Date: 20010212
Docket: 95-1077-IT-G
BETWEEN:
SMITHKLINE BEECHAM ANIMAL HEALTH INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for order
Bonner, J.T.C.C.
[1] The Appellant applies for the following relief:
(a) an order requiring the Respondent to answer questions refused at the examination for discovery of Tim Truckle, on behalf of the Respondent, which are referred to in paragraph 14 of the Affidavit of Martin Sorensen;
(b) an order requiring the Respondent to produce the documents relating to the questions set out in paragraph (a) above or alternatively, an order requiring the Respondent to file and serve a further and better or supplemental affidavit of documents in respect of the documents relating to the questions set out in paragraph (a) above;
(c) an order requiring Tim Truckle to re-attend at his examination for discovery in respect of the matters referred to in paragraphs (a) and (b) above.
[2] The application is made in the context of an income tax appeal. The general nature of the Appellant's business, the assessing adjustments giving rise to the appeal and the theory of the assessments in issue is set out in the reasons given for the Order of November 4, 1999 permitting the Respondent to amend the Reply to the Notice of Appeal.[1] I will not repeat all of that at this time. At the heart of the dispute is the question whether the amount which the Appellant paid or agreed to pay to its non-resident Affiliates for cimetidine was greater than the amount that would have been reasonable in the circumstances if the Appellant and the Affiliates had been dealing with each other at arm's length. If the amount was greater then the amount of the excess is also in issue.
[3] On February 23, 1999, counsel for the Appellant completed the examination for discovery of Tim Truckle, the Respondent's nominee, subject to a reservation of rights with respect to undertakings, advisements, refusals and questions arising therefrom. Shortly before that counsel for the Appellant had asked the following questions and had been given the following answers:
"1811 Q. Am I right when I state this total adjustment of $66,982,990 is the culmination of the use of the price for the transactions considered as CUP[2] by Revenue Canada and which we looked at under Tabs 5, 6, 7, 8 and 9 of Binder 9?
A. I believe that is correct.
1812 Q. I would like you to review paragraph 21 of the Reply to the Notice of Appeal, please. Is this paragraph a fair summary of all the facts we talked about during this examination?
A. I believe it is.
1813 Q. Aside from what we reviewed during this examination, is Revenue Canada aware of any other facts which would have formed the basis of the reassessments presently under appeal?
A. I am not presently aware of any other facts.
1814 Q. I would like to draw your specific attention to subparagraph 21(f) of the Reply as well as paragraph 20 of the Reply. I would invite you to review those paragraphs for your recollection, if you so need.
After having looked at those paragraphs, could you tell me if the circumstances which are referred to in paragraph 20 of the Reply are the same as those which are described in subparagraph 21(f) of the Reply?
[...]
A. Since the circumstances are not completely detailed in paragraph 21(f) to any specific nature, I would agree that the circumstances referred to in 21(f) are the same or similar to circumstances relayed in paragraph 20.
1815 Q. I would ask you to now look at subparagraph 25(a) of the Reply and invite you to review it for your recollection, please. Could you tell me if the circumstances that are referred to in both paragraph 20 and subparagraph 21(f) of the Reply which we just examined are the same circumstances referred to in subparagraph 25(a) of the Reply?
A. Similar to my previous answer: Although the circumstances are not detailed, I would say that they are in fact the same.
1816 Q. I would also invite you to review subparagraph 9(a) of the Reply to the Notice of Appeal for your recollection. I would ask you if the circumstances which are referred to in subparagraph 21(f), paragraph 20 and subparagraph 25(a) of the Reply are the same circumstances as those referred to in subparagraph 9(a) of the Reply.
