Presentation at AICPA Conference April 30 2009

1. Page 1
Doing Business in the New
European Union Countries
James T. Deiotte
Partner, Ernst & Young LLP

2. Page 2
Agenda
• New European Union Countries
• Decision to Invest
• Location and Impact on Cost
• Labor Costs
• Flexibility
• Corporate Taxation
• Income
• VAT
• Subsidies and Support Measures
• Capital Markets and Financial Reporting
• Risk
• Final Comments

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New European Union Countries

4. Page 4
European Union (EU 27)
• The 2004 enlargement of the European Union
(EU) was the largest single expansion
• Territory
• Population
• Countries Included:
• Cyprus
• Czech Republic
• Hungary
• Baltic Countries (Latvia, Lithuania, Estonia)
• Malta
• Poland
• Slovak Republic
• Slovenia
• Bulgaria and Romania joined January 2007
• Croatia, Macedonia and Turkey are candidates

5. Page 5
EU Community Institutions
 European Parliament
 700+ Members (Legislative/Budget/Supervisory)
 European Council
 Heads of State meet twice per year
 Rotating Presidency
 Council
 Implement legislation
 Commission
 Executive Committee – Right of Initiative
 Court of Justice
 Interpretation and application of Treaty and law
 Court of Auditors
 Supported by
 Social and Economic Committee
 Committee of Regions
 EU Central Bank
 European Investment Bank
 European Ombudsman

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What Accession Means
• EU has maintained friendly trading relationships with countries all
over the world
• No effort to legislate the internal affairs of trading partners
• Becoming a member – requires the adoption of rules, standards and
policies that make up EU law
• Free movement within the EU
• Goods and Services
• Labor
• Capital
• Effort to not dilute country value and create fair playing field for
trade

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Impact of Accession
• Central and Eastern Europe (CEE) was the fastest growing region of the world from
1999 to 2008 and continues to trend towards being the fastest growing region of the
world through 2011
• CEE region has the same GDP as China and now gets more foreign direct investment
Country – Real GDP Growth % 2006
North America 3.2
Western Europe 2.8
Central and Eastern Europe 6.3
Asia 5.3
Asia – Without Japan 5.9
Latin America 4.7
Middle East/North Africa 5.8
Sub-Saharan Africa 4.3

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Shifting Economic Power to Emerging Markets
• Emerging Markets…
• Have 5/6ths of world population
• Consume 48% of world oil
• Hold 70% of world’s forex reserves – making emerging markets
more resilient to crises
• Share of world exports at 45% of total global export activity
accounted for 52% of developed world exports
• Growth of corporate sales and profits in emerging markets is
better than ever

9. Page 9
IMF GDP Growth
World Economic Outlook Update: Global Economic Slump Challenges Policies (January 28, 2009)

10. Page 10
Projected World Output – from IMF
World Economic Outlook Update: Global Economic Slump Challenges Policies (January 28, 2009)
• Output Projected
• World - 3%
• Advanced - 3%
• Emerging – 5.0%
• CEE - 2.5%

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Perceptions of Old Europe …

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Are Changing Quickly …

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Decision to Invest

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What Matters Most in the Decision to Invest
Drivers
• Current crisis
• Cost reduction
• Globalization
• Emerging markets
• Supply chain strategy
• Centralization
Source: Ernst & Young 2008
European Attractiveness
Survey 16%
17%
20%
21%
26%
28%
38%
38%
39%
45%
46%
47%
49%
51%
54%
54%
0% 10% 20% 30% 40% 50% 60%
Aid, subsidies and support measures
Access to local financial investors
Quality of life
Local language, culture and values
The country or region's performance regarding sustainable development
R&D availability and quality
Social climate and environmental stability
Flexibility of labor legislation
The country or region's domestic market
Local labor skills level
Corporate taxation
Labor costs
Potential productivity increase
Telecommunication infrastructures
Transport and logistic infrastructures
Transparency and stability of political, legal and regulatory environment

15. Page 15
To Improve Attractiveness…
Source: Ernst & Young 2008
European Attractiveness
Survey
16%
16%
16%
19%
23%
24%
24%
27%
39%
42%
0% 10% 20% 30% 40% 50%
Stimulate practices of sustainable development
Initiate and industrial policy at a European level
Modernize the European social model
Strengthen European competition policy
Finalize the European single market
Improve the European infrastructures
Encourage investments in human capital
Make innovation easier and support R&D investments
Modernize and simplify European and national regulations
Make labour markets more flexible

16. Page 16
Preferred Form on Investment: Greenfield
• Greenfield investments are most popular
• Trends driving this:
• Reduced population of available, suitable existing domestic
businesses
• Retrofitting existing businesses is expensive, slow and risky
• Reduced pace of privatizations
• What kind of greenfield investment is being made?
• Significant investment and long term commitment with world class
technology today
• Move from just-in-time (JIT) to strategic need

