A guide to mergers and acquisitions in Papua New Guinea, including related commercial and tax issues. Provided by KPMG’s Port Moresby office.

The business landscape in PNG has also changed considerably over the last few years with respect to mergers and acquisitions (M&A) activity.  Businesses with solid and identifiable track records and with good growth prospects do command a price reflecting a multiple of their maintainable earnings as they do in other places. That multiple varies with a number of factors including the target’s financial performance, management stability and history, infrastructure assets available, market prospects and, often in the case of overseas buyers, perceived country risk, to name but a few factors.

Some industries have been quick to attract foreign competitors while others exhibit higher barriers to entry for various reasons. At the same time a number of business opportunities are opening up because business persons who set up now successful ventures around and before independence was granted to PNG are now considering their succession and exit plans. PNG exhibits strong population growth and provided their receipts from resource projects and other revenue sources permit there will be a potentially large investment in infrastructure in the coming years.

All these factors make the PNG market place, which is traditionally a high operating cost but high profit margin environment, one well worth looking at.

Commercial issues

The PNG commercial environment is one which exhibits a wide variety of operating styles and practices. Successful management of PNG commercial enterprises requires flexibility, focus on results and lateral thinking in a regulatory environment that can sometimes be hit and miss in its enforcement practices. When considering an acquisition of any reasonable sized commercial entity in PNG it is usually critical to perform due diligence on the target to understand the manner in which it has been operated in the past and the risk and reward profile of the business going forward. This point cannot be emphasised too strongly. Below are some of the commercial issues which acquirers of businesses in PNG should be aware of when considering an acquisition in PNG:

• Foreign ownership of PNG businesses, whether through a branch or a locally incorporated company, requires certification from the Investment Promotion Authority (IPA). Areas of business open to IPA certification are very wide and unlikely to be restrictive, but this is a step which must be completed to successfully acquire a business in PNG.
• Only a small proportion of PNG land is available to foreign ownership through a long-term lease tenure, but happily this land exists in most PNG urban centres. The ownership of land can very often be problematic with disputes affecting the ownership of particular areas of land, so legal due diligence is well advised.  The government has proposed a number of changes to land tenure in PNG which will have the effect of making land ownership less secure for foreign owned businesses but the status of these proposals is presently unclear.
• Ongoing management and other human resources post-acquisition are important determinants of the attractiveness and viability of any business acquisition in PNG and the competition for capable qualified PNG citizen employees is intense. There can also be delays in recruiting and putting in place foreign labour which need to be managed.
• Businesses often operate in PNG without long-term contracts in place where one might expect them, and a review of an entity’s contractual and legal position is also well advised.
• There are relatively few experienced and capable accounting firms in PNG and a number of operators do not have their accounts audited so financial due diligence is a necessity.  However, the Big 4 international accounting firms together with a number of international law firms are present in country.
• In the PNG environment, where some companies are experiencing substantial difficulties, an influx of competitors, changing regulatory environments and competition for their capable human resources, it is vital to apply realistic forecasts in any analysis of a business acquisition.

Tax issues

The current environment can briefly be summarised as follows:

• There is currently no capital gains tax in PNG.  However a limited form capital gains tax applying to disposals of interests in property has been announced.
• Sales of capital assets will generally only produce an assessable gain if they have been acquired through some profit-making scheme or undertaking or if those gains can fairly be described as being income of the owner. Knowledge of the PNG Internal Revenue Commission’s (IRC) attitudes in these areas is an important part of tax planning in such transactions.
• Stamp duty on transfers of shares in real estate and shares in land-rich companies will most often be imposed at a rate of 5%, otherwise the stamp duty on transfer of shares is generally 1%.
• Business assets which are sold at a price above their tax written down value will generally attract an assessable gain, to the extent of any depreciation claims recovered, plus a non-assessable capital gain if sold above their original purchase price.
• PNG has a relatively benign foreign exchange control regime but a number of remittances from PNG to overseas do require taxation clearance. Central bank approval is also required for a limited range of transactions.  That said, there is a current and significant shortage of foreign exchange in the PNG financial markets.
• PNG tax and corporate legislation makes provision for the amalgamation of companies which, subject to certain tests being satisfied, can preserve the tax attributes of the companies which disappear.
• PNG has a relatively limited range of import duties and excise duties, but does impose GST widely on imported goods. Foreign entities seeking to acquire, capitalise or equip PNG entities need to bear this in mind, but should also explore the GST Deferral Scheme.

PNG businesses are almost invariably owned through a corporate structure, so any business acquisition can be accomplished by acquiring the ownership of the company(ies) holding the assets or the assets themselves.

The decision as to which route to take is often not just an outcome of analysis of tax issues such as the potential imposition of stamp duty on real estate, but also a number of commercial issues such as the relative ease of transfer of licences or real estate the target might operate with and the likelihood of tripping review clauses in significant contracts. Often PNG business owners, particularly individuals, have a preference for disposing of the companies owning the assets, rather than the assets themselves, to capture the benefit of there presently being no capital gains tax on disposal of those shares. Otherwise, there can be tax leakage if the corporate entity disposes of the assets and must then be dismantled by the original owner.

Business acquirers on the other hand, may wish to acquire the business assets to simplify their due diligence requirements and reduce their perceived business and tax risks attached to the previous operating entity.

In addition to these issues, there is no substitute for the ‘housekeeping’ elements in a due diligence process because it is not uncommon for PNG businesses to be behind with their various tax lodgement and payment responsibilities and other regulatory approval requirements, or to have unresolved tax payment or dispute issues with the IRC.

In conclusion, it is fair to say that, because of the myriad special circumstances and fast moving changes to the PNG business and regulatory environment that exist in PNG, it is often more effective to acquire a local business operation with a track record than to attempt to set one up from a zero base. That is particularly so where the establishment of the business operation is time critical. Intending parties wishing to set up operations in PNG should seriously consider this option.

This guide to Papua New Guinea’s tax system is produced by KPMG’s Papua New Guinea office and is reproduced here with permission.