Assigned Readings:
1. Chapter Three: Setting Up the Business
Sections: Organizing for Export Industry Approach through International Transfer Pricing (pp. 50-64)
ORGANIZING FOR EXPORT: INDUSTRY APPROACH
The Small Business Administration (SBA) states that, besides multi-
national firms such as General Motors or IBM, there are many small-scale
industries that export their output. For many of these companies, there are a
number of organizational issues that need to be addressed to achieve an
optimal allocation of resources. Some of the issues include (1) the level at
which export decisions should be made, (2) the need for a separate export
department, and (3), if the decision is made to establish a separate depart-
ment, its organization within the overall structure of the firm including co-
ordination and control of several activities. Such organizational issues
involve three related areas:
1. Subdivision of line operations based on certain fundamental compe-
tencies: This relates to functional (production, finance, etc.), product,
and geographical variables. A firm’s organizational structure is often
designed to fit its corporate strategy, which is in turn responsive to en-
vironmental realities (Albaum, Stradskov, and Duerr, 2002).
2. Centralization or decentralization of export tasks and functions:
Centralization is generally advantageous for firms with highly stan-
dardized products, product usage, buying behavior, and distribution
outlets. Advantages from centralization also tend to accrue to firms (1) with few customers and large multinational competitors, and
(2) with high R & D to sales ratio and rapid technological changes.
3. Coordination and control: Coordination and control of various activ-
ities among the various units of the organization is determined by the
information-sharing needsofcentral management andforeign units.
Conventional business literature suggests that the choice of organiza-
tional structure determines exportperformance. Thedevelopment offormal
structures becomes important as the firm grows in size and complexity as
well asto respond to internal and external changes. Theadoption offlexible
organizational structure can partly offset the disadvantage arising from for-
mal organizational structure (Enderwick and Ranayne, 2004).
A study by Beamish et al. (1999) shows that the organizational structure
within which a firm manages its exports has a significant impact on export
performance. It also suggests that management commitment to internation-
alize by establishing a separate export department increases firms’ export
performance.
Organizational Structures
An international company can organize its export-import department
along functional, product, market, or geographical lines. Some firms orga-
nize their international division at headquarters based on functional areas.
Under this arrangement, functional staff (marketing, finance, etc.), located
at the head office, serve all regions in their specialties. Such a structure is easy to supervise and provides access to specialized skills. However, it
could lead to coordination problems among various units as well as dupli-
cation oftasks and resources. Itisgenerally suitable forcompanies that pro-
duce standardized products during the early stages of international opera-
tions.
Organization of export operations along product lines is suitable for
firms with diversified product lines and extensive R & D activities. Under
this structure, product division managers become responsible for the produc-
tion and marketing of their respective product lines throughout the world.
Even though this structure poses limited coordination problems and pro-
motes cost efficiency in existing markets, it leads to duplication of resources
and facilities in various countries and inconsistencies in divisional activities
and procedures.
Organization along geographical lines is essentially based on the divi-
sion of foreign markets into regions that are, in turn, subdivided into areas/
subsidiaries. The regions are self-contained and obtain the necessary re-
sources for marketing and research. This structure is suitable for firms with
GENERAL PRINCIPLES OF TAXATION
The United States levies taxes on the worldwide income of its citizens,
residents, or business entities. The United States, the Netherlands, and Ger-
many are some of the few countries that impose taxes on the basis of world-
wide income; most other countries tax income only if it is earned within
their territorial borders. For U.S. tax purposes, an individual is considered a
U.S. resident if the person (1) has been issued a resident alien card (green
card), (2) has been physically present in the United States for 183 days or
more in the calendar year, or (3) meets the cumulative presence test: this
test may be metiftheforeign individual waspresent in theUnited Statesfor
at least 183 days for the three-year period ending in the current year. In es-
tablishing cumulative presence, days present in the current year are added
to one-third of the days present in the preceding year and one-sixth of the
days in the second preceding year. An alien is treated as a resident if the
total equals or exceeds 183 days.
Example of cumulative presence test: If Jim (a U.K. citizen) was in Cali-
fornia for sixty-six days in 2003, thirty-three days in 2004, and 162 days in
TAXATION OF EXPORT-IMPORT TRANSACTIONS
Taxation of U.S. Resident Aliens or Citizens
U.S. citizens and resident aliens are taxed on their worldwide income. In
general, the same rules apply irrespective of whether the income is earned
in the United States or abroad. Foreign tax credits are allowed against U.S.
tax liability to mitigate the effects of taxes by a foreign country on foreign
income. It also avoids double taxation of income earned by a U.S. citizen or
resident, first in a foreign country where the income is earned (foreign
source income) and in the United States. Such benefits are available mainly
to offset income taxes paid or accrued to a foreign country and may not ex-
ceed the total U.S. tax due on such income.
Taxation of Foreign Persons in the United States
(Nonresident Aliens, Branches, or Foreign Corporations)
Foreign firms use different channels when marketing their products in
the United States. They often commence to sell goods through independent
distributors until they gain sufficient resources and experience. As their ex-
port volume grows,they may wish to directly export to their U.S.customers
and market their products by having their employees occasionally travel to
the United States in order to contact potential clients, identify growing mar-
kets, ornegotiate sales contracts. Asthe company becomes moresuccessful
in the market, it may decide to establish abranch orsubsidiary in the United
States.
Foreign persons engaged in U.S. trade or business are subject to U.S.
taxation on the income that is “efficiently connected” with the conduct of
U.S. trade or business. This includes U.S.–source income derived by a non- Taxation of Controlled Foreign Corporations
A controlled foreign corporation (CFC)isaforeign corporation in which
U.S.shareholders ownmorethan 50 percent ofitsvoting stock ormorethan
50 percent of the value of its outstanding stock on any of the foreign corpo-
ration’stax year.Rules governing CFCsareconcerned with preventing U.S.
businesspersons from escaping high marginal tax rates in the United States
by operating through controlled corporations in a foreign country that im-
poses little or no tax. The parent company could sell goods or services to a
foreign subsidiary and manipulate prices so that most of the profits are allo-
cated to the subsidiary in a country that imposes little or no tax, thus avoid-
ing U.S. and foreign taxes. The CFC could also be used as a base company
to make sales outside its country of incorporation or as a holding company
to accumulate passive investment income such as interest, dividends, rent,
and royalties.
U.S. shareholders must report their share of CFC’s subpart F income
each year. Subpart F income includes foreign base company income (for-
eign base sales, services, shipping, and personal holding company income),
CFC’s income from insurance of U.S. and foreign risks, boycott-related in-
come and bribes, and other illegal payments.
A U.S. shareholder is subject to tax on the subpart F income only when
the foreign corporation is a CFC for at least thirty days during its tax year.
A U.S. shareholder of a CFC must then include his or her pro rata share of
the subpart F income as a deemed dividend that is distributed on the last
day of the CFC’s tax year or the last day on which CFC’s status is retained
(McDaniel, Ault, & Repetti, 1981; Ogley, 1995).
Example:Monaco corporation, located in Hong Kong, is a CFC owned
Taxation of Domestic International Sales Corporations
Taxation of domestic international sales Corporations (DISCs) is dis-
cussed in Chapter 15.
Deductions and Allowances
Export-import businesses may deduct ordinary and necessary expenses.
Ordinary and necessary expenses are defined by the Internal Revenue Ser-
vice as follows:
An ordinary expense is one that is common and accepted in your type
of business, trade, or profession. A necessary expense is one that is
helpful and appropriate for your trade, business, or profession. An ex-
pense does not have to be indispensable to be considered necessary.
(Internal Revenue Service, 1996a, p. 6)