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Investment Focus and Aid
1. Investing in an Emerging Market
2. Location and Impact on Cost
3. Labor Costs
4. Flexibility
5. Corporate Taxation
• Income
• VAT
6. Subsidies and Support Measures

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1. Investing in an Emerging Market

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Investing in an Emerging Market
• There are many different reasons for which a company may be looking to enter an emerging market:
• Lower cost sourcing
• Lower cost manufacturing
• Expansion into new market (growth)
• Practical distribution center location for supply chain network
• Needs and reasons for entering an emerging market will differ whether
• Upstream in your supply chain (procure)
• Downstream in your supply chain (fulfill)
• Growth
Supply Manufacturing Distribution Expansion
What is the organization’s goal?

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Exports
Inbound-FDI
Joint venture
M&A
FDI
Outbound-FDI
Privatization of
nationally owned
industries
Acquisition and
private equity
Domestic businesses
export and invest
abroad
FDI focused on cost
savings for produced
goods
Investing in an Emerging Market (cont.)
Time
MarketMaturity

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2. Location and Impact on Cost

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Location - Location

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Location - Location (cont.)
• Proximity to key suppliers or key customers
• Time zones
• Language
• Logistics – travel to/from the location
• Country reputation/political stability

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The New EU Entrants can be Cheaper than China....
• How? Due to the
logistics/labor trade off.
• For heavy goods –
transport and logistics
costs outweigh labor cost
advantages.
• Long lead times from the
Far East and customs
issues increase the
attractiveness of the
region
New EU
can be cheaper
than China
China
cheaper than
New EU

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3. Labor Costs

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Labor Costs
“Central and East European countries still enjoy a more competitive cost base than their Western
counterparts. Average labor costs in these countries remain approximately 15 to 30% of the European
average. However, wage costs have increased significantly faster (by 173% between 2000 and 2006
in the Czech Republic, 130% in Hungary, and 87% in Poland) than the European average increase of
60% over the same period. Some analysts predict that so-called ‘labor convergence’ will have
happened by 2020 at the latest.” Source: Ernst & Young 2008 European Attractiveness Survey
Additional Considerations Related to Labor Costs
• Labor Rates
• Social Costs
• Productivity (work rules and holidays)
• Labor Availability
• Education
• Other – Experiences (engineering, computer sciences, language)

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Youthfulness of Eastern Europe
Key Challenge:
Retaining the
Educated Youth

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4. Flexibility

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Flexibility
Businesses are focusing on cost
savings and improving existing
inefficient practices.
Country 1 Country 2
Country 4 Country 3
Regional HQs
Sales
Finance
Production
Distribution
Plan/execute
Sales
Finance
Production
Distribution
Plan/execute
Sales
Production
Distribution
Finance
Plan/execute
Sales
Production
Distribution
Finance
Plan/execute
Customers
and
suppliers
Customers
and
suppliers
Customers
and
suppliers
Customers
and
suppliers
EU provides free movement of
products, services, labor, and
capital.

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5. Corporate Taxation

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Tax Considerations
• If moving existing activities/functions:
• Capital gains or exit charges on relocation
• Tax treatment of closing operations
• Impact on tax losses/attributes – forfeiture
• Points to consider in new location:
• Substance requirements – tax residence/permanent establishment
• Tax rates – corporate tax and employee tax regimes
• Withholding taxes on dividends, interest, royalties, etc.
• Access to double tax treaties
• VAT and customs duties
• Foreign exchange management
• Transfer pricing regulations

32. Page 32
Italy
40+%
UK
28%
France
30+%
Germany
35+%
Corporate Income Tax Rate Savings
Relocation or shift in economic drivers can
result in a reduction of taxes ranging from
10% to 22%.
Relocation Drivers
• Operational capacity
• Entrepreneurship
• Manufacturing intangibles
• Marketing intangibles
• Inventory ownership and risks
• Demand and supply planning
management
• Risk management
• Market risks

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Tax Misery Index
The tax misery index is a sum of sizes of major tax rates. The
higher the index, the higher the tax load.
Source: Forbes, 2008 data
Tax Misery Index
0 20 40 60 80 100 120 140 160
Russia
Lithuania
France
Latvia
Estonia
Poland
Hungary
Slovenia
Czech Republic
Slovakia

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VAT
• Transaction based tax in which each business flow triggers a whole
set of VAT reporting requirements
• Place of supply
• VAT rate
• Nature of transaction
• Status of customer
• Systems connect to a table of outcomes
• Tax codes
• Condition table

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Data-
Transactions
Tax
Condition
Rules
Tax
Codes
Sales
Systems
Purchase
Systems
General
Ledger
Financial
Statements
VAT
Reporting
Information and Rules Finance Department Responsibility
Tax Department Responsibility
The VAT Compliance Process Overview

