Starbucks Corporation: Tax Avoidance Controversies in the United Kingdom

Case
“Starbucks’ coffee menu famously baffles some people. In Britain, it’s their accounts
that are confusing. Starbucks has been telling investors the business was profitable,
even as it consistently reported losses.”1
Introduction
On October 15, 2012, Reuters released a special report titled “How Starbucks avoids UK
Taxes.” The investigative reporters at Reuters compared legal filings in the English company
register, Companies House, with Starbucks’ own group reports and 46 transcripts of
conference calls with investors and analysts over a 12 year period. What they turned up were
stark differences in how Starbucks viewed its UK subsidiary internally and how it was
portrayed to the UK government, specifically the tax authority, Her Majesty’s Revenue and
Customs.
Starbucks officials internally gushed praise on their UK business unit. On multiple occasions
it was referred to as “profitable” and a model for other regions to follow. In November 2007,
the Chief Operating Officer Martin Coles told analysts that the UK unit’s profits were funding
Starbucks’ expansion in other overseas markets. However, the unit’s accounts showed a tenth
consecutive annual loss. The Reuters report went on to cite multiple instances when
Starbucks provided positive news to analysts yet showed operating losses to the UK
government:
“For 2008, Starbucks filed a 26 million pounds loss in the UK. Yet CEO Schultz told
an analysts’ call that the UK business had been so successful he planned to take the
lessons he had learnt there and apply them to the company’s largest market – the
United States. He also promoted Cliff Burrows, former head of the UK and Europe, to
head the U.S. business.”2
As soon as the newspaper hits newsstands and the Reuters website, there was an immediate
public and political outcry. UK Uncut, an activist organization, planned boycotts and sit-ins.
Several Members of Parliament (MPs) voiced outrage and quickly summoned Starbucks Chief
Financial Officer Troy Alstead to testify before committee.
Starbucks History and Image
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Starbucks Corporation
In 1971, Starbucks was founded in Seattle as a coffee bean roaster and retailer. The location
sold high-quality coffee beans and equipment. The company started serving espresso coffee,
the first drink that Starbucks sold, in 1986. The next year, the original owners sold the
fledgling chain to former employee and current CEO Howard Schultz, who began an
aggressive expansion campaign. Since 1986, the company has opened, on average, two
stores per day.
Starbucks issued its Initial Public Offering in June 1992. At the time the company owned or
licensed 140 outlets and booked annual revenue of $75 million. In 2012, the total number of
stores in operation numbered more than 18,000 and were spread over 60 countries. For the
fiscal year, Starbucks’ consolidated revenues reached a record $13.3 billion. Companyoperated stores accounted for 79 percent of total net revenues during the 2012 fiscal year.3
Coffee is no longer the only item sold through Starbucks locations. This excerpt from the 2012
10-K filing with the United States Securities and Exchange Commission summarizes the
extent of their offerings:
“Starbucks stores offer a choice of coffee and tea beverages, distinctively packaged
roasted whole bean and ground coffees, a variety of premium single serve products,
juices and bottled water. Starbucks stores also offer an assortment of fresh food
offerings, including selections focusing on high-quality ingredients, nutritional value
and great flavor. A focused selection of beverage-making equipment and accessories
are also sold in our stores.”4
Starbucks has also spun off a unique tea bar concept called Teavana Fine Teas and Tea Bar.
They are also expanding their juice line, Evolution Fresh, with an aggressive growth strategy
with the goal of further increasing their market share in the super-premium juice category. The
company has also begun exploring handcrafted carbonated beverages to offer for sale in its
existing locations.
Howard Schultz
Howard Schultz is the Chairman, President, and Chief Executive Officer of Starbucks. Before
joining the company he was the general manager for a Swedish drip coffee maker
manufacturer called Hammarplast.5 Starbucks was a client of Hammarplast and Schultz was
impressed by the company’s knowledge of coffee and the amount of business that they were
conducting, even as a small outfit. A couple of years after his first encounter with Starbucks,
Schultz joined the company in 1983 as the Director of Marketing.
While visiting Milan on a buying trip, Schultz was struck by the presence of a coffee bar on
virtually every street corner. Not only were they serving countless espresso drinks, they also
acted as meeting places or public squares, providing a sense of community and
belongingness. He took this newfound knowledge back with him and tried to convince the
owners to start offering hot brewed beverages in addition to the coffee beans and leaf teas
that they already offered. The owners resisted and, after a brief stint trying to start his own
coffee company, Schultz bought the retail unit of Starbucks for $3.8 million.6
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Social Responsibility
