JB Chandler Investment Company Limited (in voluntary liquidation) v Commissioner of Taxation

[1993] FCA 641

TOYOTA MANUFACTURING AUSTRALIA LTD. v. THE COMMISSIONER OF TAXATION OF THE
COMMONWEALTH OF AUSTRALIA
No. VG246 of 1989
FED No. 641
Number of pages - 4
Income Tax
(1993) 93 ATC 4820
(1993) 26 ATR 495

COURT

IN THE FEDERAL COURT OF AUSTRALIA

VICTORIA DISTRICT REGISTRY
GENERAL DIVISION
JENKINSON J

CATCHWORDS

Income Tax - Ascertainment of assessable income - Distinction between income and capital - Compensation received - Termination of agreement for manufacture and sale of motor vehicle engine components over period of years - Whether compensation for termination a compensation for abandonment of part of the taxpayer's profit-making structure.

Income Tax Assessment Act 1936 - s.25

HEARING

MELBOURNE, 19 May, 1993

#DATE 15:9:1993

Counsel for the Applicant: Mr. J.W. de Wijn

Solicitors for the Applicant: Phillips Fox

Counsel for the Respondent: Mr. B.J. Shaw QC and Mr. G.T. Pagone

Solicitors for the Respondent: Australian Government Solicitor

ORDER

THE COURT ORDERS THAT:

1. The appeal be dismissed

2. The respondent's costs (including reserved costs) of the

appeal be paid by the applicant.

Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

JUDGE1

JENKINSON J Appeal against the respondent's decision wholly to disallow an objection against his assessment of the applicant's taxable income of the year of income ended 30 June 1984.

1. In making the assessment the respondent reduced the loss claimed to have been incurred by the applicant, in the year immediately preceding the year of income, by $1,319,554, thereby increasing the taxable income of the year ended 30 June 1984 by that amount. That amount had been paid to the applicant in the year ended 30 June 1983 by General Motors- Holden's Ltd. ("GMH"). The circumstances giving rise to the payment were disclosed by the evidence to have commenced in about June 1979. At that time and thereafter until 30 June 1984 the applicant conducted the business of machining engine parts, casting aluminium engine components, assembling engines and pressing motor vehicle panels, and selling the products. The only purchaser during that period was Australian Motor Industries Ltd., which was the assembler of Toyota motor vehicles in this country. From 1978 until 1982 all the shares in the applicant were owned by two Japanese companies, Toyota Motor Corporation and Toyota Motor Sales Corporation, which were then merged. Thereafter the applicant continued at relevant times a wholly owned subsidiary of the product of that merger, Toyota Motor Corporation. In about June 1979 the applicant and G.M.H. reached an agreement, informal and perhaps not of any legal contractual effect, that the applicant would manufacture in Melbourne to a particular specification and sell to G.M.H. over a period of 5 years 600,000 aluminium cylinder head castings for use in the production of motor vehicle engines. Delivery was intended to commence in January 1983. At a meeting of the applicant's directors on 4 October 1979 it was noted that the builder which was constructing for the applicant factory buildings at Altona had been appointed to constrict a "foundry extension", which would be required to house the plant needed to produce the castings. The minutes include the statement : "The contract (scilicet, for construction of the extension) will be signed after the arrangement with General Motors is finalised". In a report on new projects which a director tabled at a meeting of directors on 30 October 1979 the estimated "total investment" in the cylinder head castings project is stated to be $9,000,000 and the commencement of volume production is stated to be January 1983. By that time excavation works for the building extension had commenced. In November 1980 G.M.H. submitted to the applicant a draft written agreement between the parties. A year later the applicant responded with another draft. The person who signed the letter with which that draft was enclosed, who was at relevant times the "Manager, Finance and Administration" of the applicant, deposed that thereafter "I and other representatives of Toyota met with Mr. Stevens and other representatives of G.M.H. and agreed that (subject to some fine tuning on minor matters) the terms of the G.M.H. agreement were those contained in the document (submitted to G.M.H. by the applicant). From late 1981 until November 1982, the parties accepted that the document .... substantially recorded the agreement between them. At no stage, however, was a formal contract actually executed". At about the time when the applicant's draft was submitted to G.M.H. the applicant was asked by G.M.H. to abstain from further preparation for the production of the cylinder head castings because G.M.H. was, as it said, entertaining doubts about its ability to utilise 120,000 castings per annum at the proposed price. Thereafter there were discussions between the parties until November 1982 when they agreed that the projected transaction - to which the parties then referred as "our negotiations in respect to this Cylinder Head project" - should be abandoned. The applicant's letter of concurrence in that conclusion includes the following:
   

"We agree with you in believing that it would be to our mutual

advantage to discuss the termination of our negotiations as soon as possible. As advised, we will be seeking fair and reasonable

compensation from you for our investment in your project."

Thereafter the parties negotiated until May 1983, when it was agreed that certain compensation should be paid by G.M.H. to the applicant. The deponent to whom I have referred, Anthony James Simpson, who took part in the negotiations, deposed as follows:

"At an early stage of these negotiations, GMH agreed that fair and reasonable compensation should be paid by GMH to Toyota for the

cancellation of the contract; that this was desirable in order to

maintain goodwill between Toyota and GMH, in view of their on-going commercial relationships in Australia and elsewhere."

There was evidence that the transaction in this country which gives rise to this appeal was but one manifestation of a relationship between the respective foreign holding companies of G.M.H. and the applicant. There was also evidence that the applicant sought no more compensation than G.M.H. might be expected to think fair and reasonable, in order to maintain that goodwill.

