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Chinese Private Equity: A Paradigm Shift by Jay Tannon
Roughly half of the world GDP and two-thirds of world company market value has resided in North America and Europe for decades. But, India and East Asia will likely account for a similar share within the next 25 years. Given the widely acknowledged demographic, socioeconomic and geopolitical trends, relative world GDP and global market capitalization, China will undergo dramatic shifts during the careers of those reading this article.
Tom Friedman’s “World is Flat” observation and The Economist’s recent reference to “Great Wall Street” running the global economy reflect a paradigm shift. This is not to suggest a decline in performance or wealth of Western economies. It simply recognizes that India, China and other economic centers present enormous market opportunities. Clever Western private equity funds have already identified these trends and are making India and East Asia a meaningful part of their investment and portfolio development strategies.
Nowhere is this more evident than the People’s Republic of China or “PRC.” The balance of this article will focus on the rapid development of private equity funds in China and special challenges for Western private equity funds operating in China.
Soaring Fund Activity In the first half of 2005 alone, 39 private equity firms raised China-focused funds. Chinese private equity funds under management rose from approximately $250 million in 2002 to $2 billion in 2004. China received more than $60 billion in foreign direct investment during 2004. Similarly, North American-sponsored business acquisitions in China have soared from less than $500 million in 2002 to over $5.4 billion in 2004.
Western market leaders in private equity such as Carlyle, Bain and Blackstone have dramatically increased their China-centered private equity funds. Goldman Sachs, Morgan Stanley and Warburg Pincus recently completed successful exits on high profile Chinese private equity investments. Asian investment is becoming a prime focus for these flagship private equity funds and many others.
Innovative investment firms like American Capital are even hiring specialists to coach Western portfolio companies on integrating China into their business strategies through either sourcing, joint ventures or business acquisitions. Intermediaries like R.W. Baird, historically directed toward transatlantic activity, are focusing aggressively on developing China strategies for U.S. and other Western mid-market companies.
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Chinese Barriers, But No Great Wall Private Equity: With this dramatic surge in interest and investment are the barriers to Western investors dissipating? A Paradigm The most successful investors will have Chinese partners and physical operations in the PRC employing Shift carefully selected Chinese nationals. Beyond the normal challenges of finding qualified investment (continued) opportunities and management, Chinese private equity initiatives face special challenges of exchange controls, lack of transparency, lack of respect for intellectual property rights, and uncertain enforcement of contracts. Risks of overcapacity or an overheated Chinese economy could also undermine investments. Finally, recent Chinese governmental pronouncements further obscure the investment horizon.
Circular 11 Adverse administrative changes affecting foreign private equity are illustrated in Circulars 11 and 29. Both are aimed at reducing evasion of PRC exchange control and taxation, but could have nettlesome effects on PRC private equity investment. On January 24, 2005, the State Administration of Foreign Exchange (“SAFE”) issued a notice addressing administration of foreign exchange for business transactions involving foreign investors. This is generally referred to as Circular 11. Among other features, Circular 11 requires Chinese residents to obtain SAFE approval before engaging in foreign business transactions. Specifically, “No onshore resident may establish or control an offshore company, either directly or indirectly, without the approval of SAFE.”
This ruling could disrupt foreign equity investment in China, because foreign private equity investors have invested in China projects through offshore companies run at least in part by Chinese citizens. The Bahamas, Bermuda, and especially the Caymans, have been the most popular jurisdictions for these offshore companies. The offshore companies in turn typically establish one or more Chinese subsidiaries, known as foreign invested enterprises or “FIEs,” as operating companies. There have been two approaches to this structure.
In one approach, the Chinese citizen(s) would organize an offshore company, and foreign investors would invest in that company. In the second, the foreign investor would organize and fund an offshore company, and either Chinese citizens or a Chinese company would acquire some portion of the offshore entity.
Having an offshore parent company has enabled foreign investors to operate largely without fear of Chinese investment restrictions, while benefiting from having Chinese partners, simplified corporate governance and easier exit strategies. Chinese authorities, however, are concerned about the sale of FIE-related offshore assets or equity interests escaping PRC exchange control and taxation.
Under Circular 11, Chinese entrepreneurs and their Western private equity partners may no longer engage in these transactions without SAFE approval. Centralized approval in Beijing means inevitable delays and it is unclear what approach will secure that approval.
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Chinese Circular 29 Private Equity: On April 21, 2005, SAFE issued Circular 29, ostensibly “clarifying” Circular 11 but actually casting a longer A Paradigm shadow on the Chinese private equity community. This circular makes it easier for the government to monitor Shift the capital gains of Chinese entrepreneurs. Circular 29 states that all Chinese citizens holding shares in (continued) foreign companies must carry out certain SAFE registration procedures, as well as declare their offshore transactions with, and receive approval from, Chinese authorities. Investors must remit all capital gains from any offshore transactions involving a sale of shares within 30 days of closing. Circular 29 also requires FIEs to disclose “in detail” the identity of their ultimate shareholder and the nature of their business. Although Circular 29 has the legitimate goal of reducing exchange control and tax evasion, heightened scrutiny by Chinese authorities could hamper transactions between Chinese entrepreneurs and foreign investors.
Western private equity funds and their Chinese partners will experience a continually evolving investment landscape, with the current Circulars and the regulations yet to come.
Despite these challenges, the race to build successful global private equity firms continues virtually unabated. Whether in North America or Europe, leading venture and buyout funds are concluding that the People’s Republic of China must be part of their global investment strategy to achieve the greatest returns for their investors. The sustained opening of the Chinese market, its scale, and rising levels of consumption within China make the potential rewards far too attractive to resist.
Many Western investors are coming to appreciate the Chinese adage: “If we fail to reach the Great Wall, we are no heroes.” Just expect to encounter a few obstacles while on that noble journey.
...... 1 Barrington China Report, Vol. 1, No. 1. 2 Tim LeMaster, “Roadblocks Slow Private Equity Industry,” The Standard (China), May 23, 2005. 3 South China Morning Post, February 14, 2005 and June 25, 2005, reporting information from the PRC Ministry of Commerce. OECD reported a lower figure of $54.9 billion. 4 Zack Dong, National Symposium on M&A in China, American Conference Institute, May 31, 2005. 5 Asia Private Equity News, September 7, 2005. 6 Jerry Borrell, “New Laws Slow Chinese Deal Making,” Venture Capital Journal, August 1, 2005 (“Borrell”). 7 Article 2 of Circular 11. 8 “Rules of the Game,” Asian Private Equity Review, June 1, 2005, and Borrell. 9 Article 5 of Circular 29; see also “Foreign Investment Stalls in China,” Daily Deal, May 4, 2005.
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European Community Design Registration by Louisa Copeman
Most people are aware of the importance of filing trademarks in order to protect their intellectual property rights and their brand. Many are not as familiar with registered design rights and the importance they can play in protecting intellectual property rights and brands.
The Registered Community Design System Until recently, design protection in the European Union consisted of a number of different national laws in each member state, each of which offered different levels of protection in that state. In April 2003, the Registered Community Design System introduced a new type of intellectual property right for protecting designs and logos, which brought together rights and characteristics throughout the European Union. This new right is already proving popular, with approximately sixty thousand applications so far. It’s also efficient, taking only three months to register, regardless of how complex or stylized the design.
What can be protected A “design” is defined very broadly as “the appearance of the whole or a part of a product resulting from the features of, and in particular, the lines, materials, colors, contours, shapes, texture and ornamentation of the product”. What this means is that a design which is part of the logo, the “house style” or the general “look and feel” of a business can be registered. That registration will protect the use of the design. There is clearly an overlap with trademark protection, and this in no way replaces trademark protection. But, it is perhaps a valuable alternative or ally, depending on the design, the budget and the protection required.
Advantage over national applications Like the European Community Trademark, the Registered Community Design System allows an applicant to file one design application and, providing the application is successful, register a design across the entire European Community. They can do this at a fraction of the cost of applying for the design nationally in each country in the European Community. Since May 1, 2004 the European Community has added another ten countries, for a total of twenty-five countries.
Unregistered Community Design Unregistered Community Designs are also new and provide short-term protection within the EU against the copying of a design. “Copying” requires the infringer to have knowledge of the protected design but does not mean that protection is limited to an exact copy. Unregistered Community Design lasts for a period of
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European three years from the date the design was first made available to the public in the EU. If the design was first Community made available outside the EU, this may preclude protection. Unregistered Community Design differs from Design Registered Community Design in two crucial respects: the Registered Community Design provides a much Registration stronger right in that it affords the holder a monopoly over that design, and it easily provides protection to (continued) companies not based in Europe.
Rights granted by a Registered Community Design The Registered Community Design may offer a greater monopoly right than the Community Trade Mark. A Registered Community Design provides its holder the exclusive right to use the design and to prevent the making, offering, putting on the market, importing, exporting, using or stocking for such purposes by others of products incorporating the design. This right provides protection regardless of the class for which the design is registered. A Community Trade Mark, on the other hand, provides protection to the extent that an infringing trade mark is either identical or similar and for identical or similar goods. Also, a Community Trade Mark generally only provides protection for specific classes of goods.
