FEDERAL COURT OF AUSTRALIA

PepsiCo, Inc v Commissioner of Taxation [2023] FCA 1490

Table of Corrections

1 December 2023    In paragraph 7(e), the words “to PepsiCo and SVC” have been replaced with “to PBS”.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

ORDERS

THE COURT ORDERS THAT:

1.    Within 14 days, the parties provide to the Court any agreed minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs.

2.    If the parties cannot agree, then within 21 days each party file and serve a minute of proposed orders to give effect to the Court’s reasons for judgment, and in relation to costs, together with a short submission.

3.    The Court’s reasons for judgment be published, in the first instance, on a confidential basis to the parties and to Asahi Beverages Pty Ltd and Asahi Holdings (Australia) Pty Ltd (Asahi), to enable them to consider whether to seek confidentiality orders with respect to any part of the judgment. Within two business days, the parties and Asahi provide the Court with any submission on proposed confidentiality orders.

4.    Subject to further order, the Court’s reasons for judgment otherwise be and remain confidential for a period of seven days.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

TABLE OF CONTENTS

REASONS FOR JUDGMENT

MOSHINSKY J:

Introduction

1    PepsiCo, Inc (PepsiCo), a United States company, and Stokely-Van Camp, Inc (SVC), also a United States company, have commenced these proceedings to challenge royalty withholding tax notices, and diverted profits tax assessments, issued to them by the Commissioner of Taxation (the Commissioner) in respect of the years of income ended 30 June 2018 and 30 June 2019 (the relevant years).

2    In brief outline, the background facts are as follows.

3    At all relevant times, the PepsiCo group of companies (the PepsiCo Group) operated a global beverage business. PepsiCo was the owner of a world-wide portfolio of trademarks, designs and other rights and assets relating to the Pepsi and Mountain Dew brands, and SVC was the owner of a world-wide portfolio of trademarks, designs and other rights and assets relating to the Gatorade brand.

4    On or about 3 April 2009, each of PepsiCo and SVC entered into an agreement with Schweppes Australia Pty Ltd (SAPL), an Australian company that was owned by Asahi Breweries, in relation to the Australian market. The two agreements were:

(a)    a Restated and Amended Exclusive Bottling Appointment between PepsiCo, the Concentrate Manufacturing Company of Ireland (CMCI) and SAPL (the PepsiCo EBA); this agreement relates to carbonated soft drinks (CSDs); and

(b)    a Restated and Amended Exclusive Bottling Agreement between SVC and SAPL (the SVC EBA); this agreement relates to non-carbonated beverages (NCBs),

(together, the EBAs).

5    Under the EBAs:

(a)    PepsiCo or SVC (as the case may be) agreed to sell, or cause a related entity to sell, beverage concentrate (concentrate) to SAPL; the concentrate was to be mixed by SAPL with other ingredients in accordance with formulas, specifications and other information provided by the PepsiCo Group to produce finished beverages for retail sale in Australia; and

(b)    PepsiCo or SVC (as the case may be) granted SAPL the right to use in Australia trademarks and other intellectual property to enable SAPL to manufacture, bottle, sell and distribute the finished beverages in branded PepsiCo Group packaging.

6    The EBAs provided for SAPL to pay for the concentrate. They did not expressly provide for the payment of a royalty for the right to use the intellectual property.

7    During the relevant years:

(a)    Concentrate Manufacturing (Singapore) Pte Ltd (CMSPL), a member of the PepsiCo Group incorporated in Singapore, produced concentrate according to a recipe or formula provided by, and with flavour keys supplied by, PepsiCo and SVC;

(b)    CMSPL supplied the concentrate to PepsiCo Beverage Singapore Pty Ltd (PBS), a member of the PepsiCo Group that was (despite its name) incorporated in Australia;

(c)    PBS was nominated as the “Seller” by PepsiCo under the PepsiCo EBA and as the “Seller” by SVC under the SVC EBA;

(d)    PBS supplied concentrate to SAPL and invoiced SAPL for the concentrate that had been supplied;

(e)    SAPL paid PBS for the concentrate in accordance with those invoices. In total, SAPL made payments of approximately A$240 million to PBS during the relevant years; and

(f)    PBS transferred almost all of the money received from SAPL to CMSPL, retaining only a small margin.

8    The Commissioner relies on two alternative contentions in relation to the facts and matters outlined above:

(a)    The Commissioner’s primary contention is that each of PepsiCo and SVC is liable for royalty withholding tax pursuant to s 128B of the Income Tax Assessment Act 1936 (Cth) (ITAA 1936) and Art 12 of the Convention between the Government of the United States of America and the Government of Australia for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income, signed at Sydney on 6 August 1982 (as amended) (US DTA).

(b)    The Commissioner’s alternative contention (which only arises if PepsiCo and SVC are not liable for royalty withholding tax) is that the diverted profits tax provisions of Pt IVA of the ITAA 1936 apply.

9    PepsiCo and SVC (the PepsiCo parties) have commenced two proceedings under s 39B of the Judiciary Act 1903 (Cth) (VID 74 of 2022 and VID 82 of 2022) seeking declaratory relief to the effect that they are not liable to pay royalty withholding tax in relation to the relevant years in the amounts determined by the Commissioner, or at all.

10    The PepsiCo parties have also commenced four proceedings pursuant to Pt IVC of the Taxation Administration Act 1953 (Cth) in relation to diverted profits tax assessments made by the Commissioner in relation to the relevant years. The proceedings are:

(a)    VID 53 of 2022 – brought by PepsiCo in relation to the year ended 30 June 2018;

(b)    VID 55 of 2022 – brought by PepsiCo in relation to the year ended 30 June 2019;

(c)    VID 56 of 2022 – brought by SVC in relation to the year ended 30 June 2018; and

(d)    VID 57 of 2022 – brought by SVC in relation to the year ended 30 June 2019.

11    The six proceedings were heard together, and evidence in one proceeding was evidence in the other proceedings.

12    The key issues to be determined in relation to royalty withholding tax are as follows:

(a)    whether the payments made by SAPL under the EBAs were, to any extent, consideration for the use of, or the right to use, the items set out in paragraphs (4)(a) and (b) of Art 12 of the US DTA and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6(1) of the ITAA 1936;

(b)    if so, whether the relevant portions of the payments were income derived by PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(a) of the ITAA 1936 and amounts to which they were beneficially entitled for the purposes of Art 12 of the US DTA; and

(c)    if so, whether the relevant portions of the payments were paid, or taken to have been paid, to PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(b)(i) as affected by s 128A(2).

13    If it is concluded that portions of the payments made by SAPL under the EBAs constitute “royalties” for the purposes of the royalty withholding tax provisions, the next issue is the amount of the royalties (upon which royalty withholding tax is payable). The parties have each filed expert evidence in relation to this issue. In summary, the expert evidence filed by the Commissioner states that the royalties are to be calculated by applying rates of 9.0% or 8.5% (depending on the brand) to SAPL’s net revenue from sales of the relevant products. The expert evidence filed by the PepsiCo parties is to the effect that the royalties are to be calculated by applying a rate of 2.5% to SAPL’s net revenue from sales of the relevant products.

14    The Commissioner’s contentions in relation to diverted profits tax are predicated on royalty withholding tax not applying. The Commissioner’s alleged scheme is, in summary, entry into the relevant EBA on terms whereby no royalty was paid for the use of intellectual property, technical knowledge and/or assistance. There is no real issue about the identification of the scheme. The key issues to be determined in relation to diverted profits tax are:

(a)    whether PepsiCo or SVC (as applicable) obtained a tax benefit in connection with the scheme for the purposes of s 177J(1)(a) of the ITAA 1936; and

(b)    whether it would be concluded, having regard to the matters in s 177J(2) of the ITAA 1936, that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a principal purpose of, or for more than one principal purpose that includes a purpose of:

(i)    enabling the relevant taxpayer (here, PepsiCo or SVC, as applicable) to obtain a tax benefit, or both obtain a tax benefit and to reduce one or more of the relevant taxpayer’s liabilities to tax under a foreign law, in connection with the scheme; or

(ii)    enabling the relevant taxpayer and another taxpayer (or other taxpayers) each to obtain a tax benefit, or both to obtain a tax benefit and to reduce one or more of their liabilities to tax under a foreign law, in connection with the scheme.

15    The Commissioner initially calculated royalty withholding tax and (in the alternative) diverted profits tax on the basis of certain figures for royalties. However, following the filing of expert evidence in this proceeding, the Commissioner amended (downwards) the royalty withholding tax notices and the diverted profits tax assessments to accord with the opinions expressed in the expert evidence he had filed.

16    Under the amended notices of royalty withholding tax (dated 6 March 2023), the liabilities of the two companies for royalty withholding tax for the relevant years (calculated at a rate of 5% of the royalties) are:

(a)    for PepsiCo: $3,023,148; and

(b)    for SVC: $601,413.

17    Under the amended diverted profits tax assessments (dated 6 March 2023), the liabilities of the two companies for diverted profits tax for the relevant years (calculated at a rate of 40% of the royalties) are approximately:

As is apparent from the figures set out above, the tax in issue on the Commissioner’s alternative case is greater than the tax in issue on his primary case.

18    The following is a summary of my conclusions:

(a)    In relation to the royalty withholding tax issue, I have concluded that:

(i)    the payments made by SAPL under the EBAs were, to some extent, consideration for the use of, or the right to use, the relevant trademarks and other intellectual property;

(ii)    the relevant portions of the payments were income derived by PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(a) of the ITAA 1936 and amounts to which they were beneficially entitled for the purposes of Art 12 of the US DTA; and

(iii)    the relevant portions of the payments are deemed to have been paid by SAPL to PepsiCo or SVC (as applicable) by virtue of s 128A(2) of the ITAA 1936.

It follows from the above that the payments made by SAPL under the EBAs in the relevant years were, to an extent, “royalties” and PepsiCo and SVC are liable to pay royalty withholding tax at the rate of 5% on those royalties.

(b)    In relation to the amount of the royalties, subject to one matter, I have concluded that the amount of the royalties is 5.88% of SAPL’s net revenue from sales of the relevant products during the relevant years. The one matter is that I consider that one licence agreement (contained in the set of comparable transactions) that was treated as non-exclusive (and therefore the subject of an adjustment) should have been treated as exclusive. Accordingly, I consider that that agreement should not have been the subject of an adjustment. I conclude that the figure of 5.88% needs to be revised (downwards) in light of that matter. This would appear to be a mathematical exercise based on material already in evidence.

(c)    In light of the above conclusions, it is unnecessary to consider the diverted profits tax issue. However, I consider this issue for the sake of completeness. The Commissioner's diverted profits tax case is predicated on the royalty withholding tax provisions not applying. Therefore, in dealing with the diverted profits tax issue, I proceed on the assumption that (contrary to the conclusion I have reached above), the royalty withholding tax provisions do not apply. On that assumption, I have concluded that:

(i)    each of PepsiCo and SVC obtained a tax benefit in connection with the relevant scheme; and

(ii)    having regard to the matters in s 177J(2) of the ITAA 1936, it would be concluded that one of the principal purposes of each of PepsiCo and SVC in entering into or carrying out the relevant scheme was to obtain a tax benefit (namely not being liable to pay Australian royalty withholding tax) and to reduce foreign tax (namely, US tax on their income).

It follows that, had I not concluded that the royalty withholding tax provisions applied, I would have concluded that the diverted profits tax provisions apply.

The hearing and the evidence

19    The PepsiCo parties called the following lay witnesses:

(a)    Lillian Dent, General Counsel for the Australia and New Zealand business unit of the PepsiCo Group; Ms Dent has worked in the PepsiCo Group in legal roles for over nine years; on 27 June 2018, she was appointed as a director of PBS; she ceased acting as director on 16 October 2019; she was reappointed as a director on 11 July 2022 and remains a director of PBS;

(b)    Andrew Williams, who worked for the PepsiCo Group in marketing and bottling franchise-related roles for over 35 years; in about 2012, he took on the role of establishing the franchise function across PepsiCo International; in 2019, that role was consolidated with the PepsiCo Group’s global beverage marketing role, so he became the President of the PepsiCo Group’s Global Beverage Group and the Franchise Team; in that capacity, he was responsible for setting marketing and bottling franchise-system strategies to be implemented in approximately 115 countries worldwide;

(c)    Randall Lovorn, the General Manager of PepsiCo Global Concentrate Solutions (PGCS), which is a division of the PepsiCo Group; he has held that role since 2019; he is responsible for all of the functions performed by PGCS related to the manufacture of concentrate, namely manufacturing, planning, logistics, finance, information technology and human resources; and

(d)    Myles O’Donnell, the Vice-President of the Coded Materials function and the lead Flavour Trustee within PGCS; he commenced in that role in January 2020; he has worked within PGCS for the last 25 years; Mr O’Donnell was appointed as a Flavour Trustee (described later in these reasons) in 2015; his roles at the PepsiCo Group relate to the manufacture and supply of concentrate, in particular, in recent years, the Coded Keys (described below).

20    Each of these witnesses gave evidence-in-chief by affidavit and was cross-examined.

21    Ms Dent was somewhat tentative in her answers to certain questions and it perhaps appeared that she was not answering some questions directly. In any event, I have no doubt that she gave evidence honestly and was intending to assist the Court, and I generally accept her evidence.

22    Mr Williams answered questions in a clear and straightforward way. It should be noted that he did not have personal knowledge of several matters that are relevant in these proceedings. He was not familiar with the company, Stokely-Van Camp, Inc; he thought (incorrectly) that PepsiCo owned the Gatorade trademark (in fact it is SVC); he was not familiar with the PepsiCo EBA (one of the key documents in the case), and he said that he had not gone through an exclusive bottling agreement in any detail for many years. As discussed later in these reasons, while I accept many parts of Mr Williams’s evidence, there are some aspects that I have difficulty in accepting.

23    Mr Lovorn evinced a very good command of the subject-matter. He answered questions in a clear and straightforward way. I generally accept his evidence.

24    The cross-examination of Mr O’Donnell was brief. I generally accept his evidence.

25    The Commissioner did not call any lay witnesses.

26    Each party called one expert witness in relation to the quantification issue; that is, the issue of what proportion of the amounts paid by SAPL constituted a royalty, on the assumption that (contrary to the PepsiCo parties’ position) part of those amounts did constitute a royalty. The experts called by the parties were:

(a)    the PepsiCo parties called Dawna Wright, a forensic accountant at FTI Consulting based in Melbourne; and

(b)    the Commissioner called James Malackowski, an intellectual property consultant at Ocean Tomo, LLC (a part of JS Held) based in Chicago, Illinois, United States of America.

27    The experts prepared reports: Ms Wright prepared an initial report dated 19 September 2022; Mr Malackowski prepared a report dated 22 December 2022; and Ms Wright prepared a reply report dated 3 February 2023.

28    As detailed later in these reasons, the experts updated their calculations following the preparation of their reports, with the updated calculations set out in certain letters.

29    The experts were cross-examined separately (rather than giving evidence concurrently). I discuss and make observations about their evidence later in these reasons.

30    The parties also tendered a number of documents. These were contained in an electronic revised Court Book (CB) and an electronic Supplementary Court Book (SCB). Following the trial, the parties provided an annotated version of the index to the CB that indicated which documents had gone into evidence.

The pleadings or equivalent documents

31    In relation to the royalty withholding tax proceedings (VID 74 of 2022 and VID 82 of 2022), PepsiCo or SVC (as applicable) have filed an amended originating application and an amended statement of claim, and the Commissioner has filed an amended defence. These documents were filed in March 2023 and reflect the updated figures relied on by the Commissioner in the notices dated 6 March 2023.

32    In relation to the diverted profits tax proceedings, in each proceeding, PepsiCo or SVC (as applicable) has filed a notice of appeal. In each proceeding, the Commissioner has filed an amended appeal statement (albeit the title omits the word “amended”) and PepsiCo or SVC has filed an amended appeal statement. The amended appeal statements were filed in March 2023 and reflect the amended diverted profits tax assessments of 6 March 2023. In each proceeding, the Commissioner’s amended appeal statement sets out the “scheme” and the counterfactuals (relevant for the “tax benefit” issue). For example, the Commissioner’s amended appeal statement in VID 53 of 2022 states:

67.    [The] Commissioner contends that PepsiCo entered into a scheme comprising some or all of the following (the Scheme):

67.1.    effective from 3 April 2009, PepsiCo entered into the [PepsiCo] EBA with SAPL whereby:

(a)    SAPL was appointed as the sole and exclusive licensee to bottle, sell and distribute trademarked PepsiCo Group carbonated soft drink beverages. (The beverage brands the subject of the [PepsiCo] EBA, apart from the Seven Up brands, are referred to below as the Pepsi Beverages);

(b)    SAPL agreed to purchase concentrate for the manufacture of the Pepsi Beverages from PepsiCo or one of its appointed subsidiaries; and

(c)    SAPL obtained, under the [PepsiCo] EBA and/or the agreements referred to within it, including the Co-op A&M Agreements:

i.    the use of, or rights to use, certain intellectual property owned by PepsiCo in the bottling, sale and distribution of the Pepsi Beverages;

ii.    technical, industrial or commercial knowledge or information in relation to the Pepsi Beverages; and/or

iii.    assistance ancillary to and furnished as a means of enabling the application or enjoyment of such intellectual property or knowledge or information.

(d)    no royalty was paid for the items set out at (c) above.

68.    Had the Scheme not been entered into or carried out:

68.1.    the [PepsiCo] EBA would or might reasonably be expected to have:

(a)    expressed the EBA Payments to be for all of the property provided by (and promises made by) the PepsiCo group entities (rather than for concentrate only); or

(b)    expressly provided for the EBA Payments to include a royalty for the provision to SAPL of the rights, knowledge and assistance referred to above at [67.1(c)] (whether or not the amount of the royalty was specified); and

68.2.    consequently, a royalty would or might reasonably be expected to have been paid by SAPL to PepsiCo or to another entity on PepsiCo’s behalf or as PepsiCo directed (the Counterfactual).

33    Contentions in substantially the same form appear in the Commissioner’s appeal statements in the other diverted profits tax proceedings.

34    In these reasons, I will refer to the counterfactuals set out in paragraphs (a) and (b) of paragraph 68.1 (read with paragraph 68.2) (and the corresponding paragraphs in the other amended appeal statements) as the Commissioner’s Counterfactuals.

