Andy Dalziel

UK Solicitors warned against aggressive tax schemes

According to the ICAEW (Institute of Chartered Accountants in England and Wales) the body regulating solicitors in the UK, the SRA (Solicitors Regulation Authority), has published an official warning to its members, cautioning that any who are involved in promoting and implementing aggressive tax avoidance schemes may be subject to disciplinary action.

The SRA’s concerns apparently have been fostered by some law firms and individuals who have been promoting aggressive tax strategies that “go beyond the will of Parliament”.

In the warning, solicitors are reminded of the principles they should maintain when giving clients advice on tax planning. These include upholding the rule of law, ensuring the proper administration of justice, acting with integrity and in the best interests of the client. The SRA then goes on to say that solicitors should behave in a way that engenders public trust, and that when they have advised on schemes that subsequently turn out to be illegal, then it will, prima facie, be regarded as evidence of misconduct.

The sternness of the warning has come as a surprise to some observers, particularly the use of language that cautions that advising a client on a tax avoidance scheme that fails “will leave yourself open to the risk of disciplinary proceedings as well as committing a criminal offence”.

Back in 2015, the government challenged the tax profession in the UK to stop aggressive tax avoidance schemes by strengthening their professional rules. In response, an updated PCRT (Professional Code of Conduct in relation to tax) was published in March 2017 by the ICAEW and six other professional regulatory bodies, introducing new standards to supplement existing fundamental ethical principles. These clarified what was expected of members when providing tax advice, and made it clear that the endorsement and promotion of certain aggressive tax avoidance schemes was not acceptable.

Whilst the SRA is not one of the PCRT bodies, its latest warning is a stark reminder that solicitors are expected to adhere to a certain level of conduct, and that law firms and solicitors have an important role in ensuring that taxpayers meet their legal obligations, and ensure that the public has trust in them.

More widely, it is further illustration of the way the whole regulatory climate around tax planning has changed. Not only is tax evasion now a crime; aggressive tax planning is also being outlawed. Professional advisors and clients need to acknowledge and accept this.

New Cypriot tax residency rules

Recently the Cypriot parliament approved a law which introduced new tax residency rules for individuals. The new law, which is effective retrospectively from 1st January 2017, amends the provision of the ITL (Income Tax Law), and now means that, in certain circumstances, an individual can be deemed tax residence in Cyprus, even if they spend less than 183 days in the Republic in a tax year.

Formerly, the rules stated, that in order to be deemed tax resident in Cyprus, an individual needed to spend an aggregate of 183 days or more in any tax year in the Republic. The day of arrival counts as one day spent in the Republic, the day of departure as a day spent outside. If you departed and came back to the country on the same day, then that was counted as a day spent in Cyprus, whereas arriving and departing the Republic on the same day was regarded as day outside.

The amendment to the law now states that somebody can be deemed to be tax resident in Cyprus if they meet a number of following cumulative conditions.

If the individual does not stay in any other state for one or more periods, exceeding, in aggregate, 183 days in the same year of tax assessment, and who is not regarded as tax resident in any other state in the same year of assessment then they can claim tax residency in Cyprus provided that:

They stay in the Republic for at least sixty 960) days in the year of assessment; and
They exercise any business in the Republic and/or are employed in the Republic and.or holds an office for a person tax resident in the Republic at any time during the year of assessment; and
They maintain a permanent residence in Cyprus which is owned or rented by them.

One proviso is that, even if an individual meets these cumulative stipulations, they will not be considered tax resident in Cyprus, if the business, employment or office they hold is terminated or comes to an end.

The new provisions are designed to offer an incentive for individuals to transfer their tax residency to Cyprus, and to be taxed only on income from activities that the individual carries out in the Republic.

This new law makes it attractive for an individual with earnings in excess of €100,000 to be regarded as tax resident but non-domiciled in Cyprus (non-dom). This is because they are granted an exemption from Income Tax and Defence Tax on dividends received either in Cyprus or aboard. They are also allowed an exemption from tax of 50% of their salaries for up to 10 years, which can substantially reduced their income tax liability.

