Cabana, Séguin Inc v. Minister of National Revenue, [1982] CTC 2363

Roland St-Onge [TRANSLATION]:—The appeal of Cabana, Séguin Inc came before me on March 3, 1981 in the city of Montreal, Province of Quebec.

At issue is whether the appellant was a manufacturer or whether it was engaged in the processing of goods for purposes of sale during the 1974, 1975, 1976 and 1977 taxation years.

In the course of the hearings, counsel for the respondent admitted paragraphs 5 to 20 of the amended notice of appeal, adding a number of details; these paragraphs read as follows:

[Translation]

5. During the taxation years 1974 to 1977 inclusive, the appellant was a corporation legally constituted under the Quebec Companies Act, RSQ 1964, c 2, as amended.

6. At that time, the appellant operated a business that it described in its income tax returns as an “advertising design” business.

7. The advertising design mentioned in the appellant’s income tax returns included all forms of visual communication.

8. During the taxation years under review, the appellant not only offered and sold to its clients the fruit of its creative genius, but also handled the execution, production and manufacture thereof in the form of folders, catalogues, brochures, leaflets, stationery or any other form of visual communication. In addition, the appellant rendered professional services; its contract did not always extend to the printing of folders, catalogues, brochures, stationery and the other items mentioned above.

9. A person wishing to enter into a contract with the appellant for the production and manufacture of, say, a brochure, placed himself entirely in the hands of the latter, who handled all the phases necessary to the appearance of the finished product, from the design to the preparation of the layout, text and final layout, to the typography, pasting-up, photo-engraving and printing. In the situation described, the client of the appellant commissioned it to deliver a brochure, catalogue and so forth.

10. Responsibility for each client’s contract would be assigned to an officer of the appellant, (known as the project director), who would supervise, check and approve each phase.

11. Thus, a client who wished to launch a new advertising brochure would meet first of all with the project director and/or the appellant’s artistic staff. These re- source persons would assemble the necessary information and design the first drafts of the product.

12. The drafts would then be approved by the officer of the appellant in charge of the contract, and by the technical artists would then prepare the layout and once again submit the project to the client.

13. The approved project would then be given to typographers, who were responsible for preparing the texts under the supervision of the artists and the officer in charge of the contract, would have drawn up the technical specifications (casting- off, type face, format, category and so on).

14. Depending on the requirements of those who had designed the campaign, the typography was done partly on the appellant’s premises, or entirely off the premises, under the strictest supervision of the appellant’s staff or management personnel.

15. Once the typography was completed, the appellant would handle the pasting- up (mechanical design) of the product for photo-engraving.

16. When the pasting-up was completed, the project was sent for photoengraving, which was carried out by the appellant’s staff using the appellant’s equipment (camera, developers, blue prints).

17. When the photo-engraving was finished, the appellant would retain the services of a printer, who took care of the printing.

18. The work carried out by the printer was subject to very strict monitoring by the officer responsible to the client and each phase of the production was closely

supervised. However, he added that the situations described occur only where the appellant’s contract covers the said operations.

19. When the quality of the first prints have been approved by the appellant or its officer, the printer will then proceed to print the brochure or other document in question.

20. Since 1959, the appellant has held a manufacturer’s sales tax licence issued under the authority of the Excise Tax Act.

Mr. Séguin, the president of the company, rounded out the evidence by testifying as follows:

[Translation]

The company has two principal sources of income: comprehensive agency contracts, which represent 80% of its income, and professional consultations, which represent 20%.

Within the 80%, the breakdown is 80% for comprehensive agency contracts and 20% for contracts involving the delivery of layouts and trade marks such as Single, Symbole and Logo Fit.

The successful fulfilment of a comprehensive agency contract involves several stages, including: meeting the client, gathering and writing up of information, visual designing of catalogues, production of typographical layouts, client approval, make-up, making of films, blue prints, black and white and colour proofs, printing and binding and finally, delivery to customers.

Colour brochures and folders were produced, an indication that team work was involved. Of the stages mentioned above, there are two that are assigned to subcontractors, either because the appellant does not have the necessary staff and considers that this would involve too large an outlay, or else because contracting out would permit a wider selection of typographers. The two stages are printing and colour photography. In both cases, the appellant bills the client and makes a profit on these two items.

To implement all these stages in the design process, the appellant employs from 30 to 50 persons, has offices and facilities for artists, a black and white photography studio, work tables, cameras, equipment for photographing documents and developing and making negatives, as well as blue prints and velox.

