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Healthcare 06 29 14 Healthcare Tax Inversions – What’s Left-1

Healthcare 06 29 14 Healthcare Tax Inversions – What’s Left-1

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Published by Jon Easley
Goldman Sachs Note.
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Published by: Jon Easley on Jul 09, 2014
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June 29, 2014
Americas: Healthcare
Equity Research
Healthcare tax inversions – what’s left?
Tax inversions not just for spec pharma
Interest in tax inversions is intensifying across healthcare driven by the desire to achieve a more competitive tax structure. While we don’t expect tax law changes near-term, concern is rising with more deals. Moreover, investors continue to reward companies looking to unlock value through greater tax efficiency – a key theme coming out of our annual conference. While tax inversions have been a dominant theme for spec pharma and generics for a while, interest is now spreading to large cap pharma and med tech companies. Indeed, we have already seen large companies take action with PFE’s attempted deal for AZN and we expect there could be more to come.
Justification for tax inversions to unlock cash
We believe a key justification for pursuing tax inversions (and ex-US M&A without tax inversions) among the US based large cap pharma and med tech companies is to access trapped cash and avoid repatriation tax. Most of these companies generate >50% of sales ex-US and the majority of their cash sits overseas. In our view, spec pharma is likely more interested in pursuing tax inversions in order to drive EPS accretion and become more competitive in deal making from lower tax rates. But the potential for large tax inversions is limited due to the scarcity of ex-US companies big enough to satisfy the minimum 20% foreign ownership requirement. We ran a hypothetical analysis(Exhibit 3) to show the size of deals that large companies must do in order to satisfy the current IRS 20% foreign ownership requirement.
Legislative environment in gridlock
According to tax consultants we spoke to, the likelihood of broad tax legislation this year is low and may not occur until after the next Presidential election. That said, increased deal activity may raise the likelihood that Congress eventually addresses tax inversions with a potential risk of retroactive treatment. We note the recent alignment of Senators Durbin and Levin.
Who’s next?
For illustrative purposes, we screened companies with a high proportion of cash overseas and high tax rates. We do not take a view on the likelihood of a transaction. Based on these criteria and comments from management we note several healthcare names that may benefit from tax inversions including: PFE, AGN, MYL, IPXL, AKRX, SLXP, WAG, GILD, SYK and CFN. 
RELATED RESEARCH
The Money Issue: Overseas Cash, Tracking CapEx, FCF Machines: May 7, 2014 Tax reform: opportunity or threat? Implications for Pharma and Tech; March 17, 2014 Adjusting to a new normal: Less growth and more buyer consolidation drive focus on cash: June 23, 2014 Industry consolidation likely to accelerate in mid-sized pharma, June 21, 2013
CONTRIBUTING AUTHORS
Terence Flynn, Ph.D. Goldman, Sachs & Co. terence.flynn@gs.com (212) 357-5057 Robert P. Jones Goldman, Sachs & Co. robert.p.jones@gs.com 
 
(212) 357-3336 Isaac Ro Goldman, Sachs & Co. isaac.ro@gs.com 
 
(212) 902-6393
Jami Rubin
(212) 357-7536 jami.rubin@gs.com Goldman, Sachs & Co.
 
Goldman Sachs does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. For Reg AC certification and other important disclosures, see the Disclosure Appendix, or go to www.gs.com/research/hedge.html. Analysts employed by non-US affiliates are not registered/qualified as research analysts with FINRA in the U.S.
David H. Roman
(212) 902-7839 david.roman@gs.com Goldman, Sachs & Co.
 
Gary Nachman
(212) 855-7725 gary.nachman@gs.com Goldman, Sachs & Co.
 
Jay Olson, CFA
(212) 357-7671 jay.olson@gs.com Goldman, Sachs & Co.
 