Factual findings

Overview of the PepsiCo Group business model

35    The PepsiCo Group beverages each have (and had during the relevant years) a “brand owner”, namely PepsiCo or CMCI (and later Portfolio Concentrate Solutions UC (PCS)) for CSBs, and SVC for NCBs (being mostly sports drinks under the Gatorade brand).

36    The recipe or formula for the manufacture of concentrate for a particular beverage is (and was during the relevant years) highly secret.

37    During the relevant years, the PepsiCo Group had a number of concentrate manufacturing facilities around the world. The concentrate manufacturer either sold the concentrate directly or through a concentrate distributor that derived a small margin on the sales. The local bottler converted the concentrate into finished beverages and was responsible for distributing the beverages in the local market.

38    Under the model, the brand owner (PepsiCo, CMCI (or PCS) or SVC) has (and had during the relevant years) a direct relationship with the bottler. The brand owner controls and protects how the brand is used by the bottler and also has an ability to enforce quality requirements and consistency of how the brand is used.

39    During the relevant years, the concentrate manufacturer bore responsibility for manufacturing the concentrate so as to ensure that each beverage had its distinctive taste, and for getting the concentrate to the bottler. The concentrate manufacturer, or the concentrate distributor, also had responsibility for contributing some of the proceeds it received from the sale of concentrate towards marketing activities and payments to the bottler if it met certain targets.

Exclusive bottling agreements (2000 to 2008)

40    On 6 October 2000, PepsiCo, Seven-Up International (a division of CMCI) and Cadbury Schweppes Pty Ltd (as bottler) entered into an exclusive bottling appointment in relation to Australia.

41    On or about 16 May 2001, SVC entered into an exclusive bottling agreement with Cadbury Schweppes Pty Ltd (as bottler) in relation to Australia.

42    On or about 16 August 2006, SVC and Cadbury Schweppes Pty Ltd entered into a Restated and Amended Exclusive Bottling Agreement.

43    On 24 December 2008, Cadbury Schweppes Pty Ltd, Associated Home Delivery Pty Ltd (as SAPL was then known), PepsiCo, CMCI and SVC entered into a Deed of consent and novation.

44    In 2009, the Cadbury group of companies that controlled the beverage business was acquired by the Asahi group of companies and new exclusive bottling agreements, namely the PepsiCo EBA and the SVC EBA, were entered into. These are described below.

The PepsiCo EBA

45    On 3 April 2009, PepsiCo, CMCI and SAPL entered into the PepsiCo EBA. I note that PBS was not a party to this agreement. The PepsiCo EBA (as amended) was in place during the relevant years.

46    The “Bottler” for the purposes of the agreement was SAPL. The term “Company” was defined as follows:

When used herein with respect to any matter concerning PEPSI, PEPSI MAX, PEPSI LIGHT, PEPSI LIGHT CAFFEINE FREE or MOUNTAIN DEW, the term ‘Company’ refers to PepsiCo, when used herein with respect to any matter concerning SEVEN-UP, the term ‘Company’ refers to CMCI; when used herein generally without regard to any particular trademark or beverage, the term ‘Company’ means both and each of PepsiCo and CMCI collectively. When used in clauses 24, 26, 29, 32 and 36 hereof, PepsiCo and CMCI shall collectively be regarded as one party;

47    The recitals noted that the Bottler and the Company were parties to an exclusive bottling agreement dated 6 October 2000 in respect of beverages known as and sold under the trademarks “Pepsi”, “Pepsi Max”, “Pepsi Light”, “Pepsi Light Caffeine Free”, “Mountain Dew” and “Seven-Up” (referred to as the “EBA”). The recitals also stated that the Bottler and the Company wished to restate and amend the EBA in accordance with this agreement.

48    Clause 2 stated that the EBA was amended and restated by being replaced wholly with this agreement with effect from the Commencement Date (which was 3 April 2009).

49    Clause 3 dealt with the appointment of the bottler as follows:

3    Appointment

(a)    Subject to the terms of this Agreement, PepsiCo hereby appoints Bottler, to bottle, sell and distribute the beverages known as and sold under the trade marks PEPSI, PEPSI MAX, PEPSI LIGHT, PEPSI LIGHT CAFFEINE FREE and MOUNTAIN DEW; and CMCI hereby appoints Bottler, to bottle, sell and distribute the beverages known as and sold under the trade mark SEVEN-UP, in each case as its sole and exclusive licensee within the Commonwealth of Australia (‘Territory’) and nowhere else.

All the above beverages are hereinafter referred to as the ‘Beverages’ and all the above trade marks are hereinafter referred to as the ‘Trade marks’.

(b)    The term of this Agreement shall be from the Commencement Date until 6 October 2020 (‘Original Term’). This Agreement will be automatically extended for a term of 20 years, unless either Bottler or Company shall give notice in writing to the other party of its intention not to renew this Agreement, said notice to be given at least one year in advance of the expiration of the Original Term.

(c)    Bottler accepts this appointment upon the terms herein contained and will bottle, sell and distribute the Beverages only for ultimate resale to consumers in the Territory and will not bottle, sell or distribute the Beverages to any person or entity whom bottler knows, or has reason to know, will export the Beverages, whether directly or indirectly, outside the Territory.

(d)    Further, Company grants to Bottler a right of first refusal in relation to any other offer of bottling and/or distribution appointment in the Territory which Company or its affiliate wishes to make for any beverage which has not been previously licensed to Bottler. If Bottler declines any such offer or if no written acceptance of the offer is received from Bottler within 30 days of Company’s written offer being sent to Bottler, Company reserves such right for itself and for third parties, on terms and conditions no more favourable than those offered to Bottler.

(Emphasis added.)

50    Insofar as the appointment clause, set out above, involved CMCI appointing SAPL in respect of Seven-Up, this can be put to one side for the purposes of the present proceedings, as they do not raise any issues concerning Seven-Up.

51    Clause 4 dealt with supply of concentrate and included:

4    Supply of Concentrate

(a)    Company will sell or cause to be sold by one of its subsidiaries (Company and/or such subsidiary hereinafter both called ‘Seller’) to Bottler, and Bottler will buy only from Seller, all units of concentrate (hereinafter called ‘Units’) required for the manufacture of the Beverages by Bottler, at the following prices for the calendar year 2009.

(b)    The above prices per Unit shall be adjusted on January 1 of each year during the term of this Agreement based on the official Australia Consumer Price Index (all groups) (‘CPI’) as published from time to time by the relevant government majority measured over the 12 month period ended on the immediate preceding June 30 or such other comparable index as the parties will agree if the CPI is suspended or discontinued or its method of calculation is substantially altered.

(c)    All Units shall be delivered to Bottler’s plant, with freight, insurance and handling charges to be prepaid by Seller and charged to Bottler. Bottler shall be responsible for paying customs duty and GST. Bottler will at its own cost and expense, and without any cost or expense to Seller, obtain all import licenses and permits in relation to the Units. Company is responsible for ensuring the Units comply with all applicable laws and regulations in the Territory necessary to obtain all import licenses and permits. Title to all Units shipped by Seller to Bottler shall remain in Seller until the Units are paid by Bottler according to the provisions hereof. Payment in full for each order of Units shall be made by Bottler within 7 days of delivery.

(d)    Bottler agrees that it shall carry an inventory of Units equal to 45 days’ projected usage, but not less than the previous financial year’s average 45 days’ actual usage.

(Emphasis added.)

The Commissioner draws attention to the fact that the clause provides for sale of concentrate “at” certain prices; it does not state that the payments are made “as consideration for” the concentrate or that the payments are made “only” for the concentrate.

52    Clause 5 dealt with the trademarks:

5    Trade Marks

(a)    Company represents and warrants that it is (and will remain during the term of this Agreement) the registered proprietor in the Territory of the Trade marks and that the use of each of the Trade marks by Bottler according to the provisions of this Agreement will not infringe the rights of any other party.

(b)    The decision of Company on all matters concerning the Trade marks shall be final and conclusive on, and not subject to question by, Bottler. Company will protect and defend the Trade marks at its sole cost and expense, but, subject to the indemnity provided by Company under clause 22 hereof, Company shall not be liable to Bottler for any loss or damage suffered by Bottler by Bottler’s use of the Trade marks or as a result of any litigation or proceeding involving the Trade marks. Bottler will cooperate fully with Company in the defence and protection of the Trade marks and will promptly and fully advise Company of any use in the Territory of any mark infringing the Trade marks. Company agrees to be responsible for any reasonable third-party costs incurred by Bottler in defending and protecting the Trade marks at the request of Company.

(c)    Bottler recognises Company’s ownership of the Trade marks and will not take any action which will prejudice or harm the Trade marks, or Company’s ownership thereof, in any way.

(d)    Nothing herein contained shall be construed as conferring upon Bottler any right or interest in the Trade marks, or in their registrations or in any designs, copyrights, patents, trade names, signs, emblems, insignia, symbols and slogans, or other marks, used in connection with the Beverages.

(Emphasis added.)

I note that the expression “Trade marks” was earlier defined in clause 3(a).

53    Clause 6 dealt with manufacturing directions. Clause 7 dealt with manufacturing materials. Clause 8 dealt with bottling plants and clause 9 dealt with bottling plant standards.

54    Clause 11 related to selling activities:

11    Selling activities

(a)    Bottler will sell Beverages in the Territory in agreed packages and proprietary packages as Company may from time to time specify.

(b)    Company anticipates that Bottler will sell Beverages in the Territory at prevailing competitive market prices.

(c)    Bottler will sell and distribute beverages in accordance with all national, state municipal, local and other governmental laws, decrees, ordinances, rules, orders, regulations and charges.

(d)    As may be agreed between the parties from time to time, Bottler will test market and introduce new packages and new package sizes for the Beverages in all or part of the Territory, and provide the bottling, selling and distribution facilities for such purposes.

(e)    Bottler will use its reasonable endeavours to maximise the sale of Beverages throughout the Territory. Without in any way limiting bottler’s obligations under this clause 11, Bottler must use its reasonable endeavours to fully meet and increase the demand and share of market for Beverages throughout the Territory and secure full distribution up to the maximum sales potential therein through all distribution channels or outlets available to soft drinks, using any and all equipment reasonably necessary to secure such distribution, must fully exploit new packages, new package sizes and new Beverages opportunities; must serve all accounts with frequency adequate to keep them at all times fully supplied with Beverages; must use its own salesmen and trucks (or salesmen and trucks of independent distributors, of whom Bottler shall notify Company), in quantity adequate for all reasons; must cooperate in Company’s cooperative advertising and sales promotion programs and campaigns for the Territory.

(Emphasis added.)

55    Clause 12 required SAPL to maintain sufficient inventory. Clause 13 required SAPL to provide samples to the Company on a monthly basis. Clause 14 allowed the Company to conduct inspections of SAPL’s plant or plants. Clause 15 required SAPL to keep records of tests. Clause 16 required SAPL to provide certain information and reports to the Company.

56    Clause 17 dealt with permitted activities of SAPL and provided in part:

17    Permitted activities

(a)    Bottler will sell and distribute Beverages under the Trade marks and will make only such representations concerning Beverages as shall have been previously authorised in writing by Company.

Neither Bottler nor any affiliated or related entity or one under common ownership or control or one in which Bottler has an interest or participation will, in the Territory, bottle, distribute or sell, directly or indirectly:

(i)    any other cola drink or any drink or beverage similar to a cola beverage having the word ‘cola’ as part of its name, or

(ii)    any clear carbonated lemon and/or lime drink which imitates or can reasonably be confused with SEVEN-UP or DIET SEVEN-UP (including get-up, trade mark or logo). For the avoidance of doubt, the following are excluded …

(iii)    any carbonated beverage which imitates or can reasonably be confused with MOUNTAIN DEW, and

(b)    Bottler will not use in connection with any beverage any trade mark, designation or trade dress which imitates or is likely to be confused with Company’s Trade marks, designations or trade dress.

(c)    Notwithstanding the foregoing, Company recognises that bottler is involved in co-packaging certain house brand private label supermarket beverages. With the exception of co-packaging of private label cola beverages or beverages similar to a cola beverage, Company agrees that Bottler may continue co-packaging such beverages, provided that the total volume of such co-packed beverages shall not exceed [redacted]% of the total volume of all of the beverages (including Beverages) produced by Bottler in any calendar year. In that regard, Bottler shall provide to Company a certificate signed by a director of Bottler certifying compliance with such volume number.

(d)    For the avoidance of doubt, nothing herein shall prohibit Bottler from co-packing any alcoholic pre-mixed beverage with an alcohol content greater than 1%.

(Emphasis added.)

57    Although the agreement did not expressly licence SAPL to use the relevant trademarks and other intellectual property, it is common ground that the agreement contained an implied licence to this effect, having regard to clause 17 and the agreement generally; the agreement could not operate otherwise.

58    Clause 18 dealt with entry into a co-operative advertising and marketing agreement in relation to the beverages in the Territory (defined in clause 3(a) as Australia). Clause 19 related to a performance agreement entered into by Pepsi-Cola International, Cork (PCIC), a subsidiary of PepsiCo based in Ireland, and SAPL on the same day as the agreement.

59    Clause 20 dealt with permitted advertising:

20    Permitted advertising

In order to ensure consistency of image Bottler will use only such advertising strategies for Beverages as Company may develop for that market. In that connection, Bottler will use only advertising and promotion materials furnished or caused to be furnished by Company or approved by it in writing which comply with the laws in the Territory and to the extent any of Company’s Trade marks is used, will not advertise the Beverages in or through media or engage in promotions of the Beverages, not approved by Company in writing (which approval will not be unreasonably withheld or delayed). Company reserves the right to contract with, control and administer national and local media and reserves the right to appoint advertising, sales promotion and public relations and research agencies with respect to Beverages and to be the client of record of these agencies.

(Emphasis added.)

60    Clause 24 dealt with rights of termination and included:

24    Rights of termination

(a)    Upon the happening of any one or more of the following events to a party, in addition to all other rights and remedies, the other party shall have the right to cancel and terminate this Agreement by one month’s written notice to such party:

(i)    The failure of a party to perform or comply with any one or more of the material terms or conditions of this Agreement and such failure (if capable of remedy) is not remedied by such party within 60 days after it has been served with a written notice specifying such failure PROVIDED HOWEVER the right to cancel and terminate and all other rights and remedies under this clause 24(a)(i) will not apply if such failure is not capable of remedy within such 60-day period and such party has demonstrated that it has diligently pursued all necessary steps to cure such failure.

61    Clause 27 dealt with matters arising on termination and stated in part:

27    Matters arising on termination

Should this Agreement be terminated:

(a)    Bottler will not after the date of termination use in any manner whatsoever any of the Trade marks, marks, names, symbols, slogans, emblems, insignia or other designs; and …

62    Clause 28 dealt with compliance by distributors and provided:

28    Compliance by distributors

In the event Bottler utilizes distributors, to the extent permissible by law, Bottler will use reasonable endeavours to ensure that distributors comply fully with all of the terms and conditions of this Agreement relative to the sale and distribution of Beverages.

63    Clause 36 provided:

36    Confidential information

Each of the parties has been advised by the other that the information provided by each party to the other hereunder and the provisions hereof (collectively the ‘information’) which is non-public, confidential and proprietary information and of the possible damage which could result if any of the information is disclosed to a third party. Accordingly both Bottler and Company agree to use the information solely for the purposes contemplated by this Agreement, disclose the information only to its respective directors, officers and employees on a need-to-know basis and keep the information strictly confidential and not disclose any of the information to any third party, without the express prior written approval of the other party.

64    The PepsiCo EBA was varied on a number of occasions.

65    The evidence includes an undated variation agreement that took effect on and from 1 June 2012. The agreement deleted and replaced clause 3(a) with the following:

Subject to the terms of this Agreement, PepsiCo hereby appoints Bottler, to bottle, sell and distribute the beverages known as, and/or sold under the trade marks PEPSI, PEPSI MAX, PEPSI LIGHT, PEPSI LIGHT CAFFEINE FREE, MOUNTAIN DEW, MOUNTAIN DEW ENERGISED WITH CAFFEINE, DIET PEPSI, DIET PEPSI CAFFEINE FREE, PEPSI NEXT AND PEPSI MAX KICK and CMCI hereby appoints Bottler, to bottle, sell and distribute the beverages known as and sold under the trade mark SEVEN-UP, in each case as its ‘sole and exclusive licensee within the Commonwealth of Australia (‘Territory’) and nowhere else.

All of the above beverages are hereinafter referred to as the ‘Beverages’ and all of the above trade marks are hereinafter referred to as the ‘Trade Marks’.

66    On 16 September 2015, the parties signed a letter agreement varying the PepsiCo EBA by including additional terms relating to the “Say it With Pepsi” campaign and, in particular, the use of certain “Artwork” by the Bottler. The additional terms included the following licence (expressed to be royalty free):

2.    Licence and IPR

2.1    In consideration for the Bottler complying with its obligations under the EBA (including this letter), PepsiCo grants to the Bottler an exclusive, irrevocable, royalty free licence (including a right to sublicense) for the Term to use the Artwork or part of the Artwork (and any Intellectual Property Rights in the Artwork) in the Territory in the exercise of its rights under the EBA, including this letter (hereinafter, the Licence).

2.2    The Bottler acknowledges that all right, title and interest in the Artwork (and any Intellectual Property Rights in the Artwork) remains vested in PepsiCo at all times.

2.3    The Bottler must comply with PepsiCo’s reasonable directions relating to the use and application of the Artwork (and any Intellectual Property Rights in the Artwork).

The letter agreement also included warranties, indemnities, general terms and definitions of “Artwork” and “Intellectual Property Rights”.

67    On 20 March 2018, the parties signed a letter agreement varying the PepsiCo EBA by including additional terms relating to the bottling, sale and distribution of Pepsi and Pepsi Max branded beverages in a new bottle, known as the AXL Bottle. The letter agreement was broadly similar to that set out above.

68    On 16 May 2018, the parties signed a letter agreement varying the PepsiCo EBA by including additional terms relating to the bottling, sale and distribution of PepsiCo’s Pepsi Max Raspberry product. The additional terms were similar to those in the previous two letter agreements.

69    On 23 November 2018, the parties signed a letter agreement varying the PepsiCo EBA by including additional terms relating to the bottling, sale and distribution of PepsiCo’s 1893 Pepsi Cola product. The additional terms were similar to those in the letter agreements described above.

