisation and across multiple business lines. That’s why it’s imperative to follow a methodical process that allows you to understand the potential business models, tax savings, and operational lift to achieve your desired outcome. Throughout this process, we help clients identify their ‘areas of focus’, build detailed step plans and work plans to design an aligned future state structure, and implement the overall plan.
BDO has the capabilities to assist you in the journey of supply chain transformations to a post-COVID business model and sustainable transfer pricing strategy.
For more information, visit BDO’s service page for Global Value Chain or Global transfer pricing services, or get in touch with your local BDO contact.