FINAL RESULTS OF REDETERMINATION PURSUANT TO COURT REMAND
Aimcor v. United States
Slip. Op. 98-170
No. 93-06-00322 (December 30, 1998)
The Department of Commerce ("Department") has prepared these remand results pursuant to an order from the U.S. Court of International Trade ("CIT") in Aimcor v. United States, Court No. 93-06-00322 Slip Op. 98-170 (CIT December 30, 1998).
The CIT's December 30, 1998, remand order instructed the Department to "reconsider whether or not the government of Venezuela's purchase of Class E shares of CVG-Venezuela de Ferrosilico, C.A. ("FESILVEN") stock was consistent with commercial considerations." The Department must reconsider this question in light of the conclusions of the Court of Appeals for the Federal Circuit ("CAFC") that: "(1) [the Department's] determination that Class E shares were entitled to dividends and liquidation proceeds was not supported by substantial evidence, (2) [the Department's] determination that Class E stock bore no legal restrictions on its sales price was supported by substantial evidence, and (3) the Department's determination that Class E shareholders could enjoy capital appreciation was supported by substantial evidence." The Department must, therefore, determine "whether this potential for capital appreciation was sufficient to make the purchase of Class E shares consistent with commercial considerations." Aimcor Slip Op. 98-170 at 2.
In the Final Affirmative Countervailing Duty Determination: Ferrosilicon from Venezuela; and Countervailing Duty Order for Certain Ferrosilicon from Venezuela, 58 FR 27539, (May 10, 1993) amended by 58 FR 36394 (July 7, 1993) ("Ferrosilicon from Venezuela"), the Department determined that the purchase of Class E shares in FESILVEN by Venezuelan government entities was consistent with commercial considerations and, thus, not countervailable. This determination was based on the findings that: (1) FESILVEN was equityworthy at the time of the purchase of Class E shares (see Ferrosilicon from Venezuela, 58 FR at 27541, Comments 3 and 5), and (2) that Class E shares had value because they carried voting rights and were eligible for dividends (Id. at 27542, Comment 7).
On December 13, 1994, the CIT remanded the Department's final determination. Aimcor v. United States, 871 F. Supp. 447 (CIT 1994) ("Aimcor I"). Though it did not take issue with the Department's equityworthiness finding (Aimcor I, 871 F. Supp. at 454), the CIT determined that the Department's scope of inquiry with respect to the purchase of Class E shares was insufficient to carry out the Department's statutory mandate. Id. Specifically, the CIT found that the Class E shares were subject to two primary restrictions: (1) they could not be sold for greater than par value, and (2) existing shareholders had the first right of purchase prior to any sale of Class E shares. Id. at 453. In light of these restrictions, the CIT found that the only avenue of return on the shares is from future dividends. Id. at 454.
In the Department's first redetermination on remand (Final Results of Remand Determination Pursuant to Court Remand (March 30, 1995) ("First Remand Determination")), the Department determined that the Venezuelan government's purchase of Class E shares was consistent with commercial considerations, based primarily on the following findings:
Id. at 3, 4.
The first finding listed above was supported, in part, by the additional finding that Class E shares have rights to the distribution of earnings through dividends (in the form of cash and the issuance of additional new shares) as well as rights to liquidation proceeds. Id. at 18.
On December 29, 1995, the CIT held that "[the Department's] determination that the purchase of Class E shares in 1991 was consistent with commercial considerations [was] unsupported by substantial evidence on the administrative record." Aimcor v. United States, 912 F. Supp. 549, 555 (CIT 1995) ("Aimcor II"). In particular, the CIT determined that the Department incorrectly concluded that (1) Class E shareholders would not be deprived of capital gains due to any resale restrictions or conditions (including the capping of share prices at par value) and (2) Class E shares are entitled to receive dividend and liquidation distributions. Id. The CIT remanded the case to the Department with instructions "to determine the appropriate countervailing duty for the government's equity infusion into FESILVEN in 1991." Id. The CIT also found, however, that the right of first refusal would not impede Class E shareholders from receiving any potential return from FESILVEN's share distribution policies. Id. at 554.
Subsequently, the CIT issued an additional order instructing the Department to "determine the countervailing duty rate for the equity infusion received by FESILVEN in 1991 using the Commerce Department's standard grant methodology for calculating such rates." April 9, 1996 Order at 1-2.
Pursuant to these two orders by the CIT, the Department issued its second redetermination (Second Remand Determination), which was affirmed by the CIT on December 31, 1996. Aimcor v. United States, 957 F. Supp. 289, 290 (CIT 1996) ("Aimcor III").
The defendant-appellant FESILVEN subsequently appealed the CIT's decision claiming that the CIT was incorrect in reversing the Department's determination that the purchase of Class E shares was consistent with commercial considerations and in ordering the Department to use its grant methodology to determine the countervailing duty rate for the subsidy received from the equity infusion.
