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Spinversions: How a Mega Co. Can Join In on Tax-Cutting Deals -- Real M&A

July 10, 2014

Spinversions Make Giants Candidates to Escape U.S. Tax

Medtronic Inc. headquarters in Minneapolis, Minnesota. Photographer: Craig Lassig/Bloomberg

American conglomerates that want a piece of the tax-inversion deal bonanza may start turning to a new tactic. Call it the “spinversion.”

A large diverse company could spin off a portion of its business and reincorporate that piece by combining it with an overseas entity. Shareholders get the benefits of lower tax bills for that separated unit, and corporate giants such as Johnson & Johnson and Danaher Corp. (DHR:US) wouldn’t have to undertake a massive acquisition or face the political fallout that can come from completely skirting U.S. taxes, Albert Fried & Co. said.

“This would be a way for the real behemoths to get in on the inversion craze,” Robert Willens, New York-based founder of tax and accounting firm Robert Willens LLC, said in a phone interview. It “would expand the list of potential merger partners quite a lot if you just did it with a piece of the company. I’m surprised it hasn’t happened yet, but I’m very confident that it will be a trend and will start pretty soon.”

AbbVie Inc. and Medtronic Inc. are among the latest firms that have planned traditional inversion deals where a U.S. company acquires an overseas peer in order to reincorporate. Such deals typically require the foreign company’s shareholders to end up with at least 20 percent of the combined firm, leaving the biggest American companies with few potential partners and reason to consider the spinversion.

Creative Dealmakers

Companies have already gotten creative with inversions. Salix Pharmaceuticals Ltd. (SLXP:US) this week announced a deal in which it will reincorporate in Ireland by combining with a unit of Italy’s Cosmo Pharmaceuticals SpA, cutting the Raleigh, North Carolina-based drugmaker’s tax rate substantially.

Representatives for Washington-based Danaher didn’t respond to requests for comment. A representative for New Brunswick, New Jersey-based J&J, valued at $300 billion, declined to comment.

More than 15 companies, with an average market capitalization of about $20 billion, have announced or completed tax-inversion deals since 2010, according to data compiled by Bloomberg. While Pfizer Inc. made a run at London-based AstraZeneca Plc earlier this year, the U.S. pharmaceutical giant abandoned the acquisition after its about $117 billion bid was rejected. AbbVie has yet to secure a deal agreement with Shire Plc, which it’s trying to buy for about $50 billion.

The advantages of an inversion are greater for large companies because they typically carry the biggest tax bills, yet finding the appropriate-sized target with the right strategic fit is a challenge, said James Hines, a law and economics professor at the University of Michigan.

Cumbersome Size

“It’s a bigger deal for a big company because you’ve got to partner with another big company,” Hines said by phone. “Then you’ve got these big issues of trying to merge their operations and executives getting their nose out of joint.”

A spinversion would allow conglomerates to sidestep those issues and still provide a benefit to their investors, said Sachin Shah, a special situations and merger arbitrage strategist at Albert Fried.

In a traditional spinoff, the original company distributes shares of the new company to its investors in a tax-free transaction. Shareholders tend to be taxed on inversion deals.

For the spinversion to work and the spinoff portion to remain tax-free, the U.S. shareholders must end up owning more than 50 percent of the stock after the combination with the foreign company, said Willens, the tax consultant who also is a former managing director in the equity research department of Lehman Brothers Holdings Inc. That means the U.S. shareholders must own between 50 percent and 80 percent of the final spinversion entity.

No Megamerger

It’s a way to “do something that they wouldn’t otherwise be able to do without doing something massive,” Shah said by phone. “It’s a creative way of increasing shareholder value.”

Huge U.S. companies that have brand recognition with the average American also risk reputation loss and political retribution with a full-on inversion, said Doug Shackelford, dean of the Kenan-Flagler Business School at the University of North Carolina at Chapel Hill. After Pfizer’s bid for AstraZeneca, U.S. Senator Carl Levin proposed a bill that would make it harder for companies to shift their addresses overseas to avoid taxes.

‘Just The Garage’

Cutting the tax bills for just a piece of the business may lessen the pushback, Shah said.

J&J, the maker of Band-Aids and heart stents, is an example of a company that could use a spinversion to limit the firestorm that comes with “the whole kit and caboodle of saying, ‘We’re moving the whole house,’” he said. “It’s like, ‘We’re moving just this garage.’ That’s a different story than saying, ‘See you later, Johnson & Johnson (JNJ:US) is moving abroad.’”

Danaher could be another candidate for a spinversion, according to Paul Knight, an analyst at Janney Montgomery Scott LLC. The $55 billion maker of everything from dental equipment to water filters is facing its longest stretch without a sizable deal in 11 years and that’s fueling questions about whether it should consider breaking itself up.

“I think they will eventually spin or sell off the industrial assets (DHR:US),” Knight said in a phone interview. The possibility of inverting the separated business “would be another reason to do it.”

Giant GE

General Electric Co. (GE:US), the eighth-biggest company in America, could be another contender for a spinversion, said Willens, the tax consultant. Although now isn’t the most ideal time, as the $264 billion appliance maker and wind turbine seller may not want to raise the ire of the government while it tries to close its purchase of France-based Alstom SA’s energy assets, said Nicholas Heymann, an analyst at William Blair & Co.

A representative for Fairfield, Connecticut-based GE declined to comment.

Shares of GE dropped (GE:US) 0.5 percent to $26.20 today. Danaher fell 0.4 percent to $78, while J&J slipped 0.2 percent to $105.80.

Executing a spinversion isn’t without hurdles. There’s no blueprint for how to do it because arguably no company has done it before, Willens said. Sara Lee Corp. came close in 2012 when it spun off D.E Master Blenders 1753 NV and domiciling the unit in the Netherlands. That deal didn’t involve a combination with a foreign entity though.

Breaking up can erode some of the cost and revenue benefits of being a conglomerate and it shouldn’t be done solely for tax purposes, said Hines of the University of Michigan. And for big household names like J&J, the risk is that a spinversion could draw the same distaste from politicians and consumers as a total inversion, said UNC’s Shackelford, also a tax professor.

The tax implications are also complex and could prevent a transaction in some circumstances, said Bill Dantzler, a partner at White & Case LLP.

Spinoff Defense

Even so, a spinversion should still be doable from a U.S. tax standpoint, said Laurence Bambino, a New York-based tax partner at Shearman & Sterling LLP. For such a deal to work, the spinoff must have a strong enough business reason -- such as simplifying operations -- to demonstrate it would be done regardless, he said.

“Unfortunately and clearly not always the case, the perception is inversions are sort of tainted with the idea that you’re doing it for a bad tax act,” Bambino said by phone. “So you’re going to have to get over that hurdle by having very strong corporate business purposes for the basic spinoff itself.”

For companies eager to get involved with the inversion mania before it’s too late, the spinversion could be an appealing strategy.

“There’s probably some companies thinking that the door that is currently open will be closed soon and we should get in under that wire,” Shackelford of UNC said. With a spinversion as a possibility, “if you were already thinking about dividing your company, maybe this would be the thing that would put it over the top.”

To contact the reporter on this story: Brooke Sutherland in New York at bsutherland7@bloomberg.net

To contact the editors responsible for this story: Beth Williams at bewilliams@bloomberg.net Whitney Kisling, Elizabeth Wollman


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Companies Mentioned

  • DHR
    (Danaher Corp)
    • $79.03 USD
    • 0.30
    • 0.38%
  • SLXP
    (Salix Pharmaceuticals Ltd)
    • $158.76 USD
    • -1.13
    • -0.71%
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