Apple Tax and Activist Plans

Matt Levine is a Bloomberg View columnist. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz and a clerk for the U.S. Court of Appeals for the Third Circuit.
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Apple tax.

A good basic technique of international tax practice is to convince Country A that your income is earned in Country B, and convince Country B that your income is earned in Country A, because then neither of them will tax it. That is essentially what Apple seems to have done in Ireland, with the tiny wrinkle that it convinced the rest of the world that its income was earned in Ireland, and convinced Ireland that its income was earned nowhere:

The two tax rulings issued by Ireland concerned the internal allocation of these profits within Apple Sales International (rather than the wider set-up of Apple's sales operations in Europe). Specifically, they endorsed a split of the profits for tax purposes in Ireland: Under the agreed method, most profits were internally allocated away from Ireland to a "head office" within Apple Sales International. This "head office" was not based in any country and did not have any employees or own premises. Its activities consisted solely of occasional board meetings. Only a fraction of the profits of Apple Sales International were allocated to its Irish branch and subject to tax in Ireland. The remaining vast majority of profits were allocated to the "head office", where they remained untaxed.

That's from today's European Commission ruling finding that "Ireland must now recover the unpaid taxes in Ireland from Apple for the years 2003 to 2014 of up to €13 billion, plus interest." The "head office" of Apple Sales International (an Irish-incorporated subsidiary that essentially books most of Apple's revenue in the European Union) is not the U.S. parent company. It's just an expression. It's just the head office. In, you know. In your head. It exists in a place that is not a place, where the tax rate is zero. There is a helpful diagram:

The stores are in Europe, and Apple Sales International is in Ireland (enlarged to show its exaggerated importance in Apple's European affairs), and the head office is, appropriately enough for a computer company, in a cloud. It just floats vaporously somewhere between Europe and the U.S., casting its cool mist over Apple's income. Obviously you don't have to pay taxes to a cloud. It's a perfect tax setup.  

It was perhaps a little too perfect. "As a result of the allocation method endorsed in the tax rulings, Apple only paid an effective corporate tax rate that declined from 1% in 2003 to 0.005% in 2014 on the profits of Apple Sales International." All of this was totally legal under Irish law, because the Irish tax authorities issued specific rulings saying that it was, in 1991 and 2007. But those rulings themselves violated EU competition law, because "Member States cannot give tax benefits to selected companies," so now Apple has to give the money back. "Apple and the Irish government have both vowed to fight the decision," and the appeals may take years.

Activism.

Here is Ronald Barusch arguing that whatever Carl Icahn was up to with Herbalife last week -- allegedly talking to bankers about maybe selling his shares, but then certainly buying more instead -- he could have done a better job disclosing it:

The Securities and Exchange Commission requires shareholders who, like Mr. Icahn in this case, own more than 5% of a company, to be transparent about their plans, so it all raises the question: Should Mr. Icahn have issued some disclosure before he traded?

My bias here is: Of course not! Icahn's own trading decisions are the most essential sort of proprietary information that he shouldn't have to share in advance. Disclosing before you trade -- saying "hey I think this stock is undervalued (overvalued), so I'm going to buy (sell) some tomorrow, just a heads-up" -- is, for a famous influential investor, a way to dissipate all the advantages of trading. There is always a tension in market regulation between the desire for fairness and the desire to reward people for developing information by letting them keep it to themselves. But surely if there's one sort of information that you can keep to yourself, it's information about your own state of mind.

I mean, yes, strictly, Schedule 13D requires Icahn to disclose "any plans or proposals" to buy or sell shares, but the standard way around that is to make a boilerplate disclosure that you reserve the right to buy or sell shares, and then try to avoid making any firm decisions until the last minute. (Then you trade, and then you disclose.) That's obviously Icahn's approach. For one thing, his 13D includes the boilerplate disclosure that he might buy or sell shares. And as for not making any firm plans ... I mean, if you believe the Bill Ackman version of events, Icahn was recently looking to sell all of his shares, and then instead bought more. Really the whole history of the Herbalife fight strikes me as pretty good evidence that Icahn doesn't have much of a plan, other than entertaining himself and annoying Ackman.

Elsewhere in activism, "the August edition of research provider Preqin's Hedge Fund Spotlight shows that 100 percent of institutional investors surveyed indicated that returns on their activist hedge fund investments had fallen short of their expectations." Maybe those institutional investors should get in there and mount some proxy fights! Add some new blood to those activist funds' boards of directors! Shake up management a bit, force them to cut costs, try out some new ideas! No of course I am kidding, investors in activist hedge funds have no shareholders' rights and can't run proxy fights. It is a much-remarked-on irony.

