Tuesday, August 19, 2014
That question is still a bit of a mystery. Still no real answer, but like the SAT test we can start to eliminate the obviously wrong answers. From a paper by Ed Kleinbard, Competitiveness Has Nothing to Do With It (h/t Dealbook), we can eliminate the competitiveness canard. Here's the abstract:
Abstract: The recent wave of corporate tax inversions has triggered interest in what motivates these tax-driven transactions now. Corporate executives have argued that inversions are explained by an "anti-competitive" U.S. tax environment, as evidenced by the federal corporate tax statutory rate, which is high by international standards, and by its "worldwide" tax base. This paper explains why this competitiveness narrative is largely fact-free, in part by using one recent articulation of that narrative (by Emerson Electric Co.’s former vice-chairman) as a case study.
The recent surge in interest in inversion transactions is explained primarily by U.S. based multinational firms’ increasingly desperate efforts to find a use for their stockpiles of offshore cash (now totaling around $1 trillion), and by a desire to "strip" income from the U.S. domestic tax base through intragroup interest payments to a new parent company located in a lower-taxed foreign jurisdiction. These motives play out against a backdrop of corporate existential despair over the political prospects for tax reform, or for a second "repatriation tax holiday" of the sort offered by Congress in 2004.
There are a couple of points worth noting. First, Kleinbard makes the point that is obvious to most tax lawyers - there's a difference between the corporate tax rate of 35% and the effective corporate tax rate. The former is like paying the rack rate for a room at the Four Seasons. The second is like getting that same room on Priceline. Kleinbard relies on SEC filings to estimate the effective tax rate for Mylan:
In 2013, Mylan derived about 57 percent of its worldwide revenues (essentially, gross receipts) from the United States, yet, as just noted, told investors that its worldwide effective tax rate was 16.2 percent. Assume, just by way of illustration, that Mylan’s taxable profits followed its revenues as allocated for financial accounting (and presumptively, management) purposes – admittedly, a heroic assumption, thanks to stateless income planning internationally, and tax expenditures domestically – and that Mylan, through adroit domestic tax planning, incurred a 25 percent effective tax rate in respect of its U.S. income (federal and state taxes combined). This would imply that Mylan’s tax expense in respect of its foreign profits was roughly 4.5 percent.
AbbVie is another recent inverter. What was their effective rate before going offshore? Kleinbard estimate for us:
AbbVie ... reported in its 2013 annual report’s tax footnote an 11.5 percent reduction for 2013 in its global statutory tax rate for “the effect of foreign operations.” (The effect of foreign operations was a much greater number in 2011 and 2012.) Again, this means that AbbVie is telling investors and its own managers that it does not operate in a 35 percent tax rate environment at all; to the contrary, AbbVie’s effective global tax rate for 2013 (again, including U.S. taxes on its U.S. domestic income, where permanently reinvested earnings are irrelevant), after some smaller permanent differences in both directions, was 22.6 percent. This is a “permanent” tax discount of about one-third off the headline federal rate, insofar as AbbVie’s investors and management are concerned.
Kleinbard also takes on the idea that inversions are being caused by "trapped cash" off shore. That's the argument that directors are unwilling to bring foreign profits back to the US because they are unwilling to pay US taxes to make that happen. Some directors say their fiduciary duties prevent them from bringing that cash back. I disagree. In any event, he discounts that the "trapped cash" argument as real.
Finally, he takes on the competitiveness fable. He calls the competitiveness claim a claim without fact. It's worth reading.
In the meantime, I'm still looking for an answer.
Friday, August 15, 2014
For those of you not from the Boston area, the whole Market Basket saga has not been a part of your summer. Around here, it's been a huge story. The ten cent version: Market Basket is a regional grocery chain that happens to be family owned. Here's the problem, the family is divided by bad blood over control of the business. Until recently, the business was run by Arthur T. Demoulas. He was popular with employees and by all account did well by them. That was until he was ousted by his cousin, Arthus S. Arthur S. and his group trimmed costs and seemed to be preparing the company for a sale. There's been a public fight over control since then. Managers have walked out, store shelves have been left bare. Today, employees are facing a return to work or be fired ultimatum.