The basic registration fee (including both application and publication fee) for the first design is €350, with lower fees for further designs being registered at the same time.
An unlimited number of designs for two-dimensional ornamentation (e.g., a logo trademark) may be included in a single application. That way a single application can apply to one or more products, their packaging and the trademarks applied to them.
Requirement for protection As with any national design registration system, there is a requirement for obtaining protection of a design. It must be novel, meaning no identical design has been made available to the public, and of “individual character”, meaning the design doesn’t bring to mind any existing design. Further exclusions to registration, including a prohibition on registering designs for non-visible parts and products which are incorporated into another product, will only be protected if they are visible once incorporated.
Length and extent of protection Each registered community design is protected for up to a maximum of twenty-five years from the date of filing. Registration provides protection for a period of five years from the date of filing, but can be renewed up to four times. A Registered Community Design allows the rights holder to prevent third parties from copying its design, and prevents a third party from using any design that is independently created. The latter applies only if it can be shown that the later design is identical to or creates the same “overall impression” as the earlier registered design. To avoid losing a competitive advantage, applicants for a registered community design are able to delay publication of their design for thirty months, so designs can be kept secret until they are put on the market.
Community Designs registered so far have included typefaces, cartoon characters, flow charts (under the guise of teaching material), containers, shapes, labels and logos.
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European Case law illustrating the importance of Community Designs Community Mattel Inc v (1) Woolbro Ltd (Distributors) (2)Simba-Toys Ltd (Hong Kong) (3) Simba-Toys GmbH & Co KG Design [unreported, Oct 2003] Registration (continued) The case of Mattel v. Simba highlights a particular advantage of a Registered Community Design Right. This case illustrates the possibility of obtaining an injunction against infringement valid throughout the European Community in one infringement action. This infringement claim was in the world of fashion dolls. The claimant is a well-known manufacturer of toys, including a range of dolls, sold under a variety of names including “Barbie.” In July 2003, Mattel started proceedings against dolls designed by the Hong Kong subsidiary of the German Company Simba, under the trademark “My Style.” The “My Style” dolls had a number of marked similarities to Mattel’s trademark “My Scene” dolls, including head shape, face paint and overall appearance. A three-dimensional scan of the dolls’ heads also showed the “My Style” head was very similar to the “My Scene” dolls’ heads. The claimant contacted distributors to receive brochures and samples. In the face of the evidence, the claimant obtained a comprehensive order, including a declaration that the “My Style” dolls were infringing goods.
There has been no judicial interpretation since the defendants withdrew their defense and submitted to judgment. Nonetheless, this case shows the importance of European Community Design rights—the court ordered Simba to stop manufacturing, distributing and selling the “My Style” dolls in all countries of the European Community. Simba was also ordered to request the return of any stocks of “My Style” dolls from its retailers and other customers, as well as additional infringing products, such as brochures. The court also awarded costs and damages to Mattel.
Comparative time and cost of European Community Trademark Registration and European Community Design Registration
Official Fees ● The official fees for registration and publication of a European Community Design are $455.
● The official fees for filing and registration of a European Community Trademark are $2,700.
Time Estimate to Grant ● The approximate time for prosecution of a European Community Design is between 3-12 months.
● The approximate time for prosecution of a European Community Trademark is 18 months (assuming no opposition).
10 EU countries currently include: Austria; Belgium; Cyprus; Czech Republic; Denmark; Estonia; Finland; France; Germany; Greece; Hungary; Ireland; Italy; Latvia; Lithuania; Luxembourg; Malta; The Netherlands; Poland; Portugal; Slovakia; Slovenia; Spain; Sweden; United Kingdom.
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Radio Frequency Identification (RFID) Technology Implications for Privacy in Europe by Cynthia O’Donoghue
Radio frequency identification (“RFID”) is on the verge of revolutionizing logistics, supply chain management and retail payments; but it may also allow surreptitious collection of personal data: details about consumer behavior, such as the clothes people wear and medicines they take. Developers and deployers of RFID technology need to ensure they don’t inadvertently overlook protection and privacy laws.
Introduction RFID is an automatic identification technology permitting computers to “read” products fitted with “tags.” While RFID has been used in military applications for decades, it is only now becoming popular in the retail, transport and aviation industries.
The Technology RFID allows data to be read through radio waves emitted from a tag embedded in or attached to a product. The tags generally contain a microchip attached to an antenna, which picks up signals from and sends signals to a reader. The reader, or “interrogator”, sends out a radio frequency signal and tags within range respond. Intelligent readers can filter data, execute commands and perform functions similar to a PC. Depending on the type of tag (passive, semi-passive or active), a reader can detect signals over 300 feet (100 meters) away.
RFID tags come in three basic types: a passive tag does not have its own power source or transmitter and is only “turned on” when a reader is within range; a battery-assisted tag or semi-passive tag has a power source embedded in it and, therefore, a longer read range for reflecting information back to a reader; and active tags have a power source and transmitters to send information to readers.
Memory-enabled RFID tags can store a vast quantity of information, including date of manufacture; time spent in transit; location of distribution center holding the item; name of last person to handle the item; amount for which the item was sold; payment method used in buying the item; expiration date; last date of service; and warranty period. It can also store the profile of the consumer who purchased the product. RFID has the potential to generate huge volumes of very useful data across the whole product life cycle. Some RFID tags also have the ability to retain information for 10 years or more.
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Radio Implementing RFID Frequency RFID can deliver real benefits, such as: Identification (RFID) ● Gillette and Wal-Mart have run trials using specially designed shelves to permit real-time tracking of Technology inventory levels. Implications for Privacy in ● The European Central Bank is reviewing the tagging of Euro banknotes, allowing information to be Europe recorded about each transaction that involves a banknote. (continued) ● A Singapore hospital is rolling out a tracking system for its A&E department following a Severe Acute Respiratory Syndrome (SARS) alarm. The hospital issues all patients, staff and visitors with a card containing an RFID chip. If anyone is diagnosed with SARS, the hospital then has a record of all individuals with whom the infected person may have had contact.
● The US Food & Drug Administration has authorized the injection of an RFID tag, containing the medical file of the patient, under a person’s skin for use in emergency situations. The tag contains the medical file index of the patient.
● Retailers in particular are leading the rollout of RFID. It is being used on sale merchandise (tagging goods for sale, cases containing the items, and/or pallets in which goods are transported); on the retail- er’s own property such as shopping trolleys, computers and other movable items; on wireless telecom- munications devices such as mobile phones; and even to track people (customers and employees) by tagging loyalty cards, staff name badges and uniforms.
Privacy Concerns While some uses of RFID technology do not give rise to data protection and privacy concerns, many do. In addition to such concerns, RFID technology may be open to abuse due to its relatively low cost and availability to third parties. By collecting and processing data, companies could create profiles on individual consumers detailing income, buying habits, health, travel patterns and lifestyle, which are of use to both themselves and third parties.
Data protection and privacy implications arise in four areas:
● the collection of information linked to personal data (e.g., retailers linking sales data from tagged products to a loyalty card or bank card database);
● monitoring consumer purchases and, by association, the individual (e.g., tagging shopping carts to monitor buying patterns and habits);
● storing personal data on tags (e.g., rail tickets or airline baggage) which can then be scanned by any person with a suitable reader; and
● surreptitious and unauthorized scanning of RFID tags (e.g., using a reader to find out the nationality of a person from their RIFD-enabled passport).
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Radio Data Protection Frequency Application of the European data protection directive (“DPD”) to RFID technology depends on whether Identification personal data will be collected and processed after an item is tagged. Thus, each of the four scenarios above (RFID) may trigger application of the DPD. Technology Implications The DPD broadly defines personal data as data relating to a living individual identifiable from that data or for Privacy in from other information available to the data controller, including expressions of opinion about the individual Europe (continued) or another in respect of the individual.
The DPD applies wherever personal data is processed. Arguably personal data can be processed on the RFID tag, and this means that deployers of RFID systems need to consider the data protection laws in each country in which their tags could be used.
Where RFID tags are used in connection with personal data, the DPD will require the deployer to display prominent notices that RFID tags are being used. In most cases, the deployers of RFID technology must also obtain the consent of individuals whose personal data is being collected and processed from the RFID tag. In certain instances, notice and consent may be insufficient without the deployer also informing an individual about how to discard, disable or remove the tag, or even how to access the information.
In addition, deployers will have to assess whether the collecting or processing of personal data is necessary to their legitimate business interests, which cannot unfairly prejudice an individual’s interests. Deployers must also identify the minimum amount of information required to fulfill that purpose.
The DPD also requires that personal data must be kept secure and must not be kept for longer than necessary. One of the significant risks/benefits of RFID technology may be for a deployer in retail premises to determine which items a customer has in their shopping bag that were purchased elsewhere. Such information has a significant commercial value but will be a breach of the DPD unless the individual’s consent is obtained or the data is separated from the point of sale data and made truly anonymous.
Further under the DPD, deployers are required to keep personal data no longer than reasonably necessary. RFID tags, however, can have a lifespan of 10 years or longer and once out of range of a reader, some tags are not able to delete the data they contain. Deployers must ensure that this issue is considered carefully as part of their implementation.
