It was widely known that Apple would staunchly defend its tax arrangements and surely as night follows day, Apple announced it will appeal the EU's $14.5 billion ruling that Derek duPreez first reported here and upon which I expanded. Curiously, Apple chose to launch that appeal via a letter to European customers that was slapped on the company's investor homepage. I say curiously because at first blush, the letter reads like an appeal to the buyer's heart. But the letter and accompanying FAQ contain statements that don't square with what Apple has said in the past.
While the letter is cautious in its wording, Apple is tripping over itself in a number of respects and, for the first time that I can recall, is letting the PR initiative slip from its control.
All hail Apple the Benficent
The letter starts off with a dewy eyed 'version' of what Apple did in 1980 when it first invested in Ireland.
At the time, Cork was suffering from high unemployment and extremely low economic investment. But Apple’s leaders saw a community rich with talent, and one they believed could accommodate growth if the company was fortunate enough to succeed...
We have operated continuously in Cork ever since, even through periods of uncertainty about our own business, and today we employ nearly 6,000 people across Ireland. The vast majority are still in Cork — including some of the very first employees — now performing a wide variety of functions as part of Apple’s global footprint. Countless multinational companies followed Apple by investing in Cork, and today the local economy is stronger than ever.
Apple is right to say that Ireland was looking for inward investment and that the country's economy was in poor shape. What Apple doesn't say though is that Ireland was already offering forms of incentive to encourage inward investment. I know, I had some involvement with companies looking to invest in Ireland around that time.
Things got much more interesting in 1990, when Ireland sorted out what was a fairly chaotic set of tax arrangements as part of its deal to enter the EU. The corporate tax rate was grandfathered in to the EU panoply of tax rates at 10%, subsequently uplifted to the current and favorable rate of 12.5% in 1998. 1990 was also the year that Apple established its two main companies in Ireland under what has now been deemed an illegal scheme.
In 1990, it didn't matter very much what was going on. Apple was making money, (except for the period when it nearly went bankrupt) but the overall tax it paid to various jurisdictions was more or less in line with what many other multi-national companies were paying. Everyone was happy. At least 'mostly' happy. It was only after Apple's profits started to skyrocket with the success of iPhones and iPads that the deal it made with Ireland started to reap the kind of benefits that now sees Apple with a cash and equivalents pile of over $200 billion and an effective tax paid rate of 2-3%. Check this chart:
Did Apple know?
For its part, Apple says in the letter:
Over the years, we received guidance from Irish tax authorities on how to comply correctly with Irish tax law — the same kind of guidance available to any company doing business there. In Ireland and in every country where we operate, Apple follows the law and we pay all the taxes we owe.
(My emphasis added.)
What most likely happened is that Apple's tax advisors hammered out the deals to which Apple and Ireland signed up. Slightly unusually, the letter suggests successive agreements. One assumes Apple did its best to persuade the Irish government that it was paying enough. Unusually for a company in this situation, Apple has chosen to go on a direct offensive, saying:
The European Commission has launched an effort to rewrite Apple’s history in Europe, ignore Ireland’s tax laws and upend the international tax system in the process...The Commission’s move is unprecedented and it has serious, wide-reaching implications. It is effectively proposing to replace Irish tax laws with a view of what the Commission thinks the law should have been.
That is not what the EU is trying to do. It is using the very specific and, as far as we know, unique circumstances of Apple's deal, to create precedent for what the EU considers an unfair competitive advantage that was evidenced by secret tax related dealings from which Apple benefitted.
Enlisting the Big Guns
For its part, Apple considers itself supported by representations the US government has made to the EU (PDF.) As an aside, government ministers are people too and I can only imagine the profanity that was uttered behind closed EU doors once the 'advice' was received. Right now, Apple and the US Treasury are selling the unfairness message hard. In my Tweetstream and on my Facebook page, I see plenty of people believing that this will hurt US taxpayers. As I predicted:
White House spokesman Josh Earnest says Apple could deduct the payment from those back taxes to the amount owed the United States government. Earnest says that's not fair to American taxpayers.
(My emphasis added.)