To get a sense of the dysfunction at the company, the Boston Globe just published minutes of some board meetings. How dysfunctional is the board at this point? Well...their minutes take the form of a transcript taken by a professional stenographer. Sheesh. It's pretty clear that when you roll in the stenographer, no one trusts anyone in the room. But it's thanks to the stenographer, that we can enjoy the board room repartee that goes on at Market Basket:
In October 2011, [Nabil] El-Hage asked Arthur T. whether he thought he had unlimited spending authority as chief executive.
“I do not know of any restriction that’s out there, and I do not care to have any restriction, quite frankly,” Arthur T. said.
“You’re not Catholic, are you, Arthur?” El-Hage said. “That’s a serious question. You’re Greek, so you practice Greek Orthodox.”
“Right,” Arthur T. replied.
El-Hage zeroed in on his point: “That explains it, because in my religion we believe only the pope is infallible.”
Yikes. This is the board room culture at Market Basket. It's a pretty good bet that this company will be sold at some point in the near future. When it is, it's going to take a lot of TLC to put it back together again.
Thursday, August 7, 2014
Vic Fleischer's got his take on how to deal with inversions up at the Times site. He calls it, aptly, a dispute between law and politics. That's about right. There's also a link to a video of Obama on the inversion issue.
It's starting to feel like there may be some movement to close the escape hatch without Congress getting involved. In that case, Richard Beales has a reminder for why those left behind shouldn't worry so much. You get a lot for being a US corporation.
Wednesday, August 6, 2014
Walgreens had been working on and considering an inversion for some time, but today it dropped plans to relocate to the UK and announced that it would purchase all of the shares of Alliance Boots (UK) that it did not already own. Does Walgreens' decision to step away from the inversion edge mark the crest of the inversion wave we've been experiencing this summer? Well, yes and no.
Let's start with the no. So long as differential tax rates create opportunities for firms to arbitrage tax rates, there will always be an incentive for firms to pursue inversions. For that reason, any response to the inversion wave that is primarily focused on lowering effective corporate tax rates is a long-term loser. Why? Because until you get to zero, there will always be a jurisdiction with a lower rate. There is will always be an economic incentive to pursue tax arbitrage. My take? Any effort to compete on lower tax rates is a fool's errands. US rates are relatively higher than other jurisdictions, but the effective corporate rate in the US - let's be honest - isn't all that high. So, the incentive to do these deals is likely here to stay.
How about the yes? Well, it's one thing if Mylan does an inversion, most people don't know what that company is. When politicians rail against Mylan for fleeing the US, it doesn't really resonate. But, Walgreens is a different story. There is a Walgreens in almost every town in Massachusetts and they are front and center in many people's lives around the country. My guess is that if Walgreens were to relocate outside the US, the political salience of the inversion question would be sky-high. Perhaps the board saw that coming and decided discretion was the better part of valor.
Friday, August 1, 2014
The WSJ points out the untidy fact that although corporate inversions may have the effect of permitting firms to elect to move to lower tax jurisdictions, they do so through taxable transactions for stockholders of the US firm seeking to expatriate. Remember, the US firm in these deals is theoretically the seller. And, because the consideration used in these transactions is stock rather than cash, stockholders will have to come up with cash to pay the tax necessary to do the deal. Ugh.
Over the past couple of days, I've heard a couple of narratives about why inversions are now all the rage. In honesty, the one that rings most true is the one about the bankers pitching the next big thing...
Thursday, July 31, 2014
According to a report in the WSJ, yes it's true that M&A activity is up these days, but. But, it looks like 60% of the LBOs are private equity firms buying and selling portfolio firms to each other. That's good for law firms and that's good for PE firms looking to liquidate older funds and get cash back to investors who can invest it in newer funds who are buying the firms from the older funds... But, that's about it...
