War on Want's Alliance Boots analysis found wanting

Posted by Christie Malry on November 29, 2013 at 12:39 am

War on Want has been busy today, putting the boot into Alliance Boots over perceptions of sketchy disclosure, related party transactions and profit-shifting. They have written a formal complaint to the OECD about the profit-shifting, arguing that it’s against OECD principles.

In response to a tweet, I had a look back at their earlier report, in which they claimed that Alliance Boots had dodged £1bn of tax over the last six years. And I had a look at their methodology for claiming this.

What I found is that their methodology is seriously flawed. The facts, quite simply, don’t stack up.

There are three problems:

1. The effective group tax rate is basically the UK tax rate

2. For War on Want to be right, virtually all profits from the last six years would have had to be earned in the UK.

3. The group simply isn’t that profitable in the first place

In more detail:

1. The effective group tax rate is basically the UK tax rate

Why would Alliance Boots dodge UK taxes? In order, one presumes, to pay taxes somewhere else instead at a lower rate. Otherwise, why bother? They could save themselves effort, time and money by just paying taxes in the UK.

Under financial reporting standard IAS 12, Income Taxes, companies must give a reconciliation between their expected tax rate, based on accounting profits, and the actual tax rate recorded in their accounts (current tax plus deferred tax). The expected rate can be calculated either based on a home country or on a blended rate that incorporates all the locations where they do business. And, lo and behold, Alliance Boots uses a blended rate that shows that their expected rate is 23.6%, virtually identical to the UK rate.

If War on Want were correct, and Alliance Boots was genuinely trying to shift profits from the UK to other countries, it would have an expected rate much lower than the UK rate. There are certain ‘non-taxable’ items in the tax reconciliation that include ‘non-taxable finance income’. Might these be the results of some clever wheeze to turn UK operating profits into ‘non-taxable finance income’? Even if all this item were in fact tax dodging, it’s only £47m this year and £36m last, so it’s well below the £167m that War on Want alleges has been dodged.

So we know that, whatever the motivation, Alliance Boots doesn’t seem to be attempting to shift vast amounts of profit from the UK to lower tax jurisdictions. Therefore, the idea that they are shifting profits from the UK simply doesn’t stack up.

2. For War on Want to be right, virtually all profits from the last six years would have had to be earned in the UK.

Alliance Boots has the following profits/(losses) before tax for the last six years (taken from their accounts for 2009, 2011 and 2013):

2008: (64)

2009: 13

2010: 460

2011: 637

2012: 688

2013: 837

For a total of £2,571m. If taxed at 24%, these would give rise to tax of £617m.

How can Alliance Boots have dodged £1bn of tax in the UK over that six year period then? It simply didn’t have profits to support tax avoidance to that scale.

3. The group simply isn’t that profitable in the first place

A similar, but slightly different point. War on Want claim that Alliance Boots’s UK corporation tax payments represent “only 56% of all the tax it paid” in 2013. But sales to UK customers comprise only about one third of group revenues (note 4, p80). So perhaps Alliance Boots is actually overpaying tax in the UK?

They also make a big deal about how Alliance Boots has sales of £22bn. But the fact is: the group simply isn’t that profitable. Its business is high quantity low margin products. We should celebrate the fact that this group can support the livelihoods of 108,000 employees across the world and enjoy its position as a stalwart on the high street. But we shouldn’t expect vast amounts of corporation tax. The group doesn’t have high profits to tax in the first place.

Elsewhere

Ben Saunders provides an explanation of why we shouldn’t get hung up about loan interest being deducted in the UK. There’s also an interesting comment from Andrew Jackson on why Ben might not be right.

As you might expect, Tim puts the boot in to War on Want as well. And also over at Forbes.

Quote of the day: the glorious foresight of Richard J Murphy

Posted by Christie Malry on November 17, 2013 at 1:02 pm

Asked to name five products manufactured and designed under collective ownership which are are widely known and respected for their quality of design and producation, their affordability and all round quality, Ritchie says:

Try the Cooperative Bank – which has not needed bailing out

Almost apologies and ad hominems

Posted by Christie Malry on November 9, 2013 at 12:28 pm

So today we get this from Ritchie:

His numbers work

Hooray! I win!

But then he had to spoil it all by saying something stupid like:

I never denied a reconciliation was possible

I'm not sure 8 out of 10 cats would agree with you there. Because in the original post, we had:

Now I can spot the £2,625m group operating profit that ties to the segment note in there. But can you find the £2,516 referred to on page 37? No, neither can I.

And is the tax charge on page 37 the same as the group P & L? Not unless £1,169m is now the same as £1,110m.

...

I also wonder how the auditors did not spot the difference either.

Which looks rather to me like someone who's saying that Centrica and their auditors have goofed rather than merely it's misleading.

His apology continues:

My point it is absurd to publish numbers that few could reconcile

Well, Ritchie might have a point here. Except it's really quite a weak point because Centrica actually produce a reconciliation of adjusted operating profit per their segment analysis to statutory operating profit in Note 4(b) to their accounts. They didn't reconcile the exact numbers Ritchie was looking for, but there is a clear link between the segment basis and the statutory basis.