Agreements related to the PepsiCo EBA

2009 CSD Performance Agreement

70    On or about 3 April 2009, PCIC and SAPL entered into a performance agreement (the 2009 CSD Performance Agreement) that deals, broadly, with minimum sales volumes, quality standards, and advertising and marketing. I infer that, at this time, PCIC was the designated seller under the PepsiCo EBA. (In Ms Dent’s affidavit, at paragraph 45, she stated that PCIC was the designated seller of concentrate to SAPL as at 2015.) I also infer that the 2009 CSD Performance Agreement remained in place during the relevant years. (The term of the agreement is the same as that of the PepsiCo EBA and there is no indication in Ms Dent’s affidavit that the agreement ceased to be in effect or was replaced.) The evidence does not seem to include any agreement by which PCIC was replaced by PBS when it became the designated seller under the PepsiCo EBA. Ms Dent’s affidavit does not refer to any such agreement in the part of her affidavit dealing with this subject-matter (paragraphs 40-41). I will proceed on the basis that PCIC remained a party to this agreement during the relevant years. Nothing turns on whether the PepsiCo Group company that was party to this agreement was PCIC or PBS.

71    The Introduction to the 2009 CSD Performance Agreement stated that the purpose of the agreement was to record the agreement of PCIC and SAPL (referred to as the “Bottler”) in relation to certain aspects of the operation of the bottler under the PepsiCo EBA in relation to the beverages sold under the trademarks specified in Sch 1 (defined as “Beverages”). Schedule 1 listed the following trademarks: Pepsi, Pepsi Max, Seven-Up, Mountain Dew, Pepsi Light and Pepsi Light Caffeine Free. The agreement stated that it was the performance agreement referred to in the PepsiCo EBA. It was stated that: definitions and expressions in the PepsiCo EBA applied in this agreement; in the event of any inconsistency, the PepsiCo EBA would prevail; and this agreement, the PepsiCo EBA and the annual Co-operative Advertising and Marketing Agreement (Co-op A&M Agreement) contained the entire agreement between the parties with respect to its subject-matter.

72    Clause 3 dealt with minimum annual sales volumes and the setting of sales volume targets. The clause set out agreed total minimum annual sales volumes for the Beverages for each of the calendar years 2009, 2010, 2011 and 2012. It stated that, for each of the subsequent calendar years 2013 to 2020, PCIC and Bottler would discuss in good faith and seek to agree on minimum sales volumes for Beverages for each calendar year, and that these discussions would take place as part of the development of the annual Co-op A&M Agreement.

73    Clause 5 dealt with distribution targets and investments. Clause 6 dealt with quality standards.

74    Clause 7 dealt with marketing and advertising, referring to Above-the-Line (ATL) and Below-the-Line (BTL) marketing and promotional activities. These expressions were explained in the affidavit of Mr Williams. Mr Williams stated that marketing programs are commonly split into two areas, referred to as “pull” and “push”. He explained that: “pull” refers to enticing consumers to go and pull the PepsiCo Group’s brands off the shelf; it covers communication and sponsorship; “push” refers to the strategies directed to getting PepsiCo Group beverage brands on the shelves in the right stores and pushing it to the consumers by appropriate pricing and store placement strategies. He stated that the ATL and BTL references in the 2009 CSD Performance Agreement corresponded to the pull and push activities described earlier in his affidavit; the PepsiCo Group was primarily responsible for ATL activities while the bottler (here, SAPL) was primarily responsible for BTL activities. I accept this evidence.

75    Mr Williams gave evidence in his affidavit (which I accept) that: “ATL” also relates to building brand equity; there are various measures of brand equity, which the PepsiCo Group uses largely to monitor performance against its competitors; for example, taste, frequency of consumption, and whether the brand is top of mind for a consumer; Schedule 3 of the 2009 CSD Performance Agreement describes this as a PepsiCo Group responsibility; brand equity initiatives are typically included in Performance Agreements such as in Schedule 3 because, if too much of a marketing budget is spent on push, this might lead to selling product, but brand equity in the mind of the consumer is not being built; and the PepsiCo Group needs that brand equity to gain pricing power so that higher prices may be charged for its beverages.

76    Clause 7.1 stated that the advertising, marketing and promotional guidelines in Schedule 3 set out the respective roles of PCIC and the Bottler to undertake advertising, marketing and promotional activities.

77    Clause 7.2 stated that, for the calendar years 2009 to 2012, PCIC and SAPL would discuss in good faith, with the intention of entering into, by no later than the end of the second business week in December, a Co-op A&M Agreement to apply for the following calendar year; each Co-op A&M Agreement would outline an annual advertising and marketing expenditure program designed to sustain and grow the volume of Beverages.

78    Clause 7.3 set out a series of principles and terms relating to advertising and marketing. Clause 7.4 provided:

For each calendar year 2013 to 2020, Bottler and PCIC will negotiate in good faith as part of the annual Co-op A&M an annual advertising and marketing expenditure program designed to sustain and grow the volume of Beverages and for each annual period will provide for and record:

(a)    minimum annual sales volumes;

(b)    annual sales volume targets;

(c)    specific innovation commitments, and

(d)    the amount of the PCIC’s Fixed Controlled Expenditure, and the allocation of such expenditure as between ATL activities, PCIC BTL, and the amount to be provided for as the Bottler Volume Incentive.

In the event that a Co-op A&M agreement is entered into for a calendar year, the principles and terms set out in clause 7.3 will apply to it.

79    The 2009 CSD Performance Agreement was amended twice, by a letter agreement dated 25 February 2010 and a letter agreement dated March 2011 (effective 1 January 2011).

Co-op A&M Agreements

80    For each calendar year during the period 2009 to 2019, a Co-op A&M Agreement was entered into between a company or companies in the PepsiCo Group and SAPL.

81    For example, PBS and SAPL entered into a Co-op A&M Agreement for the 2017 calendar year (the 2017 CSD Co-op A&M Agreement). The agreement stated that definitions referred to in the PepsiCo EBA would apply to the agreement, and those definitions would prevail in the event of inconsistency.

82    Clause 2 of the agreement provided that the parties would contribute financially towards the advertising and marketing of the Beverages in the Territory to the extent and in the manner set out in the agreement.

83    Clause 3 dealt with (among other things) the target amount to be spent on advertising and marketing of the Beverages during the year, and the amount to be contributed by each of the Seller and the Bottler. The clause also provided some detail as to how that expenditure was to be allocated, with a breakdown between ATL and BTL activities. Appendix C contained details of the calculations.

84    Clause 7 stated that the agreed allocation of the expenditure to specified advertising and marketing programs was set out in Appendix A. Clause 8 stated that the current proposed allocation of expenditure by the Bottler towards BTL activities was set out in Appendix B. Clause 9 provided in part that the Bottler would not use any art work depicting images of PepsiCo brands in any program that had not been approved by the Seller.

85    Clause 16 provided that the bottler acknowledged that its contribution to the expenditure was for the purposes of improving its sales of Beverages, “not to build the brands of the Beverages”.

The SVC EBA

86    On or about 3 April 2009, SVC and SAPL entered into the SVC EBA. I note that PBS was not a party to this agreement. The SVC EBA (as amended) was in place during the relevant years.

87    The recitals stated that: SVC (referred to as the “Company”) and SAPL were parties to an exclusive bottling agreement (referred to as the “EBA”) dated 16 May 2001 in respect of Gatorade products (which were described in Schedules 1A and 1B); the parties wished to wholly restate and amend the EBA in accordance with the agreement; the parties intended the agreement to take effect upon the Commencement Date (defined as 3 April 2009); the parties also agreed to enter into the agreement in respect of the Propel products; and, subject to the terms and conditions of the agreement, SVC appointed SAPL to manufacture, package, distribute and sell the Gatorade products and the Propel products “under the respective Trade Marks … as its exclusive licensee of the Intellectual Property within the Territory”. Thus, unlike the PepsiCo EBA, the SVC EBA contained an express licence. I note that the present proceedings do not raise any issue concerning the Propel products; that aspect of the agreement can therefore be put to one side.

88    Clause 1.1 included the following definitions (which are relevant to clauses set out below):

Company Affiliate means any company, partnership, joint venture, branch or other corporate entity under the Control of or majority owned by Company.

…

Information means data, instructions, plans, specifications, formulae, technology, know-how, technical data, computer software, drawings, process descriptions, reports, developments, results, technical advice and trade secrets, whether in documentary, visual, oral, machine readable or other form and samples, equipment, and other tangible items.

Intellectual property means all intellectual property rights in, or in respect of, the Products, Powder Products and SMP including without limitation:

(a)    copyright, design rights, Trade Marks, Works, Packaging Specifications, Product Specifications and Artwork;

(b)    any registration, application for or right to apply for registration of, any of those rights owned by or licensed to Company; and

(c)    Company’s information,

but excludes all Intellectual property rights owned by [SAPL] or its Related Corporations.

…

Licence means the licence of Intellectual Property granted pursuant to clause 4.

…

Packaging means all packaging, containers, bottles, labels (including for the avoidance of doubt promotional labels), closures and other similar items used in relation to the Products and Powder Products.

…

Products means the products to be manufactured by [SAPL] in the Territory in accordance with this Agreement, as described in schedules 1A, and 1C and any other products agreed during the Term.

…

Registrations means the Australian trade mark registrations described in Part 2 of schedule 3.

Related Corporation has the meaning given to related body corporate in the Corporations Act.

…

Seller has the meaning given to that term in clause 7.1.

…

SMP means in respect of Gatorade Products and PROPEL products their respective proprietary beverage base which is an essential ingredient of the Products but does not include liquid sucrose or citric acid.

…

Territory means Australia and includes such other geographical areas that may be agreed to by the parties from time to time to form part of the Territory, such agreement being evidenced in writing and signed by both parties.

Trade Marks means the trade marks the subject of the Registrations and the trade marks the subject of the Applications listed in schedule 3 and all other trade marks as agreed in writing and signed by the parties.

89    Clause 2(a) stated that the EBA was amended and restated by being replaced wholly by this agreement with effect from the Commencement Date.

90    Clause 3(a) dealt with the appointment of SAPL and provided:

3    Exclusivity

(a)    Subject to the terms of this Agreement, Company appoints [SAPL] as the exclusive manufacturer, packager, seller and distributor of the Gatorade and PROPEL Products, and the exclusive seller and distributor of the Powder Products, in the Territory.

91    Clause 4.1 contained an express, royalty-free licence of the Intellectual Property:

4    Intellectual Property licence

4.1    Licence

Subject to clause 3, Company grants to [SAPL], for the duration of the Term, an exclusive royalty-free licence to use the Intellectual Property within the Territory in relation to:

(a)    the production, manufacture, packaging, distribution and sale of Products (including the production and manufacture of Packaging for the Products);

(b)    the distribution and sale of Powder Products; and

(c)    the display, marketing, promotion and advertisement of Products and Powder Products,

subject to [SAPL] complying with the terms and conditions of this Agreement. For the avoidance of doubt, nothing in this Agreement permits [SAPL] to distribute or sell the Large Sachets.

(Emphasis added.)

Insofar as the above clause referred to Large Sachets, that can be put to one side for present purposes.

92    Clause 5 dealt with manufacturing and quality control.

93    Clause 6 dealt with Intellectual Property and included:

6    Intellectual Property

6.1    Ownership of Intellectual Property

[SAPL] for the Term and the Extended Term (if any):

(a)    acknowledges that, as between the parties, all rights and interests in the Intellectual Property are and will remain owned absolutely by Company or a Related Corporation of Company and all goodwill accruing in relation to the Intellectual Property after the Commencement Date shall insure to the exclusive benefit of Company; and

(b)    will not do anything directly or indirectly, that would or might:

(i)    infringe Company’s Intellectual Property or the Intellectual Property of a Related Corporation of Company;

(ii)    invalidate or put into dispute Company’s (or its licensor’s) title or the title of a Related Corporation of Company to the Intellectual Property; or

(iii)    without limiting clause 6.1(b)(ii), oppose any application for registration of any of the Intellectual Property or support any application to limit, remove, cancel or expunge any of the Intellectual Property.

94    Clause 6.3 contained warranties and an indemnity. These included the Company representing and warranting to SAPL that the Company or a related corporation was the registered proprietor of the Registrations (i.e. the Australian trademark registrations described in Part 2 of schedule 3) and the sole legal and beneficial owner of all common law and other rights attaching to the Intellectual Property. It was also represented and warranted that each of the Registrations was valid and subsisting and, to the Company’s knowledge, there was no matter, fact or circumstance that would render any of the Registrations void or voidable.

95    Clause 7 dealt with SMP and Powder Products. As noted above, “SMP” was defined as meaning the proprietary beverage base in respect of Gatorade products and Propel products. Clause 7 provided in part:

7    SMP and Powder Products

7.1    Supply of SMP

(a)    During the Term, Company agrees to sell or cause to be sold by a Related Corporation of Company or a designated Company Affiliate acting as agent of Company (“Company and/or such subsidiary hereinafter both called “Seller”), and [SAPL] will buy only from Seller, all of [SAPL’s] requirements for SMP. [SAPL] shall use the SMP only for, and in connection with, production of the Products and in strict compliance with the Product Specifications and the terms and conditions of this Agreement and shall not export from the Territory the SMP or any Products containing the SMP.

(b)    If the SMP is supplied by a Related Corporation of Company or a Company Affiliate, the terms of this Agreement, to the extent that they are relevant, apply to transactions between [SAPL] and the Related Corporation of Company or Company Affiliate as if they were direct parties to this Agreement.

(c)    Company warrants that all SMP supplied to [SAPL] will:

(i)    be of good and merchantable quality;

(ii)    be fit for their intended purpose;

(iii)    be free from any defects; and

(iv)    comply with all applicable Laws.

(d)    Neither Company nor any Company Affiliate or Supplier of Company shall be required under this Agreement to disclose to [SAPL] or any other person the secret and unique formula comprising the SMP. In the event that a governmental authority requires [SAPL] to provide the SMP ingredients or formula information, Company must provide the required information to [SAPL] solely for the purpose of remitting such information to the relevant governmental authority. [SAPL] must not use such information for any other purpose or make copies of, record in any way or make note in any manner of such information. Company may require [SAPL] or any of its agents or employees to enter into a separate confidentiality agreement covering the provision of the SMP ingredients and/or formula information under this clause. If a disclosure of the SMP formula or any of its ingredients is required by a governmental authority in order to sell the Products in the Territory, Company must provide in a timely manner the SMP ingredients and/or formula information directly to the governmental authority requiring such information.

7.2    Price of SMP

(a)    The price of each unit of SMP necessary to produce one single strength litre of the relevant Product sold to [SAPL] (Price) as at the Commencement Date for the Annual Period of 2009 shall be $[redacted] to be increased at each Review Date during the Term and Extended Term (if any) in accordance with clause 7.2(c).

(b)    The price of SMP is CIF Australia port of entry (as defined in the 2000 edition of Incoterms). [SAPL] will reimburse Company for all port charges, customs service fees and delivery costs from the Australian Port to Company’s Warehouse. Company shall be responsible for any import duty on the SMP. [SAPL] will bear all costs and expenses incurred in taking delivery of the Products at Company’s Warehouse and subsequent transportation to [SAPL’s] Facilities.

(c)    Effective upon each Review Date, the Price will increase to an amount equal to the Current Price multiplied by [redacted] in instances only where CPI is positive.

…

7.4    Delivery and payment

(a)    To assist Company in its production schedule, [SAPL] must:

(i)    on or before the Review Date, provide to Company a written estimate of the volume of SMP and Powder Product which [SAPL] will require for the following 12 month period (Annual Schedule); and

(ii)    on or before the 15th day of each Month, provide Company a written estimate of the volume of SMP and Powder Products which [SAPL] will require for the following 12 week period (Rolling Schedule).

(b)    The Initial Annual Schedule and Rolling Schedule are annexed to this Agreement as annexure A.

(c)    Each Annual Schedule and Rolling Schedule must be in substantially the same format as that specified in annexure A (or as otherwise agreed between the parties at any time).

(d)    A fixed purchase order (Order) will be deemed to have been placed by [SAPL] and accepted by Company (for supply in accordance with the Order subject to clause 7.4(e)) for any SMP or Powder Products specified in the first 8 weeks of each Rolling Schedule but only after written acknowledgment of such Order is given by Company to [SAPL] which will be provided promptly after receipt of the Order. In the event that more than one Order applies to any specific period, the Order in the Rolling Schedule first received by Company will be deemed to be the Order for that period.

(e)    If an Order exceeds a written estimate previously provided under clause 7.4(a) for a 12 week period, Company will use its reasonable efforts to meet that Order from [SAPL] but may refuse or reduce it.

(f)    [SAPL] must pay the Price for the SMP and Powder Products supplied by Company, a Related Corporation of Company or a Company Affiliate within 28 days after the invoice, which shall be issued on the date of delivery of the SMP or Powder Products. Unless the parties agree otherwise, payment shall be made by telegraphic transfer to such bank account in the U.S.A. as may be specified by Company or a Company Affiliate at any time.

(g)    Any failure by [SAPL] to make any payment required under this Agreement when due shall be a breach of this Agreement and without limiting Company’s other remedies:

(i)    Company may at its option require immediate payment to Company, a Related Corporation of Company or a Company Affiliate of all [SAPL’s] liabilities and other indebtedness outstanding to Company, a Related Corporation of Company or a Company Affiliate regardless of previously agreed-upon terms of payment;

(ii)    [SAPL] shall owe and pay to Company, a Related Corporation of Company or a Company Affiliate as the case may be interest on such overdue payment at the rate of 2% over the prime lending rate of National Australia Bank.

7.5    Passing of Property and Risk

Property and risk in the SMP and Powder Products will pass to [SAPL] on completion of delivery to [SAPL] which shall occur upon [SAPL] or its agent or nominee taking custody of the goods at Company’s Warehouse.

(Emphasis added.)

96    Clause 9 dealt with selling and distributing the Products and the Powder Products. Clause 10 dealt with marketing and the allocation of responsibility for aspects of marketing as between the parties. Broadly, the Seller or a Related Corporation of the Seller would be responsible for the Marketing Program (being the program set out in item 1 of schedule 6, being the ATL marketing) and SAPL would be responsible for the BTL marketing.

97    Clause 12 dealt with inspections, samples and reports.

98    Clause 18 dealt with the term of the agreement and termination. The agreement continued until 31 December 2012, but could be extended. It is common ground that the agreement was in place during the relevant years.