In reviewing Aimcor I, Aimcor II, and Aimcor III, the CAFC ruled that: (1) the CIT was correct in reversing the Department's finding that Class E shares were entitled to dividends (in the form of cash) and liquidation proceeds, (2) the Department's findings, including the finding that FESILVEN's practice was to distribute earnings through the issuance of additional new stocks, provided substantial evidence to support its conclusion that stock distributions would permit owners of Class E stock to enjoy capital appreciation, (3) the Department's factual findings of no legal sales restrictions on Class E shares provided substantial evidence to support the Department's conclusion that increases in share value would permit owners of Class E stock to enjoy capital appreciation, and (4) it was legal error on the part of the CIT to impose the grant methodology on the Department in a situation where a government equity infusion conferred a subsidy upon an equityworthy company. Aimcor v. United States, 154 F. 3d 1375, 1378-80 (Fed. Cir. 1998) ("CAFC Decision"). The CAFC further determined, however, that these findings did "not necessarily resolve the broader question of whether this potential for capital appreciation was sufficient to make the purchase of Class E shares consistent with commercial considerations." Id. at 1380.
Pursuant to the CAFC decision, the CIT again remanded the case to the Department with instructions to determine "whether this potential for capital appreciation was sufficient to make the purchase of Class E shares consistent with commercial considerations." In the event that a subsidy is determined to have existed, the CIT has ordered the Department to determine the countervailing duty by applying the method it deems appropriate. Aimcor Slip Op. 98-170 at 2.
On April 8, 1999, the Department released to parties a draft of the results of this remand determination ("Draft Remand Results") to provide parties an opportunity for comment. The petitioners submitted comments in a submission dated May 7, 1999. We received no comments on the Draft Remand Results from the respondents.
The Department's practice is to consider a company to be equityworthy if, "from the perspective of a reasonable private investor examining the firm at the time the government equity infusion was made, the firm showed an ability to generate a reasonable rate of return within a reasonable period of time." See 19 CFR Part 355 Countervailing Duties; Notice of Proposed Rulemaking and Request for Public Comments, 54 FR 23366, 23381 (May 31, 1989). In Ferrosilicon from Venezuela (58 FR 27541), the Department determined that FESILVEN was equityworthy at the time of the Class E share purchase. This equityworthiness determination was not challenged before the CIT, and the Aimcor I decision references that finding as fact. Aimcor I, 871 F. Supp. at 454.
However, in Aimcor I the CIT held that "mere eligibility for financial returns did not necessarily dictate that the expected return would be consistent with commercial considerations, especially if restrictions prevented the shares from enjoying any investment gains. . . . [Therefore the Department] needed to analyze the effect of Class E resale restrictions on reasonable shareholders' expectations of receiving their prospective share of available returns, given Aimcor's unchallenged financial ability to generate a reasonable rate of return within a reasonable period of time." Aimcor II, 912 F. Supp. at 551-52. Specifically, the CIT found that the scope of the Department's investigation was insufficient to enable it to carry out its statutory mandate because of the Court's concern that the "heavy restrictions on Class E shareholders-limitations on the resale of Class E shares to par value and the existing shareholders' right of purchase prior to sale of Class E shares-so severely restricted the expected return on Class E shares that the purchase of those shares would be inconsistent with commercial considerations." Id. at 550. On review, however, the CAFC upheld the Department's determination that there were no legal sales restrictions preventing shareholders from enjoying capital appreciation.
Therefore, in light of these prior CIT rulings and the CAFC Decision, the central point the Department must address is whether, given that Class E shareholders were not entitled to cash dividends or liquidation proceeds, the potential for capital appreciation (including the issuance of additional new stock) was sufficient to make the purchase of Class E shares consistent with commercial considerations.
In addressing this point, we start by noting that our determination, in Ferrosilicon from Venezuela, that FESILVEN was equityworthy in the year in which the Venezuelan government entities purchased these Class E shares is undisputed. In other words, we have determined that the expected return on FESILVEN's equity was, at that time, consistent with that which would be required by a private investor.
The question then becomes whether the expected return on Class E shares should be significantly different from the expected return on the firm's equity in general. To answer this, we have examined the expected return on the existing Class C shares, the other class of common shares in FESILVEN. We find that, as of the date on which the Class E shares were issued: (1) the expected return on Class C shares is the appropriate benchmark for determining the reasonableness of the expected return on Class E shares, (2) the expected return on Class E shares was comparable to that of Class C shares, and (3) the expected return on Class C shares was consistent with that which would have been required by a private investor. Our reasons are as follows.
First, the return on Class C shares is the appropriate comparison benchmark because Class C and Class E shares are both common shares and, therefore, are at a similar level of subordination to the preferred share classes of A, B and D with regard to the distribution of earnings. As of the end of 1991, FESILVEN has no other class of common shares outstanding. Because there is no reason to conclude, based on the record information, that Class C shares themselves are governed by any special conditions or restrictions which would limit any return on those shares, Class C shares are a reasonable proxy for FESILVEN's equity in general. Moreover, although this remand determination is not subject to the Department's new CVD regulations,(1) we note that in the preamble to the new regulations the Department has codified its current practice that, "where the shares purchased by the government in an equityworthy firm are common shares, we will normally consider the infusion to have been consistent with usual private investor practice." Final CVD Regulations, 63 FR at 65734.