Process benchmarking

Many organisations turn to process benchmarking because, by focusing on specific critical processes and operations, it offers the best chance of quick wins in terms of performance improvement.

Process benchmarking, rather than focusing on the business as a whole, concentrates on specific operational or production processes. This makes it easier to identify areas of improvement, and limits the amount of time and resource devoted to a study.

By analysing their existing processes and comparing them to best practice, managers can identify performance gaps and implement actions to improve their overall process efficiency. Performance is improved by learning from others.

In short, process benchmarking consists of a mechanism for identifying specific work procedures that could be improved by copying, and appropriately adopting, external examples of excellence that can be regarded as the best standard in the industry.

Examples of process benchmarking might include the following:

A professional service firm which examines its client billing process to that of leading accounting, legal, consulting firms etc.
An ecommerce firm benchmarking its average fulfilment and delivery speed compared to key competitors;
An airline benchmarking operational metrics such as customer satisfaction against its major rivals;
A hotel seeking to compare its housekeeping service or customer care program against other hotels in the same city.

A key challenge in process benchmarking is finding similarity of processes, or identifying the means of making external processes comparable. This is critical if you are to translate best practice into a set of actionable recommendations that can be applied to your own processes or operations. Failure to do so will irrevocably undermine the entire benchmark exercise.

Context is key; without it a business practice may not transfer well. Toyota’s production system, for example, has been widely lauded, and its practices adopted successfully by many companies outside of manufacturing. But blindly copying Toyota without acknowledging the unique needs of your business and specific challenges of your industry will lead to failure.

Contextualisation is important then, as is the need to have a performance plan in place. Seeing how Company X performs and deciding to imitate them lock, stock and barrel is no recipe for success. Every firm has its own culture, core strengths and capabilities which it is impossible to replicate. It is a waste of time trying and, in doing so, will cause you to overlook the key values and competencies of your own organisation.

Instead, what you should be doing is compare processes and operations, identify and understand why and how they work better than your existing procedures or operations, and then translate that into a set of improvements which will work within your own organisational framework. You are trying to learn from the best, not imitate them.

Despite these reservations, process benchmarking offers a number of benefits to organisations looking for better performance, including:

A process benchmarking exercise often gives an organisation a better understanding of how its own internal processes currently work, a necessary starting point for any change initiative;
A process benchmark gives an organisation a measure as to how it rates in terms of operational performance compared to peers and industry leaders, and highlights those areas which offer the greatest potential for short and long term process improvement; and
A process benchmark provides empirical evidence that can be used to support a resource request or build a business case for process improvement initiatives.

Process benchmarking can be an effective means of delivering both short and longer term performance gains if approached correctly. This means learning from, but not imitating, the best, contextualising and adapting key teachings to your business and industry, and translating them into suitably actionable recommendations.

US Technology firms face further taxation threat

It is commonly known that European countries want US technology giants like Google Amazon and Amazon to pay more taxes than they currently do. For years, these companies have used creative accounting and taken advantage of incentives offered by countries such as Ireland to structure their businesses in Europe, so that they pay minimal tax in the countries in which they operate.

To try to address this issue, the finance ministers of France, Germany, Italy and Spain have written a joint letter to the European Union presidency and Commission, calling for such technology giants to be taxed on the basis of their revenues, not just profits. They are proposing an “equalisation tax” of between 2% and 5% of revenue, to ensure such companies pay the equivalent of corporation tax in the countries where they earn revenue.

France, in particular, is incensed by how little tax revenue it receives, given the size of its population and the billions of dollars the tech companies earn in the country. With one of the highest corporate tax rates in Europe, the digital giants have looked to structure operations there to ensure profit is shifted to low tax jurisdictions. Google, for example, paid just €6.7m in French corporation tax in 2015.

French ire against Google was further stoked after they lost a 6 year legal battle to try to force the company to pay a massive €1.12 bn tax bill. Although Google has 700 employees in France, it has no permanent office there, so an administrative court in Paris ruled that, under existing rules, the company had no Permanent Establishment (PE) in the country. French advertising contracts are sold through Google Ireland, and according to the court, Google France did not have the people or technological ability to handle the advertising itself. Therefore, under existing PE regulations, Google’s activities in France were deemed auxillary in nature, and not an essential part of the company’s business.

