Corporate Acquisitions, Mergers and Divisions 13 Chapter Corporate Acquisitions, Mergers and Divisions

Corporate Acquisitions Asset acquisitions versus stock acquisitions Taxable acquisitions versus tax deferred acquisitions

Asset Acquisitions All or some of the target’s assets can be purchased Some, all, or none of target’s liabilities assumed May be done indirectly through a merger Acquiring corporation “absorbs” target, receiving all its assets and assuming all its liabilities

Asset Acquisition $5 Million Cash Carter Primo Operating Assets

Stock Acquisitions Acquiring corporation purchases controlling interest in stock of target Target operated as a subsidiary or liquidated

Stock Acquisition Carter Shareholders Merger Primo Carter $4.8 Million Cash Merger

Stock Acquisitions-Considerations Advantages: Target may have nontransferable rights, management in place and name recognition Disadvantages: Contingent liabilities Minority shareholders

Taxable Versus Tax Deferred Acquisition Refers to whether seller is taxable on gain Tax deferred transactions generally result in a higher sales price since seller has no immediate tax liability Tax deferred acquisitions often done with purchaser’s stock, a very tax efficient way to make a purchase

Acquisition Matrix Taxable asset Acquisitions Taxable stock acquisitions Tax deferred asset acquisitions (A or C reorganizations) Tax deferred stock acquisitions (B reorganizations)

Other Considerations Friendly acquisition can result in lowest overall tax and acquisition costs Hostile acquisition can result in large professional and investment banking fees Acquisition expenditures must generally be capitalized

Taxable Asset Purchases Purchaser takes cost basis in assets A lump-sum purchase price must be allocated to specific assets Purchaser wants to allocate as much as possible inventory items and depreciable assets with short useful lives

Section 1060 Price allocation must be consistent between buyer and seller Amount allocated to an asset can not exceed its fair market value Any excess of purchase price over aggregate fair market value of operating assets allocated to goodwill Goodwill is amortizable over 15 years

Taxable Asset Sales-Target Target may stay in existence or liquidate If corporation liquidated, shareholders must recognize gain or loss equal to difference between proceeds and their basis in their stock

Cash Mergers Target corporation merges into acquiring corporation. Shareholders of target receive cash Treated as taxable sale of assets by target corporation. Gain and loss recognized by target Shareholders of target also recognize gain or loss

Cash Mergers Yorgen Lerner Merger Shareholder $45 per share

Reverse Cash Merger Acquiring corporation forms subsidiary. Subsidiary merged into target. Target shareholders receive cash No tax at corporate level Shareholders of target recognize gain or loss

Reverse Cash Merger Yorgen Shareholders Subco Lerner Merger $45 per share Merger

Purchase of Stock Acquirer takes cost basis in stock No change in bases of assets to acquired corporation

Tax Deferred Asset Acquisitions Acquiring issues stock to target shareholders. Target’s assets and liabilities transferred to acquiring. Target goes out of existence

Tax Deferred Asset Acquisition Acquiring Target Assets and Liabilities Shareholders Acquirer Stock

Tax Deferred Assets Acquisitions-Effects No gain or loss to target No gain or loss to shareholders of target receiving acquiring corporation stock Shareholder’s basis in target stock become his or her basis for acquiring corporation stock Acquiring corporation’s bases in assets acquired from target is same as target’s bases in those same assets

Type A Reorganizations Merger or consolidation Must satisfy continuity of interest To receive favorable ruling from IRS at least 50% of total consideration must be acquiring corporation stock Gain but not loss recognized on any boot received up to gain realized

Forward Triangular Merger Used as a way to avoid obtaining consent of acquiring corporation’s shareholders Acquiring corporation forms new subsidiary and contributes stock to subsidiary. Target merged into subsidiary. Target shareholders are distributed acquiring corporation stock

Forward Triangular Merger MD Misford Dunstan Dustan Shareholders Merger 80,000 Mistford Shares

Type C Reorganizations Often referred to as a “practical merger” Acquiring corporation buys substantially all of target’s corporations assets for acquiring corporation voting stock Target corporation’s liabilities may be assumed Target corporation must liquidate

Tax Deferred Stock Acquisitions Shareholders of target corporation exchange their target stock for stock of acquiring corporation Shareholders recognize no gain or loss Shareholder’s basis for target corporation becomes basis of stock in acquiring corporation Target corporation does not participate in or is affected by the transaction

Type B Reorganizations Tax deferred stock acquisition Acquiring corporation must use solely voting stock to acquire stock of target corporation After transaction, acquiring corporation must own 80% of voting power of target corporation and 80% of each class of nonvoting stock

Continuity of business enterprise Acquiring corporation must continue target corporation’s historic business or Use a significant portion of target’s assets in a new business

Book/Tax Differences Purchase method of accounting generally required under GAAP regardless of tax treatment Target’s assets generally recorded at fair market value

Survival of Target Corporation’s Tax Attributes Taxable asset acquisitions Acquirer cannot purchase target’s tax attributes Taxable stock acquisitions Target’s tax attributes remain in tact Tax deferred asset acquisition (A or C reorganization) Acquirer succeeds to target’s tax attributes Tax deferred stock acquisition (B reorganization) Target’s tax attributes are in tact

Net Operating Loss and Credit Carryovers May only be used against post-acquisition income of acquirer Use of acquired net operating loss carryovers and other favorable tax attributes subject to several limitations

Limitations on Use of Carryovers Section 269 gives IRS power to disallow use of net operating loss or credit carryforwards if principal purpose of acquisition is evasion or avoidance of tax Section 382 limits use of net operating loss carryforwards after a change in ownership

Section 382 Ownership change triggering statute can result from both taxable and tax deferred acquisitions If an ownership change takes place, net operating loss carryforward that may be used in any one year is subject to the section 382 limitation

Section 382 Limitation Represents largest amount of net operating loss that may be utilized in any one year Equal to long term tax-exempt federal rate multiplied by value of target corporation immediately before the ownership change

Corporate Divisions Three types: Spin-off Split off Split up

Spin-off Corporation distributes stock of a subsidiary proportionately to its shareholders Shareholders own stock in both parent and subsidiary after the transaction

Spin-off Transaction Shareholders MacKeon SouthMac

Spin-off Post Transaction MacKeon SouthMac Shareholders

Split off Corporation distributes stock in a subsidiary to a group of shareholders in exchange for their stock in the parent corporation Exchanging shareholders have no ownership in parent after transaction

Split off Transaction - Before MacBride EastBride 200 Shareholders

Split off Transaction - After MacBride East Bride 165 Shareholders 35 Shareholders

Split Up Corporation owns one or more subsidiaries Stock of subsidiaries distributed to shareholders who own subsidiaries directly

Split up Transaction - Before Shareholders MacPool PoolSide SunPool

Split up Transaction - After Shareholders PoofSide SunPool

Tax Consequences of Corporate Division Spin off Dividend to shareholders Split off Redemption Split up Liquidation

Section 355 If provision applies no gain or loss to parent No gain or loss to shareholders

Section 355 Requirements Parent distributes stock representing at least 80% of subsidiary After transaction, subsidiary engaged in an active business After transaction, parent engaged in an active business

Section 355 Requirements Both business conducted for five years before transaction Not carried out as a device to distribute earnings and profits

Type D Reorganizations Process where assets transferred to various old or newly created subsidiaries followed by distribution Transaction must meet section 355