Second, although the CAFC has found Class E shares to be ineligible for cash dividends and liquidation proceeds, neither of these restrictions would significantly lower the expected return of Class E shares vis-a-vis that of Class C shares. Holders of Class C shares had a long history of receiving the distribution of earnings though the issuance of additional new shares (i.e., "stock dividends")(2) rather than through cash dividends. Information on the record regarding the disbursement of FESILVEN's yearly earnings from 1988 through 1990 indicates that Class C shareholders received over 90 percent of their total earnings in the form of stock dividends.(3) The other classes of shareholders also historically received the bulk of their return in the form of a stock dividend. Therefore, the requirement that future earnings on Class E shares would likewise be distributed as stock dividends rather than as cash would likely not significantly alter the expected return from (and, thus, the market price of) Class E shares relative to that of Class C shares.
Moreover, the lack of liquidation rights would not (in 1991) have been expected to have a deleterious impact on the expected return of Class E given the fact that the firm was equityworthy. If the company's expected return on equity (i.e., its net earnings after it has serviced its ongoing debt obligations) is reasonable, and realizable within a reasonable period of time, the company would not be expected to go into liquidation any time soon. Therefore, liquidation rights would not command a significant premium in market price, with the result that the expected return on both Class E and Class C shares are comparable.
Third, the expected return on Class C shares was consistent with that which would have been required by a private investor. This conclusion is implicit in our equityworthiness determination. To make it explicit, however, we note that the average return (cash and stock dividends) to Class C shareholders as a result of the company's earnings through 1990 (during the historical period through which information is available) was reasonable. Inflation-adjusted total returns (cash plus stock dividends) to Class C shareholders during the period averaged roughly 15 percent, with the return from stock dividends alone also over 12 percent.(4)
These returns must also be viewed in the light of FESILVEN's ongoing expansion project during the historical period examined.(5) The effect of a significant expansion project is often to lower profits in the short run (due to the expenses incurred in the expansion project itself), but to increase rates of return in the long run. A private investor certainly could appreciate the fact that more subdued rates of return are the necessary short-term costs to far more robust profits in the future.
Moreover, we note that subsequent to the issuance of Class E shares at the end of 1991, Class E shares represented over 70 percent of the FESILVEN's total outstanding shares. Given that each share in the company entitles its owner to one vote, it would seem highly unlikely that a majority of shareholders would tolerate being "passed-over" in receiving their fair share of the company's earnings while a minority of shareholders voted to distribute all dividends in the form of cash. In other words, because the government entities collectively were the majority shareholders both prior and subsequent to the issuance of Class E shares, they could veto any decision by the shareholders that would have exploited, to the detriment of the government's overall shareholding profitability, any restrictions on the Class E shares.
Thus, for all these reasons, we find that the potential for capital appreciation was sufficient to make the purchase of Class E shares consistent with commercial considerations.
Based on the information gathered pursuant to this remand, we determine that the government's purchase of Class E shares was consistent with commercial considerations. Our determination is based on the findings that: (1) there are no legal restrictions that limit the resale value of the total Class E shareholdings of owners of Class E shares and, therefore (and as established in the CAFC Decision), Class E shareholders could reap a return in the form of capital appreciation via the distribution of additional shares resulting from the company's allocation of earnings, and (2) Class E shareholders could expect a reasonable rate of return in a reasonable period of time on their Class E shareholdings. Further supporting this determination are the additional findings, as noted in the First Remand Determination, that: (1) there is no reason to believe that existing shareholders' right of first refusal on Class E shares sales affects the expected returns on the investment, (2) FESILVEN's accumulated unpaid preferred dividends at the end of 1991 were not extraordinarily large relative to the firm's historical yearly earnings, and (3) a private investor purchased Class E shares on the same terms as those governing the government entities' share purchase.
V. Interested Party Comments
Comment 1: Given their subordination to preferred shares, can Class C shares be a reasonable proxy for FESILVEN's equity in general?
The petitioners argue that Class C shares cannot be taken as a proxy for FESILVEN's equity in general because Class C stock is subordinated in its dividend rights to the preferred classes of stock.
Department's Position: We disagree with the petitioners' contention that Class C shares are not a reasonable proxy for FESILVEN's equity generally.
Common shares are the standard equity instruments in a corporation.(6) At the time of the government's 1991 equity infusion, Class C shares were the only common shares in FESILVEN. Once issued, Class E shares became the only other class of common shares in FESILVEN.
It is, in fact, preferred shares that have "special" priority rights with regard to dividends. In the case of FESILVEN, the dividend rights of the preferred shares make those shares similar to debt instruments such as loans.(7) In contrast, there is no information on the record indicating that Class C shares are governed by any special conditions or restrictions which would distort any return on those shares. Therefore, because Class C shares are the only common shares in FESILVEN, and are not governed by special rights or restrictions, Class C shares are the most reasonable proxy for FESILVEN's equity generally.
Comment 2: Can common shares with rights to cash dividends and liquidation proceeds be comparable to common shares without those rights?
The petitioners argue that Class E common shares with no rights to cash dividends or liquidation proceeds are not comparable to Class C common shares, which do have those rights.
Department's Position: We disagree with the petitioners' contention that these two classes of common stock are not comparable. We have already explained in detail in the Analysis section above why ineligibility for cash dividends and liquidation proceeds would not significantly reduce the expected return on a class of shares in an equityworthy (and, therefore, a financially strong) company that historically has disbursed a considerable portion of its retained earnings in the form of stock dividends. And the record does not indicate that there is any difference, other than rights to cash dividends and liquidation proceeds, between Class E and Class C common shares which would have any significant impact on the expected returns of each.(8)
Comment 3: Is the equityworthiness of Class E shares implicit in the Department's standard equityworthiness determination?