Tuesday, July 29, 2014
I've been wondering about what is that has given impetus to the recent rush to expatriate firms from the US. I've heard lots of explanations, but nothing that is a really convincing story.
One story I've heard is that inversions are happening because the US corporate tax rate is high relative to other countries and that in order to compete against foreign companies, US companies either have to move or we in the US have to lower the corporate tax rate to meet other countries' -- presumably the lowest out there -- tax rates. I find that unconvincing. The taxes we're talking about here are corporate profits taxes. Taxes on corporate profits don't increase costs. That's to say, when we are talking about competition in the product market, corporate profits taxes are not relevant. Where corporate profits taxes are relevant in the capital market. But nowhere in any rationalization of inversion have I heard that firms in the US are unable to raise capital because non-US firms have cheaper access to capital. In fact, the NYSE hit an all-time high recently. So, if the result of relatively high corporate profits taxes is an anemic capital market, I'm not sure I see the evidence of that.
Another story to explain why this summer is seeing a rash of inversions is that the door on inversions is closing and Congress is going to close the inversion loophole. If you don't go now, you'll never go. Seriously? One of the reasons why I switched to sports radio is because our political system is stuck that nothing happens. I seriously doubt Congress could organize itself to tie its own shoes, let alone close the door on inversions.
A third explanation that I've heard is that the inversion is the only way for US firms to access all that tax free capital they have stored overseas. To that I'll simply say this: there is no fiduciary duty to avoid paying taxes. There simply isn't. Now, boards may not like paying taxes...who does? But, I've heard more directors than I care to admit saying things like they have fiduciary duties to their shareholders to do inversions because their fiduciary duties somehow preclude them from repatriating profits sitting in Ireland. Hmm. These board members need better lawyers. A director is not required by his fiduciary duties to pursue the most tax efficient strategies out there.
Anyway, I am quite positive there is a narrative out there that explains the summer of the inversion, I just haven't stumbled across one yet.
Tuesday, July 22, 2014
I'm not an earnout fan. They're usually more trouble than they are worth. Nevertheless ... Albert Choi has posted a new paper, Facilitating Mergers and Acquisitions with Earnouts and Purchase Price Adjustments. His studies suggests that earnouts are a good response to information problems that naturally appear in acquisition transactions. They permit parties to signal quality and thus avoid the lemons problem. I don't disagree with any of that. Here's the abstract:
This paper examines how post-closing contingent payment (PCP) mechanisms (such as earnouts and purchase price adjustments) can facilitate mergers and acquisitions transactions. By relying on verifiable information that is obtained after closing, PCPs can mitigate the problems of asymmetric information over valuation and, in contrast to the conventional understanding, this benefit applies to both earnouts and purchase price adjustments. When both the acquirer and the target are aware that there is a positive (but uncertain) surplus from the transaction, PCPs function more as an imperfect verification, rather than a signaling, mechanism and a pooling equilibrium is possible, in which all parties adopt a PCP. When the parties are uncertain as to whether a positive surplus exists, on the other hand, PCPs function as a separating device, in which the seller with a positive surplus successfully signals its valuation with a PCP. The paper also addresses the problems of post-closing incentives to maximize (or minimize) the PCP payments. When such a moral hazard is a concern, the paper shows that (1) the PCPs will be structured so as to minimize the deadweight loss and a separating equilibrium is more likely to result; and (2) when the deadweight loss is sufficiently large, the parties will forego using a PCP mechanism altogether.
Wednesday, July 16, 2014
For those of you trying to catch up on the inversion wave that has swamped the deal world this summer, here's a neat video summary of what they are all about. For those of you who don't have access to video in your cubicles, here's Liz Hoffman's short rundown on inversion deals.