Deployers of RFID technology must have robust security measures to ensure against unauthorised use, loss, destruction or damage of the data and may have to invest in various types of blocker tags, which either encrypt or shield data from unauthorized third-party use. As RFID technology may be used globally to track a supply chain, deployers of the technology will have to ensure that any processing of data outside the European Economic Area (“EEA”) has adequate protections. This may cause obstacles for those multinationals that wish to share such data on a global basis, and they may need to seek explicit consent of the individual before they can do so.
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Radio The Privacy and Electronic Communications (EC Directive) Regulations of 2003 were drafted in a technology- Frequency neutral manner to cover fast-changing technologies. Under the Regulations electronic communications Identification traffic data and location data may only be processed where it is made anonymous or with the consent of (RFID) the individual. Where consent is required, an individual must be provided with information pertaining to the Technology intended use of the location data, including whether the data will be transmitted to a third party, and an Implications opportunity to withdraw consent. While the Regulations address direct marketing over telecommunications for Privacy in networks, they also apply to cookies or similar devices and may apply to RFID technology when a tag is Europe considered terminal equipment. (continued)
European Initiatives An influential working party within the European Commission recently considered RFID technology and data protection issues. The working party raised concerns that certain uses of RFID technology violated data protection rights and provided businesses and governments the ability to pry into individuals’ privacy. The working party consulted interested parties regarding RFID technology and issued guidance to RFID deployers, manufacturers and international standardization bodies on the application of the Directives on data protection and privacy and electronic communications to RFID.
As RFID technology can be used to collect information directly or indirectly linked to a person, the working party found that widespread deployment of RFID would cause a boost in the type and number of data processed by a wide variety of data controllers. Additional concern was raised about the storage of personal data in RFID tags, because a standard reader would be able to detect personal data, leading to third parties surreptitiously obtaining information about individuals. This in turn could lead to decisions about an individual’s income, health, lifestyle or buying habits being made without that person’s informed consent. This is possible because individuals could be identified at an associative level from the quantity of information surrounding or stored about them. The gathering of both associative data and direct data is covered by the Directives.
The Guidelines address each of the data protection principles and suggest that consent from individuals to the use of RFID technology will be the only legal ground to ensure compliance with the data protection principles in the Directive. The Guidelines also suggest consent may not always be consistent with the vital interests of the patient, such as when a hospital uses RFID technology to eliminate the risk of leaving surgical instruments inside a patient post-surgery.
Notice to consumers should include the presence of RFID tags on products, the consequences of the data gathered, the intended use of the data gathered and whether it will be shared with third parties. Individuals must be given the right to check the accuracy of the data and to make corrections. It is incumbent upon manufacturers and deployers of RFID technology to provide and implement appropriate technical and organization measures to ensure personal data is protected against accidental or unlawful destruction or unauthorized disclosure. Technical measures can include temporal disability, physical removal of the tag, the overwriting or scrambling of data transmission from the tag—even physical shielding of the tag from readers. Alternatively, consumers should be able to deactivate the tag should they wish to do so and retract their consent by disabling the tag.
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Radio The difficulties for deployers of RFID come in administering various security measures, notice and consent, Frequency ensuring data accuracy, providing individuals with rights of access and the opportunity to correct personal Identification data. Alternatively, deactivation and physical shielding of tags shift the burden to individuals, who then (RFID) become responsible for preventing the tag from disclosing information. The working party found the Technology most secure approach was for RFID deployers to issue standard authorization protocols approved by the Implications International Organization of Standardization, e.g., ISO 9798. for Privacy in Europe (continued) Summary Deployers and manufacturers of RFID technology need to be aware of data protection and privacy implications. Legislation will require deployers to give adequate notice to consumers about the specific and intended uses of any personal data processed. Deployers will have to allow individuals to consent to the use of personal data and give them rights of access to correct any errors. Deployers will also have to prevent the surreptitious reading of tags by third parties. The E-Privacy Regulations may add an additional administrative burden in relation to processing location data.
The EU working party guidelines contain useful information on how certain uses of RFID may fall afoul of data protection and privacy directives. They also suggest various technical and operational methods of protecting personal data read from tags while acknowledging that the global interoperability of RFID technology is positive for industry deployers.
11 Directive 95/46/EC on the protection of individuals with regard to the processing of personal data and on the free movement of such data. 12 Article 2 (a). “Personal data shall mean any information relating to an identified or identifiable natural person [being one] who can be identified, directly or indirectly, in particular by reference to an identification number or to one or more factors specific to his physi- cal, physiological, mental, economic, cultural or social identity.” 13 DPD compliance obligations are more onerous for processing “sensitive personal data”, which includes racial or ethnic origin, politi- cal opinions, religious or other beliefs, trade union membership, physical or mental health, sexual orientation, or criminal proceedings or convictions. 14 Under the Regulations, location data is any data processed in an electronic communications network indicating geographic location of a user of a public electronic communications service. 15 Article 29 Data Protection Working Party – Working document on data protection issues related to RFID technology (January 19, 2005). http://www.europa.eu.int/comm/internal_market/privacy/docs/wpdocs/2005/wp105_en.pdf. 16 Directive 95/46/EC 24 October 1995 and Directive 2002/58/EC 12 July 2002, respectively.
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Offshoring to India—The FSA’s Current View by Tim Wright and Warwick Anderson
The Financial Services Authority (“FSA”), the regulator of the UK’s financial services sector, has completed its investigation into offshoring to India by regulated financial services firms. The report is based on visits made by the FSA to ten Indian suppliers at the end of 2004, data gathered from five additional Indian suppliers, and visits made to regulated firms in the UK. India was chosen because it is currently one of the main destinations for offshoring by some of the UK’s largest regulated entities. To get the report, “Offshore Operations: Industry Feedback,” visit www.fsa.gov.uk.
Summary The main objective of the FSA’s investigation was to examine the degree to which offshoring can contribute a material risk to the FSA’s statutory objectives of maintaining market confidence, reducing financial crime and protecting consumers. The FSA concluded that offshoring overall can contribute a material risk to these objectives, but the report is generally upbeat about the benefits that can be derived from offshoring and the manner in which offshoring risks are being monitored and mitigated by regulated firms.
Some Key Findings The FSA looked at how regulated firms manage risks arising from offshoring and how the risks identified are evolving. The FSA’s key observations are as follows:
● Staff Attrition—Although staff turnover levels in India are high, they are comparable to those in the UK for some activities, and differ depending on factors such as the method of entry chosen (captive or out- sourced) and the type of processes offshored. Methods to manage attrition risk include company and industry-wide staff motivation programs. It was found that firms had also factored attribution risk into their recruitment and training capabilities.
● Business Continuity Planning—The market for warm sites (i.e., disaster recovery sites that only require the addition of personnel to make them active) in India is non-existent due to the high cost of buildings and office space relative to the cost of labor (the opposite of the situation in the UK). Firms have therefore developed alternative strategies, including repatriation and joint sites developed with other customers/ suppliers. All suppliers had formal oversight structures designed to reduce the risks stemming from long distance management and control. Also, firms have attempted to build an appropriate level of redundancy into their Indian operations, By retaining data storage and major systems outside India, and passing data there as required for processing, they have tried to keep the capacity to continue to provide service in the event of a disaster. However, the FSA warned that as processes ramp up and new processes are migrated offshore, firms must increasingly monitor business disruption risk and develop mitigation strategies and plans.
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Offshoring Other Points of Interest to India— The FSA’s Security Current View The FSA found a “high level” of security at the supplier sites visited. Suppliers operated swipe card systems, (continued) with further restrictions on access to individual floors and client-specific areas. Access to confidential areas was controlled and the suppliers had procedures to cover key security risk areas. For example, staff were prohibited from taking cameras, mobile phones etc. to their work stations; bags were either banned or searched; and desktop computers were “dumb” with no hard drives or internet/email access. Printers are provided only to senior staff. The FSA concluded there was no evidence to suggest that consumer data was at greater risk in India than in the UK.
Relationship Management and Oversight A firm cannot contract out of its regulatory obligations, and where regulated functions have been offshored, effective oversight is essential. To maintain such oversight, firms typically appoint an “Offshoring Manager” who is responsible for day-to-day liaison with the Indian site. This role was identified as a key person risk in certain cases but this had been recognized and addressed internally. All of the operations reviewed had mechanisms in place to advise of changes to the regulatory regime. Compliance in most cases was monitored locally as well as from the UK, where ultimate responsibility remained.
Back Office or Front Office? The FSA noted that back-office tasks were better suited to being offshored than front-office tasks. In most cases, back-office processing was exceeding service levels for equivalent operations in the UK. Some service levels had been revised upwards to take this positive experience into account. One factor was the manner in which the time difference between India and the UK could be leveraged to the firm’s advantage. India is 5.5 hours ahead of the UK, and by working night shifts, suppliers can pick up reconciliation and investigation activity once the UK business day has ended.
Conclusion While the report finds that offshoring could constitute a material risk to the FSA’s objectives, there were many positive aspects as well. It is no surprise that the FSA identified the difficulty of achieving appropriate management oversight and control from a distance as a key risk. What their findings suggest is that many firms are successfully mitigating this risk through suitable governance frameworks, risk management systems and controls, and by choosing suppliers who are clearly aware of the risks and take measures to address them.