And because this is in the notes to the accounts, it's audited.

The note is called "Segmental analysis" so anyone who wanted further clarification on where the numbers had come from ought to be able to find it quickly. And in a PDF you can always search for a particular word, or even a number, to find what you're looking for quickly.

It's the sort of due diligence someone throwing around accusations like "I also wonder how the auditors did not spot the difference" ought to have done before posting.

Elsewhere, Ritchie comments:

The comment was not an ad hominem, it was an observation of fact

Actually, it was an ad hominem. An ad hominem is a logical fallacy that occurs when one party refuses to engage in a debate about the facts and derivation from those facts but instead makes a comment about the other party. Even if the comments that he has made are true (and I don't think they are, but YMMV), it's still an ad hominem, because he's chosen to ignore criticisms of his own method and comment only on the other person's character.

Given that my argument didn't depend at all on my character, this is not a particularly effective way to respond to a challenge to his original post.

And nor do I for a moment accept I made a mistake

It doesn't matter any more whether Ritchie accepts whether he made a mistake. It's blindingly obvious that he did.

As apologies go, it's pretty weak. Best try again, eh?

Ritchie's broken promise and another accounting howler

Posted by Christie Malry on November 7, 2013 at 10:01 pm

Ritchie yesterday:

But I promise – if Centrica want to tell me where I’ve gone wrong and why someone should spend several hours trying to answer such a fair question from their accounts, I’m more than happy to publish the explanation. But right now I also wonder how the auditors did not spot the difference either. But that’s another issue.

Ritchie today, on being asked whether he'll respond to my blog post or admit he was wrong:

I do not respond to anyone who breaches almost every rule on professional ethics ever written

So his promises aren't worth jack shit. Whether I have broken almost every rule on professional ethics is by the by. All that matters is that I demonstrated in that blog post where he had gone wrong. So now he owes Centrica and PwC an apology.

Should he at some point come to his senses, the senior statutory auditor on Centrica is Charles Bowman, who can be reached at  charles.bowman [at] uk.pwc.com. Although I'm sure he'd prefer any apology to be made publicly on Ritchie's blog. Ball's in your court, Ritchie.

Anyway, Ritchie made another claim yesterday which again betrayed his complete lack of accounting expertise. He said:

Nor do I think its IFRS8 segment reporting is complete because I think it should be reporting the UK as a segment as it clearly has data for the country as a whole.

And the result of all this is that I think my claim is more than justified having spent some more time looking at this today.

And he quotes vast chunks of IFRS 8 to support his claim.

Unfortunately, Ritchie quotes  but fails to appreciate the significance of a part of IFRS 8.2. And that's the fact that all that matters for determining whether something is an operating segment is whether the Chief Operating Decision Maker sees it. If the CODM receives multiple dimensions, say in a matrix structure, then the company must exercise judgement to determine which segmentation best meets the requirements of IFRS 8.

Of course Centrica has data for the UK as a whole. But either the CODM doesn't see it regularly or he's using other data to run the business. Because otherwise there's no way the auditors would have been able to sign off the IFRS 8 disclosures.

You'd expect a chartered accountant to know this, or at least to realise that he doesn't have the expertise to be commenting and therefore to keep quiet about it.

[Edited 9/11 to fix typo in final paragraph. Thanks to MT]

Revisionist history on accounting for stock options

Posted by Christie Malry on November 7, 2013 at 7:43 am

If you're gonna lie, lie big:

Unfortunately, in 2006, FASB responded to political pressure and muddied its previously-correct position. Starting it 2006, FASB required companies to book an expense in calculating profits reported to shareholders for the estimated future value of stock options to their recipients. This new book write-off is calculated when the options are issued, well before the true value at exercise can possibly be known. Not surprisingly (since corporations want to report high profits to their shareholders), these book write-off estimates are always wrong, and are generally much lower than the tax-deductible amount.

This is appalling revisionism. The CTJ is presenting its campaign to abolish the corporate tax deduction for stock options as being "on the side of the FASB".

This is an utter lie. The FASB has wanted expenses for stock options since the mid 1990s (and probably before that too). The FASB's attempt to introduce stock option expensing at fair value (in SFAS No. 123) failed because of lobbying by corporate interests.

It's daft to suggest that the FASB changed its mind only because of "political pressure". It had wanted it for ages, and it was only political pressure that stopped it from happening. In 2006, the IASB was introducing its own version of a standard that would require stock options to be expensed, so the game was truly up for the lobbyists.

For more on the history of stock option expensing and political lobbying, read this excellent article by Stephen Zeff (scroll to 1995 and 2004).

Then put this rubbish from CTJ in the bin, where it belongs.

(By the way, the reason the book and tax amounts differ is because they're calculated on totally different bases. Generally speaking, the book amount is the option value at the date of grant, whereas the tax amount is calculated on the gain realised by the employee. Of course, we only know the latter at the date of exercise, whereas we want to calculate the option value at the date of grant. More fuzzy thinking from the CTJ here).