The petitioners hold that the equityworthiness of Class E shares is not implicit in the Department's standard equityworthiness finding. Relying on the standard equityworthiness determination to find that Class E shares could generate a reasonable return (i.e., that Class E shares, specifically, are equityworthy), the petitioners argue, is not consistent with CAFC or CIT decisions in this case. This is evidenced, the petitioners explain, in the fact that the CAFC was fully aware of the standard equityworthiness finding when it remanded the case for a further determination of whether the potential return on E Class shares through stock dividends alone was sufficient to render the purchase of Class E shares consistent with commercial considerations. The petitioners contend that if the Department could merely rely on its standard equityworthiness finding to make this determination, then the CAFC's remand order would be meaningless.
Likewise, the petitioners continue, the CIT expressly held that where a company is equityworthy, "it does not necessarily follow that the purchase of stock from that company will be consistent with commercial considerations." Aimcor I, 871 F. Supp. at 454. Accordingly, the petitioners contend, the CIT ruling requires the Department to determine whether the expected return from Class E shares was below that which would have been required by a private investor. The petitioners furthermore argue that neither the Department nor FESILVEN challenged this CIT ruling and, therefore, "there has been no prior finding (or Court affirmance of a prior finding) that Class E-or any other class of FESILVEN equity-could generate a reasonable rate of return within a reasonable period of time." The petitioners add that the CAFC decision specifically required the Department to make this E Class-specific equityworthiness determination by examining the potential for capital appreciation through stock dividends as the lone possible source of economic return.
The petitioners summarize this point by arguing that the Department's standard equityworthiness analysis only examines whether FESILVEN the company is capable of generating a reasonable return, and not whether the expected return on a particular form of equity is below that required by a reasonable private investor. The petitioners note that in its new CVD regulations, the Department itself recognizes that an equityworthiness determination does not resolve the question of whether investment in a class of shares with certain restrictions is consistent with commercial considerations.
Department's Position: The petitioners' arguments here are related to those in Comment 1 above. Essentially, the petitioners would have us undertake a class-specific equityworthiness analysis. This has not been the Department's practice in the past, nor do we understand the CIT or the CAFC decisions to require this of us now.
We respond by first reiterating that the purpose of our equityworthiness analysis is to determine whether, from the point of view of a private investor at the time of the government's equity infusion, the company showed an ability to generate a reasonable rate of return in a reasonable period of time.(9) In other words, in determining that FESILVEN was equityworthy in 1991 (a determination that the CIT held unchallenged), we have determined that a private investor, purchasing shares in FESILVEN in 1991, would have expected to earn a reasonable rate of return on his or her equity investment in FESILVEN. We recognize, however, that certain classes of shares may have particular conditions or restrictions, not applicable to the firm's equity in general, which might impede the holders of that class of shares from receiving their expected reasonable return in full. In these cases, we conduct a further inquiry into whether those conditions or restrictions can reasonably be expected to impede access to the return generated by the company as a whole, thereby rendering investment in that class of share inconsistent with commercial considerations.
In our response to Comment 1 above, we have explained that it is reasonable to assume a firm's common shares to be representative of the firm's equity as a whole. In the case of FESILVEN's Class C stock, because the company is equityworthy and because there are no special conditions or restrictions attached to that share class, investing in Class C shares in 1991 must have been consistent with commercial considerations. However, the government equity infusion in dispute involves Class E shares, another class of common shares to which two restrictions are attached: Class E shareholders are not entitled to (1) cash dividends or (2) liquidation proceeds. We therefore must analyze whether these two restrictions would substantially impede Class E shareholders from likewise receiving a reasonable rate of return, thereby rendering investment in Class E shares inconsistent with commercial considerations.
As noted in the Analysis section and in our response to Comment 2 above, Class E and Class C shares are comparable, cash dividend and liquidation proceed rights notwithstanding. Therefore, in order to assess the extent to which the restriction of cash dividends would impact the expected return to Class E shares, we hypothetically imposed this restriction retroactively on Class C shares (i.e., stripped away the historical dividends paid in cash) and calculated a historical return to Class C shares based solely on stock dividends. We also examined the value of liquidation proceeds on shares in a company which was financially healthy (equityworthy) and, therefore, assumed to be an ongoing concern.(10) As a result of this analysis, we determined that the effect of these two restrictions on the expected returns to Class E shares vis-a-vis Class C shares to be insubstantial and, therefore, the government's investment in Class E shares was consistent with commercial considerations.
Therefore, contrary to the petitioners' assertions, we have not merely relied on our equityworthiness determination to find that the government's purchase of Class E shares was consistent with commercial considerations. Rather, we have further analyzed in-depth whether Class E share's potential for capital appreciation (through stock dividends) was sufficient to make the purchase of Class E shares consistent with commercial considerations.