As for customer relations, contracts are based on verbal agreement and no royalty payments are claimed. The customer is free to have the product reprinted elsewhere and the materials upon which the project was based are returned to him.

Mr Séguin completed his testimony by reiterating that the appellant company’s business was quite different from that of other companies whose sole operation consisted in producing layouts:

We are making a finished production and that is what distinguishes us from the other companies.

In cross- examination, the respondent established the following:

EQUIPMENT AND SALES CHART

	1975	1976	1977
EQUIPMENT	$ 35,639 $ 45,459 $ 50,698
SALES	$1,217,651	$2,129,655	$2,927,689
BREAKDOWN OF SALARIES (1977)

A total of $812,455.00 is distributed as follows:

GRAPHICS	$349,134 (for 20 employees)
OUTSIDE LABOUR	$ 31,616 (work performed by artists,
	layout artists and for
	extra work)
PHOTOGRAPHY SECTION	$ 17,364 (for 1 photographer)
CAMERAS	$ 24,971 (for 1 senior, 1 junior,
	in photo-engraving)
SUPERVISORY DEPARTMENT	$ 85,096 (for 5 employees whose role
(purchasing and services	and responsibility consist in
	internal and external co
	ordination, supervising the
	making of layouts)
OTHER SALARIES	$304,274 (administration, support,
	sales and for 6 secretaries)

Mr Séguin then explained that the information-gathering process consisted in obtaining as much information as possible, enabling the client to reach a wider public in order to sell his product.

The staff of the appellant company also advised customers on the kind of sign to use, the thickness and type of materials and the lighting, though they did not make the signs.

Mr Albert L’Ecuyer, who has been the appellant company’s chartered accountant since 1963, filed a statement of sales as Exhibit A-14:

CABANA, SEGUIN INC

Statement of Sales

		1974 to 1977
	1974	1975	1976	1977
Sales
Graphics	$775,065	$1,217,650	$1,746,425	$2,195,781
	(100%)	(100%)	(82%)	(75%)
Media	— .	—	$ 383,229	$ 559,345
			(18%)	(19.1%)
Fees	—	—
			—	$ 172,561
				(5.9%)
Sales	$775,065	$1,217,650	$2,129,654	$2,927,687
	(100%)	(100%)	(100%)	(100%)

He explained that the appellant first of all paid the excise tax on the invoice sent to it by the printer. The appellant in turn billed its customer, charging excise tax on the finished product, which it remitted to the government; the latter amount was offset by a credit for the portion paid to the printer.

Counsel for the appellant submitted the following arguments:

(1) The expression “manufacturing and processing” is not defined in the Income Tax Act.

(2) The appellant avoided the obstacle in subparagraph 125.1 (3)(b)(x) by demonstrating that at least 80% of its activities were within the realm of manufacturing and processing.

(3) He referred the Board to the following four cases:

(a) Federal Farms Limited v MNR, [1966] CTC 62; 66 DTC 5068;

(b) The Queen v York Marble, Tile and Terrazzo Ltd, [1968] CTC 44; 68 DTC 5001;

(c) Dominion Press Ltd v Minister of Customs and Excise, 1 DTC 127;

(d) Québec Hydro-Electric Commission v MNR, [1969] CTC 574; 69 DTC 5372.

He read certain extracts from 5071 and 5072 of Federal Farms Limited (supra) concerning “Interpretation of Section and the word Process is defined”.

He also read extracts from the other cases in order to show that the expression “manufacturing” has a very broad application.

(4) He further referred the Board to the following cases:

(a) The St-Catharines Standard Limited v The Queen, [1979] CTC 258; 78 DTC 6168;

(b) Le Soleil Limitée v MNR, [1973] CTC 91; 73 DTC 5093.

in support of his contention that information is a very important commodity and does not preclude a company from operating within the realm of manufacturing and processing.

(5) Counsel stated that the appellant supplied two kinds of product, printed material and comprehensive agency contracts, and even though certain stages were contracted out, that did not prevent it from being involved in manufacturing and processing. Moreover, the appellant always retained control over its subcontractors. Reference: The Queen v Rexair of Canada Limited, [1956] CTC 108; 56 DTC 1056.

(6) He maintained that the appellant, by producing a film, printed material, a folder, a catalogue or a brochure, had manufactured a tangible good and that this did not constitute provision of a service, but rather sale of a good.

