Spin-off Options Abound for Bristol-Myers Squibb

Bristol-Myers Squibb holds more than 80% of Mead Johnson's shares. Nevertheless, it should be relatively easy to structure a tax-free divestiture. ...
Robert WillensOctober 19, 2009

Most observers have conceded that a divestiture of Mead Johnson Nutrition Co. by Bristol-Myers Squibb will be a taxable transaction — and the tax liability incurred by Bristol-Myers likely will be commensurately substantial in light of its low basis in Mead Johnson. Bristol-Myers owns 83.1% of Mead Johnson’s outstanding stock, and 97.5% of the combined voting power of the stock. Nevertheless, a spin-off of Mead Johnson, followed closely by an acquisition in exchange for stock of the suitor, might well be a fully tax-free transaction, even at this late date in the process.1

A spin-off is taxable at the distributing corporation level if it is a transaction “to which Section
355(e) of the Internal Revenue Code applies.” Section 355(e) applies to a spin-off (to render it taxable at the distributing corporation level) if the disposition is “part of a plan,” or series of related transactions, in which one or more persons acquire stock representing a 50% or greater interest in either the distributing corporation or the spun-off entity.

The regulations2 provide that in the case of an acquisition after a distribution, both the purchase and spin-off can be part of a plan only if there was an agreement, understanding, arrangement, or substantial negotiations regarding the acquisition, or a similar acquisition, and it is completed some time during the two-year period ending on the date of distribution. As a result, no matter how quickly an acquisition follows a distribution, the purchase and spin-off cannot be regarded as parts of a prohibited plan unless the acquisition was either agreed to, or substantially negotiated, during the two-year period.

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What if the acquisition was so agreed upon or negotiated? Even here, the regulations suggest that the acquisition and distribution might still be found to be separate transactions. Therefore, if the distribution was motivated in whole, or substantial part, by a corporate purpose other than a business purpose to facilitate the purchase, and would have occurred at approximately the same time and in similar form — regardless of whether the acquisition or a similar acquisition was effected — the taxpayer may be able to establish that the distribution and acquisition are not part of a plan.

In our estimation, it would not be difficult for Bristol-Myers to establish that any divestiture of Mead Johnson is motivated by business purposes other than that to facilitate the acquisition. After all, most “equity carve-outs” are preludes to a second-step spin-off, particularly in this case, in which the subsidiary is capitalized with high-vote and low-vote stock. Also, it is presumed that Bristol-Myers, in connection with the potential spin-off, would have already identified several nonacquisition-oriented business purposes to “support” the disposition.

WillensFinal“[E]ven if the spin-off/acquisition route is judged too risky to be pursued, there are other ‘less aggressive’ techniques that Bristol-Myers can pursue for the purpose of deferring the tax on the gain.” — Robert Willens

Moreover, even if the spin-off/acquisition route is judged too risky to be pursued, there are other “less aggressive” techniques that Bristol-Myers can pursue for the purpose of deferring the tax on the gain arising from the divestiture of Mead Johnson. For example, Mead Johnson might be merged into an acquiring corporation in exchange for the latter’s stock. The exchange of Mead Johnson’s stock for that of the acquirer would be tax-free. Bristol-Myers could then “monetize” the stock in a way that defers the tax bill for a considerable period of time.

The point is, it’s not inevitable that a divestiture of Mead Johnson by Bristol-Myers be accompanied by a substantial tax obligation. Therefore, taxes need not be a major impediment to engaging in such a transaction.

Contributing editor Robert Willens, founder and principal of Robert Willens LLC, writes a weekly tax column for

1 In order to blunt any assertion on the Internal Revenue Service’s part that the spin-off was used principally as a “device” for the distribution of earnings and profits, it might be necessary for the acquisition to be accomplished solely for stock of the acquirer. (See Regulation Section 1.355-2(d)(2)(iii)(E).)
2 Regulation Section 1.355-7(b)(2)