Meanwhile, Apple and the EU are locked in a bitter battle over a €13 bn fine imposed on the technology group for what have been deemed illegal tax arrangements in Ireland, where the company has its European headquarters.

EU regulators claim that Apple have structured their operations in Ireland, so that they pay tax at an effective rate of only 1%, and that they have shifted profits away from other European countries, and, therefore, robbed local tax authorities of billions of euros of tax revenues.

Apple, for their part, feel that they have been unfairly singled out by the EU, and, as the largest taxpayer in the world, the argument is not so much about whether it pays tax, but where it pays that tax. They contend that because their products and services are “created, designed and engineered” in the US, that is where they pay the bulk of their tax.

Apple’s position is backed by the irish government who have argued that the EU’s action is an infringement of their national sovereignty; according to the country’s finance ministry, the European Commission have “misunderstood the facts and Irish law”.

The fact that Ireland are supporting Apple against the EU illustrates the major reason why it might be difficult to get the “equalisation tax” approved at a European level.

Such a proposal would need to be unanimously agreed by all member states, and this might be difficult to achieve since certain countries like Ireland and Luxembourg use low tax rates to attract international business.

Needless to say, the technology companies are implacably opposed to any equalisation tax, and will fight any such measures tooth and nail, as the potential additional tax they might have to pay for their European operations will be run to billions of euros. This battle could rumble on for years.

Controlled Foreign Company (CFC) Rules

A controlled foreign company is a company which is registered and conducts business in a different country or jurisdiction than that of the controlling owner. Tax authorities around the world generally have in place rules to prevent the use of such structures as a tax avoidance strategy, whereby profits are diverted from a higher to a lower tax jurisdiction, often with the use of an offshore tax haven.

Legislation preventing the use of such overseas tax havens as a means of reduce corporate and income tax has been in place in many countries for a number of years, including the US, the UK and most other European countries. Basically these rules operate on the same principle – if profits are diverted to a CFC, then profits are apportioned and charged as if they were earned in the country in which the owner is tax resident, and charged at the appropriate tax rates.

There are a number of tests used to determine if a non-resident company is controlled by a person or persons from a different tax jurisdiction. These again differ from country to country, but, in the UK, for example, control is determined by reference to:

Legal control;
Economic control;
A joint venture test; and
Accounting standards.

CFC rules apply not only to large corporations but also to medium and small companies as well, all of whom may find themselves under scrutiny by local and foreign tax authorities.

Cyprus does not have any CFC rules at present, but that does not mean the impact of such legislation can be ignored if a Cypriot company is part of a wider international group. Of course, Cyprus is not a tax haven but, with its low corporate tax rate, there may need to be prove that any operation established in the country has “substance”, and has not merely been created as a tax avoidance mechanism.

in essence, if a foreign structure appears to lack substance, tax authorities may challenge its validity, and seek to tax profits in higher tax rate jurisdictions. Substance is not precisely defined in any Double Tax Treaty or other legislation, and can be open to differing interpretations. Nevertheless, substance is something that needs to be defined by reference to practice and concrete examples.

Typically, the definition of economic substance is if a transaction or entity based in a low tax jurisdiction has an economic purpose, and there is an infrastructure to support it, such infrastructure being real and not an artifice created for the purpose of reducing tax. This can be achieved by various means.

For example, ensuring that all entities, including holding companies, have a real physical presence in Cyprus, with a local office and staff employed, administering the day-to-day management of the company. This means employing local staff, for example, and paying social security and payroll tax, as applicable.

Such demonstrations of economic substance may include the following:

The company with its own office (rented or owned) and physical address in Cyprus;
There are qualified directors and managers who are located in Cyprus and other relevant Cypriot employees;
The company maintains local bank accounts with local authorised signatories;
The accounting records are maintained in Cyprus with the accounts’ work performed by local accountants;
Regular Board meetings are held in the country and minuted;
There is a website, email address and telephone number.