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!RTICLES(EADLINES 0EOPLE 0ROJECTS %VENTS Navigating the Customs-Trade Partnership Against Terrorism (“C-TPAT”): With New Requirements Come New Rewards by Fusae Nara and Andrew Smith
As global trade increases and global security concerns rise, the U.S. Bureau of Customs and Border Protection (“CBP”) joined private companies to create the innovative Customs-Trade Partnership Against Terrorism (“C-TPAT”) program. This program is aimed at securing our borders while facilitating the free flow of legitimate international trade by security-conscious industry members. Launched shortly after the September 11 terrorist attacks, the voluntary program has evolved rapidly over the past several years. CBP Commissioner Bonner recently announced the latest evolution of the program. It now includes new minimum security standards to be met by participating importers. It also includes a new tiered system of benefits rewarding trade members for their respective level of participation in the program and for having security measures in place that go above and beyond those required.
Minimum Standards Under the initial C-TPAT program, members proposed security plans of their own making. However, under the new C-TPAT rules, all importer members must include the minimum standards in their plans including the controversial and newly introduced requirement for selection process of business partners. Some view this change as the C-TPAT moving away from a voluntary system, even though the decision to join remains voluntary. The required minimum standards are divided into eight areas of focus and participants must meet the following standards:
1. Business Partner Requirement: ● Create written and verifiable processes for the selection of business partners, documenting whether or not these partners are C-TPAT certified.
● Require non-C-TPAT partners to demonstrate compliance with C-TPAT minimum standards by providing verification of compliance to the participant.
● Have business partners develop security processes and procedures to enhance the security of shipments at the point of origin.
● Periodically review the partner’s security processes and facilities.
● Evaluate business partners’ strength for financial soundness, the capabilities of meeting security requirements, and the ability to identify and correct security deficiencies.
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Navigating the 2. Container Security: Customs-Trade ● Protect against the unauthorized introduction of material or persons by establishing procedures at the Partnership point of stuffing that ensure proper container handling. Against ● Indicate safe container handling by attaching high security seals and stipulate how seals are to be Terrorism controlled and affixed, including procedures to recognize and report breaches to CBP. (“C-TPAT”): With New Requirements 3. Physical Access Controls: Come New ● Create access controls to prevent unauthorized entry into facilities including procedures to identify and Rewards challenge unauthorized or unidentified persons. (continued) ● Require the positive identification of all employees at all points of entry and photo identification of all visitors and vendors.
● Document the issuance, removal and changing of access devices.
● Periodically screen packages prior to dissemination.
4. Physical Security: ● Construct physical barriers to guard against unauthorized access by conducting the following: fencing the perimeter of the facility and regularly inspecting it, manning or monitoring the entrance and exit gates, keeping cargo areas separate from private passenger vehicle parking, constructing facilities from materials that can withstand unauthorized entry, securing windows and gates with locks, keeping access keys with management or security personnel, installing adequate lighting, alarm systems or video surveillance.
5. Personnel Security: ● Verify application information and conduct background checks prior to employment, and if warranted, conduct background checks of current employees.
● Establish procedures for removing facility access of terminated employees.
6. Procedural Security: ● Establish processes to ensure the integrity of supply chain security plans including ensuring that related documentation is legible, complete, accurate and protected against the exchange, loss or introduction of erroneous information.
● Safeguard computer access and electronically stored information.
● Require business partners to timely report information on shipped cargo.
● Ensure safe arrival and shipping of cargo by comparing cargo labels of arriving and departing cargo against the cargo orders, investigating all shortages, overages and other significant discrepancies and notifying CBP and/or other law enforcement agencies of all illegal or suspicious activities.
7. Security Training and Threat Awareness: ● Create programs to inform employees of the threats posed by terrorists at each point in the supply chain including instruction on the security procedures adopted by the participant and how reports of potential or actual threats are to be made.
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Navigating the 8. Information Technology Security: Customs-Trade ● Require individually assigned accounts and periodic changes of passwords for electronic data users. Partnership ● Train employees on the security features of the electronic data system and how to identify security Against breaches. Terrorism (“C-TPAT”): With New From now on, companies seeking to become C-TPAT members must meet the minimum standards at Requirements the time of application. Existing C-TPAT members must satisfy the above-minimum standards in the Come New following phases: Rewards (continued) Phase I by May 26, 2005: ● Container Security, Physical Security, Physical Access Control.
Phase II by July 26, 2005: ● Personnel Security, Procedural Security, Information Technology Security, Security Training and Threat Awareness.
Phase III by September 26, 2005: ● Business Partner Requirements.
After September 26, 2005 CBP will require re-validation of any high-risk participants to ensure compliance with the minimum standards.
The Benefits of Membership The other significant change to the C-TPAT program is the three-tiered benefits program announced by Commissioner Bonner on May 26, 2005. Bonner noted that this program is a response to importer pressure for actual benefits of the C-TPAT membership. In exchange for imposing the mandatory minimum standards discussed above, CBP seeks to reward participants for their level of commitment to security.
The C-TPAT’s most notable benefit is reduced Automated Targeting System (“ATS”) scoring, which corresponds with the participant’s tier placement. Normally, CBP determines ATS scores based solely on analysis of electronic data received as it relates to manifest and passenger information. After assessing this data, the participant is assigned a risk level score. High-risk participants must undergo increased scrutiny and inspections. Thus, lower scores are an advantageous economic benefit. Under the new three-tier system, the level of the participant’s commitment will result in a reduction of the ATS score. The benefits and levels of participation for each tier are as follows:
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Navigating the Tier I: Customs-Trade ● Consists of certified participants, who submitted and received approval of their security plans, committed Partnership to meet the C-TPAT minimal security criteria and have no history of compliance or law enforcement Against problems. Terrorism ● Benefits include reduced ATS scoring and the standard benefits enjoyed by certified C-TPAT members. (“C-TPAT”): With New Requirements Tier II: Come New ● Consists of validated participants. At this time 12% of C-TPAT participants have been validated. CBP Rewards significantly increased its validation staff and plans to validate 40% of the participants shortly. CBP does (continued) not release its selection criteria for the validation process, but most likely importers will be given priority.
● Benefits include a further ATS score reduction and even fewer inspections. Also, when inspected, Tier II members will be moved to the front of the inspection line.
Tier III: ● Consists of validated participants who exceed minimum standards through adoption of C-TPAT best practices. CBP has not released the criteria that it will use to distinguish between Tier II and Tier III members. CBP did note that one distinguishing criterion is the use of Smart Boxes, which are containers with tamper-detecting devices.
● Benefits include infrequent inspections. Further, at this level, when the envisioned “green lane” is implemented, it will permit an importer to clear customs more expeditiously when goods depart from Cargo Security Initiative (“CSI”) ports using Smart Box containers. There is no date set for the implementation of the “green lane.” The enforcement of the minimum standards is yet to be seen, but CBP appears to be intent on rewarding those participants who meet and exceed the new standards. New C-TPAT members will be assigned their tier level upon certification and validation. There is currently no date set for the assignment of tier placements for existing members, although the announcement of this date is expected shortly. In addition, CBP is expected to officially announce the tier placement criteria and tier benefits soon.
Given the imposition of new minimum standards including business partner selection requirements and the tiered benefits system, many businesses will be inclined to prefer transacting with other C-TPAT members. Those who have elected not to participate in the C-TPAT program to date may need to re-evaluate their decision in light of the recent evolution of the program.
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Working Time: The Right to Opt Out of the European 48-Hour Working Week is Saved at the Eleventh Hour—But for How Long? by Helen Jerry and Mary-Louise McMahan
In June 2005, the European Council of Ministers failed to approve the European Parliament proposal to amend the working time directive as follows:
● Individual opt-out of 48-hour working week should be scrapped within 3 years;
● Reference period over which average working week could be calculated is 12 months; and
● Entire period of time spent on-call including inactive part is categorized as working time.
Introduction On May 11, 2005, the European Parliament approved amendments to the Working Time Directive which would have phased out an employee’s right to opt out of the 48-hour maximum working week over the next 3 years. The Parliament also proposed that “on-call” time would be counted as “working time,” albeit that average working hours would be calculated over a full year.
The amendment Directive proposed by the European Parliament went further than the original proposal issued by the European Commission on September 22, 2004. The original proposal provided that the opt- out would remain, subject to conditions. The new Directive approved by the Parliament would have entirely removed the derogation provisions by no later than 3 years after its passage into law.
The Council of Ministers met on June 2nd to debate the European Parliament’s proposed amendments. The UK Government, with the backing of Germany, Poland, Austria, Hungary, Malta and Cyprus, used its “blocking minority” to oppose the European Parliament’s proposals and have forced the issue to be dropped for the time being. The issue is not likely to return to the European agenda until next year.
