The Treasury Department's clampdown on tax inversions could give a Chinese buyer a leg-up in an ongoing bidding war for a major U.S. cranemaker.
Last August, Terex, an equipment manufacturer based in Westport, Connecticut, agreed to merge with European rival Konecranes. The transaction was structured as an all-stock inversion that would have incorporated Terex in Konecrane's home country of Finland, where tax rates are lower. But the deal was disrupted in January when a Chinese construction-equipment maker, Zoomlion, launched a competing bid.
Both deals had their trouble spots. Zoomlion's bid is higher and it's all-cash. But it comes with strings -- including a more-contentious regulatory review and a less-certain future, as the buyer grapples with an ugly profit slump, piles of unpaid bills and lots of debt. The Konecranes combination was supposed to be politically -- and perhaps operationally -- preferable.
But then the Treasury Department kicked its crusade against inversions into high gear earlier this month and made it harder for so-called “serial inverters” to structure transactions. The agency also undermined the benefits of such deals by cracking down on "earnings stripping," an accounting tactic that allows corporate inverters to effectively shift profit to lower-tax countries.
The Treasury's first salvo doesn't really matter so much for Terex and Konecranes -- or really any other inversion besides Pfizer's $160 billion failed combination with Allergan. The second salvo, however, hurts.
Konecranes said Wednesday that essentially all of the 32 million euros ($36 million) in financial and tax synergies projected for the Terex merger had been wiped out by the new Treasury rules, signaling it had been banking pretty heavily on earnings stripping to get to those numbers.
There are still 110 million euros of operational savings to be had in a Terex merger, according to Konecranes, which is likely to be more than a combination with Zoomlion would produce. But the sales and profitability goals Terex and Konecranes laid out in August look overly optimistic now, as both companies grapple with weak demand.
It may be years before the combined company can deliver the kind of value Zoomlion is offering today. The Chinese equipment maker's bid for Terex is worth about 70 percent -- or $1.4 billion -- more than the Konecranes offer, which has lost value as the Finnish company's stock has slumped.
There are still national security questions to contend with, of course. Any Chinese buyer is going to draw scrutiny from the Committee on Foreign Investment in the United States, or CFIUS, which reviews business transactions and investments for any security concerns. The likelihood of a tough analysis has risen in the wake of a surge in Chinese takeovers at the start of the year and heightened political sensitivity in this election season.
Terex also has government contracts and a (small) portion of its business involves supplying equipment for critical U.S. ports. Several politicians have asked that the committee thoroughly review the transaction, given Zoomlion's partial government ownership and its role as a supplier for the People's Liberation Army.
That said, a Terex-Zoomlion deal has a decent shot at passing regulatory muster -- certainly a better one than overcoming the Treasury's inversion rules any time soon.
JPMorgan and Morgan Stanley analysts have noted that Chinese equipment maker ZPMC already has a presence at U.S. ports, so an additional operator with ties to the country shouldn't raise red flags for CFIUS. In the worst case, Terex's priority-rated government contracts could be dropped, and they're not a huge part of the company's business anyway.
Terex itself is more concerned with extracting an even higher price from Zoomlion than it is with a potential CFIUS stumbling block, Reuters has reported (though it is seeking assurances from the Chinese buyer that any agreed-upon deal will be completed, in light of the high-profile blow-up of Anbang's pursuit of Starwood Hotels). On a call to discuss its first-quarter results on Wednesday, Terex said it was continuing to work with advisers on financing, government approvals and breakup fees involved in the Zoomlion bid.
It's just another reminder that the Treasury's efforts to stop inversions can have far-reaching consequences and are no substitute for broader, better-thought-out tax reform. The agency succeeded in blocking Pfizer's purchase of Allergan -- but we’re also starting to see some of the side effects.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
GO Scale Capital's planned purchase of Philips's lighting-components business, Origin Technologies's pursuit of genetic analytics company Affymetrix and Tsinghua Unisplendour's attempted investment in disk-drive maker Western Digital are among the transactions that have fallen apart in the face of regulatory scrutiny.
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