99    Clause 18.2(a) provided:

18.2    Termination

Either party may terminate this Agreement immediately by notice to the other party if:

(a)    the other party commits a material breach (it being agreed that any non-payment is considered a material breach) of this Agreement (unless the breach is capable of remedy, in which case if the other party fails to remedy the breach within 30 days after being required in writing to do so); or …

100    Clause 18.5 dealt with the effect of termination and included:

18.5    Effect of termination

…

(b)    On termination of this Agreement or in the case of any Holding-over Period at the end of the Holding-over Period and subject to any provisions of this Agreement that apply only during such Holding-over Period:

…

(ii)    [SAPL’s] rights and licences under this Agreement will cease. Without limitation, [SAPL] must not do anything that might lead any person to believe that it is still licensed to use the Trade Marks or is in any way connected with Company;

101    Clause 19 dealt with confidentiality and included:

19.3    Permitted use

Each party may use the information of the other party only for the purpose of performing its obligations under this Agreement.

102    Clause 30 dealt with taxes and duties and included:

30    Taxes and duties

…

(b)    Company indemnifies [SAPL] against any Liabilities arising from any withholding tax which may be found to be applicable in respect of the Licence. In the event that withholding tax is imposed, [SAPL] will take such actions as are reasonably required by Company, at Company’s cost, to legally challenge such imposition.

103    The SVC EBA was amended by the parties a number of times. The amending agreements are listed in paragraph 33 of Ms Dent’s affidavit and are set out at CB tabs 24.12 to 24.19. Some of these involved adding additional products to the agreement. The amendments are not material for the purposes of the issues raised by these proceedings.

Change to the manufacturer of concentrate

104    In 2015, CMSPL was in the process of constructing a new concentrate manufacturing facility in Singapore, which was intended to become the supplier of concentrate to Australia as well as other countries in the region.

Change to the seller under the EBAs

105    As at 2015, the designated seller of concentrate to SAPL under the PepsiCo EBA and the SVC EBA was PCIC.

106    On 25 November 2015, PBS was incorporated.

107    On 8 December 2015, letters were sent by PepsiCo and SVC to SAPL pursuant to the EBAs. The letters are set out below. I note that the Commissioner relies on these letters as constituting a direction to pay for the purposes of the royalty withholding tax provisions.

108    On 8 December 2015, PepsiCo sent a letter to SAPL that stated:

I refer to the Restated and Amended Exclusive Bottling Appointment between PepsiCo, Inc. (“PepsiCo”), The Concentrate Manufacturing Company of Ireland (“CMCI”) and Schweppes Australia Pty Limited (“SAPL”), as amended and restated from time to time (the “Amended EBA”). Unless otherwise specified, capitalised terms in this letter have the meaning given to them in the Amended EBA.

PepsiCo notifies you that, from 1 January 2016, the Seller of Units will change to:

PepsiCo Beverage Singapore Pty Ltd

ABN: 609 497 832

[address redacted]

Contact:

[email and telephone number redacted]

From 1 January 2016, all purchase orders should be sent to PepsiCo Beverage Singapore Pty Ltd

109    On 8 December 2015, SVC sent a similar letter to SAPL as follows:

I refer to the Restated and Exclusive Bottling Appointment between Stokely-Van Camp, Inc. (“SVC”) and Schweppes Australia Pty Limited (“SAPL”), as amended and restated from time to time (the “Amended EBA”). Unless otherwise specified, capitalised terms in this letter have the meaning given to them in the Amended EBA.

SVC notifies you that, from 1 January 2016, the Seller of SMP and Powder Products will change to:

PepsiCo Beverage Singapore Pty Ltd

ABN: 609 497 832

[address redacted]

Contact:

[email and telephone number redacted]

From 1 January 2016, all purchase orders should be sent to PepsiCo Beverage Singapore Pty Ltd

110    On 11 January 2016, a letter on PepsiCo letterhead, but signed by PBS, was sent to SAPL as follows:

I refer to the letter from PepsiCo, Inc. to Schweppes Australia Pty Ltd dated 8 December 2015, notifying you that PepsiCo Beverage Singapore Pty Ltd will be the Seller of Units from 1 January 2016.

The bank account details for PepsiCo Beverage Singapore Pty Ltd are:

111    On 11 January 2016, a further letter on PepsiCo letterhead, but signed by PBS, was sent to SAPL as follows:

I refer to the letter from Stokely Van Camp, Inc. to Schweppes Australia Pty Ltd dated 8 December 2015, notifying you that PepsiCo Beverage Singapore Pty Ltd will be the Seller of SMP and Powder Products from 1 January 2016.

The bank account details for PepsiCo Beverage Singapore Pty Ltd are:

Concentrate Distribution Agreement

112    On or about 1 January 2018, CMSPL and PBS entered into a Concentrate Distribution Agreement. The recitals to the agreement noted that CMSPL was in the business of producing Concentrate (as defined) used in the Beverages (as defined) within the Territory (as defined) and that PBS was in the business of distributing Concentrate for use in the production of the Beverages within the Territory.

113    Article 1 of the agreement defined “Beverages” as meaning all CSDs and NCBs that were owned or licensed by CMSPL and sold in the Territory. “Concentrate” was defined as the concentrated essence, salts, acidulants, and any other components that were used in making Beverages for sale in the Territory.

114    Article 2 dealt with distribution of Concentrate. Broadly, Section 2.1 provided that PBS would distribute Concentrate to Bottlers and Approved Resellers in the Territory in such annual volumes as PBS and CMSPL agreed.

115    By section 2.4, PBS agreed to perform all necessary activities to fulfil its obligations under Section 2.1 for the benefit of CMSPL.

116    Article 3 dealt with the price at which PBS would purchase Concentrate from CMSPL. In summary, it was provided that PBS would purchase Concentrate from CMSPL at the price equal to PBS’s sales price less a distribution discount determined in accordance with Section 3.2. Section 3.2 was headed “Arm’s Length Standard” and provided in part:

The Distribution Price shall meet the arm’s length standard under the tax laws of the relevant jurisdictions. Thus, the Distribution Price shall be the amounts that would be provided by a seller to an unrelated purchaser under similar circumstances or conditions, considering all relevant facts.

117    Section 4.5 dealt with the passage of title in the Concentrate from CMSPL to PBS.

118    Article 5 dealt with intellectual property. During cross-examination, Ms Dent gave evidence that this related to the information that the bottler needed to manufacture the beverages; that is, the information needed to turn the concentrate into the beverages.

Supply of concentrate during the relevant years

119    During the relevant years (that is, the years ended 30 June 2018 and 30 June 2019), CMSPL sold concentrate to PBS.

120    During the relevant years, SAPL acquired all units of concentrate under the PepsiCo EBA and the SVC EBA from PBS.

121    The evidence includes copies of sample purchase orders for orders placed by SAPL with PBS for the purchase of CSD concentrate and NCB concentrate during the relevant years (CB tabs 24.45, 24.48).

122    The evidence includes sample invoices issued by PBS for the sale of CSD concentrate and NCB concentrate to SAPL during the relevant years (CB tabs 24.46, 24.49).

123    The evidence includes copies of bank statements detailing the receipt of payments into a bank account in the name of PBS during the relevant years (CB tabs 24.47, 24.50).

124    PBS recorded the income from the sale of concentrate to SAPL in its Australian income tax returns and financial statements for the income years ended 31 December 2017, 31 December 2018 and 31 December 2019.

125    PBS’s financial statements for the year ended 31 December 2018 show that it made a profit of $59,000 for that year. PBS’s financial statements for the year ended 31 December 2019 show that its profit for that year was $231,000. I note that the Commissioner contends that the margin that PBS earned on the sale of concentrate was 0.05% (and not the figure of 0.5% referred to in his amended appeal statements in the diverted profits tax proceedings).

Additional facts relating to concentrate

Concentrate Solutions Team

126    The PepsiCo Group’s Concentrate Solutions Team is responsible for manufacturing, selling and delivering beverage concentrate across the PepsiCo Group’s beverage brands to the PepsiCo Group’s bottlers worldwide. This involves the operation and management of the global concentrate manufacturing footprint in which the PepsiCo Group manufactures the concentrate and dispatches it to bottling partners around the world. This in turn requires the Concentrate Solutions Team to oversee the concentrate manufacturing process, monitor ingredient availability, procure the materials to manufacture concentrate and manage the logistics associated with getting concentrate to the bottlers. It also requires oversight of the transactional aspects of providing concentrate to bottlers, including order management and revenue collection from the concentrate sales.

127    The Concentrate Solutions Team supplies the total global demand for beverage concentrate to around 127 markets from eight concentrate manufacturing facilities. Two of those facilities are located in Ireland, one in Singapore, and the others are located in China, Pakistan, India, Uruguay and the United States. In terms of their manufacturing capability, the facilities are broadly the same, but their scale differs depending upon the size of the market they are designed to supply with concentrate. One of the facilities also contains a coded material manufacturing facility which supplies certain locations with specific components.

Concentrate

128    The PepsiCo Group sells beverage concentrate as a kit. The kit contains liquids and powders. Essentially, the Concentrate Solutions Team manufactures the liquid components and blends and unitises the powder components of each concentrate kit.

129    The liquid component of the kit will contain a flavour component (also called characterising flavours, such as cola or citrus) and an acidulent component. Those components are packed and transported in pails.

130    The powder component usually consists of products like caffeine, citric acid or phosphoric acid, which may be blended into a compound and then unitised. Some powders are sorted into separate bags as they cannot interact until the point of finished product manufacture, or they could impact the final product due to oxidate or flavour migration.

131    A single concentrate kit, which generally consists of pails of liquid components and bags of powder components, will make a specified number of servings for one particular product, eg, classic (“blue can”) Pepsi. A single eight-hour concentrate batch will provide enough finished concentrate to make millions of servings of finished beverage.

132    Each individual concentrate kit will likely have between 2 and 30-plus different components as part of the kit, but those components could be a combination of many more ingredients.

133    The liquid ingredients of concentrate include the flavour key (discussed further below). The flavour key is one individual ingredient of concentrate that is manufactured by the PepsiCo Group’s Coded Materials Team (also discussed further below). A flavour key is only one part of the flavour profile of a concentrate. It gives beverages their particular flavour or characterising flavour. The other parts of the flavour profile of a concentrate come from other flavours contained in the concentrate.

134    The Coded Materials Team works with the Concentrate Solutions Team to ensure availability of the flavour keys for the manufacture of concentrate, but the concentrate manufacturers are not privy to what goes into the Bill of Materials for the flavour key. Only the Flavour Trustees (discussed below) within the Coded Materials Team know that information.

The bottling process

135    Mr Lovorn gave evidence in his affidavit that: the bottling process is one in which the bottler essentially adds carbon dioxide and water to a concentrated mixture and, in some formulas, a sweetener component (sucrose or high fructose corn syrup (HFCS)); the bottling process may be compared to baking a cake using store-bought cake mix because it involves taking a product which is homogenous, blended in specific proportions, engineered to produce a particular kind of cake with a familiar taste, to which the home baker usually adds basic ingredients before pouring the mixture into a tin to bake it. During cross-examination, Mr Lovorn gave the following additional evidence about this analogy:

You are not suggesting, are you, that in drawing that comparison, that the beverage manufacturing process that’s undertaken by franchise bottlers is something that anyone can do?---Anybody that had the capital to invest in cold fill manufacturing capacity can make a soda.

But not something that could be done in a domestic kitchen where one might bake a store bought cake mix?---No.

And are you not suggesting by that analogy that the instructions that the bottler are given for bottling PepsiCo Group beverages and manufacturing them, are as simple as the ones that might be found on a packet cake mix bought in a store?---I think in the context of beverage manufacturing yes, because we take all the complexity from the bottler. They manufacture the beverage. We provide the ingredient; we provide the proprietary formulations; we work with the suppliers in qualifying ingredients that buy from our qualified suppliers. So the general manufacturing operation in a cold fill plant is a batch system, a bowl where they mix the ingredients, a filling system where they pour it into a bottle and then they cap it, or put it in a can, and seal it.

136    In subsequent questions, Mr Lovorn was pressed on whether the cake mix analogy was correct. He maintained his position, while acknowledging that the context was the beverage manufacturing industry. I accept Mr Lovorn’s affidavit and oral evidence as set out in the preceding paragraph.

137    Bottlers mostly use what is referred to as a cold fill process to convert the concentrate into finished beverages. Essentially the bottler pours the ingredients and blends from the concentrate kit into a mixer and adds water, and potentially sugar or HFCS, and blends it. That mixture is then put in a bottle with carbon dioxide and enclosed in the approved packaging.

138    The cold fill process is standardised and well known. It is easy to buy the required equipment and a bottler could readily hire a consultant to assist with the mixing of the concentrate with water and carbon dioxide.

139    The complexity and expense involved in the manufacture of concentrate are avoided for the bottler because it receives a simplified concentrate kit; the bottler does not need to know how to fold oils, extract flavours or achieve emulsification. PGCS also manages the complexities of the supply chain for the unique ingredients of concentrate because of the scale of concentrate manufacture globally.

140    Mr Lovorn stated in his affidavit (and I accept) that the bottler is provided with a set of documents containing instructions and specifications to manufacture and bottle each PepsiCo and Gatorade product for sale. During cross-examination, Mr Lovorn was taken to the product specification documents for Pepsi Max Vanilla that were annexed to his affidavit. He said (and I accept) that these documents contained the instructions and specifications to be used by SAPL in manufacturing the Pepsi Max Vanilla product. Mr Lovorn said (and I accept) that the specification was treated within the PepsiCo Group as being confidential and proprietary information; by “proprietary” he said that he meant it is a document to which protection is required to be given within the PepsiCo Group and by bottlers who receive a copy of the document. Mr Lovorn accepted that this was because there is an interest, both for the PepsiCo Group and for the bottling facilities, that the specification not become known to other bottlers that are not in a franchise arrangement with the PepsiCo Group.

141    A bottler has no need to know the recipe for the components of a concentrate kit in order to prepare and distribute a finished beverage, and the bottler would never be told that information, which is kept secret within the PepsiCo Group.

Flavour Trustees

142    The PepsiCo Group has Flavour Trustees, who are the individuals who know the formulations for the flavour keys that give a particular beverage its distinctive taste. Apart from Mr O’Donnell, there are two other Favour Trustees. They are also part of the Coded Materials Team. The flavour keys of which they are the Flavour Trustee are known within the Coded Materials Team as Coded Keys.

143    No member of the Coded Materials Team other than the three Flavour Trustees is entitled to know the formulations for the Coded Keys.

Flavour keys

144    A flavour key is a mixture of flavour ingredients or raw materials to produce a concentrated liquid product which gives a beverage its distinctive flavour.

145    The PepsiCo Group requires the Flavour Trustees to treat all flavour keys as trade secrets. This involves adhering strictly to certain practices relating to the coding of raw materials; the quality control procedures relating to the testing of flavour key samples; the segregation of inventory and the manufacturing of flavour keys from other aspects of PepsiCo Group’s business, in particular its concentrate manufacturing facilities.

146    Some of the flavour keys for PepsiCo products are managed as “Coded Keys” within the Coded Materials Team. This means that only the three Flavour Trustees know the identity of the ingredients and formulations of the flavour key (the Coded Key) for each of the beverages within those brands. This also means that the raw materials are identified only by codes, so as to maintain the confidentiality and secrecy of the formulation of each flavour key. Another type of flavour key is the “Non-Coded Key”. Non-Coded Keys are also managed within the Coded Materials Team as trade secrets but are not treated with the same degree of secrecy as the Coded Keys. In relation to Non-Coded Keys, approximately 25 people (who are known within the Coded Materials team as “Non-Coded Key Holders”) have access to information about the ingredients and formulations for those flavour keys. There is a third category of flavour key, which is known as an “Escrowed Key”. These are also managed as trade secrets. Escrowed Keys relate to flavours which are developed by a third-party flavour supplier. The intellectual property in the flavour is assigned to PepsiCo, maintained in escrow and licensed back to the supplier to manufacture and supply the flavour key exclusively for PepsiCo.

Coded Materials Team

147    The Coded Materials Team is responsible for: creating and managing the supply of, and ensuring the quality of, Coded and Non-Coded Keys; protecting the secrecy of the flavour keys by managing the flavour key formulations as trade secrets; procuring all raw materials and other ingredients required for the manufacture of the flavour keys; and managing the escrow process for all Escrowed Keys.

148    The Coded Materials Team manages the entire supply chain for flavour keys from end to end; that is, from the sourcing of the raw materials, the procurement of the raw materials, the logistics of the raw materials into the plant, the quality, sampling and testing of the raw materials, the manufacture of the flavour keys themselves, the testing of the keys, the packaging, labelling, documentation and shipping of the flavour keys. Within the context of an overall beverage supply chain involving the supply of beverage concentrate to a bottler, the Coded Materials Team is responsible for a discrete supply chain within the concentrate supply chain.

149    Mr O’Donnell gave evidence in his affidavit that the “original formulations” of the Coded Keys are held in a third-party bank vault, and that the Flavour Trustees regularly re-write codes in order to disguise the formulations. During cross-examination, Mr O’Donnell clarified that the reference in his affidavit to the “original formulations” was to the unencoded forms of the formulas; so, for example, in the bank vault is the unencoded form of the formula for Pepsi as is currently being made and is on the shelf today. I accept this evidence.

150    Mr O’Donnell gave evidence in his affidavit that, as a practice to minimise the risk of loss, none of the Flavour Trustees is permitted to fly in the same aircraft as another Flavour Trustee. During cross-examination, Mr O’Donnell was taken to that paragraph and the following exchange took place:

Now, given the answer you gave me a moment ago about the unencoded formulations for the currently used keys being stored in the bank vault, if something awful were to happen and you and each of your other two other colleagues who are also flavour trustees all happened to pass away at the same time, it would be the case, wouldn’t it, that someone from the PepsiCo Group would be able to access those original formulations of the coded keys in the bank vault?---Yes.

So, again, if something awful like that did happen and all three of you were to pass away at the same time, it’s the case, isn’t it, that the formula for the coded keys would not be lost because they are in the vault?---That’s right, yes.

Incorporation into beverage concentrate

151    Once manufactured, a Coded Key becomes an inventory item noted on the concentrate manufacturer’s inventory system, as in the case of a regular raw material. A Bill of Materials for a batch of concentrate will identify a quantity of the Coded Key required to manufacture the batch.

152    There is no need for a concentrate team member to know the formula for a Coded or Non-Coded Key and, in order to protect that formula as a trade secret, the concentrate manufacturer would never be told that information.