The petitioners argue that our methodology renders the Court's order meaningless. To the contrary, our approach is entirely consistent with the CAFC Decision, and with the CIT's Remand Order, which was to determine whether the "potential for capital appreciation was sufficient to make the purchase of Class E shares consistent with commercial considerations." Instead, the petitioner's position that we are required to make an equityworthiness finding for each class of stock would make our determination of FESILVEN's equityworthiness meaningless. FESILVEN's equityworthiness, however, is not contested. Accordingly, we have determined that the limitation to stock dividends and the lack of liquidation rights did not diminish the prospects for capital appreciation on Class E stock, such that its purchase was inconsistent with commercial considerations.
Comment 4: What is the appropriate basis for valuing the capital appreciation of Class C shares?
The petitioners contend that the Department incorrectly based its calculation of the value of the Class C stock dividends on the nominal par value of the stock dividends rather than on the "economic" value of those dividends. The nominal par value per share is entirely arbitrary, the petitioners argue, whereas an economic value would be based on the book value of the stock.(11) Citing a financial accounting text, the petitioners explain that per share book value is calculated by taking "the net assets of the company less the par value of the preferred equity and any unpaid preferred dividends, divided by the number of common shares." Based on an analysis of economic values, the petitioners maintain, Class C shares actually experienced a negative, inflation-adjusted rate of return in the years leading up to the 1991 equity infusion.
Department's Position: We disagree with the petitioners' contention that we have incorrectly valued the stock dividends.
To start, we note that by their own arguments the petitioners have disqualified their proposed "book value" approach to the valuation of capital appreciation as an alternative to the Department's calculation. The petitioners hold that a "par value" is arbitrary and, therefore, not a legitimate basis for calculating the economic value of a dividend. Yet the very calculation of book value that the petitioners propose incorporates the "par value of preferred equity" which, according to the petitioners, is arbitrary. If the inclusion of par value is a sufficient basis for rejecting the Department's calculation, it likewise must also be sufficient to render the petitioners' approach invalid.
That said, the petitioners are nevertheless incorrect in stating that our methodology for calculating the value of the dividends is based on arbitrary par values. To explain why, we first reiterate a point we made in our First Remand Determination.
Each year that FESILVEN earned an after tax profit (as determined by its accounting records) it distributed a portion of this profit in the form of cash dividends, and kept the remainder as retained earnings.(12) FESILVEN then paid out the majority of these retained earnings as a stock dividend by distributing additional shares to each shareholder based on the shareholder's percent ownership interest in FESILVEN. For example, a Class C shareholder would receive additional Class C shares in the amount of that shareholder's pro-rata ownership percentage of the company and, therefore, of retained earnings. The total value of the shares distributed in this manner is equal to the total value of the profits retained and distributed.
The key point to note is that our calculation of the non-cash dividend returns to shareholders is based on total capital appreciation, i.e., the overall increase in the value of FESILVEN owners' total shareholdings. The aggregate value of a firm's capital has two components: (1) the total number of issued shares and (2) the value of each issued share.(13) Issuing a stock dividend (i.e., increasing the number of shares) is only one means through which a shareholder can realize capital appreciation. Alternatively, a company could distribute its earnings by choosing not to issue new shares and simply allowing the value per share of the existing shares to increase as the profit earnings for that year increase the company's net worth.
The record indicates that FESILVEN generally adheres to a convention of distributing capital appreciation through the first form only-that is, through issuing new shares proportionate to the owners' existing equity stake.(14) The per share price of all shares, both existing and newly issued, however, remains the same (at the nominal, par value of Bs. 1,000).(15) The end result, however, regardless of the form in which the capital appreciation occurs, is the same-an increase in the value of the owners' overall shareholdings and, therefore, a return on their investment.(16)
Comment 5: Do stock dividends dilute shareholders' equity, resulting in a decline in overall share value?
The petitioners argue further that stock dividends increase the total number of shares in the company, resulting in a "dilution" of the existing shareholdings. The petitioners therefore reason that FESILVEN's stock dividends could not have resulted in any net gain to the existing shareholders. To the contrary, suggest the petitioners, the "dilution" effect of the stock dividends appears to be correlated with an overall decline in the economic value of the FESILVEN shareholders' equity. Although, the petitioners concede, retained earnings do increase total equity, this increase can be offset by certain "other factors" affecting the company's assets and liabilities, thus resulting in an overall decline the economic value of the shares.
Department's Position: We disagree with the petitioners' arguments here for the same reason why we disagreed with their arguments in Comment 4. As stated above, FESILVEN's stock dividends are disbursed to shareholders according to their existing percentage ownership of the company. Therefore, the issuance of additional shares in the same proportion as the existing ownership structure may alter the per share value, but will not, in itself, alter the overall value of each stockholder's total shareholdings.(17) As explained in our response to Comment 4 above, our calculation of return on shareholders' investment is based on the change in total value (not per share value) of shareholders' investment.
Moreover, assuming that, as the petitioners argue, retained earnings could be offset by "other factors," the petitioners have not provided any specifics as to what these other factors might be, either in theory or as specifically related to this case. The petitioners have not cited any evidence in the record indicating specifically what other factors, offsetting the company's after-tax, after cash dividend earnings, the Department should incorporate in its rate of return calculations.
Comment 6: What is the effect of inflation on Class C returns from stock dividends?
