New Treasury inversion rules unlikely to affect Johnson Controls much

New Obama administration rules aimed at halting tax inversion deals might not have a huge impact on a proposed merger between Johnson Controls and Tyco International, observers say.

The companies, though, are still reviewing the U.S. Department of Treasury actions and “are not making any statements” until they wrap up their review, according to an SEC filing. Johnson Controls spokesman Fraser Engerman said they “won’t speculate” on the impacts of the rules.

But observers say the rules likely wouldn’t put the brakes on their merger, as it did with the giant pharma merger between Pfizer and Allergan.

Johnson Controls says its proposed merger with Tyco, announced in January and still pending regulatory and shareholder approval, wasn’t about tax considerations. Instead, the company says, it was about creating a combined company that’s a leader in building services, such as HVAC or fire safety.

Still, the merger has come under fire from Dem presidential candidates, with Hillary Clinton filming an ad outside Johnson Controls’ Glendale headquarters calling the deal “an outrage.” The combined company would save $150 million in taxes annually under the deal and $500 million over three years in other “synergies.”

President Obama on Tuesday said the Treasury rules aim to close “one of the most insidious tax loopholes out there.”

“When companies exploit loopholes like this, it makes it harder to invest in the things that are going to keep America’s economy going strong for future generations,” Obama said. “It sticks the rest of us with the tab, and it makes hard-working Americans feel like the deck is stacked against them.”

One Treasury rule would target “serial inverters,” or foreign companies that have acquired several American companies within the past three years. Tyco, which is based in Ireland, doesn’t fit that profile, observers say.

The “earnings stripping” rule, though, might play a role. That portion targets a practice that often happens following a tax inversion deal, essentially making it more expensive for companies to move money around following a merger. It would also impact many multinational corporations that conduct such transactions.

The new combined company, for example, might lend money to the U.S. subsidiary, and that debt would currently be tax-deductible. The rule would treat that debt as equity, making such transactions more expensive because dividends aren’t tax-deductible in the U.S.

In its merger documents, Tyco said it might lend up to $4 billion to Johnson Controls. If that’s the case, then the new rules might affect merger discussions, said Michigan State University accounting professor Edmund Outslay.

“I suspect this provision will give the parties some pause, but it likely won’t jettison the transaction,” Outslay said.

Observers also pointed to the companies’ comments that they want to combine their strengths in different markets. Tyco, for example, leads in fire safety products, while Johnson Controls offers building efficiency products and other services. Both companies would also gain customers in continents where the other is stronger, company leaders said when they announced the deal.

As one Johnson Controls analyst put it, the deal “makes a lot of sense” and likely wouldn’t change under the Treasury’s rules. UW-Madison accounting professor Stacie Laplante agreed.

“I don’t think it appears to be all about taxes,” she said. “If that is the only reason to do the deal, it could be a dealbreaker, but I don’t think that’s the case.”

— By Polo Rocha,