Procter & Gamble and the art of tax avoidance
By Allan Sloan,
he tax-avoidance spotlight has been shining brightly, via the media, on companies such as General Electric, Exxon Mobil and Verizon, and on the big multinational banks. But some of the most clever and innovative ways to avoid taxes are being used by a company not usually associated with financial wheeling and dealing: Procter & Gamble.
In three deals spread over almost a decade, the owner of Tide detergent, Bounty towels, Gillette shaving products and many other household names, has managed to reopen a loophole that Congress closed in 1997. By my estimate, P&G’s profits on the deals, which involve selling brands it no longer wants, total about $6 billion, are tax-free to the company and are tax-deferred to its shareholders, possibly forever.
A straight-up sale would have triggered a $2 billion federal tax bill and a hefty state tax bill (for details, see fortune.com/sloan). All three involve so-called Reverse Morris Trust transactions, of which more later. “P&G is the most active practitioner of this technique,” tax expert Robert Willens says.
Why isn’t P&G on the tax radar? Because it has kept a low profile, and because the deals have been spread over an extended period: Jif peanut butter and Crisco shortening in a 2002 deal, Folgers coffee in 2008 and Pringles chips in a deal scheduled to close this year. Besides, the deals are so convoluted that you have to be a tax techie (or a masochist) to make your way through them.
Before we proceed, let’s be clear: I’m not accusing P&G of wrongdoing. The deals are perfectly legal, and under current market mores, P&G’s obligation to maximize its owners’ returns trumps its obligation to pay taxes to support our society. “P&G’s goal in these transactions is to achieve the best value for company shareholders, while also seeking a good fit for the business being sold,” company spokeswoman Jennifer Chelune says. Fair enough.
If there’s no abuse, why am I discussing these sales? To show that the system needs reforming. To demonstrate how even a company like P&G practices the dark tax-avoiding arts. And to show how big the stakes are.
I’ve been following P&G’s transactions since 2001, when it announced plans to do a tax-advantaged deal to sell Jif to J.M. Smucker, the jam and jelly giant. It made me smile. Who could resist writing about combining PB with J? Not me. Then came the Folgers deal, and now Pringles.
Let me give you some history, and show you how this works. Until 1997, Morris Trusts were a routine tax-free dealmaking maneuver. A company would stick a business it wanted to unload into a new corporation owned by its shareholders, which is a tax-free transaction. A nanosecond later, a buyer would acquire the new corporation in a tax-free stock-for-stock deal. Company shareholders would end up with shares in both the original company and in the buyer of the business being unloaded.
But after several deals involving lots of cash turned Morris Trusts into major tax drains that were more like sales than mere tax-efficient corporate spinoffs — Disney’s sale of newspapers and General Motors’ sale of its defense business got the most ink — Congress tightened the rules. Loophole openers begat Reverse Morrises, which require that shareholders of the selling company end up with a majority stake in the acquiring company — a big disincentive to buyers. But P&G has managed to find buyers willing to do that.
In 2002, it sold Jif peanut butter and Crisco to J.M. Smucker, the jam and jelly company. Holders received $880 million in Smucker shares — the P&G company got nothing. In 2008, it sold Folgers coffee to Smucker. P&G got $350 million and swapped $2.5 billion in stock for Folger shares. This year, the company is selling Pringles chips to Diamond Foods (pending). Proceeds: $2.35 billion, of which $700 million to $1.35 billion will go to the company. The balance will be in Diamond stock to P&G holders.
The three-deal total: $6.08 billion. I estimate the company’s tax basis in the divested assets at close to zero. At a 35 percent federal tax rate and a 38 percent combined federal-state rate, P&G would owe about $2 billion in federal taxes and about $200 million in state taxes. (P&P declined to comment for the column.)
Even if current bids to “reform” corporate taxes by lowering the rate and broadening the base are enacted, you can bet that P&G would still be doing Reverse Morris Trust deals or something similar. At a 25 percent corporate tax rate, rather than the current 35 percent, P&G would still keep $1.5 billion away from the IRS. It would do whatever it could to make the sales tax-free unless all available loopholes get nailed shut. Good luck getting that done.
After all, corporate tax avoidance is as American as apple pie and, well, peanut butter and jelly.
Sloan is Fortune magazine’s senior editor at large.