According to the petitioners, the Department failed to account for the full effect of inflation during the entire period under examination on the returns from Class C stock dividends. Specifically, the Department adjusted the nominal annual returns by the inflation rate in the year in which each return was generated, but excluded any adjustment for the effect of inflation on those returns in the subsequent years under examination. The real value of stock dividends disbursed in 1988, petitioners argue, would have continued to erode in the following years as well. A private investor contemplating the purchase of shares in 1991, therefore, would discount the 1988 nominal stock dividend return by the entire amount of the subsequent inflation.
Department's Position: The petitioners are correct that we, in our draft remand results, did not accurately account for the net effect of inflation on the return over time to Class C shares. We disagree with petitioners, however, as to what the net effect of inflation on rates of return was.
We begin by noting that the petitioners' argument for including the cumulative effect of inflation in the calculation of shares' rates of return in a given year would result in differing rates of return for Class C shares issued in each year. For example, shares received in 1989 would have suffered two years worth of inflation (as of 1991), whereas C-Class shares issued in 1990 would only have suffered one year's worth of inflation. We believe this is incorrect.
Instead, we have calculated annual rates of return, i.e., a rate of return on shares outstanding in, separately, 1998, 1989, 1990, and 1991. Inflation in each of those years was accounted for in the calculation of return for those years and, therefore, the downward effect of inflation has been fully accounted for in the calculation of historical returns to Class C shares.
Moreover, the record indicates that in 1991, based on the results of an independent appraisal, FESILVEN adjusted upwards the value of its fixed assets as recorded in its accounting records. This resulted in a substantial revaluation surplus, which FESILVEN credited to its equity accounts. Consistent with its usual method for distributing increased value of the company, FESILVEN issued new shares-in this instance, a new E Class of shares-with a total share class value equal to the amount of the asset revaluation. Existing shareholders received these Class E shares in proportion to their existing ownership stake in FESILVEN.
We, therefore, continue by reiterating our response to a similar comment the petitioners made (at 28) in our First Remand Determination. FESILVEN's equity value increased due to an increase in the company's fixed asset value resulting from inflation.(18) Shareholders benefitted from this increase in book value through the distribution of Class E shares. This benefit can be explained as follows.
In an inflationary environment, holding a share of stock representing an ownership interest in fixed assets functions as a hedge against inflation. Just as the nominal value of real estate rises in line with inflation, the nominal value of a company's fixed assets rises in line with inflation. Consequently, the value of a share of stock representing an ownership interest in fixed assets rises in line with inflation.
The practical effect of this is that, in an inflationary environment, the real value of a company's fixed assets, and a share of stock representing an ownership interest in those fixed assets, remains unchanged, all other things held equal. Thus, the real value of a share of stock in FESILVEN would have remained constant, despite high inflation in Venezuela during the period under examination. Clearly, however, for the real value of the shares to remain constant (on a book value basis), the nominal book value of the share must rise in line with inflation. In order for the nominal book value of the share to rise, FESILVEN's overall nominal book value must rise in line with inflation. This is precisely what happened in 1991 in the form of FESILVEN's asset revaluation.
One conclusion, implicit in the above, is that shareholders could expect to benefit from future increases in FESILVEN's book value resulting from inflation-driven asset revaluations as well as from earnings distributed as additional shares. Although we have not accounted for this form of return in calculating the 12 percent return for Class C, in omitting it we believe that we have substantially understated the return to Class C stockholders.(19) With this additional return, it is clear that the expected rate of return on Class C and, by extension, Class E shares, was reasonable.
Comment 7: When should undistributed company profits be recognized as a return on Class C shareholdings?
The petitioners contend that the Department incorrectly included retained earnings from years prior to 1988 in the calculation of the annual return on shares in 1988. This approach, according to the petitioners, is inconsistent with normal Department practice. Citing the Department's new CVD regulations, the petitioners state that in evaluating equityworthiness, the Department examines the rates of return on equity in the three years prior to the government equity infusion. Given that the equity infusion in this case was made in 1991, the Department's normal practice would be to extend its analysis back only as far as 1988. Likewise, the petitioners assert, "a private investor examining whether the Class E shares could be expected to generate a reasonable return . . . would not take comfort in the fact that a 'positive' return could be derived for [the period 1988 to 1991] by including earnings from [prior years] in the calculation." The petitioners argue that when these pre-1988 retained earnings are excluded from the analysis, the average annual return during the 1988 through 1991 period is considerably negative.
Department's Position: We disagree with the petitioners' argument that we have recognized the return on shares in the wrong period.
According to the record data, it was FESILVEN's common practice to consider, at its regular annual stockholders meeting, how to dispose of the company's earnings from the previous year.(20) As a result, FESILVEN shareholders must wait at least until the stockholders' meeting in the subsequent year before receiving their share of the company's earnings from a given year. Consistent with this pattern, we have recognized all returns to Class C shareholders in the year in which the shareholders voted to disburse those earnings as cash or stock dividends. We also note that we have applied our approach consistently across all instances were the company's earnings are generated in a year different from that in which they are disbursed. Thus, in instances where the company generated a profit in the 1988 through 1991 period, but did not disburse those earnings in the form of a cash or stock dividend within that period, we have not included those earnings in our calculation of returns to shareholders.
Comment 8: What is the relevance of the prior sale of preferred shares?
