Medtronic Inks Megadeal to Buy Covidien

The medical device industry has seen some big deals in its past—large firms combining to become even larger, market-share gobbling behemoths. In April, Zimmer Holdings Inc. bought Biomet Inc. for $13 billion. Well, there’s another megadeal in the works.

Medtronic Inc. agreed on Sunday, June 15, to buy Covidien plc for $42.9 billion in a move to help it reduce its corporate taxes. One of the things that made Covidien so attractive a buy for Medtronic—which recently also was rumored to be interested in orthopedic giant Smith & Nephew for the same reason—is its European headquarters. While the majority of Covidien’s operations are spearheaded out of Mansfield, Mass., the company calls Dublin, Ireland, home.

Deals such as this are called “inversions,” and this one will move Medtronic from roots in Minnesota to Covidien’s corporate home. Ireland’s tax rate is much lower than rates in the United States.
The size of the deal makes this the largest move of a United States-based company to incorporate abroad, analysts have said.

Under the terms of the deal, Medtronic will pay $35.19 in cash plus 0.956 of a share in itself for each share of Covidien. That’s roughly a 29 percent premium above Covidien’s recent share price. The deal is expected to close in the fourth quarter or early in 2015.

Medtronic is focused on the cardiovascular and orthopedic space, while Covidien primarily makes hospital equipment and supplies. It also has a medical technology contract manufacturing division.

Despite moving overseas to seek a lower tax rate, Medtronic officials said they would spend an additional $10 billion over the next decade in investments, acquisitions and research and development in the United States (in part, from the tax savings, according to the company). The company’s headquarters will move to Ireland, but officials said it would retain its facilities in Minnesota.

“The medical technology industry is critical to the U.S. economy, and we will continue to invest and innovate and create well-paying jobs,” Omar Ishrak, Medtronic’s CEO, said in a statement. “These investments ultimately produce new therapy and treatment options that improve or save lives for millions of people around the world. “We are excited to reach this agreement with Covidien, which further advances our mission to alleviate pain, restore health and extend life for patients around the world. This acquisition will allow Medtronic to reach more patients, in more ways and in more places.”

Ishrak will continue to be based in the United States, along with the majority of senior executives.

Medtronic might continue to invest in the United States, but domestic companies use of mergers to reincorporate overseas for tax reasons is creating consternation on Capitol Hill. U.S. lawmakers are moving to block such efforts. Ireland taxes corporate income at 12.5 percent, compared with a top marginal rate of 39.6 percent in the United States, according to the tax advisory firm KPMG.
Drug company Pfizer recently made an unsuccessful bid to acquire United Kingdom-based Astra-Zeneca for $119 billion. Outside of the healthcare space, the Chiquita fruit company agreed to buy an Irish firm, Fyffes, in March.

Sen. Carl Levin (D-Mich.) and 13 other senators introduced a bill in May to restrict inversion deals.
“These transactions are about tax avoidance, plain and simple,” Levin said in a statement. “Our legislation would clamp down on this loophole to prevent corporations from shifting their tax burden onto their competitors and average Americans.”

William George, a former chief executive of Medtronic, has his doubts about the wisdom of inversions.

“Does anyone believe pharmaceutical companies can create long-term shareholder value by chasing lower tax venues and cutting research and development spending?” George wrote in DealBook last month, referring to Pfizer’s bid for AstraZeneca.

Without a change in law, a congressional panel estimated last month, future deals will cost the United States $19.5 billion in tax revenue in the next 10 years.

Companies can get an offshore address by buying a smaller foreign company, but with a proviso: The overseas firm’s shareholders must own at least 20 percent of the combined company. Most of the 20 inversions carried out since 2004 have involved takeovers of companies abroad that were big enough to meet the 20 percent test, according to statistics from Bloomberg. Covidien investors will own about 30 percent of the merged company, according to Medtronic.

Levin’s plan calls for raising the 20 percent threshold to 50 percent, which would have prevented nearly all of the recent merger-based inversions from generating a tax benefit, including Medtronic’s. In an attempt to discourage more companies from inverting before Congress acts, the bill would be retroactive to May 2014.

Instead of targeting inversions, Republicans in Congress contend that the incentive to leave the United States should be eliminated by lowering the corporate tax rate and repealing taxes on foreign earnings. Inversions should be part a broader revamp of the tax code, GOP lawmakers say, which is unlikely to take place this year.