Howard Schultz is considered the “soul” of the company. His passion and business savvy
have made the company into what it is today. He also brought to the company “a distinctive
set of values that has and continually shapes how the company engages their customers,
their employees, and the communities where they do business.”7 The company continually
monitors its adherence to the norms of social responsibility, noting in a CRS report:
“We have been building a company with a conscience for more than four decades,
intent on the fair and humane treatment of our people as well as the communities
where we do business, and the global environment we all share.”
—CEO Howard Schultz, 2012 Global Responsibility Report Message.8
Starbucks provides full benefits for all of its employees, which it refers to as “partners.” They
also established a business practices goal: All of their coffee would be “ethically sourced” by
2015. The cornerstone of this approach is their Coffee and Farmer Equity (C.A.F.E.) Practices,
“a comprehensive coffee buying program that ensures coffee quality while promoting social,
economic and environmental standards.” Through 2012, the company purchased 93 percent
of their coffee in this manner.9
International Taxation
Typical International Tax Methods
Most governments tax individuals and/or corporations on income or profits, respectively. These
taxes are used to pay for everything from national defense and transportation infrastructure to
food stamps and farm subsidies. These taxation systems vary widely by government and
there are few broad, general rules. However, it is possible to understand the general
corporate tax environment by understanding a few choices that each government must make
when it comes to their corporate tax policy.
Countries usually pick between two systems: territorial or residential. In a territorial system,
only the income from a source inside the country is taxed. For example, an American
company with locations in Canada would only have to pay Canadian taxes on the portion of
sales that are within Canadian borders. In a residential system, the residents of a country are
taxed on their worldwide income, not just local income. The residential system is geared more
toward personal income tax and does not affect corporations.
Corporate tax rates also vary widely by country. Every country has different funding needs
based on their size, the extent to which the government operates social welfare programs,
and numerous other factors. Those looking to increase investment within their borders may
offer lower tax rates and those with large infrastructures to maintain may have higher tax
rates. These varied tax rates provide an unintended incentive for companies to attempt to
transfer revenues and profits from countries with higher tax rates to those with lower tax rates,
thereby retaining more net income for shareholders and managers.
Several tax avoidance strategies exist. Some companies charge subsidiaries for the use of
“intellectual property” such as the brand name and their business practices. These types of
arrangements typically charge 4% of revenue. Other companies that are vertically integrated
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upstream and downstream charge units in high tax jurisdictions higher prices in order to move
money to lower-taxed countries. Transfer-pricing regulations allow this practice and
companies can then allocate profits to high-charging subsidiaries in low tax rate areas.
Starbucks Money Trail
Starbucks employs various legal methods in order to minimize their tax liability within the UK.
The corporate tax rate in the UK in 2011 was 26%. Each step along the money trail is
designed so that in the end, the Starbucks subsidiary in the UK shows no profits on paper.
This effectively reduces their tax bill in that jurisdiction to zero even though that market may
be very profitable for them.
The Starbucks subsidiary in the UK is heavily debt-financed. Even for a company with positive
net cash flows, the UK subsidiary still has large amounts of debt and large interest bills. All of
these loans are from the Starbucks headquarters in Seattle. The interest on these loans is
higher than the interest rate on the average Starbucks bond, at the LIBOR rate plus 4%
versus the LIBOR rate plus 1.3%. While this moves profits to the United States where there is
a relatively high tax rate, the interest stays within the company instead of being paid out to
banks or investors who purchase their bonds.
Starbucks also charges the UK unit a royalty and licensing fee of 6%. This is higher than the
4% that a typical arrangement of this sort would charge. Starbucks claims that it has some
independent licensees who also pay 6%, so they are within their legal right to charge their
own subsidiary the higher rate, as well.10
The final method that Starbucks employs is how it pays for its main product
a tax bill of £15 million during the 2011-12 reporting period. While the UK coffee shop market
appears strong and close competitor Costa Coffee reports growing profits, Starbucks claims
that it is not generating profits within the UK. Global CFO Troy Alstead reports that Starbucks
has recorded profits in only three years since they entered the UK in 1998 and that 25% of
their UK stores run at a loss.15
