10 Key Factors For A Successful Cross-Border Deal

Rapid changes in tariffs by the U.S. and its trading partners worldwide have shaken assumptions with respect to global trade. The resulting uncertainty and fear of a global trade war has frozen business decision making. And it can also result in tariffs assuming a disproportionate role in the evaluation of cross border transactions. In fact, changing tariffs—like any other change in law—creates winners and losers. Some companies are adversely affected, and others are presented with compelling opportunities.

We live in a global economy and cross-border transactions will continue in the face of changing tariffs. Yet the fact that cross-border transactions will continue should not suggest that they are easy. The parties to the transaction must comply with what are typically unfamiliar national and local laws, culture and business practices. Planning for these issues in advance can make all the difference between a successful or failed transaction. This article will explore common types of cross border transactions and identify common challenges that must be overcome to realize a successful outcome.

A cross-border transaction is basically any transfer of property, goods or services between individuals or business entities who reside in different countries. The transaction itself may be something as simple as purchasing a product over the Internet from Vietnam. Or it may be as complex as a multi-tier joint venture in another country accompanied by sophisticated inter-company service agreements, and intellectual property licensing and distribution agreements—all of which are designed to allocate profits (and therefore taxes) between the structure’s various entities.

Here are a few examples of cross-border transactions:

Manufacturing offshoring. The explosion of global trade over the past 50 years has been driven to a large degree by Western countries’ offshoring manufacturing to countries with lower cost labor. Key issues in such transactions typically include IP licensing, currency fluctuations, allocation of responsibility for product quality, and managing overall supply chain risks such as port closures, pandemics, shipping rate changes and tariff exposure.

Manufacturer–distributor joint ventures. Joint ventures of this type reflect the need of a manufacturer in one country to access foreign markets. This is often achieved through alignment with a foreign distributor. Key issues involve IP protection, managing foreign exchange fluctuations, and ensuring that the distributor provides the desired customer experience.

Business mergers & acquisitions. It’s common for a business to determine that its best way to enter a foreign market is make a strategic acquisition. Key issues for this type of transaction are those common to domestic M&A transactions, but with the added complexity of compliance with laws in at least two jurisdictions. In addition, the company making the acquisition must pay particular attention to cultural issues and foreign business practices if it is to successfully integrate the target company.

A Software as a Service (SaaS) business with worldwide distribution. Since SaaS is sold as a subscription and technically involves neither the sale product nor the license of software, revenues and profits for SaaS subscriptions can be allocated most anywhere a business has physical operations. This can lead to tax-driven business structures located in low tax jurisdictions, which may involve the transfer of IP cross border, or locating research and development centers in strategic tax jurisdictions. Other key issues involve identifying and managing local employees and, maintaining the required level of operations, substance, and management authority in these tax advantageous jurisdictions. Likewise, care must be taken to contractually allocate liability and risk between the SaaS provider and its reseller and customer service functions.

Purchase of foreign real estate. It’s common that cross-border transactions involve the purchase or sale of real estate. This can be challenging as real property laws vary widely from country to county. For example, some countries don’t allow private property ownership. And others regulate the ownership of property for strategic or national security reasons. Also, tax withholdings can be required on sale of property in a foreign country.

Contribution of IP for equity. In the modern economy, business success is often determined by a company’s ability to develop or acquire IP. This can, in turn, create incentives for IP created in a foreign country to be contributed to a US company in exchange for equity. This, in turn, raises typical issues relating to IP registration and valuation across multiple jurisdictions. It can also raise a host of regulatory issues, including compliance with laws relating to the export of sensitive technologies or foreign investment rules that can prevent certain transfers of property in exchange for ownership in a foreign country.

As you can see, different type of cross-border transactions raise different types of issues unique to the specific transaction. But listed below are issues that are common to virtually all such transactions. Smart executives will assemble a team of advisors early on to ask themselves the following 10 questions to better plan to successfully overcome them.

1. Is the proposed transaction prohibited? At the very outset, the parties to a potential transaction should confirm that it is not prohibited by the laws of one or more of the countries involved. For example the Committee on Foreign Investment in the United States carefully scrutinizes investments by foreigners in businesses that are critical to the United States national security. Any transaction involving high speed computing, a defense manufacture or port facility will be highly scrutinized and possibly prohibited. Likewise, investments by U.S. Companies into certain businesses in foreign countries can be prohibited or strictly scrutinized. Examples include investments into media companies, ports and other critical infrastructure, utilities and artificial intelligence companies.

2. What political risks could jeopardize the deal? Because cross-border transactions by definition involve “international” business, they are affected by factors not necessarily present in your local market. Regardless of the type to cross-border transaction you may be considering, it’s important to evaluate political or country risk. Conducting businesses in certain countries (North Korea, Iran, Russia) is severely limited by economic sanctions. Other countries have unstable governments or are driven by ideology that could put your foreign business at risk. And developing countries are subject to political changes that make business operations challenging. Just like risks with respect to tax, employment law and foreign investment compliance noted below, careful evaluation of political risk is essential to the long term success of a cross-border transaction.