Background The Working Time Directive falls under health and safety legislation. This means that the UK’s attempts to avoid the Directive, on the basis that it could seriously hamper business, were thrown out by the European Council in 1994. The Directive’s purpose is to lay down minimum requirements designed to protect workers from the adverse effect of excessive hours, inadequate rest periods and leave, and disruptive working patterns. However, the Directive has been unpopular on both sides of industry in the UK. Businesses have been concerned by the threat to flexibility and trade unions concerned by the threat to workers’ overtime payments. Originally adopted in 1993, the Directive was amended in 2000 and consolidated into Directive 2003/88/EC.
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Working Time: The original Directive expressly provides for revision of the opt-out provision and the provisions concerning The Right to reference periods used to calculate the average week. However, the review by the European Parliament in Opt Out of 2004 was extended to cover the definition of “on-call time” following European Court of Justice rulings on the European time spent on call by health professionals. The review was initiated when the European Commission found 48-Hour some evidence that the opt-out provision was abused in the UK, the only Member State which had applied Working Week it generally from the beginning. is Saved at the Eleventh Hour— What are the main provisions of the Working Time Directive? But for How Long? The Directive provides a minimum guarantee of: (continued) ● a maximum average working week (including overtime) of 48 hours (Article 6);
● a minimum daily rest period of 11 consecutive hours in every 24 hours (Article 3);
● breaks when the working day exceeds six hours (Article 4);
● a minimum weekly rest period of 24 hours, plus the 11-hour daily rest period in every seven-day period (Article 5);
● a minimum of four weeks paid annual leave (Article 7); and
● night work restricted to an average of eight hours in any 24-hour period (Article 8).
What is the opt-out? Member States have the option not to apply Article 6 laying down the 48-hour maximum working week, subject to certain conditions. These are:
● the employer must obtain the worker’s consent to work more than 48 hours per week;
● no worker must suffer victimization if he does not agree to opt-out;
● the employer must keep up-to-date records of all workers who opt-out; and
● records must be available to the competent authorities, which can ban or restrict hours worked in excess of the 48-hour limit if necessary for health and safety reasons. In 1993, it was the UK which negotiated the opt-out, and it has been the only Member State to apply it on a general basis from the beginning. Subsequently, two new Member States, Cyprus and Malta, have also applied it on a general basis.
What is on-call time? The original Directive defines only “working time” and “rest time.” Time spent on call was dealt with differently by the Member States. In the SIMAP and Jaeger cases, the court found that time spent on-call by health professionals had to be counted as working time, in which case, doctors in most Member States worked more than 48 hours a week. After the findings, France, Germany and Spain applied the opt-out to their health sectors.
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Working Time: European Commission Proposal dated 22 September 2004 The Right to Under the European Commission Proposal, Member States would still be able to opt-out under certain Opt Out of stringent conditions. These included that the opt-out needed to be in writing, and that it could not be given the European at the same time that the employment contract is signed or during probation. Further, all workers would be 48-Hour precluded from working more than 65 hours. Working Week is Saved at the The proposal introduced a definition of “on-call time,” in addition to “working time” and “rest time.” On-call Eleventh Hour— time is the “period which the worker has the obligation to be available at the workplace to intervene, at the But for How employer’s request, to carry out his activity or duties.” The “inactive part of on-call time” is the “period during Long? which the worker is on call but is not required by his employer to carry out his activity or duties.” The inactive (continued) part of on-call time would not constitute “working time” within the meaning of the Directive, unless Member States chose to include it.
The reference period over which the average working week would be calculated would remain at four months, although Member States would have the option of extending it to one year provided they consulted the two sides of industry. The rationale was that employers needed flexibility in calculating the average maximum working week in order to respond to fluctuations in demand or seasonal peaks in activity.
Alejandro Cercas Proposal dated April 5, 2005 By contrast, the proposal put forward by Spanish Alejandro Cercas, that MEPs of the European Parliament agreed to in May 2005, stated that the individual opt-out should be scrapped entirely three years after the new Directive enters into force. Further, the entire period of any time spent on-call, including the inactive part, should be regarded as “working time”. However, Member States could allow inactive parts of the on-call time to be calculated in a way which would still allow compliance with the maximum weekly average working time.
The proposal also stated that workers who had more than one employment contract would still be covered, as the working time would be calculated as the sum of the periods worked under each contract. Workers would also maintain rights to request more flexible organization of working time.
Alejandro Curcas also agreed with the European Commission’s proposal that the reference period over which the average working week can be calculated is one year.
European Parliament Decision dated May 11, 2005 The proposal by Alejandro Curcas was voted on by the European Parliament on May 11, 2005 and the amendment Directive was passed by 378 votes to 262 with 15 abstentions.
Council of Ministers Decision dated June 2, 2005 Member States have long been divided on the issue of the opt-out from the Working Time Directive, with those that want to preserve the opt-out led by Britain, and those that want it scrapped led by Sweden.
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Working Time: Under the European co-decision procedure, the European Parliament’s decision requires approval from the The Right to European Council of Ministers. The Council of Ministers, who met on June 2, 2005, refused to vote, given that Opt Out of the UK, Germany, Poland, Austria, Hungary, Malta and Cyprus objected to a vote being taken. the European 48-Hour Working Week There must be a vote by the Council of Ministers before the issue can return to the European Parliament. is Saved at the Even when the issue returns to the European Parliament, both the Council and the Parliament will hold Eleventh Hour— second readings, which can be separated by gaps of up to 3 months. Conciliation may be needed in order But for How to reach a compromise between the Council and the Parliament, and if this fails, the legislation will die. While Long? a country which holds the European Union’s presidency can help them reach a compromise, with the UK taking over the presidency from July 1, 2005, little progress on the issue is likely to be made over the coming (continued) six months.
Working Time Directive—History Original Directive 93/104/EC 1993 Action brought by UK against Council of European Commission, case C-84/94 1994 Amendment Directive 2000/34/EC 2000 Consolidated Directive 2003/88/EC 2003 EC Review of 2003/88/EC 22/09/2004 Alejandro Cercas Proposal released 05/04/2005 Proposal adopted in plenary 11/05/2005 Council of Ministers’ no-vote 2/6/2005
17 SIMAP Sindicato de Medicos de Asistencia Publica (SIMAP) v. Conselleria de Sanidad y Consumo de la Generalidad Valenciana [2001] All E.R. (EC) 609 18 Landeshauptstadt Kiel v. Jaeger (C151/02) [2003] 3 C.M.L.R. 16
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Supply Management— Second Generation Outsourcing by Elizabeth Weir
As the first round of outsourcing contracts signed in the early- to-mid-1990s begins to expire, the focus of the outsourcing industry is shifting to the complexities arising from “second generation” outsourcing. In addition to the usual issues that arise from outsourcing, the services currently outsourced create a number of critical additional considerations. Elizabeth Weir, a partner in the international law firm Pillsbury Winthrop Shaw Pittman’s Global Sourcing Practice group, explains the complexities and challenges that need to be considered by legal and sourcing advisers acting for customers contemplating second generation transactions.
Terminology: ● “second generation outsourcing”: the re-tender of services already outsourced
● “incumbent”: the supplier currently providing the outsourced services
● “level playing field”: managing a competitive procurement openly and fairly
● “Chinese walls”: physical and logical barriers to prevent flows of information other than those authorized
● “unique transition costs”: transition costs incurred by a successful non-incumbent that would not have been incurred had the contract been re-let to the incumbent
Level Playing Field A “level playing field” between the incumbent and potential suppliers must be maintained throughout to ensure competition between suppliers, the development of a variety of competitive and relevant solutions, and maximum leverage for the customer. This is even more critical in a second generation situation given the apparent advantage wielded by the incumbent. By definition, the know-how relating to the services is largely in the hands of the incumbent; the personnel providing the services are employed by, or contracted to, the incumbent; and the equipment, software and, often, the facilities used to provide the services are controlled by the incumbent. Therefore, positive efforts need to be expended to ensure that other suppliers have the same access to information required to prepare a bid that meets the customer’s requirements.
If non-incumbents feel the process is, or is likely to be, unfair and that there is little chance of displacing the incumbent, they are unlikely to invest the considerable time and money necessary to develop a viable bid. The worst-case scenario for the customer is non-incumbents refuse to participate or retire part-way through because they perceive the process to be unfair. If this happens, the incumbent will have huge leverage over the customer and is unlikely to be sufficiently motivated to deliver a new solution or to price competitively.
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Supply New Issues Requiring New Techniques Management— Other issues are peculiar to re-tender situations, requiring legal and sourcing advisers to respond with new Second techniques, including: Generation Outsourcing ● “Chinese walls”; (continued) ● “end-of-contract” negotiations;
● payment of “unique transition costs”; and
● “should cost” models.
Chinese Walls In second generation outsourcings, it is increasingly common to require the incumbent to implement early in the re-tender process “Chinese walls” between its operational team (those currently responsible for service delivery) and its bid team in order to prevent the incumbent’s bid team from acquiring information beyond that which is officially provided through the re-procurement process. For example, by requiring that no member of the operational team be on the bid team, and that no member of the bid team be able to access any materials in the possession of, and/or generated by, the operational team in the course of providing the services. This reassures non-incumbents that the customer intends a fair competition.
The exact form of Chinese wall will depend on the incumbent’s corporate structure and the vehicle used for its bid. Although there is some skepticism as to whether these policies are adhered to in practice, the use of a robust and auditable Chinese wall policy sends a strong and positive message to non-incumbents.