Tuesday, July 15, 2014
Kraft's 2012 acquisition of Cadbury is still haunting the UK. At the time Kraft promised to maintain Cadbury's Somerdale plant in the UK as part of the deal. After the deal closed, however, Kraft had an epiphany and closed the Somerdale facility. That left many in the UK with sour feelings - not only for the US candymaker. but for foreign acquirers generally.
The recent inversion trend, with UK companies as obvious targets, ahem...sorry...acquirers, has some UK regulators nervous. They are now looking to tighten up pre-transaction promises and removing the "wiggleroom" according to teh UK's Business Secretary:
“We need a last-resort power, such that if there is something very clearly against the national interest – and the loss of our research and development in pharmaceuticals is a very good example – the government can in those circumstances intervene.”
So, it seems that not only might the recent inversion trend cause some regulatory response in the US, but it might trigger another round of it in the UK as well.
Monday, July 14, 2014
Life tip. You should never ever write anything remotely resembling the following in an email:
Well boys....went to the Sox game with a friend of mine tonight. He seems to think that AMSC has a $100 million deal with China that should be signed very shortly. It could be done in the next few days … if it is not done/announced by Thursday, it will not be announced until the week of the 12th because all of China shuts down on vacation for 10 days – starting Friday. This announcement should spike them close to 10%. Furthermore, circle October 29th for the next big day…it could/should be as good as the last one, provided the market cooperates that day.
I like Pinot Noir and love steak….looking forward to getting paid
Good Luck …. SHHHHHHHHHHHHH!!!!!!!!!!!!!!!!!!
And, after that stock tip starts to pay off, definitely don't write this in an email to your co-conspirators:
Nice profitable day for the boys. So when should I report in on which restaurant and massage parlor I want to be treated to?
Massage parlors for men is not a good look. But, do you know what is really not a good look? This:
McPhail: OK ….. I will keep this info to myself from now on.
Drohen : I’m still listening, tell dougy [Parigian] to stop whining . . . .
McPhail: I can only get the inside info … can’t control if it goes up or down (emphasis added)
Wait. It's 2014, right? People know that email and texts are forever, right? Just because you delete it on your phone doesn't mean it's gone. You know that right? I mean, what do you think they're doing in Utah?!
Anyway, the SEC filed suit against a group of Massachusetts golfing buddies for insider trading. You know the rest.
Friday, July 11, 2014
You know the drill. A merger is announced and immediately a number of lawsuits are filed. Of course, they allege Revlon duties, yada yada… But what does it take for one of these typical Revlon claims to survive a motion to dismiss? A lot. In Dent v Ramtron, Vice Chancellor Parsons reminds us just how hard it is to make a case that a board has run afoul of enhanced review under Revlon where a board has the protection of a 102(b)(7) exculpatory provision:
In that regard, if the corporation’s certificate contains an exculpatory provision pursuant to 8 Del. C §102(b)(7) barring claims for monetary liability against directors for breaches of the duty of care, the complaint must state a nonexculpated claim, i.e., a claim predicated on a breach of the directors‟ duty of loyalty or bad faith conduct.
A factual showing that, for example, a majority of the board of directors was not both disinterested and independent would provide sufficient support for a claim for breach of loyalty to survive a motion to dismiss. “A director is considered interested where he or she will receive a personal financial benefit from a transaction that is not equally shared by the stockholders.” “Independence means that a director’s decision is based on the corporate merits of the subject before the board rather than extraneous considerations or influences,” such as where one director effectively controls another. Moreover, as to any individual director, the disqualifying self-interest or lack of independence must be material, i.e., “reasonably likely to affect the decision-making process of a reasonable person . . . .”
Well-pled allegations that the board did not act in good faith also would state a claim for breach of the duty of loyalty sufficient to survive a motion to dismiss. In general, “bad faith will be found if a ‘fiduciary intentionally fails to act in the face of a known duty to act, demonstrating a conscious disregard for his duties.’” Alternatively, notwithstanding approval by a majority of disinterested and independent directors, a claim for breach of duty may exist “where the decision under attack is so far beyond the bounds of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith.”