1. The principal item of compensation was interest on the money expended on the building and plant and equipment dedicated to the abandoned project. Interest was payable until the applicant commenced to utilise the cylinder head casting capacity which it had provided for use in the abandoned project, according to the evidence of Mr. Simpson. But another deponent's evidence was that interest ran only until 31 May 1983. In fact use of the capacity commenced in April 1984. The agreed interest rate of 15 per centum per annum was that prevailing among Australian lenders at the relevant time. There was evidence that the rate was roughly equivalent to the much lower rate prevailing among Japanese lenders, from whom the applicant in fact borrowed funds applied to the project, when account was taken of the risks - and the cost of insuring against the risks - of exchange rate losses on repayment in Japanese currency. The amount in issue in this appeal consisted of $1,238,040 for interest to 31 May 1983 on money spent on the building extension and on plant, and $81,514 in respect of the provision of technical services by employees of the applicant and Toyota Motor Corporation in the development of the plant and equipment for use in the manufacture of the castings. The negotiated settlement by which the applicant and G.M.H. resolved the abandonment of the project comprehended other matters, as for example payment by G.M.H. for tooling, which the draft agreements contemplated that G.M.H. would provide at no cost to the applicant, but which had been manufactured by Toyota Motor Corporation at the request of G.M.H. But the detail of those arrangements need not be considered.

2. As Mr. de Wijn of counsel for the applicant pointed out, the sum of $1,238,040 which the applicant and G.M.H. called interest was a measure of the compensation agreed to be allowed the applicant for having applied its funds to provide the building and equipment necessary for the performance of the contract they had made, or intended to make, not compensation to a lender for being kept out of the use of money lent to the person paying that compensation. Mr. de Wijn's submission was that the consideration for the payment of $1,319,554 by G.M.H. was the applicant's giving up the congeries of rights which the applicant had under their contract. And, according to the submission, the contract was not an ordinary commercial contract for the supply of goods to be manufactured in the course of carrying on the applicant's trade; rather, the congeries of rights conferred by the contract constituted part of the whole structure of the applicant's profit-making apparatus and therefore constituted a capital asset, for the surrender of which the payment was to be recognised as on capital account.

3. At relevant times the applicant was selling all that it produced to Australian Motor Industries Ltd., for about $30,000,000 in the year ended 30 June 1983. What it sold included aluminium castings. The price for the castings to be sold to G.M.H. was not shown by the evidence ever to have been precisely agreed, but gross sales revenue under the contract with G.M.H. would have been about $5,000,000 in a year, measured in the money of 1983. In Van Den Berghs Ltd. v. Clarke (1935) AC 431 at 443 Lord Macmillan observed:
   

"Mr. Hills very properly warned your Lordships against being

misled as to the legal character of the payment by its magnitude,

for magnitude is a relative term and we are dealing with

companies which think in millions. But the magnitude of the

transaction is not an entirely irrelevant consideration."

The relative magnitude of neither the sales revenue to be derived under the contract nor the payment by G.M.H. of the $1,319,554 seems to me to point to the conclusion for which Mr. de Wijn contended. Nor did he expressly rely on it, or on the circumstance that this was the first contract, so far as appeared by evidence, made by the applicant for the supply of a product not for use in a Toyota motor vehicle. But he did point out that the expenditure by the applicant of $7,643,000 on a building extension and plant was undertaken only to acquire the capacity to perform the contract with G.M.H. On the other hand it is unlikely that the applicant would have been prepared to spend $7,643,000 on a building and plant solely in order to perform a contract expected to yield sales revenue of $25,000,000. No doubt the extension would not have been built nor the plant installed in 1980 if there had been no agreement with G.M.H. But the applicant had been manufacturing aluminium engine castings before this contract was mooted and no doubt expected to continue in that manufacturing activity in the foundry extension after the contract had been performed, as it in fact did when the contract was abandoned.

1. The terms of the draft contract provide little support for the applicant's submission. The more detailed of the two drafts, which Mr. Simpson deposed that the parties accepted as substantially recording their agreement, is expressed in the language of an agreement for the manufacture and sale of 600,000 units of future goods, to a design to be specified by the buyer, over a specified period at times and in quantities to be notified by buyer to seller. Detailed provision is made with respect to delivery, return of delivery racks and pallets to the seller, times of payment, price variation in consequence of cost increases, claims in respect of defective goods, force majeure, assignment of rights and obligations, and termination for breach. The buyer is given the right to change design or specification and is obliged to provide the seller, free of charge, with all tooling required for the manufacture of the goods. There is no provision for extension of the term of 5 years, or for renewal of the contract. One of the contractual provisions recognises that "the manufacturing methods" to be employed in the manufacture of the castings shall be the same in all respects as those employed in the manufacture of aluminium cylinder head casting for the applicant's own use.

2. Neither the terms of the contract nor the circumstances of the applicant or of its business activities justify a conclusion that the contract was a part of "the whole structure of (the applicant's) profit-making apparatus", a "means of making profit" as distinct from a contract by the performance of which profit might be derived. It was, apparently, an unusual contract in that it was, so far as appeared by evidence, made with only the second customer the applicant had had for its business, and made for the first time in connection with a motor vehicle that was not a Toyota. But the applicant was engaged in the business of manufacturing and selling motor vehicle engine components, and this was a contract for the manufacture and sale of such goods in the ordinary way. By its performance the applicant expected to make profits. The consideration paid to the applicant for giving up the rights the contract conferred on it, or alternatively the rights which commercial honour binding great international corporations conferred on it, was income in the applicant's hands, in my opinion. The appeal will be dismissed with costs.