No sooner has Pfizer given up the pursuit – for now at least – of AstraZeneca (LSE: AZN) (NYSE: AZN.US) then another US predator has seemingly come calling for another FTSE giant, with a mystery bidder apparently tilting for InterContinental Hotels (LSE: IHG) (NYSE: IHG.US).
According to Sky News, InterContinental rebuffed the approach and it has increased the pace of its share repurchasing, suggesting any discussions are no longer active. Yet while the name of the bidder and even the existence of the approach are unconfirmed, the market seems to be taking the development seriously — IHG shares were marked sharply higher when they reopened for trading after the news broke.
One reason investors may give extra credibility to such rumours is that there seems to be a clear appetite and rationale for US companies to acquire UK based companies – that being domiciled in the UK can radically slash their tax bills.
The taxing bit
The ruse is called ‘tax inversion’, and while it was denied by Pfizer as the main reason for its interest in AstraZeneca, the merger maths certainly makes more sense in the light of it.
UK corporation tax is 21%. In the US it is far higher at 35%, although there are plenty of permitted deductions that can reduce that headline rate.
Pfizer, for example, paid an effective rate of 27.4% last year, compared to AstraZeneca’s 21.3%, according to company filings. Analysts at Barclays estimate every percentage point taken off Pfizer’s tax rate could add $200 million to its bottom line.
The way tax inversion works is pretty simple – a company simply moves its official headquarters to the new territory after making its acquisition. Under current US tax law, provided the foreign company’s share capital comprises at least 20% of its listed shares, it can avoid the US’s 35% rate and instead fall under the foreign jurisdiction’s tax code – the UK’s in the case of the almost-merged Pfizer and AstraZeneca.
Shareholders benefit because the more earnings that escape the clutches of the tax man, the more cash the company has to reinvest in its business, reduce debt, or return to its shareholders.
Good for nearly everyone
Tax inversion is nothing new – companies have been shifting to Ireland’s low-rate tax regime for years – but US multinationals are especially keen these days because many have built up large gluts of cash offshore.
Whereas repatriating the money would incur a big tax bill for a firm, deploying it in a foreign acquisition can both grow revenues and potentially cut tax liabilities. Some reports speak of dozens of US companies poised to bid for UK companies for tax reasons, although few names have been cited.
One that has at least considered the move is US firm Walgreens, a part-owner of Alliance Boots, parent of the ubiquitous UK chemist. In April, Walgreens shareholders representing more than 5% of its shares met with management to lobby for the company to relocate its tax base.
Walgreens already owns 45% of Alliance Boots, and so you might ask why it hasn’t already done the deed and slashed its tax bill? The answer may be political, not financial.
Tackling tax inversion
There is growing political disquiet in America about these inversion manoeuvres, which after all reduce the revenues collected by the US government.
Recently a group of 14 US Senators introduced a bill – The Stop Corporate Inversions Act of 2014 – that would aim to put a two-year pause on tax inversions by increasing the threshold at which they can take place from 20% in an overseas firm to 50%.
The senators claim this would give legislators time to conduct an overhaul of the US tax code, which in turn would make it less attractive to shift a tax domicile overseas.
Whether such political opprobrium will cause US companies to reconsider acquiring British firms — or ironically encourage them to speed up their bids before they’re effectively outlawed — remains to be seen.
Owain owns shares in AstraZeneca.