Reverse Morris Trust

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A Reverse Morris Trust in United States law is a transaction that combines a divisive reorganization (spin-off) with an acquisitive reorganization (statutory merger) to allow a tax-free transfer (in the guise of a merger) of a subsidiary.[1]

Structure[edit]

A Reverse Morris Trust is used when a parent company has a subsidiary (sub-company) that it wants to sell in a tax-efficient manner. The parent company completes a spin-off of a subsidiary to the parent company's shareholders. Under Internal Revenue Code section 355, this could be tax-free if certain criteria are met. The former subsidiary (now owned by the parent company's shareholders, but separate from the parent company) then merges with a target company to create a merged company. Under Internal Revenue Code section 368(a)(1)(A), this transaction could be largely tax-free if the former subsidiary is considered the "buyer" of the target company. The former subsidiary is the "buyer" if its shareholders (also the original parent company's shareholders) own more than 50% of the merged company. Thus, the former subsidiary will usually have a bigger market capitalization than the target company. The target company's managers rarely run the merged company.[1]

Sometimes there is a clause in Reverse Morris Trust transactions that is potentially beneficial to small shareholders, that is, those who own odd lots. An odd lot typically means 99 or fewer shares per beneficial owner (aka unique Social Security number). When the clause is valid, those who have odd lots and validly tender all of their shares are not subject to proration. This means that after being tendered, none of their shares will be returned to them. This is different from the treatment afforded those with 100 or more shares, as they are almost always prorated and have the majority to the vast majority of shares returned to them. An example of this clause and the benefit it provided to small shareholders was in the November, 2017 Reverse Morris Trust transaction involving CBS Corporation Class B Shares and Entercom Inc.[2]

History[edit]

The original Morris Trust structure was the result of a favorable ruling by the United States Court of Appeals for the Fourth Circuit in 1966 in the case of Commissioner v. Mary Archer W. Morris Trust.[3] The original Morris Trust structure is similar to the above Reverse Morris Trust structure. Instead of a former subsidiary merging with a target company, however, the parent company would merge with the target company.

Following several leveraged Morris Trust transactions similar to the original Morris Trust transaction, but involving cash and bank loans rather than mere stock, Congress enacted Internal Revenue Code Section 355(e) in 1997.[4] This provision imposes additional taxation on the distribution in the spin-off step whenever a 50% interest in a spun off company is transferred tax-free in the two years following a spin-off.

Examples[edit]

Verizon wished to sell its access lines to FairPoint Communications, Inc. Rather than simply selling these assets to Fairpoint, however, Verizon created a subsidiary to which it sold these assets. Verizon distributed the shares of this new subsidiary to Verizon's shareholders. The parties then completed a Reverse Morris Trust with Fairpoint, where the original Verizon shareholders had a majority ownership of the newly merged company and the Fairpoint management ran the new company. Verizon was able to divest their access lines in a tax-free manner and continued to focus on higher growth wireless business.[5]

Procter & Gamble Co. was planning to sell its Pringles line of snacks to Diamond Foods Inc. in a leveraged, reverse Morris Trust split-off. The Pringles business was to be transferred to a separate subsidiary which would assume approximately $850 million of debt. The two companies were unable, however, to finalize the deal and, in February 2012, Procter & Gamble found another buyer in the Kellogg Company.[6]

Procter & Gamble used a similar transaction structure when it sold Folgers coffee to J.M. Smucker in 2008.[7] Procter & Gamble used the same transaction structure with the sale of 43 of its beauty brands on July 9, 2015 to Coty, Inc.

Lockheed Martin divested a portion of its IS&GS business to Leidos in a $5 billion transaction in early 2016. The transaction included a $1.8 billion one-time special cash payment to Lockheed Martin. Lockheed Martin shareholders received 50.5% equity in Leidos.[8]

On February 2, 2017, Entercom announced that it had agreed to acquire CBS Radio. The sale will be conducted using a Reverse Morris Trust so that it will be tax-free.[9]

On April 1, 2017 HPE's enterprise service division acquired[10] CSC to form the new company called DXC.technology.

References[edit]

  1. ^ a b Hoffman, Liz. "What's a 'Reverse Morris Trust' and Why Is Everybody Doing One?". WSJ.com. Wall Street Journal. Retrieved 8 April 2017. 
  2. ^ "CBS Corporation Announces Final Results of CBS Radio Exchange Offer". www.cbscorporation.com. CBS Corporation. November 21, 2017. 
  3. ^ 367 F.2d 794 (4th Cir. 1966), at [1].
  4. ^ Section 355(e), added by section 1012(a) of the Taxpayer Relief Act of 1997, Public Law No. 105-34 (Aug. 5, 1997), generally effective for certain distributions after April 16, 1997; see also section 6010(c)(1) of the Internal Revenue Service Restructuring and Reform Act of 1998, Public Law No. 105-206, 112 Stat. 685 (July 22, 1998).
  5. ^ "Verizon and FairPoint Agree to Merge Verizon's Wireline Businesses in Maine, New Hampshire and Vermont". www.verizon.com. 
  6. ^ Byron, Ellen; Ziobro, Paul (6 April 2011). "Diamond Buys P&G's Pringles". Wall Street Journal – via www.wsj.com. 
  7. ^ Dorfman, Brad (June 4, 2008). "Smucker to buy P&G's Folgers in $3 bln stock deal". Reuters. 
  8. ^ "Lockheed Martin to Separate and Combine IT and Technical Services Businesses with Leidos". Lockheed Martin. 26 January 2016. Retrieved 29 January 2016. 
  9. ^ Littleton, Cynthia (2 February 2017). "CBS Sets Radio Division Merger With Entercom". Variety. 
  10. ^ de la Merced, Michael J. (25 May 2016). "A Hewlett-Packard Spinoff Is Preparing to Split Again". New York Times.