Woah tiger. The US operates double tax treaties with many countries and IF this is deductible, then Apple is quite within its rights to take a double tax deduction on what it pays in the US. There is no question of unfairness, In any event, Apple said in its Q&A on this topic (PDF) released with the customer letter:
Q: How does this decision impact Apple’s near-term financial results? Will you take a tax charge? Does this alter your previous guidance?
A: We do not expect any near-term impact on our financial results nor a restatement of previous results from this decision. We have previously accrued U.S. taxes related to the income in question. The tax rate guidance for Apple’s fourth fiscal quarter that we provided on July 26, 2016 does not change as a result of this decision.
(My emphasis added.)
Apple is right. In its latest 10-Q filing, it stated (p13) that it is holding $35.5 billion as a deferred tax liability. This sum is the amount Apple believes it MIGHT have to pay should one or more of its many tax arrangements unravels. So answer me this Tim Cook, CEO Apple - what possible threat does this ruling have when you've told the market that you've already accounted for it? The answer is back in the 10-Q:
On June 11, 2014, the European Commission issued an opening decision initiating a formal investigation against Ireland for alleged state aid to the Company. The opening decision concerns the allocation of profits for taxation purposes of the Irish branches of two subsidiaries of the Company. The Company believes the European Commission’s assertions are without merit. If the European Commission were to conclude against Ireland, the European Commission could require Ireland to recover from the Company past taxes covering a period of up to 10 years reflective of the disallowed state aid. While such amount could be material, as of June 25, 2016 the Company is unable to estimate the impact.
(My emphasis added.)
Which way is it Mr Cook?
I am willing to bet a very large sum of money (maybe $14.5 billion I don't have) that Apple knew more or less how much was at stake and has known for a very long time. There is no way that it could not have, given that the whole point of entering into tax arrangements is to know by how much you are likely to benefit. There's also that tell as in "Over the years, we received guidance..." The company's accounts say as much by reporting the deferred tax liability, albeit expressed in US tax terms.
It may well be that Apple is rationalizing that with a degree of uncertainty and fluctuating exchange rates, that the precise number is sufficiently fluid that it should not make a disclosure that could be interpreted as definitive. If so then one interpretation might also be that any fiscal disclosure could be read as tantamount to an overt admission that it is on the hook, rather than the anonymous guesstimate contained in the deferred tax account.
The US government, for its part, is playing along:
The Treasury's statement said the ruling "could threaten to undermine foreign investment, the business climate in Europe and the important spirit of economic partnership between the U.S. and the EU."
Let's test that theory? Back to the Apple letter. It mirrors what the White House said (or is it the other way around?):
Beyond the obvious targeting of Apple, the most profound and harmful effect of this ruling will be on investment and job creation in Europe.
I won't go where the cynic in me wants to, but this is the point where Apple is playing a dangerous game. We've already established that from Apple's perspective, the only thing that's at risk is a small part of its cash pile. Everything else from a fiscal standpoint remains as is, because it has said so.
The real potential damage
But - the appearance of government on both sides of the Atlantic being in Apple's pocket is a reputational disaster in the making at a critical point in Apple's history.
Apple has already seen a significant decline in iPhone sales and hopes that the soon to be launched iPhone 7 will revive its fortunes on that front. There is good reason to believe that will happen but it is not a done deal.
Right now, there is a substantial number of people in the US and elsewhere who believe that government does not act in their best interests. When you lay out this argumental pile of firewood, it's not a stretch to quickly ignite that pile, effectively casting Apple as a pariah.
And if that was not enough, the long letter from Apple concludes:
We are committed to Ireland and we plan to continue investing there, growing and serving our customers with the same level of passion and commitment.
So; contrary to all the huffing and puffing in the media and on its own website, Apple is staying right where it is. Of course it is.
The last year has seen it paying more tax in Ireland. It got a kick in the pants tax wise in Italy but hasn't pulled out. And the EU has confirmed in the tax decision that Ireland's favorable corporation tax rate of 12.5% is not under threat. At least not for the time being.
Do I think Apple will prevail? No. The EU has a history of digging its heels in and winning. Do I think the EU and Apple will eventually come to a settlement? Yes. I'm willing to bet yet another insane amount of money that Apple's tax accountants and lawyers are feverishly going through old calculations to add up what they believe is the correct figure when based upon the ruling.