So, unless the suit you are filing immediately upon announcement of a deal can allege that directors didn’t act in good faith or a majority of directors were interested and that the disqualifying interest was material, then, well your claim isn’t going very far and it's going to get the business judgment presumption. Revlon is a high bar for plaintiffs.
Thursday, July 10, 2014
Ron Barusch at the WSJ points out some lessons for deploying poison pills following American Apparel's failure to use a pill to keep former CEO/Chairman Dov Charney at bay.
I won't go into the details, but let's just say the board probably felt they had good reason to let him go when they did last month. The result of the ouster has been a struggle for control of the company with Charney (founder and large bloc stockholder) seeking to fight his way back onto the board and the board resisting. Not long after being removed from the board, Standard General and Charney entered into a partnership whereby SG lent money to Charney to purchase shares of American Apparel stock from SG. Collateral for that purchase was Charney's existing bloc of APP stock. The long and short of it - SG was able to move into position where it had the ability to control 43% of APP stock.
After announcement of the partnership, APP adopted a pill. As Ron notes, that was just too late. SG and Charney were already in a position and even if they didn't acquire any more shares, they couldn't be touched.
Yesterday, the board of APP gave in and signed a support agreement with SG. That agreement provides that board will be reconstituted with five of the current seven members, including Charney, stepping down. The new board members will be chosen jointly by SG and the current board. Charney stays on as a consultant at his present salary with a determination as to what to do with him to be resolved after an ongoing internal investigation. And then finally a standstill agreement that will prevent SG and Charney from acquiring additional shares.
So, following the turmoil, Charney is still out (for the timebeing), the current board has been mostly dislodged and SG is suddenly in the cat-bird's seat.
This past year has been quite a year for activist investors. It looks like they are writing new playbooks, taking advantage of opportunities as they pop up. Maybe it's time to reconsider whether simply having a pill on the shelf ready to go is sufficient. Perhaps, boards should be considering adopting pills pre-emptively and taking their ISS lumps.
Wednesday, July 9, 2014
Monday, July 7, 2014
Once more into the breach on this topic - the impact of private equity on jobs at target firms. Economists Stephen Davis, Josh Lerner and others have released a paper, Private Equity, Jobs, and Productivity. Here's the abstract:
Private equity critics claim that leveraged buyouts bring huge job losses and few gains in operating performance. To evaluate these claims, we construct and analyze a new dataset that covers U.S. buyouts from 1980 to 2005. We track 3,200 target firms and their 150,000 establishments before and after acquisition, comparing to controls defined by industry, size, age, and prior growth. Buyouts lead to modest net job losses but large increases in gross job creation and destruction. Buyouts also bring TFP gains at target firms, mainly through accelerated exit of less productive establishments and greater entry of highly productive ones.
Talk about burying the lede... OK, from the paper, some of their conclusions:
Our establishment-level analysis yields three main findings: First, employment shrinks more rapidly, on average, at target establishments than at controls after private equity buyouts. The average cumulative difference in favor of controls is about 3% of initial employment over two years and 6 percent over five years. Second, the larger post-buyout employment losses at target establishments entirely reflect higher rates of job destruction at shrinking and exiting establishments. In fact, targets exhibit greater post-buyout creation of new jobs at expanding establishments. Adding controls for pre-buyout growth history shrinks the estimated employment responses to private equity buyouts but does not change the overall pattern. Third, earnings per worker at continuing target establishments fall by an average of 2.4 percent relative to controls over two years post buyout.
But it's not all bad news. If one looks at firm-level job creation vs. establishment-level job creation, the authors find net positive growth as target firms tend to add net jobs at greenfield establishments. Give it a read. It's an AER paper, so it's short.