A. I believe they are the same."
[4] The parts of the Reply to the Notice of Appeal referred to in those questions are:
"9. In answer to paragraph 9 of the Notice of Appeal, he admits only that, during the relevant period, the Appellant acquired cimetidine from two corporations (the "Affiliates") resident outside Canada with which the Appellant did not deal at arm's length. He further says that:
(a) the Appellant paid or agreed to pay to the Affiliates amounts for the cimetidine that were greater than the amounts that would have been reasonable in the circumstances if the Appellant and the Affiliates had been dealing at arm's length;
20. In answer to paragraphs 22 and 23 of the Notice of Appeal, he says that the Minister has applied subsection 69(2) of the Income Tax Act and denies that the amounts the Appellant paid or agreed to pay to the Affiliates for cimetidine, set out below, as the cost of goods sold, were reasonable in the circumstances. He says that the amounts that would have been reasonable in the circumstances if the Affiliates and the Appellant had been dealing at arm's length are set out below and he consequently disallowed amounts in excess thereof:
Amount Amount
Claimed Disallowed
as Cost of Reasonable (includes inventory
Year Goods Sold Amount Difference Adjustment)
1981 $28,601,l08 $17,875,673 $10,725,415 $ 5,388,389
1982 $22,950,979 $ 9,818,953 $13,132,026 $13,803,842
1983 $21,869,720 $ 6,560,777 $15,308,943 $14,778,753
1984 $ 9,439,808 $ 2,241,133 $ 7,198,675 $ 9,731,626
1985 $13,642,098 $ 2,113,850 $11,528,248 $11,796,197
1986 $10,658,489 $ 1,568,806 $ 9,089,683 $ 6,421,868
1987 * * $ 5,062,315
__________ __________
$66,982,990 $66,982,990
* no transfer pricing issue
2l. In assessing the Appellant under Part I of the Income Tax Act, the Minister, in addition to the facts stated in paragraph 20 hereof, made, inter alia, the following assumptions of fact:
(f) the Appellant paid or agreed to pay amounts aggregating $66,982,990 in excess of the price that would have been reasonable in the circumstances if the Appellant and the Affiliates had been dealing at arm's length during the relevant period.
25. The Respondent respectfully submits that:
(a) the amounts assessed under Part I of the Income Tax Act reflect that the amounts payable by the Appellant to the Affiliates for cimetidine were greater than the amounts that would have been reasonable in the circumstances if the Appellant and the Affiliates had been dealing at arm's length, within the meaning of subsection 69(2) of the Income Tax Act;"
[5] By letter dated January 10, 2000, counsel for the Respondent delivered a large number of "clarifications, corrections and expansions" to the answers which had been given on discovery. They included:
"Correction to answer to question 1814:
Paragraph 21(f) of the Reply to the Notice of Appeal is restricted to the information known to the Minister when the assessments were made. The circumstances referred to in paragraph 20 encompass all of the circumstances of which the Respondent has become aware. For example:
- the corporate tax department told SmithKline that is [sic] transfer price was unreasonable;
- SmithKline didn't meet its own objective of pre-tax profit for Canada having regard to risks assumed by the Appellant in Canada;
- the end selling price of Tagamet in Canada was dramatically lower than it was in most other world markets with the result that the high transfer price to Canada precluded it from making a profit."
[6] In light of the words "for example" counsel for the Appellant tried to pin down any other circumstances of which the Respondent had become aware. On January 26, 2000, he asked the Respondent's nominee the following question:
"Q. 2075 What I would like to know from you is all those circumstances you are aware of and the time at which you became aware of those and the documents to support all of those circumstances."
The question was taken under advisement.
[7] Counsel for the Respondent then sent the answer to question 2075 to counsel for the Appellant by letter dated March 2, 2000. It read:
"In addition to the three previously communicated to the Appellant at discovery, and without limiting the Respondent's right at trial to rely upon any other circumstances which come to the knowledge of the Respondent through the interviews of witnesses before trial or are proved in evidence through cross-examination of the Appellant's witnesses, additional circumstances are:
• the SmithKline parent continued its $400 US per kilo transfer price to the Appellant in spite of its realization that the transfer price caused a profitability problem for the Canadian entity,
• the SmithKline parent continued its $400 US per kilo transfer price to the Appellant in spite of the advent of substantial competition in Canada from Glaxo's Zantac and cimetidine products sold by other Canadian drug companies;
• the Appellant paid service fees and royalties to members of the SmithKline group of companies (other than Penn and Franklin) for any supposed benefits that it derived by virtue of its membership in that group,
• the Affiliates (Penn and Franklin) which sold cimetidine to the Appellant for $400 US per kilo did not own any intangibles related to the development of cimetidine or to the formulation or sale of Tagamet, and did not provide any services to the Appellant other than supplying it with cimetidine which they manufactured under licensing agreements with SK & F Labs Ltd.,
• the Appellant incurred substantial losses from the activities of formulating and selling Tagamet in Canada and did not earn a rate of return commensurate with its activities here,
• the Appellant and the other Canadian drug companies performed essentially the same activities subsequent to the purchase of cimetidine, i.e. secondary manufacturing, sales and marketing of cimetidine based products,
• the assumptions set out in the Reply to the Notice of Appeal."
