How the Johnson & Johnson deal works:
JPMorgan and Goldman will borrow and buy 203.7 million Johnson & Johnson shares in the open market over the next year.
Johnson & Johnson uses foreign earnings held at its Irish subsidiary to buy $12.9 billion in its own shares from Goldman and JPMorgan.
Those shares, along with some cash, will then be handed over to Synthes, the acquired company, to fund its buyout, according to an 8-K filing J&J made with the Securities and Exchange Commission on June 12.
"Instead of a dilutive stock issuance followed by a share buyback program, the company has borrowed stock through an accelerated share repurchase agreement, which transforms the transaction into an accretive deal," said Jefferies analyst Jeffrey Holford, who upgraded J&J's shares to buy from hold, and boosted his price target for the company by nearly 6% to $72 in a June note to clients.
With the risk that investors react negatively to any strategic acquisitions amid global economic worries, corporations looking to use M&A to buy new growth or products can use the J&J model as savvy means of deflecting concerns. And the clock is ticking.
"Our tax experts further believe that the IRS is unlikely to respond with a new notice to close the tax loophole exposed by the JNJ/Synthes deal until the beginning of 2013, at the earliest," Novarro wrote.
The deal has reignited a debate about taxation of foreign earnings at many of the largest companies in the U.S. If other corporations follow J&J's move, it may further provoke debate on whether the U.S. government should tax or offer a "holiday" to large corporations, who are sitting on over a trillion dollars in corporate cash, which is mostly held abroad to minimize U.S. tax bills.
According to Moody's calculations, roughly $700 billion of the $1.24 trillion in corporate cash held by U.S. companies is sitting abroad, with overseas funds representing roughly 70% of the money in cash-rich sectors like technology.
A return of foreign earnings from cash-rich international giants like J&J, Apple, Microsoft,
could be invested domestically during a period of weak economic growth (2%) and high unemployment (8.2%).
Apple holds roughly 70% of its $100 billion cash stockpile abroad, according to Moody's, while tech giants Microsoft and Cisco hold nearly 90% of their cash overseas. With over $35 billion in cash, J&J held the sixth-most cash of any U.S. company, according to Moody's.
Novarro notes that Apple would be likely to use its $74 billion-plus in foreign cash to make small deals and dividend payments, while the likes of Dell and
could use their foreign cash to make larger acquisitions. Those with a high percentage of overall cash sitting abroad and operations headquartered in the U.S. are most likely to use the loophole, the analyst notes.