Under the proposed merger, Pfizer would have shifted its corporate address — but not its operations or its corporate headquarters — to Ireland in order to avoid paying corporate income taxes in the United States. In recent years such deals, whereby a larger U.S. firm acquires a smaller foreign company and moves its corporate address offshore, have proliferated, particularly in the pharmaceuticals industry.
The Obama administration had begun to tighten restrictions on such mergers, known as “tax inversions,” in 2014, but the changes failed to stop the trend. The new regulations from the Treasury Department, revealed just two days before Pfizer and Allergan pulled the plug on their combination, eliminated or reduced key financial benefits of a tax inversion.
For instance, under the new rules, the value of a foreign takeover target’s last three years of acquisitions will now be excluded in determining the tax benefits of a combination. That was significant for the Pfizer-Allergan deal because Allergan had completed three major deals, including a $66 billion dollar merger with Actavis and a $25 billion acquisition of Forest Laboratories.
President Obama hailed the new rules as a way to help prevent companies from taking advantage of what he termed “one of the most insidious tax loopholes out there, fleeing the country just to get out of paying their taxes.”
The Pfizer-Allergan merger would have been the largest inversion yet, and it was expected to lower Pfizer’s tax rate from about 24% to 17%, saving it about $35 billion in taxes. Such transactions have become part of the debate in the current presidential campaign, but have attracted bipartisan criticism.
For Pfizer, it was the third unsuccessful acquisition attempt in recent years. Its hostile bid to take over AstraZeneca PLC in 2014 foundered in the face of unyielding resistance from AstraZeneca and strong political opposition in the United Kingdom over potential job losses there.
Neither Pfizer nor Allergan had approached the deal from positions of weakness. Both are highly profitable and have strong product pipelines.
Pfizer, for instance, earned net profits of $7.74 billion on revenue of $48.85 billion in 2015 — a net ratio of a whopping 15.8%. However, revenue growth has gotten more difficult, as the expiration of patent protection for such blockbuster drugs as Lipitor has eroded the company’s revenue base. Its top line for 2015, for example, represented a decrease of 1.5% from 2014’s revenues totaling $49.61 billion.
With the new Treasury Department regulations making inversion deals less feasible, the company may now proceed to break itself up. “We plan to make a decision about whether to pursue a potential separation of our innovative and established businesses by no later than the end of 2016, consistent with our original time frame for the decision prior to the announcement of the potential Allergan transaction,” chairman and chief executive officer Ian Read said in a statement.
For Allergan’s part, it will proceed with its planned sale of a substantial share of its generic drug business to Israel-based Teva Pharmaceuticals, the world’s largest generic drug manufacturer, for $40 billion. It will receive a breakup fee of $150 million from Pfizer.
“While we are disappointed that the Pfizer transaction will no longer move forward, Allergan is poised to deliver strong, sustainable growth,” stated Allergan CEO Brent Saunders. “Allergan is focused on delivering growth from an efficient operating structure while also being committed to investing in R&D.”