Do tax inversions contradict firms' commitment to CSR?

Feb 10, 2016
<p>Moving a corporate base offshore hurts a firm's reputation and undermines its contributions to communities in which it operates</p>

Johnson Controls’ recent news of plans to merge with Tyco International puts the automotive batteries and internal systems manufacturer in the small-but-growing club of US companies relocating their headquarters overseas to avoid being taxed on their non-US profits.

By shifting its corporate base to Ireland, Johnson Controls expects to save an estimated $150 million a year in taxes. At best, that decision shows a lack of gratitude when you consider how much the firm benefitted from US taxpayers’ bailout of the US automotive industry just six years ago, as reported on January 30 by the Milwaukee•Wisconsin Journal Sentinel. The company received an additional $299 million from the US Department of Energy in 2010 to increase production of hybrid batteries, with the state of Michigan providing further financial support for the same project, according to the Journal Sentinel.

The pace of tax inversions has sped up in recent years, from one each in 2009, 2010 and 2012 to two in 2013, one in 2014 and three in 2015 – Medtronic, Mylan and Applied Materials – with a fourth scrapped after regulators opposed the planned merger. Many of these companies profess to be committed to contributing to the welfare of the local communities where they operate and/or sell their products and services. In the ‘Serving communities’ section of its 2015 booklet ‘Social responsibility at Mylan’, that company discusses the more than $9 million it has contributed to worthy causes since 2002 through the Mylan Charitable Foundation.

Similarly, Johnson Controls takes pride in its CSR activities. Its recent sustainability report touted more than $7 million in grants made between 2006 and 2014 to projects run by local non-profit groups to which more than 111,000 of Johnson’s employees volunteered nearly 974,000 hours, supporting environmental stewardship, social service or education efforts.

A tax inversion that takes millions of tax dollars out of the country where a company primarily operates would seem to be antithetical to supporting local communities, which need tax dollars to fund essential infrastructure upkeep, social programs and other basic services those communities rely on. And the puny size of the projected $2 billion in annual tax savings of the biggest announced deal – Pfizer’s proposed $160 billion merger with Allergan, expected to close later this year – compared with the $62 billion more in excess research and development Pfizer spent than rival Bristol-Myers Squibb over the past 25 years, despite the two companies bringing the same number of new drugs to market during that period, raises corporate governance questions beyond the limited scope of CSR, as Forbes recently reported.

A 2013 academic paper finds companies that engage in irresponsible CSR activities, as defined by KLD Research & Analytics, are likely to take more aggressive action to avoid paying taxes as well. The paper studies the size of reserves companies took for uncertain tax positions after more strict reporting rules were implemented by FASB in 2007.

If a company gravitates toward the kind of corporate culture that leads to uncertain tax positions,‘[it] would actually undertake other irresponsible activities to enhance [its] competitive position,’ like a tax inversion, says Chun-Keung Hoi, a finance professor at Rochester Institute of Technology’s Saunders College of Business and one of the paper’s authors. By contrast, other companies such as Walt Disney ‘make a big deal that paying taxes is part of their responsibility.’

One reason tax inversions occur as infrequently as they do in the US, Hoi believes, is that companies are protective of their reputations and want to avoid the harm an inversion would cause. He and his research partners theorize that companies inclined to irresponsible CSR activities will be less concerned with the effect efforts to avoid taxes would have on their reputation, which they equate with risk management.

But given Johnson Controls’ pride in being listed in such indexes as the Dow Jones Sustainability North America Index and the MSCI KLD 400 Social Index and in receiving awards for being among the world’s most ethical companies, it doesn’t follow that it isn’t looking out for its reputation ‒ unless, that is, it doesn’t make the connection that paying taxes is a core aspect of fulfilling its social responsibilities.

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