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A 5 Question Quiz for Any Board Considering a Tax Inversion Deal

You may have thought this trend was behind us, but “tax inversion” acquisitions are still going on across America’s borders, despite U.S.-government efforts to curb them. As a result, many boards are still faced with the difficult choice between shareholder value and patriotism.

Almost a year ago, the Obama administration moved to protect the U.S corporate tax base from so-called inversion deals in which boards would approve acquisitions of foreign firms so that, by moving their domicile abroad, they could significantly lower the company’s tax rate. The Treasury Department moved to protect billions of dollars in future taxes by revising certain sections of the U.S. tax code to make inversions harder to achieve.

But while the new rules stopped some deals and influenced others—such as Walgreen, which decided to acquire the UK’s Alliance Boots chain but retain its headquarters in Chicago—the “tax inversion wave keeps rolling,” as The Wall Street Journal recently reported.

“Many boards of smaller companies—whose moves wouldn’t be so noticeable or politically charged—are still considering inversion deals.”

For one thing, the Treasury rules mainly thwarted inversion deals that were designed to access cash trapped abroad and that companies wanted to tap into without paying U.S. taxes. But other inversion maneuvers are still allowed, such as one known as “earnings stripping” in which companies can effectively shift earnings to lower-tax countries, Bloomberg reported.

Plus, while high-profile inversion deals involving marquee companies have faded, many boards of smaller companies—whose moves wouldn’t be so noticeable or politically charged—are still considering inversion deals.

But there’s another twist: Many U.S.-origin companies that previously used the tax-inversion ploy to re-domicile abroad are coming back into the country to buy American companies, “turbocharged” by their new lower tax rates, according to the Journal. In fact, since the Treasury Department rules went into effect last fall, 55 U.S. companies have been sold to or targeted by foreign buyers.

“Companies that do deals primarily driven by tax considerations are headed for trouble,” Bill George, a professor of management practice at Harvard Business School, warned directors a year ago, before the Treasury action. “The only justification for a merger or acquisition is to strengthen your company’s strategic position.”

Back then, he offered 5 questions boards should apply to any potential tax-inversion-based deal today, and they serve as an excellent refresher for anyone who is currently considering such a deal.

  1. Does the acquisition further your company’s mission? “Your mission should provide purpose beyond financial returns that creates value for customers, employees, shareholders and other stakeholders,” George argued. “Most importantly, it should motivate employees to create innovations and deliver great service far more than financial incentives.”
  1. Does it advance your global strategy? “If companies want to expand into higher growth markets, acquisitions can accelerate their growth,” George said. “If its strategy is emerging market growth, acquisitions can provide greater presence. Sound acquisitions can also strengthen new-product pipelines.”
  1. Does it motivate your employees and the acquired company’s? Sustained value creation only occurs through dedicated employees working together to advance the company’s mission, the professor said. “The key is to engage employees of the newly acquired company to commit to their new owner.”
  1. Will the acquisition lead to sustainable earnings growth? It should be accretive to earnings within two years, including realistic cost-saving synergies, without cutting back investments in future growth, George said.
  1. Can the acquisition be funded without putting your balance sheet at risk? “Successful acquisitions must generate future cash flow to repay the investment. These days, borrowing money is cheap due to low interest rates, but companies shouldn’t get over-leveraged in case of economic downturns, as they did in 2008-09.”

All of that—plus the basic patriotism-versus-opportunism argument—is a lot for boards to consider in potential tax-inversion deals. They’re one of the most high-profile things a board can do these days, so it’s important to get such decisions right.



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