[8] A protracted exchange of correspondence followed regarding the adequacy of this response, the time the Respondent became aware and the identity of the documents supporting each of the circumstances referred to. Counsel for the Respondent, in a letter to counsel for the Appellant dated March 27, 2000, said:
"(1) You have inquired when the Respondent became aware of circumstances, which the Minister did not rely upon at the time of assessment. The Respondent became aware of additional circumstances during the discovery of the Appellant. The Respondent's position is that it is not a proper question to ask which documents relate to each of the circumstances, as that would require the nominee to make a selection from all of the documents which have been produced to date. The Respondent is unable to say whether all of the circumstances have been enumerated at discovery, because the Appellant has not provided answers to questions asked of it at discovery, and the examination of the Appellant has not yet been completed;"
The exchange of letters continued. By letter to counsel for the Appellant of May 19, 2000 the Respondent reiterated its position regarding time of awareness and the question whether it was obliged to select documents. That letter reads in part:
"The Respondent is not refusing to advise the Appellant of any discoverable facts of which the Respondent is presently aware. The Respondent's position is that it is not a proper question at examination for discovery to ask what particular documents and what particular passages in transcripts of examination for discovery are relied upon in support of particular facts. This is particularly so in a case that involves thousands of documents and many volumes of transcript of examination for discovery.
The Respondent became aware through the examination for discovery of the Appellant that SmithKline officers were of the view that the Appellant was not earning a rate of return in Canada commensurate with the activities that it carried on here. The Appellant's reported losses and low rate of return on its activities in Canada corroborate that view. The reassessments under appeal were not based upon an assumption that the Appellant ought to have earned a particular rate of return in this country. However, it is implicit in the Minister's reassessments that the Appellant ought to have earned at least the rate of return that results from the reassessments. If the Respondent comes to an understanding as to any other particular rate of return that the Appellant should have earned in Canada, we will advise the Appellant of that understanding."
[9] On October 26, 2000 the examination for discovery of Mr. Truckle continued, presumably limited to the matters reserved at the conclusion of the February 23, 1999 discovery session. Paragraph 14 of the Affidavit of Martin Sorensen filed in support of this application sets out the following questions which the Appellant says the Respondent has refused to answer and must now be required to answer:
"(a) What documents relate to a "rate of return commensurate with [the Appellant's] activities" in Canada identified in the Respondent's letter dated March 2, 2000 (Exhibit K) and in the Respondent's letter dated October 20, 2000 (Exhibit S)? If they have already been produced, kindly identify them. If not, please produce them.
[Source: March 10, 2000 letter from the Appellant to the Respondent (Exhibit L)]
(b) What is the CCRA's information concerning those risks identified in the Respondent's letters dated January 10, 2000 (Exhibit I) and October 20, 2000 (Exhibit S) and what is the relationship between those risks and the profitability of Canadian pharmaceutical companies?
[Source: Question 2166 of Mr. Truckle's examination (Exhibit R), page 814]
(c) How does the "rate of return" referred to in the Respondent's letter dated March 2, 2000 (Exhibit K) and in the Respondent's letter dated October 20, 2000 (Exhibit S) compare with that of other Canadian pharmaceutical companies?
[Source: Question 2175 of Mr. Truckle's examination (Exhibit R), page 819]
(d) Provide all financial information within the knowledge of the CCRA showing or tending to show the profitability of pharmaceutical companies in Canada from 1977 to today, including and without restricting the generality of the foregoing the profitability of pharmaceutical companies obtained through audits and profitability of pharmaceutical companies obtained through the Advance Pricing Agreement process.
[Source: Question 2149 of Mr. Truckle's examination (Exhibit R), page 806]
(e) Disclose the documents to support all the circumstances relied upon by the Respondent in addition to those circumstances relied upon at the time of reassessment.