This is why Ritchie needs to stay away from accounting

Posted by Christie Malry on November 6, 2013 at 7:53 pm

Everything he touches turns to pwned. This time he's fretting because he can't understand Centrica's accounts:

Now I can spot the £2,625m group operating profit that ties to the segment note in there. But can you find the £2,516 referred to on page 37? No, neither can I

Actually I can. Because I understand IFRS and because I bothered to read the accounts in more detail. The reconciliation between statutory profit and adjusted profit is given in the accounts (p87, note 4b). And here's how the £2,516 reconciles to the statutory figures:

Centrica. Ritchie really is a thickie (2)

Centrica explains what it does to adjust its statutory profit in note 1 of its accounts (p82). So we know that we need to remove exceptional items, certain remeasurements and the depreciation from the fair value uplift on revalued PPE. They're also kind enough to explain that they split out the profit component of its share of associates.

A little background is needed here. An associate company is one in which the parent company holds a significant, but not controlling, interest. Typically the parent owns something like 30% of the company and has appointed a director to the board. Because they don't have a controlling interest, it would be misleading to consolidate the results into the group accounts. Instead, under IAS 28, the parent includes its share of the profit after tax and interest as a single line item within group operating profit.

Yes, this is a bit weird. Because it means the associate's tax expense and interest cost are included above the line in the group accounts. I've complained about this before (it makes Vodafone's group tax charge look low). Centrica's adjusted profit figure excludes the interest and tax component altogether so they need to be added back to the adjusted figure to arrive at the statutory profit number.

Ritchie was, you'll note, trying to compare a post-interest non-GAAP figure to a statutory pre-interest figure. No wonder he was struggling to make it work.

The rest of it is just adding back items that were excluded in the adjusted figure, such as depreciation on FV uplifts.

And there's more:

And is the tax charge on page 37 the same as the group P & L? Not unless £1,169m is now the same as £1,110m.

This one's even easier:

Centrica. Ritchie really is a thickie (1)

Again, the adjusted tax charge includes the associate's tax whereas the statutory tax charge does not (because it's in the line item for share of profits in JVs). We must also adjust for the tax impact of fair value uplifts, as before.

And that's it. This is the man that goes into rants about how companies need to be forced to disclose more information in their accounts. But when presented with a set of statutory accounts, he demonstrates time and time again that he's incapable of understanding the information that's already there.

Can we rescind his ICAEW membership yet?

Clearing out the opposition and then blocking their ears to reality

Posted by Christie Malry on October 29, 2013 at 8:45 am

Ritchie today.

And, indeed, every day.

Posted from WordPress for Android. Post may be amended or reformatted later.

Richard Murphy got it wrong over tax evasion in Switzerland

Posted by Christie Malry on October 29, 2013 at 7:29 am

Ritchie is doing his best to defend his overblown claims about the amount of money that UK residents have stashed in Swiss bank accounts. As Tim points out, it's pretty obvious that he simply got his figures wrong, and all this sound and fury is an attempt to obscure that. It's a tale told by an idiot.

Yet Ritchie's protestations don't even make any sense. He's arguing both that the government has been way too lenient and that no money has been raised. Now government might have been really lenient and raised a massive amount of money. Then it might have been possible to argue that, had they been harsher, they could have raised more. Alternatively, government might have been really harsh and raised a small amount of money. Then it might have been possible to argue that there's still lots of money stashed offshore and that government simply isn't dealing with it.

But Ritchie's version? That government has both been lenient and could have raised more? It's utter gibberish.

And it really makes you wonder about his claim today that only he can be right about the tax gap.

The scope of the audit report

Posted by Christie Malry on October 26, 2013 at 10:02 pm

Ritchie wants to reduce the quantity of information provided in financial accounts and he has a plan to do that:

I have always argued the data should be and needs to be in readable and downloadable format online and not in printed accounts but covered by the audit report

A link would be enough

The auditor could be protected by them having control of the file once published

And I am arguing for a report per country – not per subsidiary

This is just a terrible idea. Auditors must have a clear scope for what they're going to responsible for. Farming information onto a website doesn't protect them. Firstly, how can the auditor have control over a file that's on somebody else's website? By PGP signing? Secondly, how can the auditors protect themselves from extra information being added to their 'section' of the website?

Alternatively, I suppose, auditors' liability could be capped. But I doubt that's what he's asking for.

Reasons to oppose country by country reporting

Posted by Christie Malry on October 26, 2013 at 9:40 pm

Ritchie's still banging on about country by country reporting:

There is, of course, no surprise in this apparently co-ordinated response from big business.  Country-by-country reporting deliberately holds global business to account locally (I know; I designed it). They don’t like or want that for three reasons.

And none of the three reasons he gives is right. The main reason to oppose country by country reporting, as I've pointed out here before, is that it is stupid.

If it was relatively cheap to implement it might be considered harmless. But it's going to cost a fortune to prepare and its information won't be helpful to anyone.