High rents and space costs within UK cities were proposed as reasons for Starbucks’ failure to
generate profits; however, Costa Coffee has been able to achieve an operating margin of
14.3% with a similar retail footprint and comparable labor costs.16 Chief executive of Costa
Coffee, Andy Harrison, appeared to enjoy Starbucks tax avoidance controversy, commenting
“Costa has been the UK’s favourite coffee shop for quite some time and we remain the
taxman’s favourite coffee shop, too.”17
HMRC, Parliament & Public Opinion
The taxman within the United Kingdom is Her Majesty’s Revenue and Customs (HMRC),
which is responsible for the collection of both personal and corporate income taxes, among
other duties. Formed in 2005 as a merger of two previous tax entities, the HMRC outlined its
purpose and vision by stating “We make sure that the money is available to fund the UK’s
public services” and “We will close the tax gap, our customers will feel that the tax system is
simple for them and even-handed, and we will be seen as a highly professional
organisation.”18 In the HMRC charter, it is further laid out that the public can expect the
HMRC to “tackle people who deliberately break the rules and challenge those who bend the
rules.”19
The HMRC received help in their mission from Reuters in publishing their special report on
Starbucks, as well as from several other media investigations in 2012. A Guardian report on
Amazon showed the online retail giant paid no corporation tax on more than £3 billion in sales
within the United Kingdom,20 while the Telegraph reported that Google paid just £6 million in
tax on £395 million of UK turnover.21 Following these reports, representatives from all of the
firms were summoned to Parliament to speak to the Publics Account Committee. Corporate
tax avoidance had become a hot button issue for both the media and government, with
Michael Meacher, an MP for the Labour Party, stating specifically that Starbucks’ tax
behaviour “is certainly profoundly against the interests of the countries where they operate
and is extremely unfair…. they are trying to play the taxman, game him. It is disgraceful.”22
While several corporations were the subject of media tax avoidance investigations and
summoned to Parliament, Starbucks faced the brunt of the public uproar. According to the
YouGov BrandIndex, which measures the strength of a company’s brand perception,
Starbucks dropped to a record low score of −28.6 following the release of the Reuters special
report. In the month leading up to the Parliament summons, Starbucks’ score remained
around −16.7, which is in sharp contrast to its score from 2011 of +3.1.23 In contrast, the
BrandIndex scores for Google and Amazon barely dropped due to their media reports and
Parliament summons. The UK director for BrandIndex, Sarah Murphy commented:
“A brand’s buzz score typically recovers following a spate of bad press, but we aren’t
seeing that with Starbucks, which is quite unusual. Its scores started to level out
around the end of last month, but whatever modest recovery Starbucks has made
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1.
2.
3.
4.
could well be in jeopardy if this story flares up again in the media.” 24
UK Uncut
The continued negative public backlash against Starbucks could have something to do with
the actions of the organization UK Uncut. While it started as a simple hashtag, UK Uncut
grew during the recession into an organized movement with protests and boycotts in over fifty
UK cities.25
UK Uncut campaigned against the government’s austerity plans to cut public services and
reduce the deficit, claiming the deficit could be reduced and welfare services maintained if the
government collected all the tax revenue it was due. A UK Uncut FAQ says, “It is estimated
that £25bn a year is lost through tax avoidance – money that could fund the refuges, rape
crisis centres, sure start centres and child benefit payments that are currently being axed by
the government.”26
One of the first UK Uncut targets, Vodafone, was forced to close nearly thirty stores around
the country due to protests and sit-ins.27 Since 2010, banks such as Barclays, RBS and
HSBC, and retailers like Boots and Tesco have come under fire from UK Uncut.
Following the release of the Reuters report in October 2012, UK Uncut began to target
Starbucks with protests and boycotts. On November 11, 2012, the date that Starbucks CFO
Troy Alstead was scheduled to meet with Parliament, UK Uncut announced a new campaign
against Starbucks, titled “Refuge from the Cuts.” The intent of the campaign was to turn
dozens of Starbucks locations on a Saturday in December 2012 into services that were being
cut by the government, such as refuges, homeless shelters and crèches.28 A UK Uncut
activist was quoted as saying “Starbucks is a really great target because it is on every high
street across the country and that’s what UK Uncut finds really important: people can take
action in their local areas

Based on a real world case attached write a case study-report that:

1. Critically analyse the ethical issues surrounding tax avoidance and tax evasion.

2. Critically evaluate the measures and actions that HMRC apply for tax compliance.
(Connect these measures and actions with tax avoidance and evasion ethical dilemma)

 

Sample Solution

ACED ESSAYS