The Special Relationship: Opportunities for Businesses Expanding to the US (Buzzacott)
Business OpportunitiesJanuary 3, 2023 - Buzzacott
As the largest trading partner of the UK, the US presents opportunities for UK scale-ups. However, as with any new market, growth can be daunting. In their latest insight, PrimeGlobal member firm Buzzacott consider the obstacles for UK businesses when building a special relationship on the other side of the pond.
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As the largest trading partner of the UK, the US is a great option for scale-ups wanting to expand. However, as with any new market, achieving growth can be risky and daunting. Read this insight to discover the key considerations for UK businesses when expanding to the US and building a 'special' relationship on the other side of the pond.
The opportunity is now bigger than ever for UK firms wishing to expand in to the US, with the US representing 16% of total UK trade, and UK exports to the US amounting to £142bn in 2022, an increase of 11% from 2021. Moreover, 65% of UK exports are related to UK services, of which financial services and the tech sector (including IT, IP, and telecoms), dominate the service sector landscape.
Why expand to the US?
As with any business decision, it's important to make sure that the reason for entering the US market is well-thought-out and makes sound commercial sense. Experience demonstrates that a successful US expansion is primarily driven by the existence of a tangible opportunity supported by compelling evidence that the business will succeed in the US, i.e. there is clear evidence of existing customer demand.
For example, one of Buzzacott's large Business-to-Customer (B2C) e-commerce clients built a strong brand presence in the US through online engagement and social media. This has led to a growth in US sales which can be tracked in terms of growing average size of transactions and repeat sales. This provided the owners with the confidence that the US market would provide sustainable growth.
Location, location, location
The tried and trusted route adopted by many businesses is to set up a legal entity in Delaware. This is because Delaware is very much still a ‘light tax’ state. However, this does not mean that a company’s physical location needs to be in Delaware. The overriding question in terms of physical location is one of practicality. This decision is often governed by the benefits of being close to key customers or staff and sometimes, even simply by time difference and ease of travel and communication.
There are several different structures that a UK business can adopt. To a large extent, these will be driven by a range of commercial and tax considerations of the business and its owners.
One consideration is whether the US entity should be a subsidiary of the UK entity, a standalone company or even the parent company of the group. From a tax perspective, it's likely to be more tax efficient for UK owners and investors (that pay tax in the UK,) to be paid (or receive dividends), from a UK company. Also, when it comes to selling, there are tax reliefs when it comes to selling UK capital assets.
However, many of our clients also have, or plan to have, US owners or future investors who will prefer to be remunerated from a US company.
Achieving the optimal structure from a tax perspective is complex and requires consideration of the different tax situations of the owners, which can sometimes be conflicting. While understanding the different tax issues at stake, it's important to remember that tax should not usually take precedence over the commercial decisions considered.
If the most valuable exit route for the business is likely to be through a US investor or a US trade sale, then having a UK-controlled business may not be the most beneficial route. In addition, adding layers of complexity to a group to optimise tax efficiency may reduce the value of a business when it comes to a sale.
One of our fast-growing creative media agency clients has two owners, one that is based in the UK and one in the US. From a personal point of view, it made sense for each owner to be paid from their respective entities. However, it was the US business that grew faster, and it was apparent that the most valuable exit route was through US private equity. As such, we advised the UK owner to perform a share-for-share exchange whereby he received shares in the US business at an agreed value and the US business acquired the UK business completely. Although this meant him paying more tax, the simplified US-led structure facilitated the sale of the overall group by aligning the owners and simplifying the structuring – ultimately ensuring that they received a higher valuation for their overall business.
The US tax regime is complex and there are different types of legal entities (S Corp, C-Corp, LLC) which will have different tax and reporting requirements. In addition to federal tax, there are state tax considerations for locations that US businesses are trading in. There are also transfer pricing considerations which, in simple terms, means identifying the fair and reasonable price of transactions (such as shared labour costs or IP rights) between two related companies.
It's therefore important to factor in the cost of financial compliance in the US and seek proper advice to ensure that the overall US and UK tax and commercial factors are carefully considered.
The introduction of cloud-based financial and management software and Enterprise Resource Planning (ERP) has made it much easier for teams to work effectively across international locations and, with training, means that there is usually no need to replicate central finance functions in new jurisdictions.
One of the major barriers to a successful US expansion, however, is finding someone to lead the US business operations. Having a local management team that can build local customer and supplier relationships and manage the team is key to success. Ensuring that their motivations are aligned with the UK business and that they are rewarded accordingly is important. Often giving a local manager a minority interest in the US business can seem like a good idea but can also add layers of complexity which could reduce the value of the business on sale. Here, other staff incentives schemes, such as growth shares or phantom share schemes, can be a useful way to align key management without having an impact on future value.
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