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Congratulations Covidien: You Escaped In Time

Feb. 04, 2015 2:29 PM ETWBA, SHPG, ABBV, MDT, NPSP, SLXP, BHC5 Comments
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The Shakedown

In 2014, Obama vowed to punish tax inverting companies by any means necessary - inside and outside of legislation. He took scalps including Shire (SHPG) and Walgreens (WBA). Both Walgreens and Shire's deal partner, AbbVie (ABBV) are from the Chicago area where they were treated to high pressure tactics from Sen. Dick Durbin (D-IL) to abandon their planned tax inversions. Sen. Durbin put a special emphasis on the fact that everything was on the table, not just their tax issues. Durbin's tone was along familiar lines,

Real nice companies ya got there. Would be a shame if something happened to them.

AbbVie and Walgreens understood the message and abandoned their plans. Their shareholders, who had relied on public disclosures of legal, value maximizing deals, suffered. Walgreens knuckled under first:

Then, after Obama and Durbin were able to turn their attentions to AbbVie, their deal with Shire collapsed:

A few companies such as Medtronic (MDT) stood up to the treatment and successfully completed tax inversions. Medtronic acquired Covidien (COV) as planned despite threats and intimidation.

Left Behind

As part of Medtronic in Dublin Ireland (tax rate: 12.5%), Covidien is now beyond Obama's reach. What about the companies left behind? Obama is punishing the non-inverters with massive tax hikes, including on their foreign businesses. Medtronic was vindicated in completing their purchase of Covidien despite the aggressive shakedown that they had to endure. Those who did not make it will pay the price.

What Next?

Whether it is currency controls, emigration restrictions, or global taxation, when the state begins to restrict getting out, it is time to drop everything and get out. American companies are being coerced into accepting the uneconomic decision of staying based in the US, despite its uncompetitive tax rates. These same companies are now sitting ducks just waiting for their larger foreign competitors to buy them, pocket the tax savings, and invest the proceeds abroad. At the same time, the government tries to vilify business for moving jobs and investment overseas when the reality is that they are simply responding rationally to incentives. Shire, an Irish company, took their $1.635 billion termination fee and bought NPS Pharma (NPSP), an American company for the next few week, in a deal expected to close by the end of the month.

Salix (SLXP), another of the remaining American pharmaceutical companies, is probably one of the next deal targets and is expected to sell for at least $150 per share to either Shire or Canadian pharmaceutical Valeant (VRX). In either case, Salix will slip safely beyond Obama grasp to a freer country such as Ireland or Canada. Over the past few centuries, many Irish left a country that they loved for greater liberty and opportunity in America; now, for some of the same reasons it makes sense for companies to go back. Prospectively, consider looking for opportunities to purchase equities of US-based pharmaceuticals that could benefit from foreign takeovers.

Analyst's Disclosure: The author is long SLXP, NPSP, COV.

Chris DeMuth Jr is a portfolio manager at Rangeley Capital. Rangeley invests with a margin of safety by buying securities at deep discounts to their intrinsic value and unlocking that value through corporate events. In order to maximize total returns for our investors, we reserve the right to make investment decisions regarding any security without further notification except where such notification is required by law.

Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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