Warren Buffett is again showing how to use the U.S. tax code to his advantage.
For the third time in a year, the billionaire chairman of Berkshire Hathaway Inc. has structured a deal in which he buys businesses in exchange for stock that has appreciated. The transactions, called cash-rich split-offs, allow him to avoid capital gains taxes that would be incurred if he sold the shares in the open market.
Berkshire announced today that it would turn over about $4.7 billion in Procter & Gamble Co. stock in exchange for P&G’s Duracell battery business, which will be infused with about $1.7 billion in cash.
Since Buffett’s cost basis on the shares was about $336 million, and corporate capital gains are typically taxed at 35 percent, structuring the deal in this way could save Berkshire more than $1 billion. P&G also stands to reduce its tax liability on the sale.
“Cutting out the 35 percent capital gains allows them to do this at a price that’s more attractive for Berkshire,” said Richard Cook, co-founder of Cook & Bynum Capital Management LLC, which holds shares in Buffett’s company. “If they did it in an open auction, P&G would probably wind up in a similar position, and Berkshire wouldn’t have participated.”
The Duracell deal mirrors two of Buffett’s transactions this year. In February, Berkshire handed over a holding in Phillips 66 in exchange for its pipeline-flow-improver business. He later swapped a stake in Graham Holdings Co. for cash, a Miami television station and Berkshire stock that Graham held. Graham is the former publisher of the Washington Post.
Berkshire highlighted the attractive nature of the deals in its latest quarterly report to the U.S. Securities and Exchange Commission.
‘Tax-Free Reorganization’
“Each exchange transaction was structured as a tax-free reorganization under the Internal Revenue Code,” the company said in the Nov. 7 filing. “As a result, no income taxes were provided on the excess of the fair value of the businesses received over the tax-basis cost of the common stock of Phillips 66 and Graham Holdings Company exchanged.”
A similar result should be “eminently achievable” on the Duracell deal, Robert Willens, an independent tax consultant, said in a report today. Willens and Cook said that tax savings would be more than $1 billion based on the cost basis listed by Berkshire. Buffett didn’t return a call left with an assistant seeking comment.
“These transactions, amazingly enough, are not really considered aggressive, because there’s such a well-prescribed formula that you need to follow,” Willens said in an interview.
Burger King
P&G will also benefit because it’s getting to retire a portion of its stock using property that has appreciated in value without paying taxes on that increase, he said.
Buffett, 84, has publicly supported a higher tax rate on wealthy individuals and even lent his name to President Barack Obama’s effort to do just that. The stance has often been compared with some of the actions his company has taken.
In August, Burger King Worldwide Inc.’s proposed takeover of Oakville, Ontario-based doughnut chain Tim Hortons Inc., which Buffett agreed to help finance, drew criticism. The combined company plans to locate in Canada, making it eligible for a lower corporate tax rate.
Obama and Congress have been weighing how to dissuade companies from moving to other nations to reduce their tax bill after several sought to do such deals this year. Buffett has said that while the Burger King deal fits the definition of a so-called inversion, it should be distinguished from transactions in which companies shift valuable intellectual property to other nations.
Buffett’s Duty
“There isn’t a whole lot of intellectual property to transfer with hamburgers,” Buffett said on MSNBC in September. “This is not a case of trapped cash, it’s not a case of intellectual property. It’s a case of the larger company being in Canada.”
Cliff Gallant, an analyst at Nomura Holdings Inc., said Buffett’s personal views should be distinguished from how he runs his business. As a chief executive officer, he’s obligated to make decisions that maximize value for shareholders.
“Every time he tries to save a tax dollar he gets criticized,” said Gallant. “He has a duty to minimize taxes for Berkshire.”
