U.S. Customs ruling could grind Honda's gears for $17 million bill.

Any day now, management at American Honda Motor Co. in Torrance could be slapped with a $17 million bill for unpaid duty on Civic hatchbacks imported duty-free from its Canadian assembly plant in 1989 and 1990.

That is the threat by the U.S. Customs Service, which last week was completing its two-year-long audit of Honda. Preliminary results of the audit were given to Honda officials in February. Honda has commented on some of the findings to the press, including the $17 million liability estimate, but Customs refused to comment.

Customs' highest-profile investigation of an American importer has drawn intense interest among certain American-based importers which might be affected by the final ruling. That interest was heightened last month when Honda officials said Customs had come up with a "bizarre" interpretation of the 1989 U.S.-Canada Free Trade Agreement that potentially could deal a blow to other North American importers.

The accord allows products from Canada to escape duty if more than 50 percent of their contents are of North American origin. Honda avoided the standard 2.5 percent auto duty on 91,500 Civics imported from January 1989 through March 1990, claiming the cars easily exceeded the 50 percent criterion.

But the federal agency calculated the value of many Civic components using a "ridiculous" method and determined that Honda fell short, said Honda sources who were given a peek at the near-complete audit Feb. 10.

At press time last week, Honda officials involved in the highly technical dispute said a key contention concerns whether engines made at its Ohio plant can be included in its "North American-content" formula. Honda officials say yes and Customs says no.

Last week Honda pressed its case one final time to convince Customs otherwise before the U.S. agency signed off on the audit by the agency's self-imposed Feb. 28 deadline.

Several news reports and editorials around the country have speculated that President Bush, who appoints the top executives at Customs and its parent agency, the U.S. Treasury, may have wanted a tough-on-Japan ruling in this election year.

Nevertheless, Honda officials vigorously rejected Customs' findings and have vowed to appeal them to U.S. government agencies and through the federal court system if Customs sticks by its guns. Honda, owned by $32-billion-in-sales Honda Motor Co. of Tokyo, could avoid paying the $17 million while it fights. Or it could settle for lesser amount.

"In major cases like this one, there's usually a settlement," said Barry E. Powell, a Los Angeles customs attorney and former U.S. Customs executive. "Normally, Customs starts high and then they negotiate down."

A Honda spokesman in Torrance declined to speculate whether Civic sticker prices would be raised if it were stuck with a bill. On the contrary, Honda officials claim their case is so good that they just might win on legal grounds.

"We think U.S. Customs' interpretations are inconsistent with both the language and the spirit of the U.S.-Canada Free Trade Agreement, and with Canada's interpretation," said Honda attorney Donald Harrison. "Even the Canadian government has objected to our government," said the Washington, D.C.-based lawyer from L.A. law firm Gibson Dunn & Crutcher.

"Their findings are absurd. They're ridiculous," said Roger Lambert, spokesman for Honda of America Manufacturing, the actual unit audited. It's a sister company of the Torrance-based U.S. sales firm and manufactures engines in Ohio. They are exported to Honda's Ontario, Canada, plant and incorporated into cars for import back into the U.S.

The shocker, said Honda officials, is that Customs has apparently disqualified the "processing" costs of making engines in Ohio from the final "assembly" costs incurred in Canada. That cut out the American manufacture value mid-stream, said Honda. Customs officials could not explain why "processing" was not just as valid as "assembly" to the final content analysis, said Honda officials.

Honda's Lambert claimed the ruling not only flouts the free-trade accord, but casts doubt over the potential benefits from its $600 million Ohio investment.

If the ruling stands, it might jeopardize the U.S.-Canada import assumptions of other companies like Motorola, for instance, which traditionally count U.S.-manufactured components as North American content.

"Armed with this novel interpretation, the Customs auditors proceeded to disqualify all the casting and machining costs that Honda incurred to produce its engine heads and blocks . . . even though those costs are unquestionably direct, unquestionably necessary . . .," said a Honda protest letter to Customs Commissioner Carol B. Hallett delivered Feb. 11.

The so-called country of origin question is certain to bedevil the trade community in North America and especially in the Los Angeles area if Mexico joins the U.S.-Canada agreement. Local traders are predicting great opportunities for L.A.-Mexico trade, but businessmen need certainty on the origin questions, assert customs attorneys.