President Barack Obama's full-throated denunciation of overseas mergers that lower U.S. companies' taxes is throwing cold water on potential deals.
On July 24 Obama referred to companies looking to shift their domicile as "corporate deserters" and aides pledged to curtail the practice with or without Congressional approval.
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Since then, no companies have announced any of these deals -- known as inversions -- and it's no coincidence, according to lawyers and investment bankers. The presidential rhetoric has caused several companies exploring inversions to put on the brakes to see what emerges from the political debate, people familiar with the preparations said.
The new caution was seen earlier this month when Walgreen Co. (WAG), the largest U.S. drugstore, passed on the opportunity to move its domicile to low-tax Switzerland when it bought Alliance Boots GmbH. Pfizer Inc., which is on the hunt for inversion targets in Europe after a failed bid for AstraZeneca (AZN) Plc, is also treading carefully as its executives try to get a better handle on the political winds before proceeding, two of the people said, asking not to be identified discussing private information.
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"Tax-inversion deals is a topic that companies are quite worried about because of the political risk," said Colin Mayer, a professor of management studies at Said Business School at Oxford. "The issue is now much more politically sensitive, especially after Pfizer (PFE)'s attempt to buy AstraZeneca."'Corporate Deserters'
Pfizer, one of the the biggest American drugmakers, in April tried to move its domicile to the U.K. by buying AstraZeneca. It only ended that effort after the London-based company's board refused to enter talks and the U.K. government opposed it.
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The dealmaking hasn't come to a complete halt. Burger King Worldwide Inc. (BKW) is in talks to acquire Tim Hortons Inc. (THI), the companies said today. The combined company would be headquartered in Canada, where Tim Hortons is based and taxes are generally lower than in the U.S.
Between mid-June and late-July, when Obama ramped up his criticism of the deals by calling companies that strike them "corporate deserters," at least five large American companies announced plans for inversions, including AbbVie Inc. and Medtronic Inc. (MDT) Since the start of 2012, 21 U.S. companies have announced or completed such deals, or almost half the total of 51 such transactions in the last three decades.
After Obama called for "economic patriotism" from business leaders in July, Treasury Secretary Jack Lew said the agency was examining options for new rules that wouldn't require Congressional sign-off.Future Risks
Wary of the risks of U.S. action, some companies are leaving an escape hatch open. Medtronic's agreement to buy Irish-domiciled Covidien Plc for more than $40 billion can be called off if a law is implemented that would mean the new company could "be treated as a United States domestic corporation" for tax purposes.
The increase in criticism from Washington could have an impact on pending deals such as the sale of Nobel Biocare Holding AG. (NOBN) The Swiss maker of dental implants has attracted interest from potential buyers including U.S.-based Danaher Corp. (DHR) Earlier this year, Monsanto Co. (MON), the world's largest seed company, explored a takeover of rival Syngenta AG (SYNN) that ended without an agreement.
Still, few companies are going to choose acquisition targets based solely on tax advantages. There has to be a strategic logic to a deal too, said Ferdinand Mason, a corporate partner in London at law firm Jones Day.
"This type of transaction helps price a deal higher due to tax savings, but that's not the main reason why you pursue such a deal," Mason said. "Successful deals will always be driven by strategy and strategy alone."Treasury's Options
In the case of Deerfield, Illinois-based Walgreen, gaining a non-UN.S. domicile would have required a change to the terms of its 2012 agreement to buy Boots, according to Michael Polzin, a spokesman for Walgreen. Those changes would have to be "commercially driven," not tax-driven, he said.
The Treasury, which answers directly to Obama as an executive branch agency, has a few options for how to make transactions harder. It could try to limit companies' access to foreign cash to finance overseas acquisitions, and make it harder for them to use accounting moves to reduce taxable U.S. income after a deal closes.Government Ties
"They may be even more aggressive than usual with their regulatory authority because of a perceived need to freeze the market," said Phil West, a former Treasury lawyer who heads the tax practice at Steptoe & Johnson LLP in Washington.
The agency may try to keep its cards hidden by issuing rolling sets of guidance, so that it retains a level of strategic advantage over private-sector tax lawyers who will immediately look for ways to get around its proposals, he added.
"They might like the current uncertainty just fine," West said.
A company's decision to pursue a deal in the face of political criticism will depend on what business it's in, said Jonathan Rubin, a partner at Westbury Group LLC, an investment bank in Westport, Connecticut.
"Companies that do not have significant business with, or regulatory oversight by, the federal government will face the greatest pressure to pursue them," Rubin said. Corporations with governmental ties will "have to take the political risk into consideration. The Walgreen uproar highlighted those risks."Cash Stockpiles
Two parallel trends are helping drive the popularity of inversions. European countries, eager to make their economies more competitive, are slashing corporate tax rates, while U.S. companies, with hoards of cash overseas, are seeking those lower tax rates.
In the U.S. the rate is 35 percent, though most companies take advantage of various deductions to pay a lower amount.
Since the global financial crisis, large U.S. companies with growing international operations have built up huge cash balances they hold in offshore accounts, since bringing the money back to the U.S. would mean paying tax on it. The U.S. is one of a handful of countries that tax all of companies' -- and individuals' -- worldwide income.
Medtronic has nearly $14 billion offshore, while Pfizer has more than $30 billion in offshore cash and investments. Moving to an overseas legal address means that money can be used for dividend payments or share buybacks with a smaller tax penalty.
"Taking advantage of a tax inversion merger to reduce a company's corporate tax rate puts more profit into the pockets of shareholders," said Rubin. "Companies which resist that opportunity run the risk that investors will punish its stock price."
To contact the reporters on this story: Matthew Campbell in London at email@example.com; Manuel Baigorri in London at firstname.lastname@example.org; David Welch in New York at email@example.com
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