End-Of-Contract Renegotiations
Non-incumbents will want evidence that the customer genuinely believes it is possible to transition the services from the incumbent and the customer has taken steps to ensure that the incumbent cannot sabotage the procurement process or subsequent transition. For example, the incumbent is not “hiding” information or running the services down prior to the end of the existing contract.
Prior to commencing the re-tender, the customer should review the incumbent’s existing exit obligations. If these are robust and can be implemented to ensure smooth transition to a successor, the non-incumbents will receive a strong message that the customer is genuinely intent on “leveling the playing field” throughout the bid process.
Where there are insufficient obligations of this nature, the customer should use its existing leverage over the incumbent to amend the current contract and implement, with retrospective effect, provisions which require the incumbent:
● to support the re-procurement process;
● to support any subsequent transition to a successor supplier; and
● to provide post-termination assistance.
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Supply The customer should also put in place appropriate exit plans addressing specific topics, including: Management— Second ● performance-related and other information; Generation ● HR data and employees; Outsourcing (continued) ● third party contracts; and ● intellectual property rights and assets.
The post-termination exit assistance that should be detailed in an exit plan is to address the specific obligations on the supplier (as well as the customer and the successor supplier) to enable the services to be transitioned smoothly to the successor supplier. This includes the transfer of knowledge and materials, access to personnel, licenses to software, assignment of contracts, transfer of equipment (and, sometimes, premises) and if the Transfer of Undertakings (Protection of Employees) Regulations apply, the transfer of staff who have been performing the services. In all likelihood, the supplier will have re-tendered for the contract but have failed to win it. It is therefore critical to ensure that the supplier is contractually bound to perform its obligations for service transition as this is unlikely to be a time where goodwill between the parties will achieve much in default.
Unique Transition Costs Unique transition costs represent hidden positive discrimination in favor of the incumbent, and need to be specifically addressed in the bid analysis process. In the UK, for example, public sector customers are attempting to redress this imbalance by meeting some of the costs involved, within strict parameters.
“Should Cost” Models Contrary to initial intentions, outsourcing costs may not actually go down. They may go up. The “should cost” model allows the customer to compare the bid price with what its own cost should be, enabling direct comparisons with a bidder’s estimated costs and providing a basis for challenging those costs. In a second generation outsourcing, access to the incumbent’s financial model may be necessary to develop the “should cost” model.
Although more difficult to determine than “as-is” cost, requiring a baseline, low-level inventory of existing operations as well as a cost and quality analysis, the use of a “should cost” model puts the customer in a better negotiating position.
Staff If the outsourced services are currently provided within the EU and a non-incumbent supplier is successful, the staff involved may transfer from the incumbent to the new supplier under the Acquired Rights Directive (in the UK, the Transfer of Undertakings (Protection of Employees) Regulations). This will present complex legal and industrial relations issues that need to be taken into account from the outset of the re-tendering process.
Conclusion Second generation outsourcing creates new complexities in the outsourcing process. Preparing for these can make the difference not only to the efficiency with which the re-tender process is completed, but also to ensuring the overall competitiveness and relevance of the bids received. This will ensure the customer’s requirements are met and its leverage maintained. - 25 - 'LOBAL¬5PDATE &ALL¬¬
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Outsourced Insurance Intermediary Services— Forthcoming Changes to the UK VAT Exemption by Tim Wright and Alicia Young
The European Court of Justice (“ECJ”) has given its judgment in Staatssecretaris van Financien v Arthur Andersen & Co Accountants cs, a case on the provision of outsourced insurance intermediary services. The case may have serious cost repercussions for the insurance sector in terms of the ability of insurers to achieve cost-effective outsourcing arrangements with their third-party suppliers. In some cases, the addition of VAT to previously “exempt” service charges could result in customers failing to achieve forecast cost savings through outsourcing. In any event, the insurance sector’s appetite for outsourcing certain back-office functions, and the supplier community’s ability to deliver cost-effective services which meet insurers’ needs, now face a significant challenge.
Background In the UK, VAT is charged on any supply of goods and services where a taxable supply is made in the UK by a taxable person (one who has registered, or is liable to register, for VAT) in the course of business carried on by that person. Goods and services are rated for UK VAT purposes into three categories, two of which are taxable (the standard category set at 17.5% and the zero rated category set at 0%), and the third of which is exempt. Until now, certain types of insurance intermediary services, including insurance contract administration and claims handling services (which are often outsourced), have been afforded exemption from VAT in accordance with European law. Article 13B(a) of the Sixth VAT Directive states that:
“Without prejudice to other Community provisions, member states shall exempt (a) insurance and reinsurance transactions, including related services performed by insurance brokers and insurance agents.”
In the UK, this VAT exemption, which was implemented in the VAT Act 1994, has been used to considerable effect to minimize input tax on the supply of services such as brokering and claims handling. This, in turn, has allowed the supplier community to offer competitive pricing to its customers, sealing some significant business process outsourcing contracts with UK insurers.
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Outsourced The Case Insurance Andersen Consulting Management Consultants (“Andersen”) (now called Accenture) provided various back- Intermediary office functions under an outsourcing agreement with Universal Life (“Universal”), a Dutch life insurer. These Services— functions included accepting insurance applications; issuing, amending and managing policies, contracts Forthcoming and premiums; claims handling; setting and paying out commissions to insurance agents; organizing and Changes to managing information technology resources; and supplying information to Universal, insurance agents and the UK VAT insured parties, and the tax authorities. Exemption (continued) These insurance services could potentially be exempt under Article 6B(a) of the Sixth VAT Directive either as “insurance transactions” or “related services.” The first category was inapplicable, as the insurance transactions were made between Universal and the insured party (with Andersen simply facilitating on behalf of Universal). Instead, Andersen treated their activities as exempt from VAT under the second category—the services supplied related to an insurance transaction and were performed by an insurance broker or agent. Consequently, Andersen did not add VAT to the charges payable to Universal. The Dutch tax authorities took the view that VAT should be added onto the charges. The matter was eventually referred from the Dutch courts to the ECJ.
The ECJ noted that the Sixth Directive did not define insurance “brokers” and “agents.” It ruled that, being exceptions to the general principle that VAT was to be charged on all supplies, these terms were to be construed strictly. It was held that the services provided to Universal were not those of an “insurance agent.” Andersen’s charges were therefore not exempt from VAT.
This was because “although [the services contributed] to the essence of the activities of an insurance agent, the services rendered … do not constitute services that typify an insurance agent … [and should be regarded] as a form of cooperation consisting in assisting the insurer, for payment, in the performance of its activities which would normally be carried out by it, but without having a contractual relationship with, the insured party.”
The decision turned on the definition of “insurance agent.” The ECJ said that it was an essential part of the work of an insurance agent to find clients and introduce them to the insurer; moreover, the ECJ did not agree that the existence of the power to bind the insurer (which power Andersen possessed under its agreement with Universal) was the determining criterion of an insurance agent; a conclusion supported by HM Revenue & Customs. Also, many of the services which Andersen did provide were found by the court not to be part of an insurance agent’s activities.
Accordingly, the court ruled that Andersen’s back-office services did not qualify as services relating to insurance transactions carried out by an insurance broker or insurance agent within the meaning of Article 13B(a) of the Sixth VAT Directive. This means that suppliers of outsourced back-office functions which do not involve a clear sales element, including collecting premiums, claims handling, and management and administration, will be obliged to charge VAT on these services. This VAT is unlikely to be fully recoverable by the insurers. Whether services relating to in-bound call centers will also become taxable is as yet unclear. The charge will not only affect suppliers based in the EU, but may also impact those based outside, as certain services are deemed to be received at the recipient’s location. In such circumstances, EU-based insurers could be required to pay VAT even where no VAT was charged or chargeable by its supplier.
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Outsourced Conclusion Insurance The ECJ has made it clear that in order to determine whether an outsourcing supplier is acting as an Intermediary insurance agent, one must look to all the activities it carries out. Andersen’s services to Universal began Services— with its handling of applications received from other insurance agents, whereas what was required (to be an Forthcoming insurance agent) was for Andersen to find the initial prospect and introduce it to the insurer. Mere capacity Changes to to bind the insurer was not, on its own, sufficient. It is reasonable to assume that where this criterion is met, the UK VAT the outsourcer may still be able to avail itself of the exemption. Exemption (continued) HM Revenue & Customs reviewed the case (Business Brief 11/05) and announced plans to consult with industry prior to making any changes to UK VAT law, with a view to publishing the consultation document in July 2005. No change to the law or policy relating to the VAT exemption for insurance-related services will be implemented in the UK in the meantime, but affected parties are entitled to rely directly on the decision until such time as the law is amended. HM Revenue & Customs has said that, in its view, the judgment “does not preclude exemption where the provider does not itself have direct contact with the customer, provided that it sub-contracts the introductory service to a sub-agent, and there is a direct contractual link between the principal agent and the agent providing the introductory service.”
We recommend that insurers take urgent steps to review any affected outsourcing contracts, engage fully in the consultation process with HM Revenue & Customs and begin discussions with their suppliers to develop plans to deal with any adverse fiscal impact resulting from the expected change to UK VAT law.