Incorporation into finished beverage

153    For the purposes of enabling or assisting a bottler to produce finished beverages from concentrate, the Coded Materials Team is not and would not be required to provide any technical knowledge or assistance to the bottler relating to the properties, behaviour or composition of a flavour key or relating to the use of a flavour key with the other ingredients in the manufacture of the concentrate or the finished beverage.

154    There is no need for a bottler to know the formula for a flavour key and, consistently with the PepsiCo Group’s policy and practice of protecting that formula as a trade secret, the bottler would never be told that information because that would be inconsistent with the requirements of formula confidentiality and secrecy of all flavour key formulations within the PepsiCo Group.

Additional facts relating to the franchise model

Early 1900s to 1970s

155    PepsiCo’s predecessor, the Pepsi-Cola Company, was established in 1902, not long after Pepsi-Cola was invented.

156    In the early 1900s, the Pepsi-Cola Company adopted a franchise-style model in the United States. Under that model, the company sold Pepsi syrup (equivalent to concentrate) to third-party bottling companies. There were a number of bottling companies appointed to bottle and sell Pepsi-Cola across the United States.

157    The evidence includes a copy of a “License to Bottle Pepsi-Cola” granted by the Pepsi-Cola Company to Charlottesville Pepsi-Cola Bottling Company (the Bottling Company) dated 28 December 1908 (the Charlottesville EBA). By this agreement, the Pepsi-Cola Company granted to the Bottling Company “the right to Carbonate Pepsi-Cola in bottles and to Market Bottled Carbonated Pepsi-Cola” in the territory of Charlottesville. The agreement involved the sale of Pepsi-Cola Bottling Syrup by the Pepsi-Cola Company to the Bottling Company for a specified price ($1.25 per gallon). The Pepsi-Cola Company agreed not to sell Pepsi-Cola Bottling Syrup to other bottlers in the territory during the term of the contract. The Pepsi-Cola Company agreed to furnish to the Bottling Company “such advertising matter for distribution and display as is generally furnished to Pepsi-Cola Bottling Plants”. The Bottling Company agreed to purchase each year the contract was in force a specified volume of syrup and to bottle the syrup in a specified proportion of syrup to carbonated water “and to pay cash for the syrup upon arrival at destination”. The Bottling Company agreed to “mark all crates and bottles with the lettering of the Pepsi-Cola trade mark”.

158    Mr Williams gave evidence in his affidavit (which I accept) that, since its inception in the early 1900s, PepsiCo’s franchise-style model has been based on the sale to a third-party bottler of concentrate, and on the distribution and sale in local markets of finished beverages produced by a bottler from that concentrate. The model requires joint investment by both PepsiCo and the bottler in the infrastructure and resources required to develop, manufacture, bottle and distribute the beverages and in local marketing to promote beverage sales.

159    In the 1950s, PepsiCo sought to expand the franchise-style model internationally in an attempt to capitalise on changing consumer demands in the post-war era.

160    Until the 1980s, the PepsiCo group marketed one beverage internationally, which was the classic formulation of Pepsi.

The period since the 1980s

161    In around 1986, the PepsiCo Group acquired the “Seven-Up” or “7up” brand of beverages for the purposes of marketing and distributing them internationally. In the following years, the PepsiCo Group’s beverage portfolio expanded considerably. It launched Diet Pepsi and later Pepsi Max, and moved into water, juices and Gatorade. There are now over 80 brands in the PepsiCo Group’s beverage portfolio.

The FOBO and COBO models

162    In his affidavit, Mr Williams uses the expression “FOBO” (short for “franchise-owned bottling operation”) to describe the business model in which the PepsiCo Group sells concentrate that is then “finished off” by a bottler with local equipment and distribution capabilities. I will use the expression in the same way in these reasons.

163    In his affidavit, Mr Williams uses the expression “COBO” (short for “company-owned bottling operation”) to refer to the model in which PepsiCo uses bottling operations that are owned and operated by PepsiCo. I will use that expression in these reasons. In parts of the United States, and in a small number of other countries such as Russia, Poland and Egypt, PepsiCo operates under the COBO model.

164    In about 2009, PepsiCo acquired two of its biggest bottlers in the United States, PPG and Pepsi Americas. That had the effect of bringing about 80% of PepsiCo Group bottling in the United States into the COBO model.

Features of the FOBO model

165    Mr Williams gave evidence in the last sentence of paragraph 17 of his affidavit that, under the FOBO model, the PepsiCo Group “remains responsible for building its global brand so as to increase volumes of beverage sales and gain market share from Coca-Cola”. During cross-examination, Mr Williams was taken to that sentence and gave the following evidence (which I accept):

So is your evidence in that last sentence that it’s the global brand of Pepsi that drives the volume of beverage sales and market share?---No, it’s a multiple group of things that drive volume and market share.

And can you tell me what the other things are?---We would typically look at everything across what we call push-pull. So everything that involves the brand in a store, so pricing, display, location in the store and trade promotions, so we would regard that as push. And then on pull it would be anything that obviously encourages the consumer to pull the brand off the shelf, so it would be advertising, it would be sponsorship, sampling and so on.

And, generally speaking, pull is the [responsibility] of Pepsi and push is the responsibility of the bottler; is that right - - -?---Yes, we - - -

- - - broadly speaking?---It’s not quite as black and white but yes, that would be the case.

166    Mr Williams gave evidence in paragraph 19 of his affidavit (which I accept) that: in implementing the FOBO model worldwide, the PepsiCo Group’s essential role is to continue innovating and developing the “brands” under which its products are sold; the model is based on the principle that the PepsiCo Group should focus on activities it is better placed to perform, while third-party bottlers focus on their core business of bottling, selling and distributing finished beverages, as that is their primary business and their field of expertise. In oral evidence, Mr Williams gave evidence (which I accept) that it is the role of PepsiCo, rather than the bottler, to develop and promote the brands, and that when he used the term “brands” in paragraph 19 of his affidavit he was referring to the trademarks, the get-up, the shape of the bottle, and those sorts of items of intellectual property.

167    Mr Williams gave evidence in his affidavit (which I accept) that: in his experience, the FOBO model drives value for both the bottler and the PepsiCo Group; on the bottler’s side, it will earn a higher return on capital from bottling beverages than PepsiCo would because of the bottler’s knowledge of the local market and ability to leverage its networks and scale; the local bottler is able to leverage the PepsiCo Group’s innovation and marketing capabilities which enhances the bottler’s own local capabilities. Mr Williams gave the following evidence (which I accept) during cross-examination:

… And in 21 of your affidavit, Mr Williams, the last sentence reads that the local bottler is able to leverage the Pepsi Group’s innovation and marketing capabilities which enhances the bottler’s own local capabilities. Is it also true to say that the bottler gets the benefit of brand recognition in the local market as a result of the arrangement with PepsiCo?---Obviously they get access to the brand - - -

Yes?--- - - - and that brand recognition will drive value, but I don’t think you can isolate it like that because there are many factors driving value. So for a new franchise, for example, where the brand is very new, then there’s very, very limited value coming through from the brand.

Thank you, Mr Williams. I might just ask you that question again because I’m talking about the benefit to the bottler with this question. So is it also true to say that the bottler gets the benefit of brand recognition in the local market - - -?---Yes.

- - - as a result of the bottling arrangement?---Yes.

168    Mr Williams gave evidence in his affidavit (which I accept) that: on the PepsiCo Group side, the group gains access to the bottler’s investment in bottling and distribution equipment and its capabilities, including its distribution network, sales force, leadership, relationships with the trade (such as supermarket executives) and local regulatory authorities; it is beneficial for the PepsiCo Group to do this, as it does not have those local capabilities or assets.

169    Mr Williams gave evidence in his affidavit that the FOBO model remains essentially unchanged since it was created in the early 20th century. While this may be accepted in a general sense, I note that this covers a long period of time and many different countries. Based on the exclusive bottling agreements to which Mr Williams was taken during cross-examination, it does seem that there is considerable scope for variation in the terms of exclusive bottling agreements entered into by the PepsiCo Group.

170    Mr Williams gave evidence in his affidavit that the PepsiCo Group has sought for the past two decades to identify and promote certain practices in carrying out exclusive bottling agreements so that the FOBO model is adopted “simply, consistently and efficiently worldwide”. He stated that, in his experience, with so many markets, if you do not reduce the business model to “a very simple model”, it is difficult to get both bottlers and PepsiCo Group local franchise managers to implement the model consistently and efficiently. As discussed below, insofar as this relates to the pricing terms, I have some difficulty in accepting that the pricing terms were simple in all cases.

171    Mr Williams gave evidence in his affidavit that, over the last decade, the PepsiCo Group has identified and promoted the fundamental principles of the FOBO model. Between 2012 and 2015, under Mr Williams’s direction, the best practices of the bottling system were identified and simplified into a statement of nine “fundamentals”. The document is known within the PepsiCo Group as the “9Fs” or “9 Franchise Fundamentals”. In formulating the 9Fs, Mr Williams’s team spent around three years examining all the markets in which the PepsiCo Group operates looking at how it works with bottlers and identifying the best practices. Eventually, the PepsiCo Group identified these nine principles which allowed it to take anything occurring within a market, whether it be India, China or the United Kingdom, and relate that to one of the nine fundamental principles. A copy of the “9 Franchise Fundamentals” was annexed to Mr Williams’s affidavit.

172    During cross-examination, Mr Williams gave evidence (which I accept) that the principles recorded in the document remained constant over the time he was in his franchising role. He gave evidence (which I accept) that the application of the principles would vary across different markets, because it was “a journey of building capability”. He accepted that what was expressed in the document was a statement of principles at a fairly high level in terms of business strategies and goals, with the flexibility to be able to implement them differently in different markets according to the needs of those markets.

173    The document included the following statement (at page 11): “The long-term success of our Franchise model comes from building strong brands”. Mr Williams gave evidence during cross-examination that he agreed with that proposition, and it was one of the drivers of long-term success. I accept that evidence.

174    Mr Williams accepted during cross-examination that the 9 Franchise Fundamentals document was a series of business goals and strategies for management of the franchise business, rather than a template for how an exclusive bottling agreement was to be negotiated. Mr Williams accepted during cross-examination that the document did not provide specific guidance as to what could and could not be included in an exclusive bottling agreement.

175    Mr Williams gave evidence during cross-examination (which I accept) that, in his role in franchising, he was not aware of the sale of PepsiCo concentrate ever being offered without a licence of the brand. He said (and I accept) that, in the FOBO model, the concentrate and the brands “always go together”. Mr Williams accepted that PepsiCo would never sell its concentrate without also licensing the Pepsi brand under which the finished beverage is to be sold. Mr Williams said (and I accept) that, in his experience, PepsiCo had never licensed the trademark for the Pepsi brand to be used on a carbonated soft drink that was not made from Pepsi concentrate.

Exclusive bottling agreements

176    Mr Williams gave the following evidence in his affidavit relating to the negotiation of exclusive bottling agreements:

(a)    Exclusive bottling agreements are usually negotiated locally by PepsiCo Group employees (referred to as “franchise leads”) who are based in local markets and are responsible for managing contracts and relationships with bottlers. Therefore, a centralised and consistent approach to the negotiation of exclusive bottling agreements and related agreements is essential and relies on all PepsiCo Group employees understanding which aspects of exclusive bottling agreements are non-negotiable, and what principles guide the negotiable provisions of exclusive bottling agreements and related agreements (eg, monetary investment in annual marketing programs).

(b)    Non-negotiable aspects of exclusive bottling agreements are binding on the PepsiCo Group’s franchise leads worldwide. These non-negotiable matters are essentially cultural to the PepsiCo Group, having their source in the group’s company history and in the historical success of the FOBO model. The PepsiCo Group has insisted on exclusive bottling agreement provisions that ensure that no bottler introduces a cola beverage into its own portfolio to be distributed and sold in competition with Pepsi beverages. This is referred to within the Global Beverage Team as a “non-compete on cola”.

(c)    The exclusive bottling agreements have a very strict focus on maintaining the quality and consistency of the taste of Pepsi beverages. Therefore, the exclusive bottling agreements stipulate that the bottler must perform its bottling function in strict compliance with PepsiCo’s methodologies and specifications and allow PepsiCo to inspect the bottler’s operations, conduct quality audits of a bottler’s finished product and take water samples to ensure that the bottler’s water quality will not degrade the taste or quality of a beverage. PepsiCo also provides ongoing technical assistance and monitoring to train and guide the bottler and ensure that PepsiCo’s strict quality standards are maintained and adhered to. These measures are also non-negotiable and failure to meet the quality standards is a breach of the exclusive bottling agreement and may in some cases lead to termination of that contract. By subjecting the bottler to quality assurance measures, the PepsiCo Group protects its brand and the reputation of its products.

(d)    As the FOBO model is based on the sale of proprietary beverage syrup, the quality and consistency of which is strictly monitored, controlled and protected, the PepsiCo Group also insists that exclusive bottling agreements provide that beverage concentrate be purchased only from the PepsiCo Group.

(e)    The FOBO model is based on the PepsiCo Group’s responsibility for supplying concentrate and maintaining and building its brand. The exclusive bottling agreements contain provisions that give the PepsiCo Group strict control over marketing activities undertaken and promotional material produced by the bottler for the purposes of its distribution and sale of beverages. Such terms are also non-negotiable.

177    I accept that the evidence in the above paragraph represents the general position regarding terms that are non-negotiable from the PepsiCo Group’s point of view. However, the exclusive bottling agreements to which Mr Williams was taken during cross-examination show that there have been a number of instances where an exception has been made to the non-compete on cola. Mr Williams described these as “outliers”; nevertheless, they were exceptions and indicate that there is scope to vary that term. Further, during cross-examination, Mr Williams gave the following additional evidence (which I accept) relating to the negotiation of exclusive bottling agreements:

… So does that mean that the negotiable and non-negotiable elements that you’ve described in your affidavit are not exhaustive?---No, but at the end of the day, everything has to be agreed. There are some areas that we will give less leeway on than others.

So as a practical matter, everything is negotiable, is that what you’re saying?---No, because there are some things we would walk away from. I think it’s very difficult to put these relationships into black and white formats like it feels like we’re doing. It’s a very complex process, awarding an EBA - - -

Yes?--- - - - and you have to come out of the other side in a very sustainable way for both parties. If it only works for one party, it will collapse within two or three years and that doesn’t help anybody. So we go through pretty good discussions on every element.

Yes, I see. So there’s an element of flexibility there to make the relationship work - - -?---Mm.

I take Mr Williams’s answer to the last question in the above passage to signify agreement with the proposition put to him.

178    Mr Williams gave evidence in his affidavit that the pricing term is a negotiable aspect of the exclusive bottling agreement. He stated:

42.    A negotiable provision in the EBA relates to the price for which concentrate is sold by the PepsiCo Group’s designated seller. There are a number of factors which the local franchise executive will bear in mind when negotiating the price for the concentrate.

43.    One such factor is the cost of goods including freight. Another is the amount of money that must be spent on advertising and marketing to protect and grow the brands in the territory.

44.    Another such factor is trade pricing, which means that we try to determine, based on the bottler’s channel mix and historical sales, what it could make by selling PepsiCo beverages at a particular price, assuming a bottling net margin of between 2% and 10%. In my experience, larger bottlers which can take advantage of economies of scale and local market conditions can drive a net margin of 4% and upwards. A net margin of 10% is extremely rare. The approach is to look at what it takes to run a sustainable bottling business and then try and model that to determine whether a price will allow the bottler to build a sustainable business that grows PepsiCo beverage market share as opposed to making the bottler so weak that it might lose that market share.

45.    In my experience working for the PepsiCo Group for 35 years, these factors have been consistently adopted in our consideration of concentrate pricing. It is pragmatic and practical because our people (both franchise leads and bottlers) across around 115 markets can understand our pricing. Negotiating price on this basis is a relatively simple process which is clear for bottlers, and which encourages them to focus on improving their margins by working collaboratively with the PepsiCo Group on marketing strategies to increase sales volumes.

(Emphasis added.)

179    During cross-examination in relation to paragraph 42 of his affidavit, Mr Williams said that there were two types of pricing structures that the PepsiCo Group uses. One is a flat concentrate price; the other is a net wholesale price (NWSP). Mr Williams was taken during cross-examination to an exclusive bottling agreement for Malaysia (CB tab 46) and asked questions about the NWSP referred to in the agreement. Mr Williams said that it was “a very technical definition” and that, if one really wanted to understand it in detail, “you probably need a finance person to take you through it”. He said that the definition will vary from market to market and the definition is an aspect that can be negotiated.

180    In relation to paragraphs 43-45 of his affidavit, Mr Williams was asked during cross-examination if there was any kind of mandatory direction given to the local franchising executives as to what could and could not be taken into account in negotiating price. He gave evidence (which I accept): “No, they will manage that through with the local leadership team”. He also gave evidence (which I accept) that it was “whatever works for the local P and L”. During cross-examination, Mr Williams said that the list of factors in paragraphs 43 and 44 of his affidavit was a non-exhaustive list. When pressed on what other factors could be relevant, he said “I think we would probably need a finance person to take you through the full detail”. He also said that there are “so many different factors”.

181    In relation to paragraph 45 of his affidavit, Mr Williams accepted during cross-examination that some of the factors he referred to in paragraphs 43-44 (such as the “cost of goods” figure for concentrate) were matters that PepsiCo would not share with the bottler. He also accepted that the bottler’s net margin would not be shared by the bottler with PepsiCo. It was put to him that there is a “certain level of opaqueness to this discussion then because you’ve [i.e. PepsiCo] got information that they [i.e. the bottler] don’t have and they’ve got information that you don’t have”. He accepted this.

182    The evidence set out in [179]-[181] above indicates that there is considerable scope to negotiate the way in which the pricing term is expressed and that such terms sometimes have a degree of complexity to them. I am not satisfied that the pricing term is generally expressed in simple terms such as a fixed price for a unit of concentrate.

Performance Agreements

183    While Mr Williams was working in Ireland in the late 1990s, his team introduced Performance Agreements (or Business Development Agreements (BDAs)) with the bottler Cantrell & Cochrane in order to regulate how it made the investment necessary to bottle, distribute and sell Pepsi and 7up successfully. Mr Williams considered the introduction of performance targets to be particularly important in that case, for reasons he explained in his affidavit.

