Medtronic megadeal throws unwelcome light on Irish tax advantage

Proposed combination of medical device giants raises fresh concerns about ‘corporate inversion’

It's the largest deal in medical devices in almost 30 years. More importantly, Medtronic's $42.9 billion proposed acquisition of rival Covidien makes it the largest company to date to engineer a path out of the clutches of the United States for its corporate HQ. And Ireland, somewhat uncomfortably, finds itself in the middle of the story.

Covidien, formerly Tyco Healthcare, has its corporate HQ in Dublin, having relocated here in 2010 from Bermuda where it was previously incorporated.

However, like many multinationals that have legally relocating their domicile, most of Covidien’s business operations continued to be run out of the US, in its case, Mansfield, Massachusetts.

The attraction of Ireland to a company which was at the time trying to escape the stain of scandal associated with its former, then jailed chief executive Dennis Kozlowski, was that at a time when the US administration had signalled its intention to clamp down on tax haves, Ireland was seen as the respectable face of corporate tax planning.


Medtronic conspicuously downplayed the tax element of its proposed merger with Covidien this week, with the two companies focusing instead by a "complementary strategy" with Covidien on medical technology.

"The real purpose of this, in the end, is strategic, both in the intermediate term and the long term," said Medtronic chief executive Omar Ishrak.

And in a diversionary move, Ishrak even highlighted plans to spend $10 billion “to stimulate the medical-technology industry in the US” in the decade after the deal closes.

Formidable competitor

Of course, it is true that Covidien’s strengths in surgical equipment , vascular and ventilators will complement Medtronic’s existing product range. Its scale will make it a more formidable competitor in the US hospital market.

And its strength in emerging markets will give Medtronic better access to faster growing regions as healthcare providers in traditional markets clampdown on budgets.

However, in a telling paragraph in its filing with the Securities and Exchange Commission, it emerged that it will be open to Medtronic to walk away from the deal if US tax law changes.

That tax clause would come into play if both houses of the US Congress pass legislation that would treat the combined company as an American corporation for federal tax purposes, even before such legislation was signed into law by the president.

So tax is at the heart of the validation of the deal. By one estimate, the deal, if successful, could save the combined entity $850 million in taxes by 2018.

Related to that consideration is access to billions of dollars in earnings of its foreign subsidiaries that are currently trapped abroad.

Cash hoards like this are an issue for many US multinationals, which between them are understood to have a total of nearly $2 trillion parked overseas. Bringing that cash back to the US would leave them exposed to its 35 per cent tax rate.

Medtronic's caution is understandable. Its move comes shortly after Pharma giant Pfizer sought to acquire Britain's second-largest drug company AstraZeneca in a $118 billion transaction where the tax advantages secured equal billing with AstraZeneca's promising drug pipeline as the underpinning logic for the deal

That deal fell through, not least because AstraZeneca and others were able to portray Pfizer’s motivation as being driven by an effort to lower its effective tax rate from its current 27 per cent plus level. A reputation for cutting jobs, plants and research budgets in acquired companies didn’t help.

But it didn’t collapse before the deeply divided US Congress had woken to the growing penchant for US companies to explore corporate inversion – where US-based companies facing 35 per cent corporation tax and other charges seen as less than friendly to business examine the possibility.

Inversion is nothing new. A recent Reuters survey found that as many as 50 US companies have availed of the process over the past 30 years. However, more than half those deals have taken place since the market crash of 2008.

Congress did move to tighten the rules after a previous wave of high profile departures in the early Noughties – including Covidien’s predecessor Tyco International – but the attractions of lower European tax rates alongside vast sums of company profits stranded offshore has prompted corporate America, and in particular companies in the life science sector, to re-examine the issue.

That earlier clampdown, in 2004, sought to annul tax advantages of companies that had relocated abroad on the basis of a loophole in previous legislation that sanctioned such moves where a company argued that the bulk of its business was carried on outside the US.

However, the 2004 law created its own loophole, allowing corporate inversions to continue where a US company acquired a smaller company overseas – as long as the shareholders of the target business held a minimum of 20 per cent of the stock in the merged entity following the deal.

And that has been the hook for most of the recent transactions, including the Medtronic deal.

Close loophole

Congressional tax law writers are now scrambling furiously to close the loophole while President Barrack Obama has also expressed his frustration at the current practice.

He wants to raise the minimum level of foreign ownership in a post-inversion merged entity to 50 per cent

Senator Carl Levin and other Senate Democrats are proposing putting a two-year moratorium on inversions, as well as raising the minimum level of foreign ownership.

Both would block inversions if an inverted company’s management and significant business operations remained in the United States – as they do under most of the current arrangements.

Senator Ron Wyden, the chairman of the Senate Finance Committee, is looking to cut the corporate income tax rate to 24 per cent from 35 per cent, chiefly by eliminating loopholes.

He believes any opening for tax reform lies between now and Congress’ August 2015 break. After that, lawmakers will be consumed by 2016 presidential election-campaign politics, he said.

"There is a prime 15-month window from now until the August recess of 2015," he said at a Wall Street Journal conference. "We do need to go after some of these loopholes. You go in there, clean those out, and use the money to hold down the rates."

The big problem for all the competing proposals is numbers. The 2004 legislation was the outcome of a bipartisan approach but the current Congress is so split that it is on course to set a new record for the least legislation passed. Securing numbers across the floors of both houses seems unlikely.

For Ireland, the problem is more one of timing and presentation.

After a year long preliminary investigation, the outgoing European Commission has only recently announced plans for an investigation into our corporate tax arrangements with Apple.

At the same time, the OECD is ramping up its efforts to address anomalies in global taxations through its Base Erosion and Profit Shifting (BEPS) project.

One of Ireland pre-eminent tax practitioners, Feargal O’Rourke at PricewaterhouseCoopers has gone on record to state that, regardless of the facts, the “realpolitik” of the global debate on corporation tax meant Ireland’s rules needed to change.

“In what is a politically-dominated process of global tax reform, the need for optical and political ‘wins’ means that Ireland will not be able to sustain its current corporate residency rules,” Mr O’Rourke said. “I believe the balance of advantages lies in Ireland dealing with [the issue] on a proactive basis.”

As Minister for Finance Michael Noonan grapples with the implications of such a move, and the Department engages in a public consultation on the BEPS project, the last thing he needs is a more intense spotlight on our current arrangements.