News Column

Star Tribune (Minneapolis) Lee Schafer column

June 14, 2014

By Lee Schafer, Star Tribune (Minneapolis)

June 14--It's disheartening to see companies that grew up here reach middle age and decide to renounce their U.S. citizenship to save on their tax bills.

The corporate address for Pentair, founded here in the 1960s, is listed on its website as Freier Platz 10, which is not a street in Golden Valley you haven't heard of. It's in Switzerland, although the shareholders have just approved a move to Ireland.

According to Pentair, having its legal home in Europe doesn't make the company an example of a "corporate inversion," which has come to mean a U.S. company relocating its formal headquarters abroad to get a much lower tax rate.

In an e-mail exchange, a spokeswoman for Pentair at its Golden Valley operating headquarters pointed out that the merger with the Tyco Flow Control business that created Pentair Ltd., a Swiss company, was a "Reverse Morris Trust" deal. No way was it a tax inversion.

And that's certainly accurate, although it took several mouse clicks to find an easily digested description of "Reverse Morris Trust."

Turns out it's a multi-step spinoff into a merger deal that has a target company's shareholders (in this case, the old Pentair's) end up owning less than half of the new company -- thus saving on taxes.

Welcome to the arcane world of international tax law, where an hour spent studying tax avoidance structures like the "double Irish Dutch sandwich" leads primarily to the conclusion that a lot of really smart people seem to be working really hard to help corporations pay less in income taxes.

This also is not a topic that people in the Twin Cities corporate community seem eager to discuss on the record. A tax inversion deal just sounds like tax avoidance, not good management.

Prime candidates for doing them are companies with good-sized operations outside the U.S. already, which thus have some cash that's been earned offshore and not yet taxed by the United States.

Is Medtronic going?

These are companies like Fridley-based Medtronic, one of the handful of genuinely iconic Minnesota companies.

So could a medical-device pioneer that started in 1949 in a northeast Minneapolis garage really be headed to London?

Its thinking had leaked to the financial press, so Medtronic just began its big analyst day presentation in New York by telling its investors that it would not be taking any questions about its reported interest in buying the British-based Smith & Nephew PLC.

Last week Medtronic declined to talk about the prospect of a deal, saying it does not discuss rumors. While there is a strategic rationale for Medtronic to buy Smith & Nephew, primarily known for orthopedic products, the merger thesis also holds this: a 21 percent tax rate in the U.K. vs. 35 percent here.

Medtronic, by the way, doesn't now come close to paying the top U.S. rate, primarily because it is not bringing home the profits earned abroad. As of the end of its April 2013 fiscal year, the last disclosure available, the company hadn't recognized U.S. tax expense for $20.5 billion of undistributed earnings from its non-U.S. subsidiaries.

"Strategically, we do have this current problem that we have a lot of cash outside the U.S.," CEO Omar Ishrak said in a May interview, confirming that Medtronic would consider a tax-inversion transaction.

Buying a company like Smith & Nephew is now how it's done. Before the rules tightened, it was even easier for U.S. companies to get to a lower-tax jurisdiction, as when Ingersoll Rand went to Bermuda about a dozen years ago before eventually settling in Ireland, a long way from its North Carolina "corporate center."

Merging your way to a lower tax rate is now so well understood that the U.S. drug company Pfizer didn't see any point to disguising the tax-saving rationale for pursuing a merger with AstraZeneca, based in the United Kingdom.

"It's not a pipeline story per se," Pfizer CEO Ian Read told shareholders in May, lest any shareholder actually think his now-dead proposal reflected the old-fashioned strategic idea of buying a company for the potentially great products in its development pipeline.

Certainly, he said, there are profitability gains to be made by eliminating duplicate functions in the merger and drugs in development, but what's "really important for Pfizer is this ability to free the balance sheet up and get our tax rate down, which would enable a lot of different strategies."

By freeing up the balance sheet, he means freeing the billions of dollars of Pfizer cash now "stuck" offshore.

A Credit Suisse research team said the value to Pfizer of getting to the U.K. "appears to be in the order of $1.5 billion to $2 billion per year."

Professional investors are, of course, all for any strategy that saves that kind of money. Some have been increasingly vocal in urging American companies to hurry up and get relocated before the U.S. changes its rules again.

Walgreen's dilemma

One company they are leaning on is Walgreen Co., which has a 45 percent interest in Alliance Boots, a Swiss-based retailer. Walgreen also has an option to acquire the rest of the company next year.

Walgreen's management clearly has no enthusiasm for moving its headquarters to Switzerland, and it's not hard to see why. Activist groups have already protested in front of its downtown Chicago flagship store, with one calling the potential move "deeply unfair and unpatriotic."

Talk about no-win: Walgreen can choose between a backlash from its customers, potential appearances before hostile congressional committees and denunciations from newspaper editors on one hand, or pleasing investors by saving a lot of money on taxes on the other.

The best outcome would be a systematic reform of the U.S. tax code to narrow the advantage to be gained by moving to a foreign tax jurisdiction.

Considering how dysfunctional Washington is, Walgreen can't be counting on that before it has to decide.

And longtime Medtronic shareholders might start thinking ahead to a little European vacation that takes in the annual shareholders meeting.

lee.schafer@startribune.com 612-673-4302

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(c)2014 the Star Tribune (Minneapolis)

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