1. 10. Methodology of enterprise groups
ESTP Course on the EGR
3-4-5 December 2014
10. Methodology of enterprise groups

2. Multinational enterprise groups
Economic aspects
Evolutionary stages
Activities
Organisation and governance
Behaviours
Statistical aspects
Statistical representation
Derivation of groups structures
Representation in EGR
EGR: economic delineation of the groups and the methodology of profiling
Barilla has plants and offices in Greece, France, Germany, Norway, Russia, Sweden, Turkey, US, and Mexico.
Wheat is purchased from around the world.
EGR: statistical delineation of the groups and the methodology of consolidation

3. Economic aspects

4. Main facts Capital is much more mobile than labour
Countries where costs of labour are lower
Location of raw material inputs
Transports costs are relatively lower
Communication technology boom
Enterprises need to growth
Sell and offer after selling services
Location in different countries
Often multinational groups are criticized to runaway activities

5. Economic definition
One possible definition, according to Franklin Root (1994):
A multinational group is characterised by the fact that there is 'a parent company' that:
engages in foreign production through its affiliates located in several countries,
exercises control over the policies of its affiliates, and
implements transnational business strategies in production, marketing, finance and staffing that transcend national boundaries.

6. Evolutionary stages of the multinational groups
Export Stage
Foreign production stage
Multinational Stage

7. I – Export stage Only export – initial demand
Network of export agents - expansion of export
Foreign sales branch or assembly operations - save transport cost

8. II – Foreign Direct Investment stage
There are economic limit to foreign exports (tariffs, quotas and transport costs)
Environmental factors
laws, regulations, access to credit, public services, infrastructures, raw materials
Market factors
Meet consumer demands on the markets, provide assistance and post sales services, etc.
Economic factors
Lower labour costs, no exchange rate fluctuations,

9. III – Multinational Stage
Production is switched from the parent producers to its legally independent affiliates or subsidiaries
Strategic financial and economic control is centralised
Subsidiaries not pop up randomly in foreign nations
Decision of top management
Critical step in growth strategies
Risks (uncertainty, lack of information, …)
Large investment
Investment go from countries where profits are expected to be low to countries with high expected returns

10. Exports versus FDI Foreign production is not always an answer
Foreign markets can be better served by exporting, rather than by creating a foreign subsidiary if there are economies of scale
If large scale production reduces unit cost, it is better to concentrate production in one place
If there exists excess of domestic productive capacity, there is no point in creating another plant abroad
Multinational groups always have large external trade flows

11. Objectives and market orientation
The economic objective is global profit maximization
However, most multinational groups are either:
home country oriented
host country oriented
Depending on the production/products types
Only some are world-oriented, but must adapt to local markets and this requires a very large and complex organisation

12. Organisation and governance
Organisation: legal, regulatory, institutional and ethical environment of the multinational group
Governance: “how investors get the managers to give them back their money”
Governance determines who has power and makes decisions
Both terms address the concept of control
The board of directors is typically central to the governance
Its relationship to the other primary participants, typically shareholders and management, is critical
Additional participants to governance include employees, customers, suppliers, and creditors.

13. Joint Ventures Two or more companies that divide control to:
Conduct activities in a third country
Conduct activities with a local company
Joint venture may includes local government
Because:
Costs are too high for a single company
Local governments request
The new company is able to enter the market that neither parent could have entered singly
Increase market power

14. Taxation
Operating in many countries, MNCs are subject to multiple tax jurisdictions, i.e., they must pay taxes to several countries
Multiple Tax Jurisdictions create two problems:
Overlapping jurisdictions
Two or more governments claim tax jurisdictions over the same income and it may result in double taxation
Underlapping jurisdiction
Tax evasion
Since countries have different tax rates, multinational companies choose low tax countries to save, invest, and produce. Governments may compete to attract multinational enterprises by offering them lower tax rates and other incentives. This is called tax competition. Since high tax countries lose lucrative businesses, they want to harmonize tax rates, especially within a free trade area or customs union (e.g., European Community).

15. Transfer prices
Differences among national income tax systems affect the decisions regarding the location of subsidiaries, financing, and the transfer prices
Transfer prices are the prices paid for imports/exports between legal units in the same multinational group
Multinational groups manipulate such prices so that profits are highest in the low tax country
Purpose: to minimize the total tax a multinational groups pays. Abuses in pricing across national borders are illegal and tax authorities try to identify them, but it is difficult to prove

16. Conclusions
For defining the economic aspects of the multinational enterprise groups it is necessary to understand:
Where the groups' affiliates are located
What activities are carried out in the different countries
What is the organisation
How is the governance (who has global control)
All about intra-group transactions (products, values, countries, prices, …)
……….

