Grubby assets shine in $5.6 bln tax arbitrage deal
By Robert Cyran
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Grubby assets are being given a shine in a $5.6 billion tax arbitrage deal. Mallinckrodt, a specialty drugs company, is paying a 27 percent premium for Questcor, a rival barraged by regulatory inquiries. Why do it? The transaction moves profits to Ireland, where the acquirer is domiciled for tax purposes. It may be buying as many problems as taxman savings, however.
Mallinckrodt is an odd bird to begin with. Conglomerate Tyco bought the previous guise of Mallinckrodt in 2000. Tyco reversed itself, and spun off its health operations as a company called Covidien in 2007. Last year, Covidien spun off its drugs business as Mallinckrodt. The newly independent company then bought Cadence Pharmaceuticals for $1.4 billion earlier this year. Now it is adding Questcor.
There are cost savings from merging the companies and cutting expenses, but much of the appeal lies in financial engineering. If companies in low-tax domiciles buy U.S. assets, or U.S. companies effectively become Irish through M&A, their tax bills can shrink by as much as half. For one company, Valeant Pharmaceuticals, that fueled a more than 10-fold increase in its stock price since 2008. It also helped Endo International and Perrigo in their dealmaking.
But many of the more desirable assets have been picked up. That left Questcor for latecomer Mallinckrodt. Questcor’s sales are expected to grow more than 30 percent this year. It also generated about $330 million of free cash flow last year.
Instead of buying back stock and paying dividends, as Questcor did, Mallinckrodt can use this cash for acquisitions. Throw in the tax savings of perhaps $60 million next year, and more in subsequent years, and the deal starts to look interesting.
Questcor’s cash flow is from a risky source, however. The company took a drug approved for infantile spasm, and jacked its price up from around $50 a vial to more than $30,000. Since there’s no alternative, patients pay up. The company also pushed to get the drug used to treat other conditions, where the benefit is less clear. Some insurers have pushed back, and the Department of Justice, two state attorneys general and the Securities and Exchange Commission are probing the matter.
While rival acquirers have seen their stocks jump on deals, Mallinckrodt saw its stock fall 7 percent. A tax advantage is good, but not if it leaves the buyer with a bigger problem to solve.