184    Mr Williams gave evidence in his affidavit (which I accept) that the structure of the Performance Agreement he negotiated then remains essentially the same as the Performance Agreements used today, in the sense that it sets out: the strategies that the parties jointly agreed to pursue to market PepsiCo Group beverages; the targets the parties jointly agreed in terms of sales and market share growth; and the material (monetary) commitments to deliver those targets.

185    Mr Williams gave evidence in his affidavit (which I accept) that the reason why the Performance Agreement is not a part of the exclusive bottling agreement, but is a separate document, is largely historical. That is, the PepsiCo Group had a series of exclusive bottling agreements already on foot of different durations and therefore it was a way of strengthening the governance surrounding the exclusive bottling agreements, where different exclusive bottling agreements were in place. From the late 1990s, the PepsiCo Group’s Franchise Team required that exclusive bottling agreements be supported by a Performance Agreement or BDA, and this was supported by the PepsiCo group’s regional Governance Councils.

186    Mr Williams gave evidence in his affidavit (which I accept) that, in simple terms, brand building under the FOBO model involves the development of the brand strategy and then the implementation of that strategy through programs involving sponsorship deals, advertising campaigns and communication strategies; this marketing program is then split into two areas, known as “push” and “pull” (referred to above).

187    Mr Williams gave evidence in his affidavit (which I accept) that, in general terms, the franchise function within the PepsiCo Group develops guidelines on both push and pull; the guidelines seek to describe the best practices from across the various markets and identify those strategies which are best adapted to developed markets, and those which are best adapted to developing and emerging markets.

188    Mr Williams gave evidence in his affidavit (which I accept) that: the PepsiCo Group’s Franchise Team tries to simplify, based on those best practices, a model and what they call levers that markets can execute to build the brands; for example, on the pull side, there would be levers such as communication, sponsorship and sampling; on the push side, there might be levers such as pricing, display, availability and store presence.

Co-op A&M Agreements

189    From around 1956, the PepsiCo Group started entering into Co-op A&M Agreements with its bottlers in international markets.

190    More recently, as the PepsiCo Group has been trying to build its brand across many countries, it has become important to create synergy in advertising and marketing. That is because it is inefficient and ineffective to have 115 countries each doing something different in marketing a global brand. This is achieved by making sure there are joint commitments by both the PepsiCo Group and the bottler to shared marketing responsibilities, where local marketing initiatives are influenced by local marketing managers in consultation with bottlers to ensure that the initiatives are locally relevant and are likely to be adaptable by the bottler for the purpose of promoting them to trade outlets.

191    Mr Williams gave evidence in his affidavit (which I accept) that, ideally, the PepsiCo Group’s Global Beverage Group comes up with ideas and principles that will steer the brand in the right direction across all these markets, but it gives the markets enough flexibility in the development of the marketing campaign to make sure it is locally relevant. Local marketing managers are expected to be constantly researching consumer trends, the competition and their executional capability, and are expected to be working with the various marketing agencies in that country.

192    Ultimately, the local markets, in consultation with PepsiCo Group’s regional team, decide if they are going to run a campaign in the market, and to do so, they must get their bottlers to support that campaign, because the bottler is (generally) funding some portion of the local spending on the brand advertising. In Mr Williams’s experience, it is very unlikely that a bottler is going to disagree, because it recognises that advertising and brand building is the PepsiCo Group’s field of expertise. However, in practice, in his experience, in the interests of maintaining a collaborative relationship with the bottler, the PepsiCo Group would not run an ad in a market without first consulting the bottler about it.

193    While the exclusive bottling agreement is generally a long-term agreement, the Co-op A&M Agreement is negotiated annually, having regard to market trends, advertising campaigns and considerations subject to change from year to year. It is designed to support the annual operating plan for the market, which is a discrete yearly document.

Contract administration

194    During cross-examination, Ms Dent was asked whether the franchise team in Australia was responsible for administration of exclusive bottling agreements, Performance Agreements and annual Co-op A&M Agreements. She answered, and I accept, that they are involved, but they sometimes seek direction from the franchise group based overseas. She also gave evidence (which I accept) that it was the role of the franchise team (under direction from other members of the franchise team based overseas) to negotiate aspects of the franchising agreement with SAPL if that needs to be negotiated. She said (and I accept) that it was her role to draft agreements that had been negotiated.

Local service agreements

195    In her affidavit, Ms Dent gave evidence (which I accept) that, under the PepsiCo Group business model, there is usually a local service company that provides services to market products in the local market and on-ground support to manage the relationship with the bottler; these services are usually provided to the seller of the concentrate, whether that be the concentrate manufacturer or a concentrate distributor.

196    Between 2010 and 2016, a number of service agreements were entered into by PepsiCo Australia Holdings Pty Ltd (PAH), a member of the PepsiCo Group evidently performing the role of a local service company, and PCIC. On or about 1 January 2016, a service agreement was entered into between PAH and PBS.

197    Ms Dent gave evidence in her affidavit (which I accept) that: during the relevant years, PAH’s main role was to ensure the smooth running of the beverage franchise business in Australia and New Zealand, including brand maintenance and development; PAH had its own employees, but also drew on employees from other parts of the PepsiCo Group such as, for example, when dealing with regulatory and quality assurance matters; PAH analysed sales performance, maintained contact with the bottlers and looked at opportunities to get the PepsiCo Group brands into quick service restaurants, cinemas and to build brand equity; this included the development of marketing plans with local agencies; PAH also had finance personnel who assisted with interactions with PBS; they monitored the ordering of concentrate, making sure that it arrived on time and that the bottler held adequate stock.

Intellectual property rights and indemnities

198    Ms Dent gave evidence in her affidavit (which I accept) that, because it was ultimately the PepsiCo Group’s decision as to what went onto the packaging for PepsiCo Group beverages, and in the marketing materials, the PepsiCo Group commonly dealt with requests from SAPL for licences and indemnities in relation to the use of brand trademarks or other intellectual property belonging to the PepsiCo Group for SAPL’s bottling and distribution activities.

199    Ms Dent gave evidence in her affidavit (which I accept) that: she observed that SAPL was quite conservative about depictions on packaging; for example, she recalled on occasions they did not want to over-represent the content of fruit in a beverage; they wanted to remove the fruit from the label or reduce the size of its depiction; the PepsiCo Group would try to reach a point where SAPL felt comfortable; in some cases, SAPL required an indemnity in case anything went wrong. The evidence includes a number of indemnity letters given by PepsiCo or SVC to SAPL.

200    Ms Dent gave evidence in her affidavit, which she confirmed during cross-examination and which I accept, that, in the whole time she has been employed by the PepsiCo Group, she has never been involved in, or been aware of, any discussion with SAPL about payment of a royalty by it for the intellectual property that it uses in the performance of its obligations under the EBAs and related agreements.

Subsequent agreements (2020)

201    The agreements between the PepsiCo Group and SAPL in the years after the relevant years are not directly relevant for present purposes. I note the following evidence for the sake of completeness.

202    Ms Dent gave evidence in her affidavit and orally during evidence-in-chief that it has been and remains the PepsiCo Group’s preference not to include the pricing, payment and shipping terms in the exclusive bottling agreement, but that, instead, they be recorded in a separate “Concentrate Supply Agreement” or “Concentrate Sale Agreement” between the Seller and the bottler, or that they be recorded in a Performance Agreement between the Seller and the bottler. There appears to be a tension between this evidence and the evidence of Mr Williams relating to the negotiation of exclusive bottling agreements. Mr Williams’s evidence at paragraphs 42-45 of his affidavit (see [178] above) proceeds on the basis that the price of the concentrate is a provision of the exclusive bottling agreement; he does not refer to a preference to having it dealt with in another agreement. It does not appear to be necessary to resolve that tension for present purposes.

203    Ms Dent gave evidence in her affidavit that during or after 2016, she attempted to negotiate with SAPL to have the pricing, payment and shipping terms removed from the EBAs and instead have them recorded in a restated Performance Agreement. She stated that, when new exclusive bottling agreements were negotiated in 2019, those terms were removed from the EBAs and a separate concentrate supply agreement (between PBS and SAPL) was entered into. In response to questions as to why these aspects were moved to a separate agreement, Ms Dent said that the reason was so that the payments were in a contract that was with the supplier of the concentrate, so that it would reflect what was happening in practice. It is unnecessary to make a finding as to why the pricing and payment terms were located in a separate agreement.

204    On or about 1 January 2020, an agreement that replaced the PepsiCo EBA was entered into (the 2020 PepsiCo EBA).

205    On or about 1 January 2020, an agreement that replaced the SVC EBA was entered into (the 2020 SVC EBA).

206    On or about 1 January 2020, a Concentrate Sale Agreement between PBS (as seller) and SAPL was entered into. This provided for the sale of concentrate under the agreements referred to above.

207    During cross-examination, and in the context of questions about the drafting of the 2020 PepsiCo EBA, Ms Dent referred to a “template EBA”. However, she later qualified this in the following passage:

… You don’t annex [to] your affidavit the standard template for EBAs?---No, and I used the word “template” kind of loosely. I guess it’s more at the time that we were negotiating the EBA was asking other markets what is the format that everyone is using, what’s the best practice, what includes the latest clauses, for example, on sustainability or anti-bribery.

Yes. So searching for a recent precedent, so to speak, is not a central template that everyone is expected to work off?---Well, I was under the impression that there was, but I don’t know that there actually is. I think it’s more of a [precedent], as you say.

Evidence about the Commissioner’s Counterfactuals

208    In this section, I set out and make some observations about the evidence led by the PepsiCo parties in relation to the Commissioner’s Counterfactuals (see [32] above).

209    In his affidavit, Mr Williams referred to the Commissioner’s Counterfactuals and gave the following evidence:

66.    This suggestion [namely, that set out in the Commissioner’s Counterfactuals] is incorrect for the following reasons.

67.    As I have described above, the FOBO model for the sale of concentrate is designed to be simple so that it can be easily and consistently deployed in the 115 countries in which the PepsiCo Group operates. The pricing model which PepsiCo adopts for its concentrate sales is an important part of the simplicity of the FOBO model.

68.    If the pricing of the concentrate were changed to incorporate a payment from the bottler for a licence for trademarks or the like, this would complicate the FOBO model without bringing any obvious commercial benefits either to the bottler or to PepsiCo. In particular, it would add complexity to the setting of the price and to the negotiation process for the EBA and the Co-op A&M, and make it a more difficult process to govern across the 115 countries. I cannot think of a reason why the PepsiCo Group would depart from the existing model in that way.

69.    For the payment to be calculated and agreed upon, the value of whatever was being licensed would need to be worked out based on advice peculiar to each of the markets in which concentrate is sold, and, potentially, for each individual beverage within the bottler’s particular portfolio of beverages. In my experience, the value of any one beverage varies between markets, for example, in markets where PepsiCo or SVC is a challenger and markets where it has a leadership position.

70.    This additional aspect of the negotiation on pricing with the bottlers would be a hindrance to the existing governance of the FOBO model by requiring too much negotiation on the various aspects of the pricing. It would likely require the employment by the PepsiCo Group of additional senior staff in local markets to be responsible for the negotiation of bottling contracts, including the Co-op A&M and BDAs, in order protect the PepsiCo Group’s relationship with its bottlers. This would require the PepsiCo Group to spend additional amounts on local resources in a way which departs from its traditional model which is light on deployment of both capital and people in local franchise markets. This additional cost would alter the underlying economics of the bottling relationship and, as such, of the FOBO model.

71.    Further, a payment for trademarks or the like would be inconsistent with, and risk undermining, the FOBO model. That is because, if the PepsiCo Group started to charge the bottler for the use of the brand, this would risk the bottler negotiating to reduce its contribution of investment under the Co Op A&M, as the bottler would be undertaking marketing for an asset for which it was already paying a separate amount. In that case, the separate payment would create a risk of a loss of the collaboration between the bottler and the PepsiCo Group which is, in my experience, so important to the effectiveness of the FOBO model.

210    In relation to paragraph 67 of his affidavit, Mr Williams said during cross-examination that the “pricing model” was a reference to the model discussed earlier in his affidavit at paragraphs 43-45. It was put to Mr Williams that it was “overstating it a bit to call it a model”. He responded: “Maybe”. The following exchange then occurred:

HIS HONOUR: In paragraph 67 you refer to simplicity as being important and then earlier when I asked you about the net wholesale price method, I think you indicated there’s some – when I asked you a question about what the wholesale price is referring to and whether it was the price that a bottler sells at, you said there’s quite a lot of detail underpinning that?---Yes.

So does that affect what you say about simplicity of the pricing model, that there might be that complexity?---Yes, there is complexity, but we try and simplify that as much as we can. So the finance people within the market would be trained on these particular mechanisms and they would do the modelling that’s required when you’re going through a negotiation. Then the NWSP pricing, one example of complexity that we try and simplify is that the customer development agreements that are owned by the bottler will need discussing in terms of are they within that calculation or not. So that would be a point of contention. But apart from that example, we try and keep them as simple as we can, so there are two mechanisms fixed and NWSP. And our local people will work through the two examples and figure out what works best with the bottler. So it’s a negotiation but it’s not as forced as you might think. And I have seen examples where we have forced the wrong pricing mechanism and the relationship hasn’t worked because the bottling P and L doesn’t work. We don’t grow the business. We don’t grow market share and you have to renegotiate the EBA. So we’re very careful about where we push and where we back off.

211    In light of that evidence, and the evidence discussed earlier in these reasons at [179]-[181], I have difficulty with the proposition that the FOBO model, insofar as it concerns price, is “simple”. It seems that there is considerable scope to negotiate the pricing terms and that such terms can have a degree of complexity to them.

212    In relation to paragraph 70, the following exchange took place during cross-examination:

When you are talking here in paragraph 70 about this additional aspect of the negotiation of the pricing, is that a reference back to paragraph 69 and 68 about the negotiation of a royalty?---Yes, it is. Yes.

So the problem that you are identifying here in paragraph 70 in the first sentence that it would require too much negotiation, that problem arises if a royalty amount has to be agreed with a bottler. Is that correct?---Yes, and also how do you set the royalty amount.

213    In relation to paragraph 71 of his affidavit, the following exchange took place during cross-examination:

… Mr Williams, could you go back to your affidavit, please, … and could you turn to paragraph 71, right at the end of your affidavit. So, in this paragraph, Mr Williams, you say that: [paragraph quoted] Is it your evidence that the bottler would negotiate to reduce its below-the-line trade promotion spend under the co-op if they had to pay a royalty under the EBA? Is that what you are saying?---No, they would, in my view – first of all you would be in that model – if I understand it correctly, you would be taking the concentrate pricing down, and then you would be charging them for access to the brand. That brand gets built and developed in the marketplace through the co-op fund which is jointly funded fifty-fifty. So, in effect, you would be asking them to pay twice.

So are you saying that a bottler would think that paying a royalty is the same thing as paying for trade promotion?---I think so, yes.

And what’s the - - -?---Not trade promotion - - -

But isn’t that - - -?--- - - - brand development because the money to develop the brand is split fifty-fifty between us and the bottler.

Well, I thought we established in the questions that I just asked you about the brand promotion and trade promotion, that Pepsi does the brand promotion and the bottler does the trade promotion?---Yes but that’s accountability. That’s in terms of who runs – there is a pricing and discount budget, which is the trade promotion. That can be 150. There is then a co-op agreement and the bottler funds the 150. There is then a co-op agreement which is the money to develop the brand. And that is essentially the push part of the brand, and that is split fifty-fifty but there will be elements in the co-op, as you can see from the nine Fs, that are also trade related. But price support doesn’t include, doesn’t generally get included in that. So you would be, in effect, asking them to pay twice.

Isn’t a royalty a payment for the use of a brand and the brand promotion, to the extent that the bottler pays anything for that, a payment for advertising the brand? Aren’t they different things?---I don’t know enough about a royalty model. We’ve never used one.

I see?---So I’m not sure how it would work, and I’m not sure how you would set the price of that royalty in a particular market.

(Emphasis added.)

214    I have some difficulty with the proposition that by asking bottlers to pay an express royalty for the licence of the relevant trademarks, PepsiCo would be, in effect, asking them to pay twice for the same thing. It seems to me that there is a distinction between paying for the right to use the trademarks and contributing to advertising or marketing, even if it may develop the brand.

215    In cross-examination, Mr Williams was taken to clause 16 of the 2017 CSD Co-op A&M Agreement, which states that the Bottler’s contribution to the expenditure is “not to build the brands of the Beverages”. He stated that the clause “does look odd”. He indicated that he had not seen the agreement before. He stated that, notwithstanding that clause, he thinks “both companies are paying and developing the brand”. He said he did not understand “why they put that clause in”. In re-examination, Mr Williams gave evidence that, notwithstanding what was said about purpose in clause 16 of that agreement, the expenditure does build the brand of the beverages. In my view, the presence of clause 16 in the 2017 CSD Co-op A&M Agreement does tend to undermine Mr Williams’s evidence that asking the bottler to pay an express royalty would be, in effect, asking them to pay twice for the same thing (at least in its application in the Australian context).

216    The following exchange also took place during cross-examination in relation to paragraph 71 of Mr Williams’s affidavit:

… So in circumstances where – I’m talking here about a situation where Pepsi decided to enter into a negotiation of an EBA with a bottler, where the exercise wasn’t to identify a separate royalty but simply to change the EBA so that it said that the payment that’s being made by the bottler is for the concentrate and for everything else that’s passing under the agreement, including the licence of the trademarks?---I can’t really comment on hypothetical situations. What I would say is that any amendments to the EBA will open up discussions across the whole EBA, potentially.

I see. So any amendments to the EBA open up - - -?---Potentially open up very wide discussions.

And so the introduction of a royalty is only one of those scenarios that would open up a renegotiation of the commercial terms of the EBAs. Any change would have that effect; is that your evidence?---Potentially. Potentially.

Potentially, yes. And what about a change that was limited to this: that the payment that’s being made under the EBA which remains calculated in exactly the same way as it was before, is expressed to be a payment for concentrate and for everything else under the agreement including the IP?---I think it’s too broad. People want to understand exactly what it is they’re paying for. I mean, when a bottler typically gets an EBA they’re investing so much money, hundreds of millions in infrastructure so they’re looking at every line item in a very detailed way. If we suddenly start changing the structure of our concentrate pricing, that will open up a huge debate.

I’m describing a scenario, Mr Williams, where the amount of the payment, the dollar value, remains exactly the same. So that hasn’t changed?---Yes, but what I’m saying is that – you’re painting a very simple picture of a scenario. What I’m saying is that simple scenario will open up much broader discussions.