Counsel for the respondent pointed out that the decision in Rexair (supra) applied only within the context of the Excise Tax Act and that the taxpayers in St-Catharines Standard Limited (supra) and Le Soleil Limitée (supra) held substantial investments, whereas the appellant possessed only $35,000 to $40,000 worth of equipment, for an income of $2,000,000. He maintained that in order to qualify, a taxpayer must perform the manufacturing himself and not assign it to a subcontractor. He further pointed out that the Board must review the labour costs and the value of the company’s equipment in order to determine whether it qualifies, and to ascertain that the company applying for the tax credit is also the company manufacturing the product. He referred the Board to Canadian Wirevision Ltd v The Queen, [1979] CTC 69; 79 DTC 5101.

He referred to Exhibit A-17 in order to affirm that professional fees do not constitute a sale of a good, and to Québec Hydro-Electric Commission (supra) in order to state that subsection 26(1) of the Excise Tax Act is not found within the Income Tax Act.

Counsel for the respondent contended that the appellant company’s customers were seeking expertise more than anything else. There is no question of a contract for the sale of goods. He referred the Board to “Definition of Contract of Sale”, pages 23, 24 and 25:

Page 23(iii):

Contracts for the provision of services may include within their scope the transfer of goods from one person to another, where the service involved is the making of something.

Page 24:

There has been some variation in the views expressed in English and Canadian courts. Whereas in Clay v Yates, the view was adopted that the test was whether the work or the material was the essence of the contract, in Lee v Griffin; Blackburn J said that the true test was the value of work as contrasted with the value of the materials. In Robinson v Graves the Court of Appeal in England, deciding that a contract to paint a portrait was a contract for work and materials not one of sale of goods, did not entirely approve of the language of Blackburn J in Lee v Griffin, but adopted his idea that the substance of the contract must be regarded and a decision made in accordance with the way a reasonable man would describe the transaction.

Page 25:

In other words, if the primary object of the contract is the transference of property in something which was not originally the property of the buyer, the contract will be one of sale of goods: but if the primary purpose of the parties is the performance of certain work, or the provision of services, incidentally to which property inf goods is to pass from one party to the other, the contract will not be one of sale of goods.

He concluded by stating that the work performed by the appellant did not amount to manufacturing or processing, but simply the provision of a service, adding that any taxpayer who wishes to take advantage of subsection 125(1) of the Income Tax Act will have to perform these two operationshimself and not assign them to subcontractors.

Counsel for the appellant referred the Board to several cases that were decided under the Excise Tax Act. However, the Board’s decision must be based on an interpretation of the Income Tax Act, and the decisions in question are thus of little assistance here.

The evidence has shown that the orders placed by the appellant’s customers called for a good deal more in the way of “know-how” on the latter’s part than of equipment, machinery and labour, as was precisely the case with the taxpayers in St-Catharines Standard Limited (supra) and Le Soleil Limitée (supra). Furthermore, the figures supplied for 1977 indicate that a sum of some $812,455 was expended on salaries, while there is no evidence to document the cost of any materials or raw materials that might have been used in the manufacturing and processing of the finished product.

Quite the contrary, other figures indicate that for the years in question, the appellant owned $35,000 worth of equipment in 1975 and as much as $50,000 worth in 1977, while his sales ranged from approximately $1,200,000 in 1975 to close to $3,000,000 in 1977.

All these figures demonstrate beyond a shadow of a doubt that the bulk of the appellant company’s operations involved provision of a service rather than the sale of a tangible good, even though the appellant did deliver a folder or a brochure.

Nor can we fail to mention that the only two stages assigned to subcontractors, namely, the printing and colour photography, were the most important stages in as much as they required the heaviest investments or the most labour and might have qualified for inclusion in the category of manufactur- ing. In the instant case, the figures do not deceive and clearly show that the appellant was much more involved in the provision of a service than in the sale of a finished product. While it is true that the comprehensive agency contract entailed the delivery of a tangible good, there can be no doubt that it was considerably more valuable in terms of services rendered than in terms of raw materials manufactured and processed to made a final product.

“Nemo dat quod non habet” — one cannot give what one does not have.

The appellant did not have raw materials to be processed and therefore could not produce a manufactured product. On the other hand, it employed a team of artists whose intellectual work could only be categorized as the provision of a service. A reasonable man would not say that the appellant was a manufacturer.

For all these reasons, the appeal is dismissed.

Appeal dismissed.