The petitioners argue that the sale, by the Fondo de Inversiones de Venezuela ("FIV") to the Corporacion Venezolana de Guayana ("CVG"), at eight percent of par value of a block of Class A and D shares just prior to the issuance of Class E shares "would have weighed heavily in the mind of any potential private investor" assessing the expected return on Class E shares.
Department's Position: This is an issue which the petitioners previously raised and did not prevail.(21) We do not believe that the transaction price between two government entities (in this case, CVG and FIV) is necessarily a market price and, therefore, helpful in answering the issue currently before the Court.
Comment 9: What is the relevance of certain other findings by the Department?
The petitioner argues that the Department's finding that existing shareholders' right of first refusal would not affect the expected return on Class E shares does not constitute evidence that Class E shares would, in fact, generate a reasonable rate of return. The petitioners also argue that the relatively small amount of accumulated preferred dividends is only relevant to the case of Class E shares (which has no right to preferred dividends) to the extent that the ultimate failure to pay preferred dividends would prohibit FESILVEN from raising any new capital through share issues. Finally, the petitioners argue that the purchase by a private investor of Class E shares on the same terms as those of the government entities can only be viewed in light of the relatively small size of the private investment and the refusal by all other private investors to purchase Class E shares as well.
Department's Position: We agree that the existence of a right of first refusal does not, in itself, constitute evidence that Class E shares would generate a reasonable rate of return. Our point, as explained in-depth in the First Remand Determination, is that there is no reason to believe that the existing owners' right of first refusal over Class E shares would negatively affect the expected return on those shares.
With regard to the petitioners' second point above, we note that accumulated, unpaid preferred dividends may be taken into consideration by a private investor considering the purchase of Class E shares if the unpaid preferred dividend arrears were large and, therefore, had the potential for lowering the amount of future dividends payable to common shares. In the case of FESILVEN, however, the unpaid preferred dividends were not large. Our point, on which the petitioners here have commented, was initially made in response to an argument made by the petitioners in the First Remand Determination, and we were merely citing this finding as further evidence in support of our determination that restrictions or burdens on Class E shares did not indicate that the purchase of these shares was inconsistent with commercial considerations.
With regard to the petitioners' third point above, we reiterate our response to the petitioners' similar arguments in the First Remand Determination (at page 33). We have based our determination that the government's purchase of Class E shares was consistent with commercial considerations on the fact that the terms and conditions of Class E shares would permit a reasonable private investor to receive a reasonable return on his or her investment. This fact is evidenced, in part, by actual investment in Class E shares by a private investor. The fact that other investors chose not to invest does not mean that an investment in Class E shares was inconsistent with commercial considerations. Investors base their investment decisions on many different factors. If all potential investors had to actually invest in order for that investment to be considered consistent with commercial consideration, then virtually no investments would be considered to be in accordance with commercial considerations. Such as standard would be impossible to meet.
Comment 10: Was FESILVEN equityworthy in 1991?
The petitioners maintain that the Department has not actually examined the equityworthiness of FESILVEN in 1991, but merely concluded in Ferrosilicon from Venezuela that FESILVEN's financial condition was no different in 1991 than it was in 1989, a year for which FESILVEN's equityworthiness was examined.
Department's Position: We respond by noting that the purchase of Class E shares by the government of Venezuela was first discovered by the Department in the course of verification. Since this 1991 equity infusion was not alleged in the petition, it was not included in the questionnaire process, and was not analyzed in our preliminary determination. In Ferrosilicon from Venezuela, at 27539, we found that "petitioners provided no reasonable basis to believe or suspect that FESILVEN was unequityworthy in 1989." Based upon a further analysis of FESILVEN's finances, we further found, at 27539, that "with respect to the 1991 transaction, FESILVEN's financial situation was no different that it was in 1989. Therefore, we have concluded that the 1991 equity investment was consistent with commercial considerations." As noted in the Analysis section above, we emphasize that this equityworthiness determination has not been challenged before the CIT, and the Aimcor decision references that finding as fact. In fact, the CIT specifically held that the Department did not need to reexamine the historical and projected financial position of FESILVEN on remand. Aimcor II, 912 F. Supp. at 552.
VI. Final Results of Redetermination
Based on the above record information and analysis, we find that the Government of Venezuela's purchase of Class E shares did not constitute a subsidy as the purchase was consistent with commercial considerations. This redetermination is in accordance with the CIT's order in Aimcor, issued on December 30, 1998. If these results are affirmed by the CIT, we will publish a notice giving effect to this determination.
Richard W. Moreland
Acting Assistant Secretary
for Import Administration
1. Countervailing Duties; Final Rule, 63 FR 65348, 65374 (November 25, 1998) ("Final CVD Regulations").
2. We use the term "stock dividend" hereafter to denote FESILVEN's frequent practice of distributing company earnings through the issuance of additional new shares rather than cash. These stock dividends are distinct from the "dividends" or, more precisely, cash dividends for which the CAFC has found Class E shareholders to be ineligible.
3. For the purposes of this remand, we are attributing the dividend distribution to the year in which the dividend was approved by the shareholders and not to the year in which the earnings (out of which the dividends are paid) were generated. In other words, 1987 earnings distributed in 1988 would be included in our calculated 1988 return on shares.
4. See FESILVEN's Class C Dividend Earnings (Excluding 1991 Revaluation) (June 3, 1999) (Department's worksheet calculating the returns to Class C during the period under examination. Note that the entire contents of this worksheet are business proprietary and, therefore, not conducive to public summary.)