The Goldman Sachs Group, Inc. Global Investment Research
 
June 29, 2014 Americas: Healthcare Goldman Sachs Global Investment Research 2
Unlocking cash a key justification for tax inversions
Pharma companies have traditionally employed tax strategies that leverage ex-US intellectual property and manufacturing in low tax jurisdictions. These tax strategies resulted in cash becoming trapped outside the US as these companies sought means to avoid repatriation tax. We observe that recent deals proposed for the purpose of tax inversion (in addition to other strategic, operational and financial benefits) have leveraged ex-US cash. Our screen of healthcare companies with cash outside the US includes pharma, med tech, biotech and names from other subsectors. Based on these criteria and comments from management we note several names across all healthcare subsectors that may benefit from a potential tax inversion (Exhibit 1).
Exhibit 1:
 
Assessing overseas cash balances from recent public filings
List of select US companies with significant OUS cash ($ mn, unless stated), based on 2013 10-K filings
 
Source: Company data, Goldman Sachs Global Investment Research, FactSet.
TickerCompany NameMarket Cap($, mn)Tax rate 2014E% of Cashex-USTotal Cashex-US Cash
PKI PerkinElmer,
 
Inc. 5,291 21.0% 97% 225 219SIRO Sirona
 
Dental
 
Systems,
 
Inc. 4,690 23.5% 97% 255 247CRL Charles
 
River
 
Laboratories 2,600 27.5% 95% 170 161MYL Mylan
 
Inc. 19,296 25.0% 93% 243 226CELG Celgene
 
Corp. 69,266 16.5% 90% 5,110 4,574LLY Eli
 
Lilly
 
&
 
Company 70,525 19.1% 89% 5,212 4,647EW Edwards
 
Lifesciences
 
Corp. 8,936 22.4% 87% 832 723AMGN Amgen
 
Inc. 90,404 15.5% 87% 19,802 17,144MRK Merck
 
&
 
Co.,
 
Inc. 172,011 25.0% 85% 20,513 17,436VAR Varian
 
Medical
 
Systems,
 
Inc. 8,734 28.0% 82% 1,018 835CVD Covance
 
Inc. 4,970 24.0% 82% 660 541BAX Baxter
 
International,
 
Inc. 39,986 21.5% 80% 2,049 1,639PFE Pfizer
 
Inc. 190,086 27.0% 80% 33,881 27,105ABT Abbott
 
Laboratories 61,129 19.0% 80% 7,047 5,638BAX Baxter
 
International,
 
Inc. 39,986 21.5% 80% 2,049 1,639SYK Stryker
 
Corp. 32,413 22.8% 77% 4,047 3,132STJ St.
 
Jude
 
Medical,
 
Inc. 20,026 18.5% 75% 1,446 1,085BMY Bristol
Myers
 
Squibb
 
Company 82,411 18.0% 73% 10,617 7,803AGN Allergan,
 
Inc. 50,308 26.5% 70% 3,617 2,532SIAL Sigma
Aldrich
 
Corp. 12,101 27.0% 70% 727 509JNJ Johnson
 
&
 
Johnson 299,206 19.5% 64% 29,392 18,718PRXL Parexel
 
International
 
Corp. 3,129 34.6% 62% 299 186DHR Danaher
 
Corp. 55,606 24.0% 61% 3,347 2,028GILD Gilead
 
Sciences
 
Inc. 125,619 23.1% 60% 6,859 4,136ILMN Illumina
 
Inc 21,938 29.4% 58% 1,092 633ALXN Alexion
 
Pharmaceuticals,
 
Inc. 31,475 8.1% 47% 1,557 725BIIB Biogen
 
Idec,
 
Inc. 74,661 26.9% 33% 1,984 656
 
June 29, 2014 Americas: Healthcare Goldman Sachs Global Investment Research 3
Exhibit 2:
 
Companies with the highest tax rates could have the most to gain from a potential tax inversion
List of select US companies with relatively high tax rates
Source: Goldman Sachs Global Investment Research, FactSet.
IRS tax inversion rules yield insight into potential deal sizes
Current IRS tax rules require a minimum of 20% foreign ownership in order to qualify for a tax inversion. This rule provides guidance into the size of the target needed to achieve a tax inversion, based on how much of the acquisition is paid for with cash vs. equity. We note that under ideal circumstances, an acquisition for tax inversion would be an all-stock deal, thereby allowing the smallest potential target size (25% of the acquirers’ market cap). However, use of cash payment in a potential tax inversion increases the size of the target needed to qualify for 20% foreign ownership. We note recent tax inversion proposals (e.g. PFE-AZN) have been ~50% cash, which we use as a hypothetical upper limit and requires a target that is 2/3 the market cap of the acquirer.
MedianTickerCompany NameMarket Cap ($mn)201220132014ETax Rate
REGN Regeneron
 
