This Merck restructuring really pisses me off.
Pharma is THE most powerful lobbying force in Congress, and I doubt many people realize what these companies are getting away with. The recent news of Merck’s restructuring is aa perfect illustration.
Pharma, more than any other industry, has positioned much of its IP oversees and transferred much of its production facilities to low-tax foreign countries. Although virtually everyone knows the US is, by a very wide margin, the most profitable market in the world for prescription drugs, through the use of sophisticated transfer-pricing schemes, the US entity within pharma acts solely as a distributor of prescription drugs made offshore, thereby resulting in very little profit from the sale of drugs being taxable in the US (i.e., distributor margins of 2% to 3% of sales).
Using Merck as an example, if you look at their 2004 Financial Statements, you’ll note that 58.7% of its 2004 sales were earned in the US, and yet the US only accounted for 30% of its consolidated income from operations. This clearly illustrates Merck’s effective use of transfer-pricing mechanisms to shift as much of its income from operations out of the US, thereby minimizing the taxes it pays in the US.
In fact, their Income Tax footnote to the 2005 Financial Statements states:
“At December 31, 2004, foreign earnings of $20.1 billion and domestic earnings of $880.9 million have been retained indefinitely by subsidiary companies for reinvestment. No provision is made for income taxes that would be payable upon the distribution of such earnings. These earnings include income from manufacturing operations in Ireland, which were tax-exempt through 1990 and are taxed at 10% thereafter. In addition, the Company has subsidiaries operating in Puerto Rico and Singapore under tax incentive grants that expire in 2015 and 2026, respectively.”
Now I’m all for US corporations availing themselves of whatever tax loopholes exist to minimize their taxes (and hence benefit their shareholders), but it pisses me off when this is followed by:
(i) the repatriation of $15 billion of foreign source income to the US under the American Jobs Creation Act of 2004 by Merck, for which it provided only $740 million of income tax in its second quarter 2005 financial statements (a rate of 4.9% versus the normal 35% US Statutory Rate), and then
(ii) the announced closure of 5 manufacturing sites that will result in 7,000 layoffs, one-half of which will be in the US.
With respect to (i) above, I think many people in the US (to the extent they’re even aware of the repatriation of foreign-sourced income under the American Jobs Creation Act of 2004 at a very low tax rate of about 5.25%), mistakenly view this as US pharmaceutical companies simply transferring money that was earned in foreign countries on the sale of product in those countries back to the US for investment here. What I suspect very few realize is that most of the money that will be repatriated will actually be profits that were earned on the sale of prescription drugs to US consumers in the US market but which was shifted abroad to avoid taxation via transfer pricing schemes facilitated by the transfer of IP offshore and the establishment abroad of manufacturing facilities.
So the repatriation of foreign-sourced income under the AJCA is really just completing the circle of brining home the profits from the sale of Rx drugs at very high prices to US consumers that was shifted offshore to avoid tax.
Now even that might be palatable if the repatriated money was really being invested in job-creating activities. But because money is fungible, the Treasury Department has basically acknowledged that it is all but impossible to really determine if the repatriated money is used for the job creating activities the one-time exemption provided for.
So you see pharmas like Merck, repatriating $15 billion of foreign sourced income back to the US and only paying 4.9% tax on that money, and then turning around and laying off 3,500 of its US work force!
The top 9 US-based pharmas will repatriate about $100 billion this year. Other than some acquisition activities (which don’t really create new jobs anyway), I haven’t seen any real investment (i.e., job creating activities) taking place in the US by pharma. In fact, as the Merck example illustrates, just the opposite is taking place, showing the AJCA is nothing more than the successful lobbying effort to basically give this sector an exemption from tax on about $100 billion of profits, the lion share of which was made from the sale of drugs to US taxpayers in the first place at very high prices.
AI