[Source: Question 2075 of Mr. Truckle's examination (Exhibit J), page 761]"
[10] The scope of production of documents and examinations for discovery in this Court is governed by sections 82 and 95 respectively of the Rules. That scope is very broad. The Rules are intended to reflect the modern principle discussed in R. v. Stinchcombe[3]:
"Production and discovery were foreign to the adversary process of adjudication in its earlier history when the element of surprise was one of the accepted weapons in the arsenal of the adversaries. This applied to both criminal and civil proceedings. Significantly, in civil proceedings this aspect of the adversary process has long since disappeared, and full discovery of documents and oral examination of parties and even witnesses are familiar features of the practice. This change resulted from acceptance of the principle that justice was better served when the element of surprise was eliminated from the trial and the parties were prepared to address issues on the basis of complete information of the case to be met."
Thus section 95 permits "any proper question" relating to "any matter in issue in the proceedings" and section 82 requires production of "all the documents ... relating to any matter in question ... in the appeal". What is in issue in litigation is of course defined by the pleadings. On discovery the examining party may seek information and admissions which will assist it not only to defeat its opponent's case but also to advance the case which it seeks to put forward.
[11] I will deal first with the question of disclosure of documents. There can be no doubt that the parties to litigation in this Court are obliged to file and serve a list of "all the documents" as contemplated and required by section 82(1) of the Rules. The question here is whether a party is required to segregate the documents which the party has produced and to identify for the benefit of the opposing party those documents which relate to a particular issue. I note that there is nothing in the express language of section 82 which supports the Appellant's position. The language of the Rule contemplates the production of documents and segregation into separate schedules only in accordance with the section 82(2)(a), (b) and (c) categories. The Order sought by the Appellant in reality seeks the work product of counsel for the Respondent in the form of an analysis of the relevance of each of the documents and segregation of the documents accordingly. This goes far beyond the ambit of pre-trial production as contemplated by section 82. A party is not entitled to an expression of the opinion of counsel for the opposing party regarding the use which may legitimately be made of the documents produced by the opposing party.
[12] With respect to the questions in paragraphs 14(a) and (e) of the Sorensen Affidavit, the complaint as I understand it is that the Respondent has failed to categorize the documents which it has produced. It is not obliged to do this and this branch of the application therefore fails.
[13] I turn next to paragraph 14(b) of the Sorensen Affidavit. The question has two parts. First it asks for the CCRA's information concerning the risks identified in the Respondent's letters of January 10, 2000 and October 20, 2000. The reference to risks is set out in paragraph 5 above. Neither letter identifies the risks referred to by the Respondent. It may be that the Respondent is simply parrotting a statement made by one of the Appellant's officials. If that is the case the Respondent should say so. If not, the Respondent must reasonably identify the risks. Essentially the Appellant is asking the Respondent to identify one of the facts on which it relies. In Montana Band v. Canada[4], Hugessen J. set out the following analysis of compendious or reliance questions and arrived at the following conclusions with which I respectfully agree:
"[24] The jurisprudence is divided as to "compendious" or "reliance" questions; in Can-Air Services Ltd. v. British Aviation Insurance Co., it was said to be improper to ask a witness what evidence he had in support of an allegation or how it was to be proved at trial. Such reliance questions do not ask for facts that the witness knows or can learn but rather require the witness to play the part of a lawyer and to select which facts can be relied on to prove a given allegation.
[25] On the other hand, many experienced trial judges take a broader view. Thus in Rubinoff v. Newton Haines J. said:
The line of demarcation between disclosure of facts on which a party relies and the evidence in support of the fact may at times be very fine, and when it occurs, the resolution must be fact disclosure. And I can think of no more simple and direct question than, "On what facts do you rely?" ... The opposite party is entitled to know the facts on which the acts of negligence or recovery are alleged but not the evidence to support it. To deny such facts would be to refuse the very purpose of discovery which is to learn the facts, or often equally more important, the absence of facts, pertaining to each and every allegation in the pleadings.
[26] Likewise in Brennan v. J. Posluns & Co. Ltd., McRuer C.J. ordered a witness to state the facts relied on in support of an allegation. In his view a question of this sort asks not so much for a conclusion of law by a witness as for the facts behind such conclusion. Where the witness is a party who is asserting that conclusion it is reasonable to ask for the facts supporting it.