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VAT: How it Works for “Fully Taxable” Persons
Importation of
Raw Material
50,000 +
10,000 VAT
Phone mfg
Telecom
Carrier
100,000 +
20,000 VAT
250,000 +
50,000 VAT
Phones Services
50,000
(20,000)
30,000
10,000
-
10,000
20,000
(10,000)
10,000
TAX REVENUE
50,000
Final
Consumers

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VAT: Isn’t it a Wash?
• It’s a wash isn’t it? It’s not a tax?
• We pay it to our vendors and get it back
• Our customers pay us VAT when we charge it, and we
pay it over
• It’s a local country issue – no impact on the business
• It is not a significant account
Example: Not always a wash – Banks purchase IT equipment (pay VAT) and incur interest expenses that is paid
to its customers (no recovery).

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VAT in Perspective
• Example
• European purchases:
• $2.54bn
• VAT @ 17.5%: $444m Sales
• UK sales:
• $3.48bn
• VAT @17.5%: $609m
• Net VAT Paid: $165m
• VAT Throughput:
• $1,053,000,000

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VAT in Perspective
0
10
20
30
40
50
60
70
80
90
100
US$
Revenue COR SGA/R&D Net
Income
EBIT Tax VAT Non-US
Rev.
Based on a US Multi-National
VAT throughput is on average
approximately 30-35% of non-US
revenues.

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6. Subsidies and Support Measures

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Subsidies and Support Measures
• Types of Aid
• Financial (cash) or infrastructure support
• Tax reduction schemes through special economic zones
• Purpose
• Encourage the attractiveness of investment
• Offset the higher costs of training and getting plants ready for productions
• Poor infrastructure for goods transport
• Non-Financial
• Illustrates regions desire for certain Industries or companies
• Challenges
• Budget for programs is limited
• Execution by national, regional and local governments is not managed well
• Not Transparent and Perceived Biased

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EU Structural Funds
• European Union Structural Funds are designed to support regions with GDP per capita lower than 75% of
EU average
• For example, the support available for Poland in years 2007-2013 is over EUR 67 billion (EUR 90 billion
including domestic sources)
• Maximum support
• 50% of investment cost
• Up to cost of 2 years of salary costs
• Program rules and management generally under control of Ministries of Economy or Economic
Development
• Under new regulations the following undertakings may be eligible for funding:
• New investments
• Innovation
• Environmental protection
• R&D projects
• Training, etc.
• EU oversight can create unintended consequences
• Support may only be provided as an incentive to investment
• ‘start of work’ means either the start of construction work or the first firm commitment to
order equipment, excluding preliminary feasibility studies

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Structure of Aid Programs
• Source of funding
• State funds
• EU funds
• Maximum support – set by EU
• Approval Process
• Ministry or Agency
• Parliamentary
• EU
Sample Aid Package
7%
35%
3%
5%
Cash Grant
Deferred Benefit (Abatement)
Job Training
Infrastructure

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Capital Markets and Financial Reporting

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Growing Capital Markets
• Prior to the current economic challenges, capital markets were booming
• There is an increasing number of IPOs
• For example, in 2005, 35 new companies were listed on the Warsaw Exchange, just
behind the London and Oslo Stock Exchange
Source: WSE
Market capitalization of stock exchanges in CEE
EUR bn
52
22 21
3
0
10
20
30
40
50
60
Warsaw Prague Budapest Bratislava

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EU Directive on Statutory Audits – Main Provisions
• Harmonized regulations in terms of accreditation, continuous
education and registration
• Common basic rules on ethics and independence
• Auditing and reporting standards
• Appropriate secrecy rules as long as it doesn’t conflict with directive’s
provisions
• Disclosures on audit and non-audit fees in the notes to the financial
statements, consolidated and stand-alone F/S
• Harmonized quality controls processes and public oversight

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EU Directive on Statutory Audits – Public Oversight Boards
• Mandatory for each Member State, managed by a majority of non-
practitioners
• Public Oversight Board shall be in charge of the key elements
relating to auditors:
• Accreditation of audit firms and statutory auditors,
• Standards: auditing standards, ethics, quality controls rules
• Inspections
• Continuous education
• Investigations and sanctions

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EU Directive on Statutory Audits – Accreditation
• Ability for non-auditors to become shareholder in an audit
firm
• Statutory auditors registered in a Member State can be
accredited in another Member State provided they pass
an exam on legal aspects of this Member State.
• Questions remain as to the content of the exam
• Statutory auditors will have to ensure their registration is
up to date

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EU Directive on Statutory Audits – Standards
• IFAC standards to be applied in all Member States
• Question on the use of national standard-setters in the
future