And why is that?---Because you’re changing the structure of the payment. You’re changing, in effect, the concentrate price payment.

The scenario that I’m putting to you, Mr Williams, is that the calculation of the payment would remain the same. So if it was fixed per concentrate unit, it would remain that way, or if it was calculated by reference to the net wholesale price as we saw in some of those EBAs previously, it would remain the same. And the only thing that would change would be that there would be a new provision that says that when the payment is made, it’s made for not only the concentrate, but also the licence of the intellectual property and everything else that passes under the agreement?---But then the question would be what is everything else and then they would want to determined what is the value of everything else that’s in there, so I don’t think you could do what you’re saying you would like to do.

The everything – forget the everything else that’s passing under the agreement then. The scenario that I’m putting to you is the payment then is expressed to be made for the licence of the intellectual property and the concentrate and they are things that were already being provided under the EBA. So nothing new is provided under the EBA and the pricing mechanism remains the same. The only thing that changes is that the payment is expressed to be both for the concentrate and also for the licence to the EBA?---But where is the benefit for either PepsiCo or the bottler in this scenario?

I’m not saying that there is a benefit for either the PepsiCo entities or the bottler. What I’m asking you is whether or not the risk that you’ve identified in paragraph 71 arises in the circumstance that I’ve just described?---In my view yes, it does.

And why?---Because you’re adding a complication into something that has been set pretty rigidly over many, many years, and I think you’re asking the bottler to make a payment for access to the brand and they will consider that they are already building that brand with us through the co-op arrangement, which they’re funding.

(Emphasis added.)

217    I have some difficulty with the proposition that a change in the pricing term, such that the price was expressed to be paid for both the licence of the intellectual property and the sale of the concentrate, would present the sort of difficulties outlined by Mr Williams in paragraph 71 of his affidavit and in the above passage from his oral evidence. It is a relatively small textual change. To the extent that Mr Williams said that it would be adding a complication into something “that has been set pretty rigidly over many, many years”, the evidence shows that there is considerable scope for variation in exclusive bottling agreements, including pricing terms, and that the pricing terms can have some complexity.

Issue (1): royalty withholding tax

Overview

218    The first issue to be determined is whether the payments made by SAPL under the EBAs in the relevant years are, to any extent, “royalties” and subject to royalty withholding tax under s 128B of the ITAA 1936, which is subject to the provisions of the US DTA under the International Tax Agreements Act 1953 (Cth).

219    This involves consideration of a number of sub-issues, as identified in the parties’ submissions. There was some debate at the hearing as to the preferable order in which to consider the various sub-issues. In the PepsiCo parties’ outline of opening submissions in relation to royalty withholding tax, they set out the sub-issues as follows:

19.    It follows that, in order for the [PepsiCo parties] to be liable for royalty withholding tax under s 128B of the ITAA 1936 for the “royalty amounts” specified in the Notices of Royalty Withholding Tax, the following criteria must be satisfied:

(a)    the amounts must have been paid or credited as consideration for the items set out in subparagraphs (4)(a) and (b) of Article 12 of the US DTA; and

(b)    the amounts must have been income derived by PepsiCo or [SVC] (as applicable) for the purposes of s 128B(2B)(a) and to which they were “beneficially entitled” for the purposes of the US DTA; and

(c)    the amounts must have been, or be taken to have been, paid by SAPL to PepsiCo or [SVC] (as applicable) for the purposes of s 128B(2B)(b)(i) as affected by s 128A(2).

20.    The [PepsiCo parties] contend that none of these criteria is satisfied.

220    The Commissioner adopted the same order of sub-issues in his outline of opening submissions at paragraph 24.

221    However, in oral opening submissions, senior counsel for the PepsiCo parties approached the sub-issues in a different order. Senior counsel submitted (at T11-12):

… in order for the [PepsiCo parties] to be liable for royalty withholding tax under section 128B in respect of any part of the payments made by SAPL to PBS, the following criteria must be satisfied. The first is that the amounts must have been income derived by PepsiCo or [SVC] as applicable for the purposes of section 128B(2B)(a) and to which they were beneficially entitled for the purposes of the US double tax agreements.

Secondly, the amounts must have been, or be taken to have been, paid by SAPL to PepsiCo or [SVC] as applicable. And that’s for the purposes of section [128B(2B)(b)(i)] as affected by the deeming provision that we saw [in] [section 128A(2)].

And the third is that the amounts must have been paid or credited as consideration for the items set out in subparagraphs 4(a) and (b) of article 12 of the US double tax agreement. They’re the three things that each party has addressed in their submissions.

222    Senior counsel for the Commissioner, in her opening oral submissions, also adopted a different order from the written outline of opening submissions. She submitted (at T88):

… the four issues that we perceive as arising in relation to the imposition of withholding tax in this part of the case is firstly, whether the payments under the EBA are consideration for these items that are of intellectual property and other intangibles that are provided under the EBAs. The second issue is whether the amounts were paid to the applicants. The third is whether the amounts were income derived by the [PepsiCo parties] and because of article 12(2) we need to look at whether the [PepsiCo parties] were beneficially entitled to the income [being the fourth issue].

223    In my view, the appropriate place to start is with the sub-issue whether the payments made by SAPL under the EBAs were, to any extent, consideration for the use of, or right to use, the items set out in paragraph (4)(a) and (b) of Art 12 of the US DTA and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6 of the ITAA 1936. The definition of “royalties” is the linchpin of Art 12 of the US DTA. Similarly, it is the central concept in s 128B of the ITAA 1936. It therefore makes sense to consider this sub-issue first. I consider it appropriate to consider the sub-issues in the following order:

(a)    whether the payments made by SAPL under the EBAs were, to any extent, consideration for the use of, or the right to use, the items set out in paragraphs (4)(a) and (b) of Art 12 of the US DTA and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6(1) of the ITAA 1936;

(b)    if so, whether the relevant portions of the payments were income derived by PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(a) and amounts to which they were beneficially entitled for the purposes of Art 12 of the US DTA; and

(c)    if so, whether the relevant portions of the payments were paid, or taken to have been paid, to PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(b)(i) as affected by s 128A(2).

224    I will therefore deal with the sub-issues in that order, after setting out the applicable provisions of the legislation and the US DTA.

Applicable provisions

225    I will set out the relevant provisions of the ITAA 1936 based on the version of the legislation as at 1 July 2017. It does not appear that there were any amendments to the relevant provisions during the relevant years.

226    Section 6(1) of the ITAA 1936 relevantly provided:

royalty or royalties includes any amount paid or credited, however described or computed, and whether the payment or credit is periodical or not, to the extent to which it is paid or credited, as the case may be, as consideration for:

(a)    the use of, or the right to use, any copyright, patent, design or model, plan, secret formula or process, trade mark, or other like property or right;

(b)    the use of, or the right to use, any industrial, commercial or scientific equipment;

(c)    the supply of scientific, technical, industrial or commercial knowledge or information;

(d)    the supply of any assistance that is ancillary and subsidiary to, and is furnished as a means of enabling the application or enjoyment of, any such property or right as is mentioned in paragraph (a), any such equipment as is mentioned in paragraph (b) or any such knowledge or information as is mentioned in paragraph (c);

…

(Emphasis added.)

227    Division 11A of Pt III of the ITAA 1936 was headed “Dividends, interest and royalties paid to non-residents and to certain other persons”. Section 128A dealt with interpretation and included:

128A    Interpretation

…

(1AA)    In this Division and in an Act imposing withholding tax:

income includes a royalty and a dividend.

…

(2)    For the purposes of this Division, interest or a royalty shall be deemed to have been paid by a person to another person although it is not actually paid over to the other person but is reinvested, accumulated, capitalized, carried to any reserve, sinking fund or insurance fund however designated, or otherwise dealt with on behalf of the other person or as the other person directs.

(Emphasis added.)

228    Section 128B dealt with liability to withholding tax. Section 128B(1A) provided:

(1A)    In this section, a reference to a person to whom this section applies is a reference to the Commonwealth, a State, an authority of the Commonwealth or of a State or a person who is, or persons at least 1 of whom is, a resident.

In the present case, the person to whom this section applies is SAPL.

229    Section 128B(2B) provided:

(2B)    Subject to subsection (3), this section also applies to income that:

(a)    is derived by a non-resident:

(i)    during the 1993-94 year of income of the non-resident; or

(ii)    during a later year of income of the non-resident; and

(b)    consists of a royalty that:

(i)    is paid to the non-resident by a person to whom this section applies and is not an outgoing wholly incurred by that person in carrying on business in a foreign country at or through a permanent establishment of that person in that country; or

(ii)    is paid to the non-resident by a person who, or by persons each of whom, is not a resident and is, or is in part, an outgoing incurred by that person or those persons in carrying on business in Australia at or through a permanent establishment of that person or those persons in Australia.

In the present case, the non-resident is either PepsiCo or SVC (as applicable).

230    Section 128B(3) provides that the section does not apply in certain circumstances. It is not suggested that any of these circumstances apply here.

231    Section 128B(5A) provided:

(5A)    A person who derives income to which this section applies that consists of a royalty is liable to pay income tax upon that income at the rate declared by the Parliament in respect of income to which this subsection applies.

(Emphasis added.)

The rate of tax is affected by the US DTA, discussed below, and is 5%.

232    I will set out the relevant provisions of the International Tax Agreements Act based on the version of the legislation as at 1 July 2017. It does not appear that there were any relevant changes during the relevant years.

233    Section 4(2) of the International Tax Agreements Act provided that its provisions “have effect notwithstanding anything inconsistent with those provisions in the Assessment Act (other than the provisions covered by subsection (3))”. The reference to the “Assessment Act” included the ITAA 1936. Section 4(3) referred to the provisions of Pt IVA of the ITAA 1936. Section 5(1) of the International Tax Agreements Act provided that the US DTA had the force of law according to its tenor. The effect of these provisions was that the provisions of the US DTA were incorporated into domestic Australian law and prevailed over s 128B (and associated provisions) to the extent of any inconsistency. Further, s 17A of the International Tax Agreements Act provided:

17A Withholding tax

(1)    Where a provision of an agreement limits the amount of Australian tax payable in respect of a dividend or a royalty, being a dividend or a royalty in respect of which withholding tax is payable, and the amount of that withholding tax exceeds the limit specified in the agreement, the liability of the taxpayer for the withholding tax shall be reduced by an amount equal to the amount of the excess.

…

(5)    Section 128B of the Income Tax Assessment Act 1936 (which deals with liability for withholding tax) does not apply to the payment of a royalty as defined in subsection 6(1) of that Act if:

(a)    the royalty is paid to a person who is a resident of a Contracting State or territory (other than Australia) for the purposes of an agreement; and

(b)    the agreement does not treat the amount paid as a royalty.

(Emphasis added.)

234    I will set out the provisions of the US DTA based on the version provided by the parties in the joint bundle of authorities as amended by the protocol dated 27 September 2001 (also included in the joint bundle of authorities). Article 3 of the US DTA provided in part:

(2)    As regards the application of this Convention by one of the Contracting States, any term not defined herein shall, unless the context otherwise requires, have the meaning which it has under the laws of that State relating to the taxes to which this Convention applies.

235    Article 12 of the US DTA, as amended, provided (with the amendments made by the protocol shown in italics):

(1)    Royalties from sources in one of the Contracting States, being royalties to which a resident of the other Contracting State is beneficially entitled, may be taxed in that other State.

(2)    Such royalties may be taxed in the Contracting State in which they have their source, and according to the law of that State, but the tax so charged shall not exceed 5 percent of the gross amount of the royalties.

(3)    Paragraph (2) shall not apply if the person beneficially entitled to the royalties, being a resident of one of the Contracting States, has a permanent establishment in the other Contracting State or performs independent personal services in that other State from a fixed base situated therein, and the property or rights giving rise to the royalties are effectively connected with such permanent establishment or fixed base. In such a case, the provisions of Article 7 (Business profits) or Article 14 (Independent personal services), as the case may be, shall apply.

(4)    The term “royalties” in this Article means:

(a)    payments or credits of any kind to the extent to which they are consideration for the use of or the right to use any:

(i)    copyright, patent, design or model, plan, secret formula or process, trademark or other like property or right;

(ii)    motion picture films; or

(iii)    films or audio or video tapes or disks, or any other means of image or sound reproduction or transmission for use in connection with television, radio or other broadcasting;

(b)    payments or credits of any kind to the extent to which they are consideration for:

(i)    the supply of scientific, technical, industrial or commercial knowledge or information owned by any person;

(ii)    the supply of any assistance of an ancillary and subsidiary nature furnished as a means of enabling the application or enjoyment of knowledge or information referred to in sub-paragraph (b)(i) or of any other property or right to which this Article applies; or

(iii)    a total or partial forbearance in respect of the use or supply of any property or right described in this paragraph; or

(c)    income derived from the sale, exchange or other disposition of any property or right described in this paragraph to the extent to which the amounts realized on such sale, exchange or other disposition are contingent on the productivity, use or further disposition of such property or right.

(5)    Where, owing to a special relationship between the payer and the person beneficially entitled to the royalties or between both of them and some other person, the amount of the royalties paid or credited, having regard to what they are paid or credited for, exceeds the amount which might have been expected to have been agreed upon by the payer and the person so entitled in the absence of such relationship, the provisions of this Article shall apply only to the last-mentioned amount. In that case, the excess part of the amount of the royalties paid or credited shall remain taxable according to the law of each Contracting State, but subject to the other provisions of this Convention.

(6)    (a)    Royalties shall be treated as income from sources in a Contracting

State when the payer is that State itself or a political subdivision or local authority of that State or a person who is a resident of that State for the purposes of its tax. Where, however, the person paying the royalties, whether he is a resident of one of the Contracting States or not, has in one of the Contracting States or outside both Contracting States a permanent establishment or fixed base in connection with which the liability to pay the royalties was incurred, and the royalties are borne by the permanent establishment or fixed base, then the royalties shall be deemed to have their source in the State in which the permanent establishment or fixed base is situated.

(b)    Where sub-paragraph (a) does not operate to treat royalties as being from sources in one of the Contracting States, and the royalties relate to use or the right to use in one of the Contracting States of any property or right described in paragraph (4), the royalties shall be treated as income from sources in that State.

In the present case, it is Art 12(2) rather than Art 12(1) that is the potentially applicable provision. This is because it is sought to tax royalties in Australia, being the Contracting State in which they have their source.

236    There is little case law on the interpretation of the royalty withholding tax provisions. The parties cited International Business Machines Corporation and Another v Federal Commissioner of Taxation [2011] FCA 335; 83 ATR 32 (IBM), a judgment of Bennett J, in which s 128B of the ITAA 1936 and Art 12 of the US DTA were in issue. This provides a useful guide to the application of the provisions.

“Consideration for” issue

237    As noted above, the issue is whether the payments made by SAPL under the EBAs were, to any extent, consideration for the use of, or the right to use, the items set out in paragraphs (4)(a) and (b) of Art 12 of the US DTA and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6(1) of the ITAA 1936. It is not suggested by either party that there is any difference in the meaning of “consideration for” as between Art 12(4) of the US DTA and the definition of “royalty” in s 6 of the ITAA 1936. Also, it is not suggested that anything turns on the differences in wording between paragraphs (4)(a) and (b) of Art 12 of the US DTA and paragraphs (a) to (d) of the definition of “royalty” in s 6(1) of the ITAA 1936.

238    The PepsiCo parties’ submissions on this issue can be summarised as follows:

(a)    The question whether the amounts were paid or credited as consideration for the use of, or the right to use, any item identified in Art 12(4)(a) or (b) of the US DTA is to be answered by reference to the terms of the agreements between the parties: cf IBM at [16], [41], [51], [54].

(b)    Contractual rights and liabilities are to be determined objectively, by reference to the text, context and purpose of the contract. In construing a commercial contract, it is necessary to ask what a reasonable businessperson would have understood its terms to mean: Mount Bruce Mining Pty Limited v Wright Prospecting Pty Limited [2015] HCA 37; 256 CLR 104 at [46]-[47].

(c)    Under each EBA, SAPL undertook, relevantly, to purchase concentrate from PepsiCo/SVC’s nominee, PBS, for specified amounts. The amounts are unambiguously expressed to be solely for the purchase of units of concentrate. No amount is payable by SAPL to PepsiCo/SVC as consideration for the use of, or right to use, intellectual property, technical, industrial or commercial knowledge or information or assistance furnished by members of the PepsiCo Group. This is consistent with the context and purpose of the EBAs, which can objectively be seen to establish a mutually beneficial co-operative arrangement between the parties, with non-monetary consideration passing both ways, and under which both parties will undertake activities directed at increasing goodwill in the PepsiCo Group brands sold in Australia (reflecting a business model which has been in place since the early 1900s).

(d)    The consideration which passed from SAPL to PepsiCo/SVC under the EBAs, insofar as it related to the payments, was a promise to purchase concentrate at specified prices. The payments SAPL made to PBS pursuant to the purchase orders and invoices moved the transfer of title in the concentrate from PBS to SAPL: see Archibald Howie Pty Ltd v Commissioner of Stamp Duties (NSW) [1948] HCA 28; 77 CLR 143 (Archibald Howie) at 152; Chief Commissioner of State Revenue (NSW) v Dick Smith Electronics Holdings Pty Ltd [2005] HCA 3; 221 CLR 496 (Dick Smith) at [54] and [71]-[72]; Commissioner of State Revenue v Lendlease [2014] HCA 51; 254 CLR 142 (Lendlease) at [49]. The payments were not, themselves, consideration passing from SAPL to PepsiCo/SVC; the payments are distinct from the promise to purchase the concentrate at the specified prices.

(e)    The EBAs are to be contrasted with the contract the subject of IBM. In that case, the Australian subsidiary of IBM agreed to pay a fee calculated inter alia as a percentage of its monthly revenue “in consideration for the licences and other rights granted to it hereunder”: IBM at [28]. IBM unsuccessfully sought to characterise the payments as being for the exercise of general distributorship rights. In rejecting that contention, Bennett J observed, “the Payments are described as being for the acquisition of the stated rights”: at [50]. Her Honour said: “clause 6(a) unambiguously indicates that the Payments are for the bundle of rights granted by IBM … This is apparent when the words of clause 6(a) are considered”: at [51].

(f)    The importance of respecting contractual terms when performing a judicial function involving characterisation was emphasised by the High Court in WorkPac Pty Limited v Rossato [2021] HCA 23; 271 CLR 456 at [62] and [97]; see also Anglo American Investments Pty Ltd (Trustee) v Commissioner of Taxation [2022] FCA 971 at [309].