On the other hand, small-cap activism is up, and perhaps more promising than it is in mega-caps:

Because the companies are less well researched by analysts, have access to fewer corporate advisers, and are less likely to follow corporate governance best practices, the potential for unlocking big share price gains may be greater than at larger groups, hedge fund managers say.

I don't know, that just seems obviously true. You're more likely to find shady nonsense at a $100 million company than at, you know, Apple, that EC ruling notwithstanding. But of course a 9 percent position in a $100 million company is just $9 million, and if you run a multibillion-dollar activist fund, that is hardly worth the filing fees for the proxy fight. There is a widespread sense that the hedge fund industry generally is sort of over capacity, that promising strategies have so much money chasing them that they are no longer promising. Activism is one pretty obvious place to see the results of that. The pickings in mega-cap activism are slim, and are mostly about share buybacks; the pickings in small-caps might be richer, but no big funds can afford to claim them.

Meanwhile, activists are looking at big U.S. banks, but what are they going to do with them?

That activists have not bothered the banks much so far, is partly a function of size. These are very big bites. ValueAct’s $1.1bn investment in Morgan Stanley represents just 2 per cent of the shares outstanding.

Investors also recognise that banks have only limited room to manoeuvre to boost their ROEs. In this, the sixth year of annual stress tests, the Fed was willing to let only a couple of midsized banks hand back more than 100 per cent of their profits through dividends or buybacks. For the rest, equity bases keep rising.

Activism as literature.

Here is John Lanchester on the activist letter as a literary genre. "It might be best to regard them as a form of literary fiction," he writes:

When Carl Icahn was a big investor in Apple, he wrote an annual letter to Tim Cook, its C.E.O., urging him to spend the company’s cash on buying back its own stock. “There is nothing short term about my intentions here,” he wrote in the first letter, in October, 2013. In October, 2014, he wrote that “Apple is one of the best investments we have ever seen from a risk reward perspective,” and that, while he was urging a share buyback, he was also eager “to preemptively diffuse any cynical criticism that you may encounter with respect to our request.” In a letter of May, 2015, he said that Apple was “very much a long term growth story from our perspective.” The company represented “one of the greatest growth stories in corporate history, as well as one of the greatest opportunities ever for a company to invest in itself by repurchasing its shares.” A year later, after the company had spent eighty-seven billion dollars buying back its stock, Icahn announced that he had sold most of his Apple shares, for an over-all profit of around two billion dollars. Fool me once, shame on you. Fool me twice, and you’re starting to develop a business model.

To be fair, I doubt too many people were fooled. Elsewhere in literary criticism, here's a Wall Street Journal A-Hed on central banking metaphors:

Ahead of a European Central Bank decision in March, analyst Naeem Aslam warned clients that ECB officials “craved to trigger” a “final bazooka” to push inflation to its target. His next-day update: The ECB was “drumming big beats and firing on all cylinders.”

Some in the field call for a cliché cease-fire, including economist Kallum Pickering at Germany’s Berenberg Bank. “Here’s the problem I have with metaphors: Sometimes you don’t give a true picture of what’s happening,” he said. “I’m worried that it’s reinforcing a view that central banks can do something about the situation we are facing.”

I am generally skeptical of financial metaphors, though I softened a bit after reading Lanchester's article, which spends some time luxuriating in Warren Buffett's metaphors. Buffett is perhaps the only user of financial metaphors who can get away with it.

Bridgewater on film.

Bridgewater Associates put some new videos on its website. They are pretty Bridgewater-y, so you should watch them if that's your sort of thing. Ray Dalio describes Bridgewater as a combination of the Navy SEALS and the Dalai Lama, which is ... I mean it seems like a unique combination? Like, you go into work each day not sure whether you'll be working to achieve universal love and compassion, or killing a guy? Later there's also a comparison to Shackleton's voyage to the Antarctic. Also there's a video about a Bridgewater tradition of everyone sort of fighting their way through a river in Bridgewater's backyard. I guess that's a little Navy SEALS-like, or perhaps Shackleton-like. My three-quarters-joking model of Bridgewater is that it's a computer that trades securities and constantly tries to find fun new ways to distract its 1,500 human employees so they don't interfere with its perfectly rational trading. These videos don't give me much reason to reject that model.

Blockchain blockchain blockchain.

