Tax Overhang in J&J’s Inverness Deal

Johnson & Johnson scored a strategic coup in the increasingly competitive market for diabetes care products by agreeing to acquire Inverness Medical Technology’s ONE TOUCH business but left the seller with a potential tax dispute. The deal was structured as a form of a Morris Trust transaction with the aim of minimizing taxes – J&J to pay $1.3 billion in stock to Inverness shareholders for the diabetes products business and Inverness to spin off its women’s health, nutritional supplements, and clinical diagnostics operations as a new firm. While, both sides of the deal are tax-free to Inverness stockholders, the company must pay taxes because the value of the divested operations has appreciated over time. The question, says Lehman Brothers managing director Robert Willens, is how much tax is due and it’s been complicated by a 1998 decision by the U.S. Ninth Circuit Court of Appeals. Historically, Willens notes, the value and the amount of tax due was related to the trading price of the selling company’s stock. But the appeals court ruled that the appreciated value should be calculated on what the assets could be sold for in a bulk sale in the open market. Which principal will apply is to be sorted out. “The amount of the tax is up in the air,” Willens says.