3. Have we accounted for all tax implications? Virtually any cross-border transaction will be subject to tax laws and treaties with which the parties to the transaction are often not familiar. For example, contrary to the expectations of most U.S. business executives, the sale the shares of a company in one jurisdiction can trigger taxation of its assets owned by a subsidiary in another jurisdiction. Careful due diligence should be conducted to ensure that the parties are aware of and proactively addressing the tax consequences of the transaction. Also, care should be taken to structure your foreign operation to avoid foreign taxation of your profits in the U.S. or elsewhere. Careful analysis of all transaction-related tax issues and providing for post transaction compliance is key not only to economizing on taxes attendant to the transaction but also those applicable to post transaction operations. Also, even for the simplest cross-border transaction, care must be taken to allocate taxes between the parties.

4. Are we complying with local employment laws? Perhaps the only thing more challenging than managing domestic employees is the management of their foreign counterparts! As we experience in the United States, employment laws vary considerably from state to state. These differences typically are much greater in cross-border transactions. It’s important for the parties to understand these local laws, as failure to do so can tarnish the reputation or your company, undermine morale, and lead to expensive claims.

5. Can foreign employees participate in equity programs legally? Ownership by foreign employees cross-border can lead to serious headaches if not properly executed. Most foreign countries strictly regulate outbound foreign investment, making it imperative to carefully review a planned investment by a foreign individual into the U.S. company before it occurs. For example, failure to properly register such investments can lead to forced divestiture of the employee’s ownership, substantial penalties, or both. Likewise, for a U.S. company to offer to foreign employees the opportunity to participate in an employee stock option plan is often subject to strict foreign country requirements that are unfamiliar to U.S. experts on stock options. Failure to understand and comply with these requirements can expose the U.S. parent company to uncertainly with respect to its capital structure, and disappoint the foreign employee when he or she is denied the benefit of the equity incentive program.

6. Are we meeting social compliance expectations? Western companies with a labor union or which manufacture consumer products will want to proactively address certain rapidly-evolving social compliance standards. Consumer concerns over child labor, sweat shop conditions, human trafficking and environmental compliance often are best addressed by third party audits of a foreign operation’s employment practices. Likewise, if a cross-border transaction is threatening to a domestic labor union, it will be important to proactively implement wage and hour policies at the target company to head off potential criticism.

7. Is our business aligned with global data privacy laws? In a digital age, governments worldwide are adopting privacy laws designed to protect consumer and other personal information. These privacy laws can vary materially from country to country, requiring careful analysis of risks they may pose to a transaction as well the need to update your company’s privacy policies regarding how your company collects, uses, shares and transmits personal information data to ensure post-transaction compliance.

8. Have we factored in tariff exposure and supply chain risks? Of course, tariffs matter in cross-border transactions. In today’s word, to enter into such a transaction without considering tariff risks can lead to catastrophic outcomes. Foreign investment into China, for example has declined dramatically as Western companies take into account the growing levels of tariffs on products imported from China (as well as the political risks noted above). Sophisticated tariff management planning typically involves adjustments to a company’s entire supply chain. Given the pace of change in this area and the need to develop a resilient strategy, companies increasingly are opting for nimble structures over ones that involve long-term capital investments.

9. Are we prepared for potential disputes? While no business enters into a cross-border transaction expecting things to go poorly, sometimes they do. Therefore, it’s important that all contracts between the parties include appropriate dispute resolution provisions that protect their respective interests. In preparing such provisions, a business should keep in mind the remedies most likely to be sought (e.g., money damages vs. equitable relief) and the forum from which it can most likely obtain an enforceable judgment. Beyond that, provisions can be crafted to designate the applicable law and require, for example, that proceedings are held in the English language and that they are in a location that is inconvenient for one of the other of the parties.

10. How will you repatriate profits efficiently? As stated by the famous author, Stephen Covey, it’s important to begin with the end in mind. In most business transactions, this means planning for the time in the future when you desire to exit the business you’re creating through the cross-border transaction. Since the parties to most cross-border transactions desire to eventually repatriate foreign earnings, planning at the outset how to do that efficiently and on a tax-advantaged basis can add materially to the overall economic return of the transaction.  This involves carefully planning your corporate structure from the outset to be tax efficient in the event of a future sale (for example, by holding foreign ownership indirectly through an offshore holding company).

To address these common challenges to cross-border transactions and develop strategies to overcome them, it’s important to assemble early on a team of advisors to address the legal, accounting and other issues involved. To promote critical thinking this team should be empowered to focus on the goals of a cross-border transaction and encouraged to present more than one option for achieving those goals.

While cross-border transactions are not easy, they have significant benefits. As the global economy continues to grow, the businesses most likely to be successful are those who enter into cross-border transactions eyes wide open and following careful planning.

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