Inversion Reversed - Pfizer Divorces Allergan for a $400 Mn Alimony
Industry Insight Apr 06, 2016
Inversion is akin to a marriage of convenience- marrying a foreign citizen in order to acquire a citizenship in a country of interest. In an inversion scenario, a U.S. company redomicles, typically through a merger with a smaller firm that is based outside of US. The combined company (Pfizer- Allergan in this case) can lower its tax rates through internal borrowing and can shift profits to low-tax countries using a manoeuvre known as earnings stripping.
What went wrong this time?
The US Treasury unleashed two major moves to thwart and end the biggest tax "inversion" ever attempted in the history of Pharma in US.
Rule 1: “The government would disregard U.S. assets acquired by such companies over the previous three years.”
In Allergan’s case this nullifies the net effect of several cross-border deals including the purchase of Forest Laboratories in 2014, a takeover of Ireland-based Warner Chilcott PLC and the stunner deal of Actavis’s $66 billion takeover of U.S.-based Allergan Inc. creating the current Allergan entity. With the new rule Allergan’s market capitalization would hover around $ 106 billion making it unattractive for Pfizer since the lopsided mergers are a strict no-no under federal rules.
Under previous rules which still apply, Allergan shareholders needed to own at least 40 percent of the combined company for the two companies to enjoy the full tax benefits of an inversion, and more than 20 percent to have any inversion benefit at all.
Rule 2: “The Treasury would seek to limit earnings stripping”
As a result of this move, all non-U.S.-based companies, including the inverted ones can lend money to their U.S. subsidiaries. This results in creating a deductible interest in the U.S., reducing the income subject to the 35% U.S. corporate tax rate and shifting income to a lower-taxed jurisdiction (in this case to Ireland where Allergan is based). If a U.S.-based company, say Pfizer, tried the same technique by borrowing from its offshore subsidiaries, then the government would tax that income at the U.S. rate. This move exempts debt used for expansion of US facilities.
Pfizer’s reliance on Allergan was more on the tax sops and less Botox or Restasis sales, since Pfizer’s own breast-cancer drug Ibrance has picked up strongly. Its pipeline of hypolipidemic drug is strong and Pfizer needs to stay focussed on bringing the next Lipitor to market.
Allergan off-late has been more focused on Teva to hive off its Generics and reduce its debt. Allergan may continue to scout for generics partners while consolidating its position with Botox and building on a strong pipeline on age-related macular degeneration and depression.
By: Sangeetha Prabakaran, Research Manager-Transformational Health, Frost & Sullivan