Whilst Cyprus may have no CFC rules itself at present, this does not mean the issue can be ignored. Local CFC rules imposed by another country may require a Cypriot company to demonstrate for foreign tax purposes that it has real economic substance. In such cases, the obligation may be on the Cypriot company to demonstrate that it is performing genuine business in Cyprus.

This can raise genuine concerns about the increased cost of establishing and maintaining a Cypriot company because of the need to maintain a physical office etc. This does not necessarily need to be the case. AJD Consultants, for example, can provide a registered office address, resident director and company secretary. and offer other advice to ensure that the test of economic substance can be passed. In addition, we can provide advice as to means of structuring the company so that tax can legitimately be minimised.

Please contact us directly if you required further information as to how we can help you comply with CFC rules.

Permanent Establishment – Are new rules on the cards?

Permanent Establishment is a concept anchoring much current tax legislation. Any activity which is carried out by a business in a country that results in the generation of revenue in that country is likely to be regarded as a Permanent Establishment (PE); on that basis, local authorities will assess corporation tax on deemed in-country revenue. To be formally recognised as a PE, the revenue-generating PE will normally need to be registered as some form of corporate entity in the host country – either as a branch, a subsidiary, or representative office.

There is no universal definition of PE – it is usually determined on a country by country basis, by reference to local law and applicable double tax treaties. However, there are a number of commonly used indicators to determine whether the activities of a foreign organisation give rise to a PE in a particular country. These include:

If an organisation operates out of a fixed place of business in the host country (this can either be a fixed office or even an office in an employee’s house);
If an organisation’s employees in the host country receive some form of sales-based compensation, such as commission or bonuses;
If the job-title of an employee includes some reference to sales or revenue generation, and that employee has been contracted in the host country for a prolonged period of time; and
Sales made to customers in the host country which have been negotiated by locally-based staff or agents.

When an activity is deemed, however, to be preparatory or auxillary in nature – in other words it is not an essential part of business as a whole – then PE is generally not regarding as existing; although, in practice, it may be the responsibility of the tax payer to demonstrate that it does not exist, rather than that of tax authorities to prove that it does.

Essentially, this tax residency approach has been the fundamental behind the concept of PE for more than a century, which makes a recent proposal, leaked and published by Reuters, all the more radical. At a meeting held in Tallinn last weekend with EU Finance Ministers, a proposal was put forward by Estonia, which currently holds the presidency of the European Union, to amend and change the definition of PE.

Under their proposal,rather than using tax residency as the basis for determining Permanent Establishment, value creation should be used instead. In other words, a multi-national would be taxed according to the value it created in a host country; that virtual PE would be considered enough to substantiate a taxable presence in a country and, therefore, make it liable to corporate income tax.

This would have potentially large-scale implications for international taxation and the application of double-tax treaties, and comes hard on the heel of news that the OECD, in the light of the BEPS initiative and consideration of the tax treatment of technology groups, has indicated that the definition of PE is up for wider debate.

It is acknowledged that theseproposals are radical, and that a consensus needs to be built before there is wider acceptance of the need to change the definition of Permanent Establishment. Nevertheless, this could mean yet another shake-up to the taxation of foreign subsidiaries, and another level of complexity added for accountants, tax experts and managers of multi-national organisations.

Thin Capitalisation

Thin capitalisation refers to a condition in which a company is financed with a high level of debt compared to its equity. This means it is highly leveraged. This method of financing is often used by multinational companies as a way of reducing tax; a lender in a low-tax country lends to a borrower in a country in which the borrowing cost can be deducted from profits for corporate tax purposes. As a consequence, profit can be shifted to a lower tax jurisdiction.

However, in the wake of wider initiatives such as BEPS and CRS, a number of national governments have been looking at the practice of thin capitalisation, and sought to impose limits on how much interest expense can be deducted for tax purposes.

Typically a thin capitalisation rule will prevent the complete deduction of interest if the ratio between debt and equity exceeds a certain level. There are two main categories of such rules – either the amount of interest which is deductible is restricted if the total debt-equity ratio exceeds a certain numerical value, or the internal debt-to-equity ratio is limited.

