Monday, March 31, 2014

Inversion Uncertainty: Is Alliance Boots Really Acquiring Walgreens?

Tax inversion is a wonky-sounding term to describe a company’s moving its headquarters from a high-tax nation to a low-tax nation. And now an inversion could relocate the post-2015 Walgreen-Alliance Boots organization from the U.S. to Switzerland.

On last week's earnings call, President and CEO Greg Wasson emphatically denied the possibility of such an inversion. But as I argue below, it will probably happen anyway. If so, Alliance Boots management will end up running the combined company, while Walgreens’ U.S. management and its Deerfield headquarters employees will be unemployed.

Read on and see if you agree…


Ever since early February meetings with the Walgreens and Alliance Boots management teams, Wall Street has been buzzing about inversion’s financial rewards. Look at the big bump in Walgreens’ stock price that began in early February. The blue line is Walgreens’ stock price. The red line is the S&P 500 index. (source)

[Click to Enlarge]

Some analysts think that this inversion’s financial value could exceed all other Walgreens-Alliance Boots synergies. Deutsche Bank’s George Hill estimates that inversion could increase Walgreens’ earnings by up to $2.00 per share—an increase of 40% over the consensus estimate of about $5 in 2016 earnings per share.


A corporate move to Switzerland would be bad news for Walgreens’ current management, who would likely be displaced by the Alliance Boots team. Walgreens’ Deerfield corporate offices would also shrink sharply in the name of “synergies.”

Perhaps that’s why Wasson was so emphatic in his denial, regardless of the financial benefits to shareholders. Here’s the very last question from last week’s earnings call (transcript):
Edward Kelly - Credit Suisse: The second question which, the answer is going to be similar but, it’s on the notion of tax inversion because there’s been a lot of speculation amongst investors about the opportunity here. Could you maybe just talk about what the issues may be for a company like Walgreens and potentially doing something like this and whether it’s something that you would be open to considering?
Greg Wasson: It’s Greg, maybe I’d start with just reiterating what I said, I think not on last earnings call, the one before that we have no plans to do so, to do an inversion or redomicile the company. I think what we are focused on frankly is spending the time with our Board and on diligent and so forth to make sure that we put our board and our shareholders into position to make the right decision on step two. And that’s what we’re focused on. But just to reiterate as I said on last call we have no plans to do an inversion.

At this point, Walgreens’ management can’t stop the Alliance Boots deal. Given Stefano Pessina’s post-deal ownership, inversion becomes more likely.

As you may recall, Walgreens is acquiring Alliance Boots using a 2-step transaction. Step 1 was only subject to “regulatory approval.” By buying a minority share, there was no shareholder vote on the overall acquisition.

Step 2 is also subject to “shareholder approval.” Walgreens’ shareholders, however, have powerful incentives to complete the Alliance Boots acquisition. If the Step 2 option is not exercised, Alliance Boots can buy back 6.67% of Walgreens’ stake for only £1, reducing Walgreens’ stake from 45% to 42%.

Shareholders will therefore vote for the deal to avoid being stuck with 42% of a UK/European company. Plus, the companies will have already devoted more than two and half years to integration activities via Walgreens Boots Alliance Development (WBAD). See the 2013-14 Economic Report on Retail, Mail, and Specialty Pharmacies (pages 108-9 and 135) for more details.

Pessina will end up the biggest shareholder, owning more than 20% of the combined company. “Shareholder approval” means focusing on Pessina’s wishes, not the desires or needs of Walgreens current management. Institutional shareholders, which currently own 63% of Walgreens shares, may also favor Alliance Boots’ management over the Walgreens team.

Would inversion generate some bad PR? Sure, but Alliance Boots has already been through the mudslinging, when it relocated from the UK to Switzerland. President Obama may dislike inversion, but U.S. corporate tax policy encourages it.

Forbes estimates Pessina’s net worth at $10.3 billion, up almost $4 billion since March 2013. As I note in Making Sense of ABC-Walgreens-Alliance Boots: “The drug channels participants are all now playing on this billionaire’s chess board.”

Has Walgreens management team accepted this reality yet? And will AmerisourceBergen be Pessina's next target?


  1. Here's some additional background from a Drug Channels reader:

    Q: How can an inverted corporation be used to reduce a company’s income from U.S. sources? If structured properly, a corporate inversoin can be used to reduce a company's taxes on domestically earned income. This may be accomplished in several ways. In some inversion transactions the U.S. company issues debt to its foreign parent company in exchange for additional equity in the foreign company. The domestic firm can then deduct the interest expenses associated with the debt from its taxable income. However, since the U.S. corporation owns equity in the foreign company, the overall value of the domestic company does not change. Another popular method of reducing a company's tax burden is to transfer ownership of intangible assets to the new foreign parent company. These assets continue to produce income in the United States, but that income is attributed to the foreign company which faces a lower tax rate, because of that entity's ownership of the asset.


  2. For those who are confused, this article is NOT our 2014 April Fools' Day post. Click here for my April 1 tomfoolery.