AbbVie Inc to Shire: It's Not You, It's My Country

In perhaps the most costly prenup in history, AbbVie looks like it will have to pay Shire $1.635 billion to break their engagement. After previously agreeing to the deal, AbbVie's board of directors recommended that shareholders not approve the transaction. The board can't actually break the agreement with Shire, but assuming shareholders follow the board's advice, the deal won't go through, and AbbVie will have to pay the breakup fee.

Why the change of heart? Blame it on the duo's third wheel, the U.S. Treasury Department. Last month, the agency issued new rules that tightened the restrictions on how companies could perform tax inversions, and puts restrictions on how their off-shore cash can be used without paying taxes.

One of the attractions to Shire was that AbbVie could move its headquarters to Ireland to take advantage of the lower tax rate -- a so-called tax inversion. After the transaction, AbbVie would eventually be able to lower its tax rate to 13%, half of what it is now.

Shire is based in Ireland after moving from the U.K. a few years ago to take advantage of the lower tax rate. U.S. companies can't just up and move to take advantage of a lower tax rate; they have to buy a company that already resides there that's large enough that at least 20% of the combined company is owned by the foreign shareholders.

Changing valuation
The lower tax rate wasn't the only thing that attracted AbbVie to Shire. In fact, during a call with analysts, Rick Gonzalez, AbbVie's Chairman and CEO, claimed the tax benefit wasn't even the primary reason: "What I would tell you is that this transaction has a significant, both strategic and financial, rationale. Tax is clearly a benefit, but it's not the primary rationale for this."

Shire has a nice portfolio of products, many for orphan indications that can fetch high price tags. Product sales were up 22% year over year in the second quarter, boosted by its acquisition of ViroPharma, and increased sales of top-selling Vyvnase to treat ADHD.

AbbVie desperately needs to add products because it's so dependent on sales of its anti-inflammatory drug Humira, which made up 67% of sales in the second quarter. The patents on Humira start expiring in late 2016, and Amgen already has a copycat in the works that it's planning to launch shortly thereafter.

If it's still a good strategic fit, why isn't AbbVie going through with the deal? Part of the $55 billion price that AbbVie was willing to pay was based on it saving money on taxes. If the government won't let AbbVie take advantage of the tax breaks, Shire isn't worth as much. Apparently, those tax breaks are worth more than the $1.635 billion breakup fee.

Shire and AbbVie could renegotiate a lower price -- after the news of AbbVie getting cold feet, the company sank, and is now worth about $40 billion. Surely the tax break is worth less than $15 billion, providing some wiggle room to make a deal.

More likely, though, Shire will just take the breakup fee, and run like a bride from the altar. It can add the $1.6 billion to its piggybank, and use the dowry to make an acquisition of its own.

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