19 77/388/EEC. 20 See group 2 of Schedule 9. 21 Op cit. 22 HM Revenue & Customs Business Brief 11/05: “the power to bind the insurer is not in itself enough to gain exemption.”
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Headlines
Pillsbury has significantly broadened its Israeli technology focus with the addition of international corporate law partners Lior Nuchi in 2004 and Gary Benton in 2005 in Silicon Valley. Nuchi and Benton have led several delegations to Israel this year to meet with public and private Israeli companies and investors.
In June, Lior Nuchi and Silicon Valley corporate securities partner Tom Chaffin led a delegation of 25 Silicon Valley venture capitalists hosted by the California-Israel Chamber of Commerce to speak with leading Israeli government officials and investors. Also in June, Gary Benton, San Francisco corporate securities partner Nate Cartmell and Washington, D.C. International Trade partner Nancy Fischer were invited to speak to approximately 150 corporate counsel of US, UK and Israeli public companies at the Association of Corporate Counsel (ACC)—Israel Chapter Annual Conference. They addressed Sarbanes-Oxley, international data privacy and international trade issues. In September, Mr. Benton, Washington, D.C. telecoms partner Glenn Richards and Los Angeles intellectual property partner Richard Zaitlen spoke to approximately 1,100 attendees at the E&Y Journey '05 Conference, the largest annual technology investment conference in Israel. Richards and Zaitlen covered telecom and health care trends, respectively, and Benton shared the stage with leading US and Israeli VCs and CEOs to address China and the globalization of the technology industry.
Israel is ranked 4th in the world for VC investment, 1st for NASDAQ listings outside North America, and serves as an important innovation center for many major US technology companies. Pillsbury is actively involved in emerging growth, IPO, M&A and other corporate/commercial work and IP/litigation work for Israeli companies, many of which have operations in the US or partnerships with major US and other international companies. The firm's technology law expertise, corporate securities strength on both coasts and in London, and regulatory law expertise in Washington, D.C., distinguish it from other US firms looking at Israel. The Shaw Pittman merger has brought to Pillsbury significant strength outside the tech sector as well, particularly in financial services, aviation and defense. Washington, D.C. banking partner Scott Anenberg is another regular visitor to Israel, working with several of the largest banks in the country.
Pillsbury has recently filed an application for a license to open an office in Shanghai. For years, the firm has performed corporate and energy work in China with partners traveling overseas and working with local Chinese counsel. In addition to corporate and energy matters, the Shanghai office will focus on taxation, government contracts and intellectual property. Co-leaders of Pillsbury’s China practice, Greg Pickrell of Silicon Valley and Jay Tannon of Washington, D.C., will be instrumental in establishing the Shanghai office, where an initial team of 4-5 attorneys is expected to be based.
Pillsbury has been selected by the readers of Trade Finance Magazine as the best Export Credit Agency law firm in the world. Michael Schumaecker, leader of the firm’s Finance practice, noted that “one of the things that makes our ECA finance practice so successful is that we represent an equal number of borrowers and financiers. There is a lot of pressure on the borrower, so we see some of our role as being there to navigate through the sensitive issues.” He went on to say that experience “representing both sides allows for a good understanding of trade-related business.” Pillsbury’s Finance practice group serves all sectors of trade finance such as pre-export commodity financing and forfeiting, as well as structured financings of aircrafts and cross-border infrastructure projects.
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People
Pillsbury announced in April that Harry Glasspiegel, a pioneer in advising corporations and governments in large-scale IT and business process outsourcing, has rejoined the firm as a partner in its Global Sourcing practice—a practice he helped created more than 17 years earlier. He is an expert in the rapidly growing BPO marketplace. “Shaw Pittman’s merger with Pillsbury Winthrop deepens its capacity to stay at the cutting edge of the sourcing market and to be in the middle of the largest, most challenging business and legal transactions in the world,” says Glasspiegel, who will be based in Washington, D.C.
Phillip Rees (LN) has been asked by Royal Bank of Scotland and Morgan Stanley to re-commence the quarterly in-house training programs that he ran for them at his previous firm. These are tailored training sessions for the in-house legal team and relevant business line managers to talk through real strategic issues. Phillip frequently conducts these seminars with Rico Calleja, an external training resource who produces The Reporter, a highly sought-after publication that gives regular updates on case law. Phillip is also developing a program of in-house training for HSBC, with the first one expected to be offered in the fall.
Major international legal publisher Butterworths has commissioned Phillip Rees and Rico Calleja as editors of a major new resource text book on Outsourcing.
Elizabeth Weir of our London office has been working on developing internal training programs for American Express, including a talk by Phillip Rees on data protection issues with regard to cross-border data flow, and a seminar by Ashley Winton, also of the London office, lightheartedly titled “Technology for Idiots: The Technical Aspects of Software License and Development Agreements.”
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Projects
Chevron Corporation’s August 10th acquisition of Unocal Corporation, following a heated contest with China National Offshore Oil Corporation, was described by Fortune magazine as “the most politicized takeover battle in U.S. history.” The successful $18.3 billion acquisition vaults Chevron into first place among private oil companies in the strategic sector of gas development and production in south Asia and strengthens the company’s position in the Caspian region and offshore Gulf of Mexico.
Pillsbury advised Chevron on corporate, securities, finance, commercial, regulatory and benefits aspects of this transaction. Five domestic and overseas officers were called into action. Counsel Alfred Pepin and partners Robert James and Terry Kee led the Pillsbury effort, with substantial assistance from partners Michael Barr, Stephan Becker, David Lamarre, Frederick Lowell, Ruth Modisette, Susan Serota and Christopher Wall, and associates Catherine Elkes, Jessica Hackman, Kelley Harris, Justin Hovey, David Koeninger and Brian Wong.
Pillsbury served as U.S. counsel to an affiliate of Toronto-based Richardson Capital in its acquisition of a controlling interest in Trillium Health Care Products. Jay Tannon, Chuca Meyer, Tom Flaherty, Keith Kost, Mark Polston, and Peter Kobeck worked on the transaction.
Greg Pickrell and Kerry Smith, both partners in Pillsbury’s Silicon Valley office, represented KiSS, a Danish company, in its acquisition by Cisco in a stock/cash transaction that closed in September. KiSS manufactures networked consumer products (such as DVD players) and will become part of Cisco's Linksys group.
Ben Quinones, a partner in our Silicon Valley office, recently handled the representation of Kelkea, Inc., a San Jose, California next generation anti-spam and reputation analysis technology provider, in its acquisition by Trend Micro Corporation, a Japanese corporation and leader in network antivirus and Internet content security software and services. This acquisition advances the opportunity for Trend Micro to develop network-level solutions against emerging and evolving threats such as phishing, pharming and those that can be launched via botnets. The acquisition also enhances Trend Micro’s current anti-spam solutions.
Stan Pierson, a partner in our Silicon Valley office, is handling the $285 million acquisition of Premier Retail Networks (“PRN”) Corporation, a privately owned San Francisco, California corporation, by Thomson S.A. Thomson S.A. is a French company and provider of value-added information, with software tools and applications that help its customers make better decisions, faster. Thomson S.A. serves more than 20 million information users in the fields of law, tax, accounting, higher education, reference information, corporate e- learning and assessment, financial services, scientific research and health care. PRN is the leader in the fast- growing market of out-of-home video advertising networks. This acquisition furthers Thomson’s expansion into the implementation and management of video networks for a broad range of customers spanning broadcasters, cinemas and now retailers. PRN will be part of Thomson’s Network Operations Services business unit in the Services Division.
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Projects Pillsbury is currently representing D&M Holdings, Inc., a Tokyo-based company, in the sale of certain (continued) intellectual property and other technology assets of the Rio MP3 player business to SigmaTel, Inc., a Texas-based leading supplier of integrated circuits for the portable audio player market. D&M Holdings owns the Denon, Marantz, McIntosh Laboratory, D&M Professional, ReplayTV, Rio® and Escient brands. Denon, Marantz, McIntosh and D&M Professional are global industry leaders in the specialist home theater, audio/video consumer electronics or professional audio markets, with a strong and long-standing heritage of manufacturing and marketing high-performance audio and video components.
Pillsbury represented Needham & Company, Inc., financial advisor to Genus, Inc., a Sunnyvale, California company, in its $143 million merger with Aixtron AG, a German company. In the deal, Aixtron acquired all outstanding Genus shares in a stock-for-stock transaction. Aixtron makes metal-organic chemical vapor deposition products for the production of ultrahigh brightness light-emitting diodes, high-frequency chips and lasers. Genus is a supplier of atomic layer deposition technology, used in the production of advanced semiconductors and hard disk drives. The deal was handled by Stanton Wong, a partner in Pillsbury’s San Francisco office.
