Dell Inc. which had an ambition to acquire Storage leader EMC for $67 billion might face a big tax burden that could either complicate the deal terms or derail the transaction entirely. US Security and Exchange Commission(SEC) is planning to slap a tax bill of $9 billion to Dell following a regulatory review of Dell’s unusual proposal to use a new type of stock share to help pay for the acquisition.
Dell’s plan to acquire EMC and its successful business unit VMware is said to be encouraging the US SEC to slap a $9 billion tax reimburse against the said company. The deal terms may not qualify for any sort of tax rebate, which Dell is expecting from US SEC.
In order to offer EMC shareholders $33.15 a share for the company, Dell plans to pay them $24.05 per share in cash. The remaining $9.10 is to be made up by offering EMC shareholders tracking stock linked to VMware. (EMC owns an 81 percent stake in VMware, while 19 percent of its shares trade on the New York Stock Exchange; those shares have declined by about a third since the deal was announced last month.) The tracking stock is intended to offset the amount of debt Dell would have to take on; it is also meant to help Dell avoid a heavy tax liability.
Dell was actually planning to create a set-up of tracking shares in a company it does not yet own i.e. VMware. If successful in its deed, Dell would cleverly thread the stocks to get a rebate in tax payment as per the current U.S. tax laws. So, EMC shareholders will face taxes in the range of 20% to 40% for the gains on the cash and the value of the tracking shares.
But if it sticks to its intelligent policy, US SEC will instead think that the buyer is neither interested in distribution of shares nor the spinoff of a subsidiary and will levy a heavy tax burden.
A NOTE- Tracking stock was treated as one of the popular financial devices used during 90’s. By doing so, shareholders were asked to invest in the performance of a specific business unit of a larger publicly traded company without the parent giving up any ownership or voting control. But all this is possible, when a scrutiny of internal revenue services is carried out.
In the above case, the US SEC agency could deem it a taxable distribution in part – because the new shares are linked to EMC’s subsidiary, VMware, in the context of EMC’s acquisition by Dell.
Under US Tax law Section 355, when a parent company distributes shares in a subsidiary within two years before or after being acquired itself, any gains in value on those distributed shares can be taxable. In simplified terms, the law is intended to prevent corporate spinoffs or share distributions from helping pay for an acquisition, which appears to be what Dell is attempting to do.
Thus, with all these issues piling up against Dell acquisition of EMC, the former is only left with an option to borrow more money to pay EMC shareholders for the full value of the company. So, by the end of next year, Dell will land up in an astounding $50-$60 billion worth of debt on paper, if it agrees to pay the levied $9 billion tax.
Hope, Dell finds a way to dodge all these legal & financial issues and makes its dream of purchasing EMC come true!