Pearce v Woodall Duckham Ltd
| Jurisdiction | England & Wales |
| Judge | LORD JUSTICE STAMP,LORD JUSTICE ORR,LORD JUSTICE EVELEIGH |
| Judgment Date | 28 February 1978 |
| Judgment citation (vLex) | [1978] EWCA Civ J0228-3 |
| Docket Number | 1976 No. 12 |
| Court | Court of Appeal (Civil Division) |
| Date | 28 February 1978 |
[1978] EWCA Civ J0228-3
In The Supreme Court of Judicature
Court of Appeal
On Appeal from the High Court of Justice
Chancery Division
(Revenue Paper)
Lord Justice Stamp
Lord Justice Orr
and
Lord Justice Eveleigh
MR. P. W. REES, Q.C. and MR. D. MILNE (instructed by McKenna & Co.) appeared on behalf of the Appellants/Respondents.
MR. D. C. POTTER, Q.C. and MR. B. J. DAVENPORT (instructed by the Solicitor of Inland Revenue; appeared on behalf of the Respondent/Appellant.
I shall ask Lord Justice Orr to deliver the first judgment.
This is an appeal by Woodall-Duckham Limited, whom I shall call "the company", and who were assessed to corporation tax of £600,000 in respect of an accounting period comprising the calendar year 1969, against a judgment of Mr. Justice Templeman on 26th November 1976, whereby, reversing a determination of the Special Commissioners who had reduced the assessment to £403,495 but decided a point of principle in favour of the company, he allowed an appeal by the Crown on the point of principle and remitted the case to the Special Commissioners for consideration in the light of his judgment.
The company, which was incorporated in 1920 under a different name, is a wholly-owned subsidiary of the Woodall-Duckham Group, (which I will call "the Group" and of which Babcock & Wilcox have been since 1973 the holding company), and was prior to 1960 engaged primarily in the design and construction of town gas plants and coke oven plants for the steel industry but in the early 1960s, owing to a change in demand, diversified into other markets including, from the late 1960s, exports. During this period the company's projects also became larger and the design and construction of each took correspondingly longer, extending in the late 1960s to as long as 35 months and in the early 1970s to 56 months. There was also a corresponding increase in the cost of the projects which in the middle and late 1960s ranged between £166,000 and £540,000 and in the early 1970s between £166,000 and £540,000 These changes in the nature and volume of the business led the Board of the company to examine and question its accounting procedures,and references to this matter were made by the Chairman in his statements' appended to the company's accounts for 1965 and 1967.
Until the end of December 1968, work in progress of contracts (other than that carried out by the company's Australian branch) was at the end of each financial year (being the calendar year) valued in the accounts at prime cost plus a proportion of overheads but less a provision for any foreseeable losses; no profit on the contracts being brought into account until expiry of the maintenance period but losses being provided for in the year in which the likelihood of incurring such losses was foreseen.
For a number of reasons set out and accepted in the case stated by the Special Commissioners this basis of valuing work in progress was not altered until 1969, but a formal decision to change to a new basis was taken at a Board meeting held on 23rd December of that year and the new basis was subsequently defined as follows - and I read (1) to (5) on page 19 of the agreed documents: " NEW BASIS (1) The anticipated final gross margin (both overheads and profit) on each contract is calculated as the difference between the anticipated final selling price receivable from the customer and the anticipated final prime cost to be incurred on carrying out that contract. Prime cost includes the direct cost of engineering design time and technical time carried out in the Company's offices, the direct cost of materials, construction labour, site services, royalties and other expenses directly attributable to the contract. (2) A proportion of the anticipated final gross margin is included in the valuation ofWork in Progress pro rata to the cumulative prime cost incurred to the date of the accounts as a proportion of the anticipated final prime cost. (3) The gross margin calculated under (2) above is subject to a deduction for a general reserve on all contracts not yet in their maintenance period representing 2% of the prime costs incurred to date on those contracts. In addition specific provisions are set aside on contracts to meet risks and contingencies which cannot be satisfactorily quantified but in respect of which, in the opinion of the Directors, some provision against over-expenditure is necessary. The value of the specific provision is deducted from the valuation of Work in progress pro rata to the prime costs incurred except where 80% or more of the prime cost has been incurred in which case 100% of the specific provision is deducted. (4) If at the date of the accounts less than 25% of the anticipated final prime cost has been incurred on a contract then the contract is valued in Work in Progress at cost and no margin is included. (5) Losses are provided for in the year in which the likelihood of incurring such losses is foreseen."
It was accepted by the Special Commissioners that, while the tax implications of this new basis (which it will be convenient to call "the accrued profit basis") had been considered by the Board and the company's auditors, the timing of the change was not governed by tax considerations, and it was also common ground that the new basis is one of the accepted accounting bases for valuing work in progress on, inter alia, long term contracts, and that in the circumstances there were reasonable and proper grounds for the decision tochange the basis. The effect, however, of the change in basis was that, whereas on the old basis the opening figure of work in progress for a succeeding year had always been the same as the closing figure for the previous year, it was considered necessary for the application of the new basis to the year 1969 that the opening as well as the closing figure for that year should be calculated on the new basis, with the result that the opening figure for 1969 was different from the closing figure for 1968 and disclosed in both the Group Consolidated Profit and Loss Account and the company's Profit and loss Account for 1969 a sum of £579,874 which was described in the Group accounts as "Surplus arising on change in accounting basis" and in the company's accounts, Tinder the heading of "Profit after Taxation" as "Surplus arising on change in valuation of contract work in progress at 31st December, 1968" with, a reference to Note (1) to the accounts which states "In order to effect the change in accounting basis the contract work in progress at the beginning of the year has been revalued on the new basis and the resultant excess of £579,874 over the old valuation has been brought into account as a separate item."
The issue before the Special Commissioners was whether this sum of £579,874 was, as the Revenue claimed, or was not, as the company claimed, chargeable to tax as part of the profits of the company arising in the year 1969. On this issue the Special Commissioners were referred to a number of statements of accountancy practice and they also heard evidence from four accountants: Mr. Nightingale, in effect the company's financial director; Mr. Dunkerley, a partner in the company's firm of auditors; Hr. Hobson, who was accepted as an independentexpert; and Mr. Lawson for the Inland Revenue. All these witnesses were agreed, inter alia, that a major or fundamental change of accounting basis should not be made without good reason but that the company's new basis, which is gradually being adopted by a growing number of companies, is superior to the old basis, and that the company was fully justified in making the change; and they were further agreed that it is desirable as a matter of consistency that valuation of work in progress at the beginning and end of a period should be on the same basis, and that the surplus on valuation disclosed in the company's 1969 accounts was of a revenue as opposed to a capital nature.
Mr. Hobson, supported by Mr. Dunkerley and Mr. Nightingale, gave evidence, which the Special Commissioners accepted, that it would have been quite wrong as a matter of accounting if the company had adopted the old basis for the beginning of 1969 and changed to the new basis for the end of the same year, and that "surplus" was a proper description of the sum in question because it was not a trading profit arising or realised in 1969 but an adjustment relating to earlier years and deriving from a change in accounting policy. Mr. Lawson on the other hand took the view that the sun in question was a profit which had arisen from the company's business in the year in question.
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