Pharmaceuticals,
 
Inc. 28,335
 
81.0% 40.5% 62.7% 40.5%MYGN Myriad
 
Genetics,
 
Inc. 2,826 39.2% 36.8% 37.2% 37.2%WAG Walgreen
 
Company 70,802 36.3% 37.1% 37.4% 37.1%AKRX Akorn,
 
Inc. 3,148 33.9% 37.6% 36.9% 36.9%CBST Cubist
 
Pharmaceuticals,
 
Inc. 5,378 22.8% 57.4% 36.0% 36.0%CAH Cardinal
 
Health,
 
Inc. 23,661 37.0% 33.7% 35.9% 35.9%UTHR United
 
Therapeutics
 
Corporation 4,221 30.9% 37.4% 35.2% 35.2%HOLX Hologic,
 
Inc. 7,873 34.0% 32.0% 34.4% 34.0%IPXL Impax
 
Laboratories,
 
Inc. 2,149 33.8% 29.0% 33.5% 33.5%HRC Hill
Rom
 
Holdings,
 
Inc. 2,323 32.6% 28.1% 31.9% 31.9%Q Quintiles
 
Transnational
 
Holdings
 
Inc. 7,047 35.3% 29.9% 30.1% 30.1%ILMN Illumina
 
Inc 21,938 32.6% 30.1% 29.4% 30.1%ZTS Zoetis
 
Inc. 16,218 40.8% 29.2% 29.5% 29.5%VAR Varian
 
Medical
 
Systems,
 
Inc. 8,734 28.3% 28.4% 28.0% 28.3%PFE Pfizer
 
Inc. 190,086 29.3% 27.5% 27.0% 27.5%SIAL Sigma
Aldrich
 
Corp. 12,101 29.7% 26.5% 27.0% 27.0%CRL Charles
 
River
 
Laboratories 2,600 24.9% 26.6% 27.5% 26.6%GILD Gilead
 
Sciences
 
Inc. 125,619 26.8% 26.5% 23.1% 26.5%AGN Allergan,
 
Inc. 50,308 27.8% 26.4% 26.5% 26.5%CFN CareFusion
 
Corp. 9,198 26.4% 28.5% 26.5% 26.5%PRXL Parexel
 
International
 
Corp. 3,129 24.8% 25.9% 34.6% 25.9%BCR C.R.
 
Bard
 
Inc. 11,071 27.7% 25.2% 24.4% 25.2%MYL Mylan
 
Inc. 19,296 25.7% 25.0% 25.0% 25.0%BIIB Biogen
 
Idec,
 
Inc. 74,661 25.0% 24.4% 26.9% 25.0%BDX Becton
 
Dickinson
 
&
 
Co. 23,038 24.8% 24.5% 23.3% 24.5%MTD Mettler
Toledo
 
International
 
Inc. 7,263 24.4% 24.0% 23.8% 24.0%MRK Merck
 
&
 
Co.,
 
Inc. 172,011 23.8% 21.7% 25.0% 23.8%DHR Danaher
 
Corp. 55,606 23.6% 23.4% 24.0% 23.6%SYK Stryker
 
Corp. 32,413 24.4% 22.4% 22.8% 22.8%BAX Baxter
 
International,
 
Inc. 39,986 21.9% 22.0% 21.5% 21.9%STJ St.
 
Jude
 
Medical,
 
Inc. 20,026 21.6% 21.6% 18.5% 21.6%PKI PerkinElmer,
 
Inc. 5,291 22.5% 19.7% 21.0% 21.0%JNJ Johnson
 
&
 
Johnson 299,206 21.2% 17.2% 19.5% 19.5%LLY Eli
 
Lilly
 
&
 
Company 70,525 22.8% 19.2% 19.1% 19.2%ABT Abbott
 
Laboratories 61,129 24.8% 19.0% 19.0% 19.0%BMY Bristol
Myers
 
Squibb
 
Company 82,411 23.2% 15.4% 18.0% 18.0%CELG Celgene
 
Corp. 69,266 16.4% 16.8% 16.5% 16.5%SLXP Salix
 
Pharmaceuticals,
 
Ltd. 7,857 14.2% 33.6% 9.9% 14.2%
Tax Rate

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