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Offshore Cash of $2 Trillion Sparks Hunt for Tax-Friendly Deals

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What’s greasing the wheels for the rise in mergers by U.S. companies? The tax man.

Two tax-code quirks -- one that charges U.S. companies when they repatriate overseas earnings, the other that allows them to claim a foreign domicile without moving their senior leadership abroad -- are motivating U.S. companies to buy overseas counterparts in part to lower their bills.

Takeovers by U.S. companies of targets in low-tax environments -- those with a corporate tax rate of below 20 percent -- have doubled in proportion to all overseas deals, according to data compiled by Goldman Sachs Group Inc. analysts. The desire for such an arrangement, known as a tax inversion, is a factor in Medtronic Inc. (MDT)’s $42.9 billion purchase of Covidien Plc (COV) and Pfizer Inc. (PFE)’s more than $100 billion effort to buy AstraZeneca Plc. (AZN)

“If you have a lot of cash trapped offshore, then the potential tax savings are likely to be larger,” said Marc Zenner, co-head of JPMorgan Chase & Co.’s corporate finance advisory group. “With bigger tax savings, you can offer a bigger premium and it’s harder for a target company to say no to an offer.”

$2 Trillion

U.S. companies have almost $2 trillion in profits stockpiled offshore, according to a review of securities filings from 307 corporations reviewed by Bloomberg News.

Medtronic, with nearly $14 billion offshore, agreed to pay about $42.9 billion for Covidien -- itself a tax inversion with an Irish domicile since 2009, while its senior leadership resides in Mansfield,Massachusetts. Ireland taxes corporate profits at less than half the U.S. rate.

Since 2010, U.S. purchases into the low-tax environments accounted for 15 percent of all overseas transactions with a value of $250 million or more, Goldman Sachs’s data show, up from an average of 7 percent in the previous 15 years.

Related: Medtronic Is Biggest Yet to Renounce U.S. Tax Citizenship

Pfizer tried to acquire AstraZeneca in part to change its tax jurisdiction to the U.K., a move that might have cut its tax bills by as much as $1 billion a year. Actavis Plc’s $20.8 billion purchase of Forest Laboratories Inc. -- expected to close this month -- gives the company an Irish tax domicile.

Strategic Sense

While the inversion deals are likely to continue, tax savings wouldn’t be the sole factor driving a buyer, said Ferdinand Mason, a partner at the law firm Jones Day in London.


“It needs to make absolute strategic sense and create value for shareholders in the long term,” he said in a phone interview. “That should still be the number one priority and reason to pursue acquisitions. As the world is becoming more stable and intense cost-cutting strategies come to an end, U.S. companies want to use their big piles of cash sitting abroad to make acquisitions.”

Cross-border deals by U.S. companies reached $117 billion this year so far, data compiled by Bloomberg show -- out of a total of $724 billion in deals struck by companies overall. This total doesn’t include Medtronic’s purchase of Covidien, which is largely based in the U.S., Pfizer’s so-far unwelcome bid for AstraZeneca, or the $54.2 billion offer for Allergan Inc. by rival Valeant Pharmaceuticals International Inc.

While Valeant’s operations are run from Bridgewater, New Jersey -- with its key executives based in the U.S. -- the company’s tax domicile is in Laval, Canada. The effect of its purchase of Allergan would be the same as an inversion deal. Allergan would become part of a company with a corporate domicile in Canada and its overseas profits out of the reach of the U.S. Internal Revenue Service.

“While there are now many negotiations taking place which involve some sort of tax inversion component, there are also lots of hidden jewels yet to be found out there,” said Mason.

EBay Repatriation

Not everyone is trying to change tax jurisdictions. General Electric Co. is seeking to acquire Alstom SA’s energy business for $17 billion -- in a deal that would tap only a fraction of the company’s $57 billion in overseas cash.

And not everyone is eager to dodge the IRS. EBay Inc. (EBAY) said in April it would take a $3 billion charge to potentially return $9 billion in profits to the U.S. -- money that will help it purchase fast-growing startups.

The companies looking to avoid U.S. taxes are drawing attention from lawmakers. President Barack Obama has already made a proposal that would make inversion deals tougher. Currently a U.S. company must buy a foreign company whose market value is at least 20 percent of the combined company. Obama’s proposal would raise that bar to 50 percent.

‘Critical Mass’

Senator Carl Levin, a Michigan Democrat, has proposed legislation that could curtail such tax deals. Ron Wyden, the Oregon Democrat who chairs the Senate Finance Committee, said the tax-inversion game won’t ultimately work.

“It’s clear that America must establish a more efficient and competitive corporate tax rate,” Wyden, who supports retroactive limits as part of a broader revamp of the tax code, said in a statement. “However, any company who is paying U.S. taxes today should expect to pay U.S. taxes for years to come regardless of how they try to game the system.”

Government limits on inversions are a “long shot” in a divided Congress, said Greg Valliere, chief political strategist for Potomac Research Group in Washington. Even a wave of deals following Medtronic’s might not be enough to get the law changed.

“I don’t think this issue has attained critical mass for the tax writers,” Valliere said in an e-mail. “And lest we forget, the House Republicans aren’t inclined to compromise with Democrats on anything, especially not on a measure that would be complicated and time-consuming.”


Article Credit: Bloomberg

Updated 5 Years ago

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