5. For a discussion of this expansion, see FESILVEN's 1990 financial statements.
6. In its Final CVD Regulations (63 FR at 65734), the Department recognized this by stating explicitly that, "where the shares purchased by the government in an equityworthy firm are common shares, we will normally consider the infusion to have been consistent with usual private investor practice." This position is responsive to the Aimcor Court's focus on the restrictions carried by Class E shares which were not likewise borne by the Class C shares.
7. For a discussion of the characteristics of debt and equity instruments, see the General Issues Appendix, Final Affirmative Countervailing Duty Determination: Certain Steel Products from Austria, 58 FR 37217, 37254 (July 9, 1993).
8. Remand Questionnaire Response (February 10, 1995) at 6.
9. 19 CFR Part 355 Countervailing Duties; Notice of Proposed Rulemaking, 54 FR 23366, 23381 (May 31, 1989).
10. For a discussion of FESILVEN as an ongoing concern, see Memo to Marie E. Parker; Equityworthiness Analysis of FESILVEN (June 9, 1992) at 2.
11. The fact that par value bears no relationship to the economic value of stock, the petitioners suggest, is demonstrated by the fact that "stock may be issued with a par value of zero."
12. An explanation of FESILVEN's method for distributing company earnings is included in the respondent's February 10, 1995 Remand Questionnaire Response, starting at page 3.
13. This relationship can be represented by the equation: Total Value of Capital = # of Shares * Value per Share
14. As noted in the First Remand Determination at 5, FESILVEN allocated profit by distributing additional shares to all classes of shareholders in fiscal years 1987, 1988 and 1989.
15. In its Remand Questionnaire Response at 7, FESILVEN notes that this procedure is, in fact, "common practice among private companies in Venezuela."
16. To emphasize this crucial point, we use the common analogy of a pie. The pie represents the total value of equity, i.e., the net worth, of the company. Capital appreciation, analogous to an increase in the size of the pie, occurs when the company retains some of its earnings at the end of the accounting period rather than distributes them in the form of cash dividends. When the size of the overall pie increases, the portion owned by a given stockholder remains the same. However, each shareholder is unambiguously better off due to an increase in the overall pie size. This change in the total volume of pie to which the shareholder is entitled is analogous to his or her rate of return.
The shareholder could take his or her portion of the total pie and further sub-divide it into as many pieces as desired. Doing so, however, would not affect the total amount of pie to which that shareholder is entitled. This is the crucial point the petitioners are overlooking in their arguments regarding par value.
FESILVEN, by convention, limits the value (size) of any single share (piece of pie) to a fixed amount called par value. In other words, any one piece of the FESILVEN pie can only be a certain stated size. This convention, however, in no way affects the size of a stockholders' portion of the overall pie, nor does it in any way limit the amount by which the pie can grow. One can take one's share of pie and sub-divide it into as many pieces as one wants, and still have the same total amount of pie on one's plate. Accordingly, our methodology for calculating the rate of return on FESILVEN's shares is in no way based on or influenced by the par value per share but, instead, is based on the changes in the value of owners' overall shareholdings.
17. As explained in our response to Comment 4, it is the generation of retained earnings, and not the distribution of the stock dividend, which increases the company's net worth. Stock dividends are merely one means through which a company can formally distribute those earnings to its stockholders.
18. This practice is not unusual for a firm in an high-inflation environment. Under normal accounting practice, fixed assets are generally recorded at their initial (historical) cost. Over time, as the asset is gradually written off, the un-depreciated asset value continues to be carried on the books at the original cost, rather than at a value adjusted upwards each year for inflation. As a result, over time this nominal book value (original cost) of the assets can differ substantially from the real (inflation-adjusted) current value. To bring its accounts more in line with current financial reality, FESILVEN adjusted its asset value to account for the intervening inflation. Consistent with the accounting identity that total asset value equals total debts plus total shareholders' value (equity), FESILVEN increased its equity accounts in the same amount as its asset revaluation (because the value of its debts didn't change). It was this increase in shareholder value that FESILVEN distributed in the form of Class E shares.
19. We have not included this return because we believe that it reflected a correction for the appreciation of assets over a longer period that the three-year period we analyzed. By attributing the entire revaluation amount to this three-year period, we would over-state the return to Class C shareholders. We have, however, included an alternative set of calculations on the record which show the maximum possible return the 1991 asset revaluation could have contributed to the historical returns of Class C. See FESILVEN's Class C Dividend Earnings (Including 1991 Revaluation) (June 3, 1999) (Department's alternative calculation of returns to Class C during the period under examination. Note that the entire contents of this worksheet are business proprietary and, therefore, not conducive to public summary.)
20. See Remand Questionnaire Response at Appendices 4 through 7. It is the common practice among most firms to wait until after the accounting year is over, and the "books" have been closed and audited, before deciding how the earnings for that year would be disbursed.
21. See Aimcor II, 912 F. Supp. at 552 (stating that because the Department did not need to reevaluate FESILVEN's financial condition as part of the remand proceeding, "the Court need not address Plaintiff's claims which concern FESILVEN's financial situation, including allegations contending a low transaction price of certain preferred shares in a previous stock sale . . .").