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EU Directive on Statutory Audits – Inspections
• An EU recommendation should be issued during the year
• Independence of reviewers is critical
• Audit firms need to be inspected, not only individuals

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EU Directive on Statutory Audits –
Investigations and Sanctions
• Directive requires that sanctions are public, but without
the name of audit firms and individuals being disclosed
• Discontinuance of clients should be communicated to the
Public Oversight Board
• European Commission wants to have harmonized rules
for auditors’ liability

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EU Directive on Statutory Audits – Public
Interest Entities
• Entities should have an audit committee
• Audit firms auditing such entities should issue a
transparency report
• The statutory auditor should communicate to the audit
committee weaknesses on internal control and provide
information on Independence.

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Risk

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Risk
• Political Risks
• Protectionism
• Movement of Workers
• Country Risks
• Tax Risks
• Regulatory – Connecting EU and Local
Laws/Regulations
• Judicial experience and resources

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Risk of Protectionism
• Single market – movement of capital
• Reaction of governments
• Compete (e.g. incentives)
• Protectionism
“Fears that France’s €7.8bn state aid package for its car industry is protectionist
resurfaced on Friday when Renault announced that it was relocating production of
one its small cars from Slovenia to a plant in France.
Luc Chatel, the industry minister, told Europe 1 radio that Renault was to
“announce the repatriation of the production of one of its vehicles” to an assembly
plant in Flins, west of Paris.
Financial Times, March 20, 2009

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Restriction of Labor Movement
Free movement of people is one of the fundamental rights
guaranteed in Article 39 of the EC Treaty. This is a key
element of European citizenship.
Secretary Lord Mandelson last night vowed the UK Government
would block any bid to restrict the free movement of workers in
Europe — despite the British Jobs for British Workers strike at a
Lincolnshire refinery last month.
He told the Commons European committee he “categorically” ruled
out changes which could result in tit-for-tat restrictions that would
prevent workers in the UK sector of the North Sea from working in
any other.
Mr. Mandelson said tens of thousands of workers from Scotland
benefited from being able to access jobs overseas and half of all
Scottish oil companies' revenues were generated abroad.
From: The Press and Journal, Aberdeen, Scotland, March 23,
2009

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Country Risks
• Country Risk
• Economic risk events (e.g. currency crises, inflation,
deflation, unemployment and fiscal deficits)
• Risk events impacting certain firms, industries or
regions in a country
• May include the actions of corrupt local government officials,
frustration of contracts, and difficulties or holdups in obtaining
permits or licenses at the local or regional level
• Obtaining waivers/grants – complex challenges on lower level
decision making

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Tax Risks (Corporate)
• Permanent establishment (PE) risk
• Management/commercial activities
• Signing contracts, taking management decisions create PE
• Transfer pricing
• Unjustified tax benefit is a benefit enjoyed by a taxpayer as a result of
transactions which are:
• Taken into account for tax purposes other than in accordance with
their actual economic nature
• Not occasioned by reasonable business objectives
• Tax-efficient financing and leveraging challenged (e.g. thin
capitalization)

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Penalties and Protections to Consider
• In most Member States the penalty to be imposed is based on the behavior
of the taxpayer (willful conduct, negligence, etc.)
• In a few Member States (Poland, Czech Republic) monetary no-fault
penalties are imposed on the mere fact that a taxpayer's declaration of
taxes was a lower tax assessment then determined by the tax
administration.
• Criminal sanctions can occur at relatively low thresholds of underpayment
• Corporate penalties and sanctions may likewise be imposed above and
beyond the penalty and interest sanctions provided in the tax laws
• Binding tax rulings can help reduce this risk
• Imbalance on usage and capacity to rule
• Differing results on same or similar fact patterns
• Procedures continue to be developed – local, regional and national

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Regulatory Challenges - Tax
• Cross Border Activities - VAT and customs laws that are
not efficient result in greatest frustration
• Analysis of the conformity with EU law
• Analysis of the conformity with Local Country law
• Reasons for not implementing changes
• Fiscal concerns (e.g. VAT groupings)
• Risk of fraud (e.g. physical possession)

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Judicial Reform
• Judicial systems are still under development
• Shift from inquisition type (e.g. judge takes a very active role) to
adversarial system – with judge as an arbiter and managing the
proceedings
• Key challenges
• Training and experiences of judges
• Prosecutors and counsel need additional trial room experience
• Compensation
• Rules of procedure
• Written proceedings vs oral – need for ‘real time’ exchanges
• Legal foundation is continuously changing as it develops
• Health, intellectual property, real estate
• Regulatory interpretations and enforcement
• EC mandates

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Final Comments
• Desire to compete and excel on world stage
• Challenges – faced
• Political alignment
• Energetic and appreciative of opportunity

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