17. Statistical aspects

18. Statistical representation (1)
1. As a simple set of legal units bounched together
2. As a set of enterprises carring out economic activity
Legal Unit 1
Legal Unit 2
Legal Unit n
  
Enterprise Group
Enterprise 1
Enterprise 2
Enterprise n
  
Enterprise Group

19. Statistical representation (2)
3. As a complete structure of legal units and their controlling relationships and the economic enterprises
Enterprise Group
Enterprise 1
Enterprise 4
Enterprise 2
Enterprise 3
Enterprise 5
Head of Group A
LEU E
LEU D
LEU C
LEU B
LEU F
LEU G
LEU I
LEU H
LEU J
LEU K

20. Information Data sources
Ownership shares
(A owns X% of B)
Voting rights
(A has (X-Y)% voting rights on B)
Economic activity
Economic characteristics
Global/Unique Identifiers
Administrative sources
Annual Reports
Commercial sources
Statistical sources
Direct information
Web information

21. Operational criteria for control (1)
Source: Business Registers Recommendation Manual - Eurostat
1) A legal unit directly owns more than 50 % of the voting rights of another legal unit (direct control);
2) A legal unit indirectly owns more than 50 % of the voting rights of another legal unit, through subsidiaries (indirect control);
3) Existence of special legislation decree or regulation, which empowers the government to determine corporate policy or to appoint the directors of the legal unit;

22. Operational criteria for control (2)
4) A legal unit fully consolidates the accounts of another legal unit, according to the criteria of the Seventh Directive, and no other legal unit consolidates the same legal unit (control by virtue of full consolidation);
5) Administrative sources, collecting declarations in application of specific laws for market regulation, provide the information that a legal unit controls one or a set of legal units, even though it owns less or 50 % of its voting rights (effective minority control) and no other legal unit owns more.
Note — It may be possible that two rules, e.g. both cases 1 and 4, could apply simultaneously.
As one unit cannot be controlled by two different units, the de facto controlling unit should then
be chosen. Case 4 can in general be considered as weaker than 1, because there can be
consolidation situations with less than 50% ownership and situations with over 50% ownership
without consolidation.

23. From shares…

24. …to control

25. Concepts of GGH UCI GDC
GGH: one legal unit at the top of the control which is not controlled by any other legal unit and which controls all other legal units in the hierarchy
UCI:Ultimate controlling institutional unit of a foreign affiliate” shall mean the institutional unit, proceeding up a foreign affiliate’s chain of control, which is not controlled by another institutional unit
GDC: The global decision centre is the unit where the strategic decisions of an enterprise group are taken
In most of the cases the global decision centre equals to the global group head

26. Special cases
Four types of special cases are defined, where the definition of the global decision centre/UCI requires special treatment
1) Natural persons and families
2) Units located in tax havens, in offshore financial centres, special purpose entities, non-profit institutions
3) Dual listed companies
4) Joint ventures
The starting point is always the GGH
If the GGH is one of the 4 cases, other units downward in the chain should be examined and appointed as the global decision centre/UCI

27. Implementation of 'control' in EGR
Control by means of a single relationship:
‘Type of ownership’ = ‘I'(ndirect)’
‘Type of ownership’ = ‘D(irect)’ and voting power > 50%)
Control by means of ‘cumulative’ shares:
B and C both have a non-controlling direct relationship with D, but B and C both are subsidiaries of A and A thus has cumulative control on D (See next example).

28. Implementation of GGH UCI/GDC
GGH assigned by default by reconstructing the whole chain of control
The UCI used by FATS statistics is considered the same concept as the GDC
If the GGH is not the GDC it has to be manually assigned by profilers or by FATS users

29. Finding GDC, a very complex task…
According to some major world-wide publications:
Wall-Mart Exxon Mobil Royal dutch Shell BP Toyota Chevron ING Total General Motors ConocoPhillips
Are U.S. ultimately and globally controlled…

30. Conclusion
For getting to a statistical representation of the groups it is necessary to understand:
What is the statistical purpose
Which basic information is needed and where can be found
What is the logical model for representing a group
What algorithm do we have to perform to build up the physical structure of the groups
What quality level is needed for the statistical purpose
Statistical Units, Characteristics, Timeliness of frames, …
How to validate the characteristics of a group relevant for the statistical purpose

31. Thanks for your attention
Questions?