Recently, regimes from Australia and New Zealand, from Canada to Russia, and Indonesia to South Korea have all, in various ways, sought to introduce measures to counteract the use of thin capitalisation as a tax avoidance strategy.

In terms of Cyprus, current tax legislation does not provide for any rules when it comes to thin capitalisation, which makes it an ideal location in which to situate a holding company. However, caution needs to be exercised when it comes to interest deductions for loans which are not of a trading nature. Such interest payments are deemed non-deductible, whereas interest on a loan of a trading nature is treated as qualifying, and, therefore, eligible for deduction.

The battle against thin capitalisation is part of the wider picture in which national and international authorities are cutting-down on aggressive tax planning strategies and moves to shift profits from higher to lower tax jurisdictions. International companies which find themselves affected by the tightening regulations may want to consider using Cyprus as a base for their holding companies as there are no thin capitalisation rules currently in place, and because of its attractive low corporate tax rate.

The new rules on transfer pricing

One of the key action areas from the OECD BEPS (Base Erosion and Profit Shifting) initiative is the introduction of new rules on transfer pricing. Put simply, transfer pricing relates to how companies, which form part of the same group, pay each other for goods, services, intangible assets and similar transactions.

Traditionally, companies have used transfer pricing as a means of reducing their overall tax burden, and look to move profits from higher to lower tax jurisdictions, structuring their operations to ensure that the tax they pay is minimised. There has been nothing inherently illegal in this – it was part of business strategy to take advantage of differing corporate tax rates and treaty provisions to reduce the overall tax paid by a group.

However, all that is now changing, and the practice of multinationals allocating income to lower tax countries and expenses to higher tax jurisdictions is now coming under increased international scrutiny and censure.

The OECD, through BEPS, which has not only been approved and endorsed by the G20 Group of Finance Ministers, but also been supported by laws and recommendations adopted by many developed countries and the EU, wants companies to align where they pay taxes with where they have economic substance i.e. where they have operations and employees.

This means an end to the practice of allocating too much value to low-tax countries, where a group has few (or even no employees), and too little to those higher tax regimes where they many employ most of their people and sell the bulk of their products and services.

For multi-nationals, this marks a substantial change.

There will be much greater transparency required regarding the transfer pricing practices of a business, and a correspondingly greater risk of challenge from local tax authorities where the profitability of a jurisdiction is not sufficiently aligned with its economic substance. Greater focus will be placed on the attribution of capital and intangibles, and the alignment of profit with the location of key decision-makers and company management.

Under the new framework, a heavy emphasis will be placed on documentation, with a requirement for companies to provide a detailed country-by-country overview, and specific transfer pricing information for each country in which they operate.

This documentation will need to provide as much transparency as possible to tax authorities regarding a company’s activities, and how profits are aligned with tangible economic substance, with a much greater emphasis placed on tangible physical assets and employees.

The additional reporting and compliance burden for companies is going to be significant, and there are also concerns that what has, hitherto, been confidential commercially sensitive information will now be disclosed in a wider public domain. Nevertheless, these changes are coming and companies need to prepare for them.

BEPS is also going to force a radical change as to how IP (intellectual Property) is treated. Currently, a company may choose to have its IP located in a low (or favourable) tax jurisdiction with few employees, such as Switzerland, Luxembourg, or the Caribbean. However, such “brass-plate” operations will no longer be allowed under the new rules. Companies will need to have employees, and key decision-makers, in jurisdictions where IP is based.

This is a significant departure for companies who may need to consider where their IP is located.

One option would be to spread it around places where they already have senior people based, but this could include high tax countries.

Another alternative is to move people to low tax jurisdictions – such as Cyprus – where there IP may be already based, or to structure operations so that staff and IP are shifted to such a jurisdiction.

The new transfer pricing rules will dictate a major shift in the way that multinationals structure their operations, and will place a much greater emphasis on the alignment of economic activity and value creation with the payment of tax. Not only will the involve a reorganisation of operations in some cases but a considerable increase in reporting and the cost of compliance.