[27] In my view, the proper approach is to be flexible. Clearly the kinds of questions which were aptly criticized in Can-Air, supra, ..., can easily become abusive. On the other hand, a too rigid adherence to the rules therein laid down is likely to frustrate the very purpose of examination on discovery. While it is not proper to ask a witness what evidence he or she has to support an allegation, it seems to me to be quite a different thing to ask what facts are known to the party being discovered which underlie a particular allegation in the pleadings. While the answer may have a certain element of law in it, it remains in essence a question of fact. Questions of this sort may be essential to a discovery for the purposes of properly defining the issues and avoiding surprise; if the pleadings do not state the facts upon which an allegation is based then the party in whose name that pleading is filed may be required to do so." (emphasis added)
The risks in question are said by the Respondent to be part of the section 69(2) circumstances relevant in the appeal. It is the Respondent's obligation to disclose the facts on which it relies and the risks referred to form part of those facts.
[14] The second part of the paragraph 14(b) question stands on a different footing. The Respondent's correction to the answer to question 1814 refers to the risks assumed by the Appellant in Canada. The answer does not refer to risks assumed by other Canadian pharmaceutical companies. Nothing in the Respondent's corrected answer warrants questions related to the profitability of Canadian pharmaceutical companies in general. Neither the Appellant in its Notice of Appeal nor the Respondent in its Amended Reply to the Notice of Appeal has made any allegation of a material fact which could justify this inquiry. There may be some linkage between the risks assumed by an entrepreneur and the size of anticipated profits. However, profits are affected by a multitude of variables which prevent meaningful comparisons of the Appellant's profits (or losses) with those of others. Financial analysts might, I imagine, write lengthly treatises comparing the various elements entering into the profitability of pharmaceutical companies. Such elements might well include financing, ability of management, the value in the treatment of disease of the various products produced by the various companies, the prevalence of the particular diseases treated by such products and, of course, the bearing which arm's length and non-arm's length relationships with the suppliers of raw materials might have on the cost of goods produced. An inquiry of the sort contemplated by the second part of the paragraph 14(b) question is not relevant.
[15] I turn next to the question referred to in paragraph 14(c) of the Sorensen Affidavit. The rates of return of other pharmaceutical companies are not relevant to any issues raised by the pleadings. The central issue, as I have already noted, is whether the price paid or payable by the Appellant was greater than that which would have been reasonable in the circumstances if the Appellant and the Affiliated companies had been dealing with each other at arm's length. It is the circumstances surrounding the supply of cimetidime to the Appellant which are relevant under subsection 69(2) of the Act. There is nothing in the materials to suggest that a factual or logical linkage exists between the price that would have been paid if the Appellant had dealt with the Affiliated companies at arm's length and the rate of return of other Canadian pharmaceutical companies.
[16] The demand for financial information in the paragraph 14(d) question is equally irrelevant. There is no link between the information sought and any pleaded issue.
[17] Submissions were made with respect to the confidentiality of the information in the files of the CCRA regarding the profitability and rates of return of other taxpayers. Relevance is the threshold issue when questions arise regarding the ambit of discovery and, in my opinion, it is plainly lacking in respect of the paragraph 14(c) and (d) questions and the second part of the 14(b) question. Although the questions asked are by any standard irrelevant, I will add that in my opinion a particularly clear demonstration of relevance is required where a taxpayer asks a Revenue official on discovery for information which a competitor has furnished to Revenue in accordance with the requirements of the Income Tax Act. The Court must be alert to the possibility that such an inquiry is an attempt to take advantage of the fact that the protection afforded to taxpayer information by section 241 of the Income Tax Act is limited by subsection (3) which reads in part:
"241(3) Subsections (1) and (2) do not apply in respect of
...
(b) any legal proceedings relating to the administration or enforcement of this Act, the Canada Pension Plan or the Unemployment Insurance Act or any other Act of Parliament or law of a province that provides for the imposition or collection of a tax or duty."
Except in cases such as M.N.R. v. Huron Steel Fabricators (London) Limited and Fratschko[5] where the Minister in making the assessment in issue has relied on information garnered from taxpayers other than the appellant, I can envisage few if any circumstances in which information provided to the Minister by taxpayers other than the appellant will be relevant in a tax appeal.
[18] This application therefore succeeds only in respect of the first part of the paragraph 14(b) question. In light of the somewhat extravagant nature of the questions which the Appellant has sought unsuccessfully to justify I will award costs of the application to the Respondent in any event of the cause.
Signed at Ottawa, Canada, this 12th day of February 2001.
"M.J. Bonner"
J.T.C.C.