Friday, July 4, 2014
Thursday, July 3, 2014
Lots of ink has already been spilt on the Hobby Lobby opinion. I won't add to any of the discussion on contraception or even much about the RFRA claim. I do want to say something about the Supreme Court's conception of the corporation, though. That's where I think this case and the cases below all went off the rails. Justice Alito describes the corporate form thusly:
A corporation is simply a form of organization used by human beings to achieve desired ends. An established body of law specifies the rights and obligations of the people (including shareholders, officers, and employees) who are associated with a corporation in one way or another. When rights, whether constitutional or statutory, are extended to corporations, the purpose is to protect the rights of these people. For example, extending Fourth Amendment protection to corporations protects the privacy interests of employees and others associated with the company. When rights, whether constitutional or statutory, are extended to corporations, the purpose is to protect the rights of these people...Corporations, “separate and apart from” the human beings who own, run, and are employed by them, cannot do anything at all.
This characterization is reminiscent of the Court's characterization of the corporate form in the Citizens United opinion. There, the court repeatedly describes the corporate form as an "association of citizens" or an "association of individuals".
The Supreme Court's understanding of the corporate form from both Citizens United and Hobby Lobby is ... well ... novel. I doubt there are many state courts in America that would immediately look through the corporate form to the personal interests of the officers or the employees and say that's what a corporation is all about. In fact, if a court did, I wonder what would be left of the concept of limited liability and the strong public policy of corporate separateness - even where there might be only one shareholder.
Still thinking about the implications of this. But, I'm glad that state courts won't be looking to the US Supreme Court for guidance on the corporate law anytime soon.
Oh, and given the US Supreme Court's characterization above, there is no reason why corporations should not have the full array of constitutional protections afforded natural persons. For example, corporations presently don't enjoy 5th Amendment protections, but given Alito's characterization above, there is no reason to believe they shouldn't have those rights and others.
So, now that the Chamber of Commerce has put the kibbosh on the quick fix to prohibit fee shifting bylaws following ATP, no surprise...the first of what might well be many fee shifting bylaws adopted by public companies have already been adopted. This one by Echo Therapeutics. Here is their new "Litigation Costs" bylaw:
Litigation Costs. To the fullest extent permitted by law, in the event that (i) any current or prior stockholder or anyone on their behalf (“Claiming Party”) initiates or asserts any claim or counterclaim (“Claim”) or joins, offers substantial assistance to, or has a direct financial interest in any Claim against the Corporation and/or any Director, Officer, Employee or Affiliate, and (ii) the Claiming Party (or the third party that received substantial assistance from the Claiming Party or in whose Claim the Claiming Party had a direct financial interest) does not obtain a judgment on the merits that substantially achieves, in substance and amount, the full remedy sought, then each Claiming Party shall be obligated jointly and severally to reimburse the Corporation and any such Director, Officer, Employee or Affiliate, the greatest amount permitted by law of all fees, costs and expenses of every kind and description (including but not limited to, all reasonable attorney's fees and other litigation expenses) (collectively, “Litigation Costs”) that the parties may incur in connection with such Claim.
Given that the Delaware Supreme Court has already passed on the validity of these bylaws, unless the legislature decides to prohibit them, I suspect more and more of them will get rolled out this summer.
Wednesday, July 2, 2014
OK, I'll just say it. I think David Yermack is the most talented selector of paper topics out there. His series of tailspotter papers was great. Now, he follows up with Evasive Shareholder Meetings. If you have to hold your shareholder meeting at the bottom of a well, then don't expect that the company has positive news to share. Good stuff. Here's the abstract:
abstract: We study the location and timing of annual shareholder meetings. When companies move their annual meetings a great distance from headquarters, they tend to announce disappointing earnings results and experience pronounced stock market underperformance in the months after the meeting. Companies appear to schedule meetings in remote locations when the managers have private, adverse information about future performance and wish to discourage scrutiny by shareholders, activists, and the media. However, shareholders do not appear to decode this signal, since the disclosure of meeting locations leads to little immediate stock price reaction. We find that voter participation drops when meetings are held at unusual hours, even though most voting is done electronically during a period of weeks before the meeting convenes.