One weird thing about bitcoin is that it has an immutable verifiable publicly available ledger of every transaction, recording who transferred how many bitcoins to whom. (There are no names -- just bitcoin addresses -- but those are still potentially useful information.) I mean, that's a great thing, for many purposes; the immutable traceable history has a lot of useful applications. The weird part is that that history is not ideal for, you know, drug dealing. Or a lot of the other secretive applications for which bitcoin has become popular, and in which it was supposed to replace cash as an anonymous secure payment method. Cash has no traceable transaction history, which is a big part of why criminals like it. Anyway here's a story about Monero, which is like bitcoin but druggier:

Monero similarly uses a network of miners to verify its trades, but mixes multiple transactions together to make it harder to trace the genesis of the funds. It also adopts “dual-key stealth” addresses, which make it difficult for third-parties to pinpoint who received the funds.

“For any two outputs, from the same or different transactions, you cannot prove they were sent to the same person,” Riccardo Spagni, a lead developer of Monero, wrote by e-mail. Jumbling trades together makes it “impossible to tell which transaction, of a set of transactions, a particular input comes from. It appears to come from all of them.”

No no no, not druggier, just more privacy-focused. Privacy also has lots of legitimate applications. But Monero's value "has more than quadrupled this month after gaining support from prominent websites that anonymously peddle drugs."

Trump PAC.

Here's the story of American Horizons PAC, a political action committee started by a 25-year-old named Ian Hawes that (sort of) offers donors a chance to win dinner with Donald Trump. It "has collected more than $1 million" and "reportedly spent $0 on behalf of Trump." The rest -- I mean, the all of it -- went to, you know, expenses. Also the branding is superficially similar to that of the Trump campaign.

Of the 156 donors who gave more than $200 to Hawes’ group in June — the threshold for names to be included in federal filings — POLITICO contacted dozens and spoke with 11. Everyone interviewed said they believed they had given to Trump’s campaign, not an unconnected PAC.

“I would say, unfortunately, that’s simply a matter of pure chance,” Hawes said in an interview defending his group and denying it is a scam.

Pure chance! It is a little surprising that people commit penny-stock fraud, when the American political financing system is available.

People are worried about unicorns.

Well this will end well:

Earlier this month, an attorney at a large law firm got a call from a representative of Midtown Partners, a boutique investment bank in New York and Chicago that sells public equities to private investors. The caller began by asking if the attorney knew what a “unicorn” was. He then asked whether the attorney would be interested in investing in private tech companies like Lyft and Snapchat, for a minimum of $20,000.

Cold calling potential investors about private tech stocks is on the rise, as the secondary market for such stocks heats up.

To be fair, "do you know what a unicorn is" is a great ice-breaker; it's how I begin all of my phone calls. In other news, General Motors apparently offered $6 billion to buy Lyft, just barely above the $5.5 billion valuation at which it invested in January. 

People are worried about bond market liquidity.

Here's Bloomberg Gadfly's Lisa Abramowicz on the demise of Direct Match and the lack of central clearing in the Treasury market. Here's a Bank for International Settlements working paper on "Asset managers, eurodollars and unconventional monetary policy," which is in part about liquidity in the eurodollar futures market in September 2014, when Bill Gross left Pimco and Pimco unwound his huge eurodollar position. And here is this:

August isn't over yet, but already U.S.-marketed corporate investment-grade bond issuance has broken another record, churning out nearly $60 billion in new deals, according to financial services data firm Dealogic.

Things happen.

Mondelez Drops Offer for Hershey. Caesars Slides After Court Rules It Must Face Bondholder Suits. Buyout firms' hushed deals with top investors risk SECs' ire. Hedge funds are hiring quants. The Federal Reserve’s Balance Sheet as a Financial-Stability Tool. Blame Headhunters for Increasing Wage Gap. Muni-bond index funds aren't much of a thing. Vanguard has saved investors $1 trillion. Barroso’s Goldman job runs into petition protest. SEC and Revolving Doors: Q&A with Eric Ben-Artzi, the Deutsche Bank Whistleblower Who Rejected a Multimillion Dollar Award. Duke Withdraws Claim Against Aubrey McClendon’s Estate. Scott Alexander on EpiPen. Should we ban non-self-driving cars? Why Portland-Themed Businesses Are Big in Japan. Goat Yoga: Yoga With Goats.

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  1. Here, at pages 21-25 of Exhibit 1a, is an essentially similar but less cloudy characterization of the setup, from the U.S. Senate's Permanent Subcommittee on Investigations.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Matt Levine at mlevine51@bloomberg.net

To contact the editor responsible for this story:
James Greiff at jgreiff@bloomberg.net