Tax Inversion Hedge Fund Fiascos



Billions of hedge fund dollars have recently been invested in companies which have announced plans to merge with overseas organizations with the intended outcome being an ‘overseas domicile’ for the U.S. companies. Favorable tax implications—so-called ‘tax inversions’–made the deals quite attractive until the government stepped in to discourage the trend. The biggest investors in such companies have taken significant losses on their investments as the U.S. companies re-think these foreign marriages.

14 Inversions So Far 

Since early 2012, 14 tax inversion re-domiciling moves have been undertaken by U.S. companies, with another 7 companies currently having such deals pending. What tax inversion achieves is a lowering of the company’s tax rate but without having to actually move its executives or central operations overseas. From an accounting perspective the subsidiary company is loaded up with the tax-deductible debt besides other advantages.

Treasury Department Rule Changes

The administration has taken the position that this loophole in the U.S. Tax Code is inappropriate and on September 22nd it proposed new rules limiting a company’s use of untaxed offshore profits if they make use of an inversion scheme.  According to a statement released by Treasury Secretary Jacob Lew:

“These first, targeted steps make substantial progress in constraining the creative techniques used to avoid U.S. taxes, both in terms of meaningfully reducing the economic benefits of inversions after the fact, and when possible, stopping them altogether.”

Nevertheless, strong lobbying by U.S. pharmaceutical and medical technology companies in particular — a campaign that has employed seven former congressmen and former chiefs of staff — may be largely responsible for Congress’ reticence in upsetting this multi-billion-dollar tax-saving device.

Some Companies Having Doubts

As attractive as tax inversion is to U.S. companies, some executives are re-thinking the move in light of the statutory uncertainty which looms for the future. An Illinois-based drug manufacturer with announced plans to acquire an Irish pharmaceutical company—specifically for utilizing the tax inversion benefit—has now torpedoed the deal which investors saw as a $55 billion opportunity. Likewise, a Minneapolis-based medical device manufacturer also seeking to acquire an Irish counterpart has concerns as to how attractive such a move would be in light of new Treasury Department tax regulations.

The Hedge Fund Hit

What all of this has meant in practical terms for pharmaceutical and medical device hedge fund investors is losses: even prior to the announcement that the deal was dead, the share value of the Irish drug manufacturer intended as the new domicile of the Illinois company fell by 30% thus contributing to a 14% drop in value of a hedge fund holding a $51 billion stake in the company.