The corporate tax landscape is changing, and with the increased requirements for transparency and the need to justify economic decisions, groups have to accept that what, why, and how they do things will become a matter of public scrutiny and debate.

BEPS explained

The BEPS (Base Erosion and Profit Shifting) programme is an OECD initiative, endorsed and approved by the G20 group of leading nations, designed to identify ways of providing more standardised global tax rules.

BEPS is an umbrella term used describe tax planning strategies which exploit mismatches and discrepancies between the tax rules of different jurisdictions, allowing companies to minimise their overall corporation tax payable, either by making tax profits disappear, or by shifting them to low tax jurisdictions where there is little or no genuine activity. In general, BEPS strategies are not illegal; they just take advantage of the different tax rules which apply in different tax jurisdictions.

Examples of the practices that the BEPS initiative is attempting to eliminate include the practice of reducing the taxable base (base erosion) and the practice of shifting taxable profits from high to low tax countries (profit shifting). An example of the former is using large interest payments to reduce taxable profits, whilst the latter is exemplified by the transfer of IP (Intellectual Property) and income derived from it from the US (high tax) to Bermuda (low tax). It also covers the highly-publicised cases of multi-nationals like Starbucks, Google, Yahoo and Amazon who operate extensively in countries like the UK whilst paying little corporate tax there, and Apple and its tax arrangements.

BEPs is really an attempt to address one of the challenges of the current global and digital business environent – how to make sure that all companies, including large corporations, pay their fair share of tax.

Following the initial report on BEPS by the OECD in 2013, an action plan was drawn up to tackle “weaknesses” in existing taxation principles, which was endorsed by the G20 Finance Ministers and which spawned further initiatives at the UN and EU level. These initiatives have resulted in a number of new policies which have been created at both the national and international level to prevent Base Erosion and Profit Shifting.

The extensive Action Plan on BEPS published by the OECD identified 15 separate action points which needed addressing. These included:

Addressing the tax challenges of the digital economy;
Neutralising the impact of hybrid mismatched tax agreements;
Strengthening CFC (Controlled Foreign Company) rules;
Limiting the extent to which interest deductions and other financial payments can reduce base taxation;
Countering harmful tax practices more effectively, and preventing treaty abuses;
Changes to transfer pricing arrangements; and
Requiring taxpayers to disclose aggressive tax planning arrangements.

In terms of Cyprus, the Minister of Finance issued a Decree on 30 December 2016, introducing mandatory country by country reporting requirements for multinational groups with a consolidated annual turnover in excess of €750 million (so-called “MNEs”). This Decree is in line with EU Directives as regards the mandatory automatic exchange of information as regards taxation and the OECD BEPS initiatives.

As a result, MNE Groups which have an ultimate parent that is tax resident in Cyprus are required to file annually a report which includes specific financial data such as income, taxes, and other measures of economic activity on a country by country basis. There can also be a reporting requirement, under certain circumstances, for a Cypriot tax resident entity which is part of an MNE Group.

BEPS can be regarded as one more element in the sea of global tax changes which are being brought to bear to prevent not only tax evasion but aggressive tax evasion as well, with the stated aim of promoting transparency, compliance and coherence. It, therefore, takes its place alongside such initiatives as FATCA, the Common Reporting Standard (CRS), AML, and changes to the EU Parent-Subsidiary Directive.

Such initiatives, will, inevitably, lead to a huge increase in the compliance cost for business, because the extent of information that requires reporting for an international group is so much greater than it used to be. BEPS will have a major change on the international business landscape. Policies adopted and practices followed will need to change and improve, and there needs to be a corresponding alteration, for some, in the corporate mentality. The need for compliance and transparency will now trump the use of planning strategies aimed at exploiting loopholes and treaty provisions so as to reduce the tax burden.

For Cyprus, it will have an impact on the corporate sector because certain existing tax arrangements will no longer be attractive or even valid. There will, as a consequence, be a reduction in the number of legal entities registered in the country, whilst, at the other end of the spectrum, increased compliance costs for international businesses headquartered her.