239    The PepsiCo parties also made the following submissions in their reply written submissions:

(a)    The Commissioner’s case is predicated on the a priori assumption that because valuable items of intellectual property were licensed to SAPL under the EBAs, SAPL must have paid something for that licence.

(b)    The legal terms and commercial aspects of the implementation of the transactions between the PepsiCo, SAPL and PBS described in the reply submissions are those that must be the subject of characterisation in response to the statutory enquiry whether the amounts paid were paid or credited as consideration for any items in Art 12(4) of the US DTA.

(c)    It is these same legal and commercial aspects of the transactions in question that the Commissioner impermissibly seeks to recast by overlooking the source of the obligation to pay the amounts (purchase orders and invoices); and by overlooking or denying the fundamental nature of the transactions as sales of goods.

(d)    The Commissioner does not allege either that the transactions were a sham, or that PBS received the amounts as agent or trustee for PepsiCo/SVC. On the Commissioner’s case, his recasting of the transactions occurs under the banner of characterisation, but in a way which does not accord with the authorities that he cites in the context of the identification of “consideration”, such as St George Bank Ltd v Federal Commissioner of Taxation [2008] FCA 453; 69 ATR 634 at [62]-[63] per Allsop J (as his Honour then was).

(e)    The characterisation of a transaction, including by its examination within a “wider commercial context”, is not a warrant to substitute a different transaction, including based on a value judgment about the economic effect of the transaction in issue. But this is the effect of the Commissioner’s submissions.

240    The question whether payments are consideration for the items set out in paragraphs (4)(a) and (b) of Art 12 and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6(1) of the ITAA 1936 involves an exercise of characterisation: see IBM at [41]. Fundamental to this task are the terms of the relevant agreement (or agreements): IBM at [16]. In my view, it is necessary to consider the terms of the agreement in their business and commercial context. This is consistent with general principles of contractual construction that have regard to the commercial purpose or objects to be secured by the contract: Electricity Generation Corporation v Woodside Energy Ltd [2014] HCA 7; 251 CLR 640 at [35] per French CJ, Hayne, Crennan and Kiefel JJ. This approach furthers the evident purpose of Art 12, which is concerned with identifying the taxing rights of the Contracting States in relation to payments that are, in their business and commercial context, consideration for the use of, or the right to use, the relevant items. Likewise, this approach furthers the evident purpose of the royalty withholding tax provisions of the ITAA 1936, which are concerned with assessing tax on amounts that are, in their business and commercial context, consideration for the use of, or the right to use, the relevant items.

241    It is plain from the wording of Art 12(4) of the US DTA and the definition of “royalty” in s 6(1) of the ITAA 1936 that payments may be consideration for the relevant items regardless of how the payments are described by the parties to a transaction. Art 12(4) refers (in both paragraph (a) and paragraph (b)) to payments or credits “of any kind”. Section 6(1) refers to any amount paid or credited “however described”. These words make clear that the way the payments are described by the parties to a transaction is not determinative of whether they are consideration for the relevant items. Thus, payments may be consideration for the use of, or the right to use, (for example) trademarks, even if the payments are not called a “royalty”.

242    It is also plain from the wording of Art 12(4) and the definition of “royalty” in s 6(1) that an apportionment exercise is envisaged. Art 12(4) uses the words “to the extent to which” in both paragraph (a) and paragraph (b). Section 6(1) also uses the words “to the extent to which”. Thus, a single payment may be consideration for more than one thing. In such a case, the payment is to be apportioned.

243    The word “consideration” in Art 12(4) and in the definition of “royalty” in s 6(1) is not used in its contractual sense but in the broader sense in which it is used in conveyancing. This is consistent with the approach taken by the High Court in relation to the word “consideration” in State stamp duty legislation. In Dick Smith, Gummow, Kirby and Hayne JJ at [71] quoted with approval the following passage from the judgment of Dixon J in Archibald Howie at 152:

the word “consideration” should receive the wider meaning or operation that belongs to it in conveyancing rather than the more precise meaning of the law of simple contracts.

That is, as Dixon J went on to say (at 152), “the consideration is rather the money or value passing which moves the conveyance or transfer”. Gummow, Kirby and Hayne JJ then stated at [72]:

To adapt what was said by Lord Wilberforce of other stamp duty legislation:

“In the first place, the phrase ‘consideration for the transfer or conveyance’ seems to me to refer clearly and naturally to that which passed to the transferor company ‘for’ the transferred properties.”

The criterion in the Act of consideration “for” the transaction, being the Agreement for the sale and transfer of the Shares to the Purchaser, upon whom s 13 imposes the liability to pay the duty, looks to what was received by the Vendors so as to move the transfers to the Purchaser as stipulated in the Agreement.

(Footnote omitted.)

This approach was followed in Lendlease at [49] by French CJ, Hayne, Kiefel, Bell and Keane JJ.

244    In the present case, while the payments made by SAPL were, on their face, payments for the purchase of concentrate, this is not determinative of their characterisation for the purposes of Art 12(4) and s 6(1). The payments were made pursuant to the EBAs. In order to characterise the payments, it is necessary to consider the terms of the EBAs in their business and commercial context.

245    In my view, it is apparent from the terms of the EBAs (considered in their business and commercial context) that the payments were, to some extent, consideration for the use of, or the right to use, the relevant trademarks and other intellectual property. The following features and terms of the EBAs are significant:

(a)    The parties to the EBAs were PepsiCo and SVC – the owners of the relevant trademarks and other intellectual property. The seller of the concentrate (during the relevant years, PBS) was not a party to the EBAs.

(b)    Each of the EBAs contained a licence by PepsiCo or SVC (as applicable) of the relevant trademarks and other intellectual property to SAPL. In the case of the PepsiCo EBA, the licence was implied (see [57] above). In the case of the SVC EBA, the licence was express (see [91] above).

(c)    In each case, the licence of the trademarks and other intellectual property was fundamental to the agreement: see, eg, clauses 3(a), 5(a), 11(a) and 17(a) of the PepsiCo EBA and clauses 4.1, 6.1, and 6.3 of the SVC EBA. Without a licence of the trademarks and other intellectual property, SAPL would not be able to package and sell the beverages under the Pepsi, Mountain Dew and Gatorade brands (as applicable). It may be inferred that SAPL would not have agreed to make the payments without the licence of the trademarks and other intellectual property.

(d)    The payments to be made by SAPL were linked with the licence of the trademarks and other intellectual property, in the sense that a failure by SAPL to perform its payment obligations could result in a termination of the agreement and therefore the licence. In the case of the PepsiCo EBA, this was the effect of clauses 24 and 27 (see [60] and [61] above). In the case of the SVC EBA, this was the effect of clauses 18.2 and 18.5 (see [99] and [100] above).

246    In light of these matters, I am satisfied that the payments made by SAPL were, to an extent, consideration for the use of, or right to use, the relevant trademarks and other intellectual property.

247    As noted above, Mr Williams gave evidence during cross-examination (which I have accepted) that, in his role in franchising, he was not aware of the sale of PepsiCo concentrate ever being offered without a licence of the brand. He said (and I have accepted) that, in the FOBO model, the concentrate and the brands “always go together”. This evidence is consistent with the payments being, in part, for the use of, or the right to use, the trademarks and other intellectual property.

248    I note also that the Pepsi brand is one of the strongest and most valuable brands in the global beverage industry. The Mountain Dew and Gatorade brands are also strong and valuable brands in that industry. These matters are established by the evidence of Mr Malackowski. In these circumstances, it would be very surprising if PepsiCo and SVC were prepared to licence the relevant trademarks for nothing. This tends to support the proposition, which is apparent in any event from the terms of the EBAs, that the payments were in part consideration for the use of, or the right to use, the trademarks and other intellectual property.

249    Although clause 4 of the SVC EBA describes the licence as “royalty-free”, I do not consider this to assist in resolving the question of characterisation. As discussed above, both Art 12(4) and s 6(1) make clear that the way payments are described by the parties to a transaction is not determinative. Likewise, the way the licence is described is not determinative of the characterisation question.

250    The approach adopted above does not involve any recasting of the transaction or the substitution of a different transaction (as submitted by the PepsiCo parties in response to the Commissioner’s submissions). It involves a consideration of the terms and features of the EBAs as entered into by the parties.

251    Further, the above approach does not rely on an a priori assumption that because valuable items of intellectual property were licensed by PepsiCo/SVC under the EBAs, SAPL must have paid something for that licence. Rather, it is based on an analysis of the terms of the EBAs in their business and commercial context.

252    I therefore conclude that the payments made by SAPL under the EBAs were, to an extent, consideration for the use of, or the right to use, the items set out in paragraphs (4)(a) and (b) of Art 12 of the US DTA and the items set out in the definition of “royalty” in s 6(1) of the ITAA 1936.

“Income derived” and “beneficially entitled” issue

253    If the answer to the previous issue is Yes (which it is), the next issue is whether the relevant portions of the payments were income derived by PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(a) and amounts to which they were beneficially entitled for the purposes of Art 12 of the US DTA.

254    The PepsiCo parties’ submissions can be summarised as follows:

(a)    The phrase “income derived”, as it appears in s 128B of the ITAA 1936, bears its ordinary meaning. Where used in relation to ordinary income, the word “derived” is affected by the definition in s 995-1(1) and s 6-5(4) of the Income Tax Assessment Act 1997 (Cth), which is based on the former s 19 of the ITAA 1936. The ordinary meaning of “income derived” was described by Gibbs J in Brent v Federal Commissioner of Taxation [1971] HCA 48; 125 CLR 418 (Brent) at 427-428.

(b)    In Commissioner of Taxes (SA) v Executor, Trustee and Agency Co of South Australia Ltd [1938] HCA 69; 63 CLR 108 (Carden’s Case), Dixon J (with whom Rich and McTiernan JJ agreed) said at 155:

Speaking generally, in the assessment of income the object is to discover what gains have during the period of account come home to the taxpayer in a realized or immediately realizable form.

(c)    In Arthur Murray (NSW) Pty Ltd v Federal Commissioner of Taxation [1965] HCA 58; 114 CLR 314, Barwick CJ, Kitto and Taylor JJ at 318 said that Dixon J’s reference in Carden’s Case to monies having “come home” to the taxpayer was a reference not simply to beneficial receipt but to the reaching of a situation in which monies received might properly be counted as gains completely made, so that there was neither legal nor business unsoundness in regarding them, without qualification, as income derived.

(d)    A conclusion that amounts paid by SAPL to PBS for the purchase of concentrate were income derived by PepsiCo or SVC (as applicable) is not open as a matter of fact or law. In the absence of any agency or trust relationship (and none is pleaded), it would require a denial of PBS’s separate corporate personality (as to which, see Federal Commissioner of Taxation v Casuarina Pty Ltd [1971] HCA 78; 127 CLR 62 at 77 per Windeyer J) or an impermissible recasting of the transactions which took place. Moreover, no commercial practice or principle of accountancy would require amounts paid by SAPL to PBS for the purchase of concentrate to be brought to account as income for PepsiCo or SVC (as applicable).

(e)    Consistently with the way in which it has been returned and reported by PBS, income from amounts paid by SAPL to PBS at no stage and in no form “came home” to PepsiCo or SVC (as applicable).

255    In my view, PepsiCo and SVC, as the parties to the EBAs, were entitled to receive the payments made by SAPL under the EBAs. This follows as a matter of contract from the fact that PepsiCo and SVC were the parties to the EBAs and SAPL’s payment obligations under the EBAs were owed to them. This remained the case even though PepsiCo and SVC nominated PBS as the seller of the concentrate. PBS was not, and did not become, a party to the EBAs.

256    PepsiCo and SVC nominated PBS to be the seller of the concentrate under the EBAs for the relevant years. This constituted a direction to SAPL to pay PBS rather than PepsiCo or SVC (as applicable). In these circumstances, the relevant portions of those payments (being the portions that were consideration for the use of, or the right to use, the relevant items) “came home” to PepsiCo/SVC (in the sense described by Dixon J in Carden’s Case and in the other authorities cited by the PepsiCo parties) by being applied as they directed. The relevant portions were therefore income derived by PepsiCo/SVC.

257    I do not accept the submission that this denies the separate corporate personality of PBS. I accept that PepsiCo or SVC (as applicable) and PBS were separate legal persons. The point is that, in circumstances where PepsiCo/SVC were entitled to receive the payments, and directed that they be paid to PBS, which then occurred, the relevant portions “came home” to PepsiCo/SVC.

258    Further, in the circumstances, PepsiCo and SVC were beneficially entitled to the relevant portions of the payments within the meaning of Art 12 of the US DTA. For the reasons given above, they were entitled to receive the payments under the EBAs and directed SAPL to pay PBS. In these circumstances, PepsiCo and SVC were beneficially entitled to the relevant portions of the payments.

259    In summary, I consider that the relevant portions of the payments were income derived by PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(a) and amounts to which they were beneficially entitled for the purposes of Art 12 of the US DTA.

“Paid to” issue

260    If the answers to the previous two issues are Yes (which they are), the next issue is whether the relevant portions of the payments were paid, or taken to have been paid, to PepsiCo or SVC (as applicable) for the purposes of s 128B(2B)(b)(i) as affected by s 128A(2).

261    Section 128A(2) has been set out above but is reproduced here for ease of reference (with the relevant persons inserted):

(2)    For the purposes of this Division, interest or a royalty shall be deemed to have been paid by a person [here, SAPL] to another person [here, PepsiCo or SVC, as applicable] although it is not actually paid over to the other person but is reinvested, accumulated, capitalized, carried to any reserve, sinking fund or insurance fund however designated, or otherwise dealt with on behalf of the other person or as the other person directs.

(Emphasis added.)

262    The PepsiCo parties’ submissions can be summarised as follows:

(a)    The reference to “otherwise dealt with on behalf of the other person or as the other person directs” (in s 128A(2)) should be construed as qualifying the list of acts which precedes it as having been done on behalf of or at the direction of the putative payee. The section thus presupposes an underlying entitlement of the putative payee to the royalty, such that the subsequent dealing can be said to be done on their behalf or at their direction. This is supported by the presence of the expression “actually paid”. The section is concerned with a form of payment whereby funds are not actually received by the putative payee but a monetary obligation to that person nonetheless exists which is discharged by other means: ABB Australia Pty Ltd v Federal Commissioner of Taxation [2007] FCA 1063; 162 FCR 189 at [166]; see also Liquidator of the North Sydney Investment and Tramway Co Ltd v Commissioners of Taxation (1898) 19 LR (NSW) 225 at 229; Perrott v Commissioner of Taxation (NSW) (1922) 23 SR (NSW) 118 at 124; Permanent Trustee Co of New South Wales Ltd v Federal Commissioner of Taxation [1940] ALR 291 at 293; Brent at 430-431.

(b)    The section is not apt to deem the payments made by SAPL to PBS to be payments made to PepsiCo or SVC (as applicable). Neither PepsiCo nor SVC had an entitlement to the payments that were paid to PBS as the price for concentrate. PBS received the payments beneficially and returned and reported the associated income.

(c)    On no view of the evidence did PepsiCo or SVC (as applicable) have the benefit of, any control over or any entitlement to the amounts paid by SAPL to PBS, as neither of them owned or sold concentrate to SAPL. Accordingly, the deeming in s 128A(2) can have no application. It follows that the conditions in s 128(2B)(b)(i) are not satisfied.

263    I do not accept these submissions.

264    It has been concluded, in relation to the “consideration for” issue, that the payments made by SAPL under the EBAs were, to an extent, consideration for the use of, or the right to use, the items set out in paragraphs (4)(a) and (b) of Art 12 and the items set out in paragraphs (a) to (d) of the definition of “royalty” in s 6(1). I have also concluded that PepsiCo and SVC (as applicable), as the parties to the EBAs, were entitled to receive the payments made by SAPL under the EBAs. PepsiCo and SVC nominated PBS as the seller of the concentrate under the EBAs, and thereby directed SAPL to pay PBS. In these circumstances, the relevant portions (as described at [256] above) were “dealt with on behalf of [PepsiCo/SVC]” or dealt with “as [PepsiCo/SVC] directs”.

265    Accordingly, I consider that the relevant portions of the payments are deemed to have been paid by SAPL to PepsiCo or SVC (as applicable) by virtue of s 128A(2).

Conclusion

266    It follows from the above that the payments made by SAPL under the EBAs in the relevant years were, to an extent, “royalties” and PepsiCo and SVC are liable to pay royalty withholding tax at the rate of 5% on those royalties.

Issue (2): the amount of any royalty

Overview

267    The next issue to consider is the amount of the royalty (or royalties) for the purposes of s 128B of the ITAA 1936 and Art 12 of the US DTA.

268    As noted above, the PepsiCo parties called Ms Wright, and the Commissioner called Mr Malackowski. Broadly, the experts were instructed to assume that the payments made by SAPL under the EBAs were to some extent for the intellectual property owned by PepsiCo/SVC and used by SAPL, and instructed to determine the amount paid for the use of the intellectual property.

269    The respective positions of the experts can be summarised as follows:

(a)    Ms Wright considered four alternative methods in her first report. Ultimately, Ms Wright’s preferred method was her third method. Under this method, Ms Wright concluded that, assuming that the payments made by SAPL under the EBAs were to some extent for the intellectual property owned by PepsiCo/SVC and used by SAPL, the extent of the payments related to the intellectual property would be in the range 2.0% to 3.0% of SAPL’s net revenue from sales of the relevant products. She adopted 2.5% as a midpoint. On the basis of a royalty rate of 2.5% of SAPL’s net revenue from sales of the relevant products, the royalty payments would be approximately $9.9 million for FY18 and $10.5 million for FY19.

(b)    Mr Malackowski adopted two methods (with the first method having two parts to it). Mr Malackowski averaged the results of his two methods to produce a royalty rate for each brand (being a rate to be applied to SAPL’s net revenue from sales of the relevant products). Mr Malackowski concluded that, assuming that the SAPL payments were to some extent for the intellectual property owned by PepsiCo/SVC and used by SAPL, the royalty rates would be: for Pepsi – 9.0%; for Gatorade – 8.5%; and for Mountain Dew – 8.5%. On the basis of these royalty rates (applied to SAPL’s net revenue from sales of the relevant products), the royalty payments would be approximately $35.1 million for FY18 and $37.4 million for FY19.