A cross-office team recently represented Sumitomo Chemical in its purchase of LUMATION Light-Emitting Polymers (“LEPs”) from Dow Chemical. The transaction was valued at tens of millions and was coupled with a transition manufacturing services contract valued at about $15 million. The deal was managed by Bill Huss in the Tokyo office and included Donovan Burke (NY) and Jamie Sarkoxy (NY), along with John Wetherell (CV) and Bruce Bender (CV) who provided significant patent review and opinions concerning critical patents that were the focus of the asset acquisition. LEPs are a critical light-emitting material in polymeric light-emitting diodes. The technology offers many performance benefits over others. LEPs enable the cost- effective production of both passive and active matrix, monochromatic, area color and full color displays, a technology applied not only to displays, but more broadly to solid state lighting applications.
A Global Sourcing team led by Trevor Nagel (DC) just completed an extensive IT sourcing strategy exercise for Australian Customs, a matter that presented our team with a number of challenges. As the result of having operational responsibility that includes what is performed in the U.S. by Customs and aspects of Homeland Security, Australian Customs is a very highly distributed environment covering a broad range of governmental revenue-raising and enforcement activities. Our team spent a couple of weeks in Canberra using our ValueChain methodology to map the client's current IT environment (which included outsourcing transactions from the 90's) and develop alternative sourcing strategies to generate the “to-be” models for the restructured IT environment. Australian Customs has been an active promoter of ValueChain in the Australian IT community, creating a groundswell of interest among potential public and private sector clients and major IT vendors. Joseph Nash (DC), Matthew Johnson (DC) and Douglas Parker (DC) worked on the project with Trevor.
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Projects Pillsbury advised Resolution Life Group (Resolution) on its £50 million contract extension with Unisys (continued) Insure Services Limited (“UISL”) for the processing and administration of some 750,000 life and pension policies. The contract extension was required following Resolution’s acquisition of Swiss Life (UK) Group plc. This deal adds to Resolution’s existing £300 million business process outsourcing agreement with UISL, which Resolution acquired when it purchased the UK life and pensions business of Royal & Sun Alliance plc. The deal will run for an initial term of 10 years. Pillsbury’s office provided strategic advice throughout the process to implement a deal which facilitated the existing long-term relationship with Resolution and UISL. The firm played a key role in structuring and leading negotiations and managing the resolution of key issues in tight time frames.
Pillsbury represented MiddleLand Capital in the formation of China Vision Fund, a new private equity fund based in the People’s Republic of China. Another key investor in the fund is Empower Ltd., an affiliate of the China Council of the Promotion of International Trade. The fund will focus on later stage venture investments in Chinese companies. Pillsbury’s Jay Tannon and Mark Polston advised MiddleLand.
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Recent Events
Pillsbury co-sponsored the San Francisco-Shanghai Sister City Committee’s gala celebration. The gala celebrated 25 years of friendship between San Francisco and Shanghai. Speakers at the event included San Francisco Mayor, Gavin Newsom, and Han Zheng, Mayor of Shanghai.
Pillsbury’s Global Energy Conference recently concluded in Scottsdale, Arizona where industry lead- ers like FuelCell Energy, Inc., the EPA, Duke Energy, Pacificorp and Chevron discussed the issues fac- ing the energy industry. Topics included: “Environmental Policy and the Future of Energy Development,” “Greenhouse Gas Emissions—Addressing the Critical Issues,” “Base Load Generation—An Impending Shortage” and “You Mean We Haven’t Even Found It All Yet.”
On May 4th, the London office invited clients and friends of both legacy firms to join them at the Museum of London to celebrate the merger of Pillsbury Winthrop LLP and Shaw Pittman LLP. The Museum was celebrating an exhibition of “The London Look—from street to catwalk” so attendees had an opportunity to take a look at the exhibition on that night or return for a longer viewing at another time as a guest of the firm. The celebration was held next to the Lord Mayor’s coach, the gilt-covered carriage built in 1757 which is still used once a year for the Lord Mayor’s parade through the City of London.
A number of partners from the firm’s US offices attended the celebration, including Mary Cranston, Steve Huttler, Michael Schumaecker, Dave Snyder, Jim Alberg and Aaron Oser. They joined the London partners and associates in thanking our established and new clients for their support and enthusiasm for the merger.
On May 31st, the London office hosted an event organized by the Communications Group, an informal, non-profit making group for decision makers in the technology, new media and communications sectors. The event was titled “When Is Your IP Not Your IP? Why and When Do IP Owners Have to Provide Access to Their Key IP Assets?”. Chris Parker, Director of Law and Corporate Affairs, Microsoft Limited, was the keynote speaker during an extremely informative and topical evening.
Helen Jerry participated in Deutsche Bank’s internal training of approximately 50 senior HR professionals with respect to the HR elements of “smartsourcing.” Smartsourcing is Deutsche Bank’s term for all operations where it moves its services within the bank to a distant captive location. The 2-day course ran in multiple locales including London, Singapore, Frankfurt and New York and was chaired by the HR lead in DB’s Smartsourcing Management Syndicate. Helen helped HR input the Request for Proposals stage of a smartsourcing transaction, with an emphasis on data protection and the mechanics of operating a data room. Helen also explained DB’s standard HR contract wording for smartsourcing transactions, which she developed during the transactions she has worked on with the bank over the last five years.
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Events In late August, James Seff, San Francisco partner, Chair of the Wine, Beer and Spirits section, and Chair (continued) of CLE International group, spoke at a seminar on the Interstate Direct Shipping of Wine.
On August 18th, William Burke, of our New York office, presented his paper titled, “The Worldwide Interest Allocation Election – New § 864(f),” at the Tax Management and Transfer Pricing Advisory Boards Meeting sponsored by BNA Tax, and held at the Waldorf-Astoria in New York. Bill’s presentation focused on the new allocation rules in the tax legislation passed at the end of 2004, a topic of interest to tax directors and other practitioners dealing with international taxes.
As with most law firms, Pillsbury Winthrop Shaw Pittman has its own training programs to update our professional staff on various aspects of the law and our practice areas. Recently, Helen Jerry and Marie- Louise McMahon spoke on:
● proposed changes to the TUPE Regulations and the expected practical impact of such changes;
● the impact of such European employment developments on outsourcing and corporate transactions, including potential pitfalls and how to avoid them; and
● how workplace communications and information and consultation obligations will be affected. Helen Jerry and Marie-Louise McMahon are, respectively, counsel and senior associate in Pillsbury's London employment law practice. Both specialize in advising UK and global corporations on the effect of local and European legislation on transactions involving workforce restructuring. Between them they have a decade of experience working with the firm's clients to ensure the best outcomes from consensual and non-consensual change, with a view to maximizing protection for the entities which instruct us and for the people they employ.
Jerone English, a litigation partner in our Los Angeles office, gave a seminar in August to over 250 Chinese exporters plus representatives of Sinosure, formerly the People’s Insurance Company of China, on “Managing Export Credit Risks.” The program was held initially in Xiamen and then expanded to Beijing and Guangzhou.
Pillsbury sponsored a seminar in our New York office entitled “US-Mexican Cross-Border Insolvency.” The program discussed the practical and procedural considerations and tax issues relating to Mexico’s insolvency law, and cross-border proceedings in the US under new Chapter 15 of the Bankruptcy Code. Luis Manual Méjan, Director General of the Federal Institute of Specialists on Commercial Insolvency (Instituto Federal de Especialistas de Conursos Mercantiles), an agency created under Mexico’s insolvency law, spoke on the economic conditions and policy considerations leading to enactment of the law in 2000 and the results of restructurings under that law.
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Events Pillsbury Winthrop Shaw Pittman co-sponsored the World Low Cost Airlines conference in Amsterdam, (continued) The Netherlands. Bob Zahler, a partner and one of the leaders of the Global Sourcing group, conducted a sourcing workshop and spoke about how to utilize sourcing as a strategic weapon for low cost airlines.
The conference is an annual meeting place for the global low cost airline industry and brings together operators, investors, suppliers and entrepreneurs who drive the industry. The firm also exhibited during the conference, where Josh Romanow and David Hernandez discussed their international airline and travel industry experience with US and international air carriers, airports, governments, aerospace companies, cargo carriers, charter operators, travel companies and computer reservations systems. Elizabeth Weir and Alicia Young from the London office spoke with attendees regarding the firm’s extensive experience in IT and business process outsourcing, systems integration, software licensing and strategic alliances for the airline sector.
The Global Sourcing group and the Travel, Leisure and Hospitality group recently attended the World Route Development Forum in Copenhagen, Denmark. Each year the international community of airport and airline route development professionals gather at a single location to participate in Routes. Routes reflects the growing importance of commercial relationships between airlines and airports. Airlines and airports are joined at Routes by third parties with a vested interest in air service development, such as tourism and economic development authorities. This year over 275 airlines are expected to attend, including major, regional, low cost, start-up, cargo and IT/charter. Routes is expecting more airports than ever to attend in Copenhagen, with around 500 expected from five continents.
Greg Pickrell, Silicon Valley partner and co-chair of our China practice, spoke at the recent China Telecom event, “Doing Business in China,” on September 30th. Greg provided an overview on the current legal environment and methods of structuring business in China as well as common mistakes of entering the China market.
At the initiation of CCPIT, Jay Tannon and Greg Pickrell spoke in late October at conferences in Beijing, Xian and Shanghai. They addressed Chinese business leaders on “Doing Business in the United States” and “Attracting US Private Equity.”
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