The BEPS programme will be rolled-out in a number of phases, and there will be transitional arrangements in place to cover a number of the “action points”, before finally becoming enshrined in national and international law. However, it is clear that businesses must now expect a degree of scrutiny, and reporting of their tax position and arrangements which goes way beyond what they have been used to in the past, and they need to adapt accordingly.

Internal Benchmarking

Companies looking to carry out benchmarking studies will often turn internally and compare the performance and processes of business units from within their own organisation. There are a number of reasons why they might take this approach, including the ease of access to data and information, the availability of standardised data, and cost -it is usually less expensive and time consuming than benchmarking a competitor or firm from another industry.

There is, of course, one principal drawback. Operations from within the same organisation tend to be more heterogenous in terms of functionality, performance and corporate framework than those of an industry peer or rival. Potential insights are curtailed by breadth of the organisation itself.

However, provided these limitations are understood and acknowledged, then internal benchmarking can still yield some valuable results.

Through internal benchmarking, a company attempts to learn from their own structure. Similar operations within an organisation that can be defined and measured are compared. This is especially true for medium or large companies with multiple divisions, production facilities or business units. Examples of this in practice might mean, for example, comparing the warehousing and shipping of products at one site with those at another, or assessing the relative performance and processes of an accounting and finance team in Country A with those in Country B.

The idea behind internal benchmarking is not only to promote efficiency but to foster a culture of continuous organisational improvement. That is why it is important that senior management both endorse the process and underline the importance of the exercise as a learning opportunity. Failure to do so risks a “silo” mentality taking hold, whereby different parts of an organisation can, either directly or covertly, refuse to cooperate with the benchmarking exercise, or ignore the teachings from another department, team or business unit whose performance or methods has been judged superior to theirs.

Communication is obviously a key element. The reason for the benchmarking exercise needs to be communicated to all those impacted – and potentially wider within a company – and the perceived advantages clearly spelled-out. The message also needs to be sent that this is a positive, sharing experience, and not a stick which will be used to beat a particular part of an organisation over the head.

One other benefit to internal benchmarking that should be highlighted is that it provides the opportunity to stand back and examine some of the reasons why an operation, business unit or department handles a particular process in the way it does. Often internal ways of doing things evolve over time, until they become accepted practice. There is no recognised methodology, as such, it is just the way “we do things round here”. Benchmarking gives you the opportunity to stand back, look at a process objectively and critically, and ask whether it is the most effective way of delivering the desired outcome or performance.

An effective benchmarking exercise comprises the following main steps:

Firstly, identify which processes to benchmark. It is recommended that a company starts with only one, or perhaps, two processes to examine at the same time – perhaps order fulfilment or customer service. To do otherwise, risks focus being lost, internal competition for scarce resources, and, possibly, contradictory results.
Then organise the benchmarking efforts, Identify who will take part in the effort, try and ensure, as much as possible, that team members are dedicated to the task, and are not trying to benchmark “around the day job”. Also decide how the benchmarking will take place – for example, organising a small team to visit the company’s major warehouses to learn effective tactics and strategies in place at each.
Organise and prioritise the ideas that the team has found, and turn them into a discrete project, which can then implement the best processes and practices on a wider basis. This is a more structured approach to achieve lasting performance gains than adopting a scattergun approach.
Finally implement and begin to achieve results.

Once this methodology has been adopted with one key process, the same approach can be used for the next and subsequent processes, until all the major parts of an organisation have been benchmarked. This creates a cycle of continuous improvement, so that a company is always looking to learn and improve its internal processes, with the same exercise repeated every few years or so.

The advantage of internal benchmarking is that it is much easier to get data and information from within one’s own organisation than from a key competitor or industry peer. It is also easier to understand that information because much internal reporting will be standardised, even if the processes or operations which provides that data is different. There are also cost advantages. However, if senior management are not seen to support such initiatives, or fail to communicate the positive benefits of carrying out such exercises, internal politics and resistance can undermine improvement efforts.

Despite this, many organisations would benefit from some form of benchmarking of their internal processes and methodologies, just to give them an objective view of what has often evolved by practice and the passage of time rather than with any applied forethought. Even small changes can lead to increased efficiency, greater employee satisfaction and improvements to the bottom-line.